How to Ensure Your Inheritance at Tax Time
The approaching tax season only brings more worries for those who've lost a friend or loved one and received an inheritance for their trouble. That last gift from mom, dad, the grandparents or anyone else in your circle can seem like a touching gift at first, but can also incur serious penalties for heirs unsure how to handle it.
|Estate tax and inheritance tax laws written in Washington and state capitals can take a bite of what's left behind, but they don't have to.|
"Don't feel like you need to be in a rush to make an investment decision after a person passes away," says Chris Hobart, CEO and founder of Hobart Financial Group in North Carolina. "You're in a rush and don't know all the rules, then all of a sudden you realize you owe taxes on all this money after you've bought a car or bought a pool."
The process of claiming an inheritance is a tangle of qualified and nonqualified money, state and federal taxes, estate and inheritance taxes and the thresholds and loopholes for each. An unknowing or unwitting heir who has come into some money suddenly not only has to cope with the loss, but with a series of inheritance and estate laws that Jonathan Bergman, vice president of Palisades Hudson Financial Group in Scarsdale, N.Y., calls "a minefield."
With the tax filing deadline fast approaching, Hobart and Bergman offer the following advice to heirs struggling to figure out how much, if anything, they owe the state or IRS before settling their affairs:
1. Take inventory
When President Barack Obama and Congress passed the Tax Relief Act of 2010, it not only extended the Bush tax cuts but implemented a federal estate tax that bumped up the exclusion from $1 million to $5.1 million while dialing down the tax rate on funds beyond the threshold from 45% to 35%.
Heirs who think they're under that $5.1 million mark based on their best guess of what the combination of the estate's cash and property is worth really should hold off on earmarking that cash for the beach house or kids' college fund. Nothing's certain until the formal appraisal takes place.
"When you inherit something, generally the cost basis of the security is equivalent to the fair-market value on the date of death," Bergman says. "In certain instances, there may be an alternate valuation date six months after the date of death, but that would be determined by the personal representative of the decedent."
Even those assets may not be the whole picture. Hobart warns that life insurance policies the heirs aren't aware of can still bump them over the limit.