Tax-aware steps when receiving an inheritance

Receiving an inheritance can be both emotionally heavy and financially meaningful. Along with navigating the loss, beneficiaries are often faced with decisions that involve taxes, timing, investment planning, and estate-administration rules. While individual circumstances vary and professional guidance is essential, the following tax-aware steps may help beneficiaries approach an inheritance thoughtfully and responsibly.

This article provides general educational information only and is not intended as tax, legal, or individualized financial advice.¹

1. Pause Before Making Major Financial Decisions

The first step is simply taking time. Acting quickly—whether by selling assets, withdrawing funds, or reinvesting—may lead to preventable tax exposure or financial mistakes.

The FINRA Investor Education Foundation encourages consumers to “pause, evaluate, and avoid rushing big decisions” during emotionally stressful periods.² This allows the estate’s executor or trustee time to gather necessary documents and confirm asset types, valuations, and tax treatment.

2. Understand the Taxation of Different Types of Inherited Assets

Each asset class follows its own federal tax rules. Understanding the basics can help beneficiaries avoid unintended taxable events.

A. Cash

Cash inheritances are not taxable as income at the federal level. The IRS states that “inheritances…are generally not included in gross income.”³ However, earnings generated after receipt—interest, dividends, or capital gains—are taxable.

B. Investments (Stocks, ETFs, Mutual Funds)

Most appreciated investments receive a step-up in basis, meaning the tax basis resets to the fair market value at the decedent's date of death.⁴ This often reduces future capital gains for beneficiaries who later sell.

C. Traditional IRAs & Employer Plans

Inherited retirement accounts follow IRS Publication 590-B rules. Key points include:

• Most non-spouse beneficiaries must empty the account within 10 years (SECURE Act).⁵
• Withdrawals are taxed as ordinary income.⁵
• Required minimum distributions may apply depending on the decedent’s age.
• Traditional retirement accounts do not receive a step-up in basis.

D. Roth IRAs

Roth IRAs also follow the 10-year rule, but qualified distributions are typically tax-free as long as IRS requirements are met.⁶

E. Real Estate

Real estate normally receives a stepped-up cost basis at fair market value on the date of death.⁴ This can significantly reduce capital gains if the property is sold soon after inheritance.

F. Business Interests & Complex Assets

Partnerships, business equity, and restricted assets usually require a professional valuation. Timing investment decisions before valuation is finalized can lead to errors in tax reporting.

3. Determine Whether Estate or Inheritance Taxes Apply

Federal estate tax applies only when a decedent’s estate exceeds the federal exemption ($13.61 million in 2024).⁷ The estate, not the beneficiary, typically pays any federal estate tax due.

Some states impose estate or inheritance taxes with lower thresholds. The Tax Foundation and Kiplinger maintain updated state-by-state lists of estate and inheritance tax rules.^8,9 Beneficiaries should verify rules for both the state the decedent lived in and the state where inherited property is located.

4. Gather Required Documentation Before Taking Action

Most institutions require specific documents before assets can be transferred or retitled, such as:

• Death certificate
• Letters testamentary or trust certification
• Inherited IRA election forms
• Cost basis statements
• Real-estate appraisals

FINRA warns that missing or incomplete documentation can delay the transfer process and create administrative risk.¹⁰ Acting before accounts are properly retitled can lead to unexpected tax consequences.

5. Evaluate Whether to Hold, Diversify, or Liquidate Assets

Once assets transfer, beneficiaries often consider whether to keep, sell, or reallocate inherited holdings. Key tax considerations include:

• A stepped-up basis may reduce taxable gains upon sale.
• Inherited IRA distributions raise taxable income.
• Selling too quickly may limit long-term planning opportunities.

Suitability and regulatory considerations: FINRA Rule 2111 states that recommendations must be suitable based on an investor’s goals, risk tolerance, liquidity needs, and financial profile.¹¹ Because this article is for general educational purposes only, beneficiaries should consult a qualified professional before making decisions specific to their situation.

6. Consider Potentially Tax-Efficient Ways to Use Inherited Assets

While not individualized advice, beneficiaries often explore tax-aware uses for inherited assets such as:

A. Paying Down High-Interest Debt

Using cash inheritances to reduce high-interest debt avoids taxable events and can free up future cash flow.

B. Building Emergency Reserves

FINRA recommends maintaining emergency savings to help protect against unexpected expenses.²

C. Using Tax-Advantaged Accounts

Inherited cash can sometimes be used to fund eligible contributions to:

• IRAs (subject to IRS rules)
• Roth IRAs
• Health Savings Accounts
• 529 college savings plans

D. Charitable Giving

Donating appreciated assets may provide tax advantages. IRS Publication 526 outlines charitable contribution rules.¹²

E. Managing Tax Brackets with Inherited Retirement Accounts

Beneficiaries may spread distributions from an inherited IRA (within the 10-year rule) to avoid concentrated income in a single year. These strategies are examples only—not recommendations—and may not be appropriate for all beneficiaries.

7. Protect Yourself From Scams and Unsolicited Advice

FINRA warns investors to be cautious of:

• Inheritance scams
• Unregistered individuals offering to “help invest” inherited money
• High-pressure or time-sensitive sales tactics

Investors can verify professionals using FINRA BrokerCheck or the SEC's Investment Adviser Public Disclosure (IAPD). No investment or financial decision should be based on unsolicited communication.

8. Review and Update Your Own Estate Plan

A significant inheritance may warrant updating wills, trusts, beneficiary designations, insurance policies, and powers of attorney. Estate-planning attorneys recommend revisiting plans whenever personal circumstances or wealth change substantially.

Conclusion

Receiving an inheritance is a major life transition—emotionally, financially, and administratively. While inheritances themselves are generally not taxable as income, what beneficiaries do with inherited assets can carry significant tax implications.

By taking time, understanding the tax treatment of each asset type, gathering necessary documents, and consulting qualified professionals, beneficiaries may be able to make informed, responsible choices during a difficult time.