Wall Street Steward Blog

Inheritance: What Not To Do!

Only about 8% of Americans will receive inheritances of ANY kind.  A smaller number, around 2%, will inherit more than $100,000.  This is a small group of people, and a blogger better have a good reason to write an entire entry for such a small group.

 I DO.

 There are several things that should be done before receiving an inheritance, but that list will be covered at a later date…what I want to focus on in this entry is WHAT NOT TO DO.

 According to various studies, the average inheritance is spent in 14-17 months.  Think about that for a moment….less than a year and a half.  Why is that?  Where does the money go?

The worst thing someone can do is to go on a spending rampage.  If you are watching too much Home Shopping Network, then put…that…checkbook…DOWN!  Most people mistakenly think that they will just buy a gift or two for themselves and then save the rest – this R.A.R.E.L.Y. happens.

I recommend that you take a small portion (less than 10%) of the inheritance and place it in an account that is easily accessible, like a checking account.  The rest of the money is either going to be used elsewhere, invested, or placed into an account that is more difficult to access.

Take that small amount and buy yourself some gifts. 

In a perfect world, none of the money would be used immediately but in the real world, all of it gets spent in less than 18 months…so lets compromise, shall we?

The knee-jerk reaction to any large cash windfall is to immediately pay off all debt.  This might be a great move, or it might be a mistake…it all depends on your situation. 

Should a credit card balance with a 19% APR be paid off?  Of course.
Should a small mortgage with a variable interest rate of 3% be paid off?  Probably not.

The mortgage interest is tax deductible (assuming the taxpayer itemizes), and if the investor is willing to accept some volatility, it is possible that an investment portfolio can earn more than 3% annually over a period of time.  Also, with the cash in hand, if the interest rate adjusts higher, it can be paid off at that time. 

Each debt needs to be evaluated seperately, and a professional advisor should be consulted before making any rash decisions to pay off a balance.

For you readers that have hearts, this one will be difficult to do.  That brother in law that has been out of work for 7 years…he KNOWS you inherited money and he KNOWS your phone number.  Just say no.  If you help him, then Aunt Sally will be at your door with her sob story and the cycle will never end until you are flat broke.  If you say NO the first time, you will earn the right to never be called by other family members/friends that need money.

However, IF, and I do mean IF….you decide to help someone financially, be smart.  Do not write your mother a $50,000 check or payoff her $200,000 mortgage.  These things are seen as gifts, and the IRS allows only $13,000 per year to be given to any one person without triggering gift taxes. 

What was that?  You already wrote “mommy” a $50,000 check?  In that case, keep your hand warm because you will most likely be writing another check to Uncle Sam, unless you want to use some of your lifetime unified tax credit.  If you choose not to use that credit, then this is what would happen.

$50,000 check to mommy
$13,000 of it is gift tax free, which leaves…
$37,000 as an “excess gift”

The tax bracket for excess gifts is 35% as of 1/1/2011, so the check to the IRS will be for $12,950 (35% of $37,000).  It COST you almost 13 grand to give your mother $50,000.  Expensive gift, huh?

There are several other no-no’s that could be discussed further, but this list contains the most common mistakes I see people make.  If you can avoid these, you will be well on your way to BEGINNING the process of preparing your own estate.  At that point, I would recommend using an advisor and an attorney to assist you.