All three major indexes, the S&P 500, the Dow Jones Industrial Average, and the NASDAQ, were all up last week as a peace deal in the Middle East is said to be within reach.
A more immediate concern for many people is a potential tax bill when someone passes away. The potential tax bill will depend on what you are inheriting and where the deceased lived when they passed away.
Most Americans are not subject to a federal estate tax. Your estate must be over $15 million dollars, or $30 million for a married couple, before any federal estate tax is due. Some states also impose an estate tax. Maryland taxes anything over $5 million, at rates up to 16%.
Five states also impose an inheritance tax, which varies based on your relationship with the deceased. Maryland is the only state in the country with both an estate tax and an inheritance tax. Florida has neither. The one good thing is that estate and inheritance taxes are usually paid by the estate prior to an heir receiving anything.
If you inherit a traditional IRA or other retirement account from your spouse, you have the option to treat it as If it were your own IRA. For most everyone else, the account becomes an inherited IRA. You have to take a Required Minimum Distribution each year that is taxed as ordinary income. The entire account must be taken out, and taxes paid, within ten years. You can always take out more than the minimum. For younger heirs, you may want to spread the distributions evenly across the ten years to spread out the taxes. If you are close to retirement, you may want to take the minimum now, then spend down that account first after you retire.
A Roth IRA or retirement account also has to be taken out within ten years, but no taxes are due, and there are no Required Minimum Distributions. If you do not need the money, you may wish to invest it to grow tax-free for those ten years.
An annuity that is not held inside a retirement account can be a big tax bomb. Annuities are tax-deferred, so there may be substantial gains inside the annuity. If you cash in the annuity when you receive it, the full amount of gain is taxed as ordinary income. Many contracts will allow you to instead roll the money into your own annuity. It’s called a life-time stretch and also has an annual Required Minimum Distribution. Again, you can take out more if you need to, but this approach avoids the big tax hit and allows you to stretch the account over your lifetime.
All other property, such as brokerage accounts, checking and savings, and real estate, all receive a step-up in basis when someone passes away. That means that you inherit the property at the value on the date of death. For example, your parent purchased a house 30 years ago for $50,000. When they passed away, it was worth $850,000. You inherit the house at $850,000. If you sell it immediately for the $850,000, there is no tax due. If you inherit stock and it increases in value between the date of death and the date you sell it, you are subject to long-term capital gains tax on that increase, but not the full sale price.
Working with professionals such as estate attorneys, CPAs, and financial advisors can make settling an estate easier and more tax-efficient.
Your action item this week is to make sure your personal representative, what used to be called an executor, knows where your will and other legal documents are stored.
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CovingtonAlsina is a registered investment adviser. Information presented is for educational purposes only and does not intend to make an offer or solicitation for the sale or purchase of any specific securities, investments, or investment strategies. Investments involve risk and, unless otherwise stated, are not guaranteed. Be sure to first consult with a qualified financial adviser and/or tax professional before implementing any strategy discussed herein. Past performance is not indicative of future performance.