The news that you will be receiving an inheritance is often bittersweet because it means that somebody close to you has passed away. But you might also have mixed emotions about your inheritance for reasons that have to do with the actual accounts or property you are inheriting.
On the one hand, you might not want to reject your inheritance out of respect for the person who put you in their will or trust or named you as the beneficiary of an account or policy. On the other hand, depending on what you have been gifted, an inheritance might pose unintended logistical or financial difficulties that you are unable—or unwilling—to take on.
An inheritance, like the loss of a loved one, can be life-changing. While there is no law that requires you to accept an inheritance, there are sometimes good reasons for doing so. And if you choose to turn down a gift, that does not mean it will end up in the hands of the state. Prior to accepting or rejecting an inheritance, you might want to seek legal and tax advice about the implications of either decision.
When Estate Planning Does Not Go To Plan
An estate plan contains instructions for distributing a person’s money and property when they pass away. Some families discuss who will receive certain accounts or property. For example, maybe all of the kids are asked if they would like to inherit an item from mom’s collection of family heirlooms.
In an effort to be fair, most testators (i.e., persons who have made a will or created an estate plan) or trustmakers divide their money and property equally among heirs. There are cases where one child or heir may be given a larger inheritance based on a larger caregiving role or contribution of their time to the family in some other way. But typically, there are family talks about such matters to ensure that everyone is in agreement and the unequal inheritance does not spur intrafamily resentment and conflict.
However, unexpected inheritances are not out of the question. Testators or trustmakers are under no legal obligation to be fair. Generally, they are entitled to divide up their assets however they see fit. Furthermore, family dynamics can shift and force changes in an estate plan.
For instance, maybe there are three siblings, and two of them have rocky marriages. The testator may have a provision in their will that gives the executor discretion to address this situation and keep their assets out of the hands of a sibling’s soon-to-be ex-spouse, such as by disinheriting a sibling or reducing their inheritance if their marriage is on the verge of failing at the time of probate. Or, a testator could simply decide to write an heir out of the will altogether and assign their share of an estate to somebody else.
Similarly, the death of an heir could result in estate assets being reassigned. Indeed, there are many situations that could result in a surprise inheritance. Maybe you have a childless uncle or friend who wanted to surprise you with a windfall. Up until the moment a person passes away, a person is free to amend their will. Heirs usually have some idea of what they will be inheriting from whom, but estate planning does not always go according to plan.
Weighing the Pros and Cons of an Inheritance
Accepting an inheritance is a free and voluntary act that is also affected by personal circumstances. If you were informed that you have an inheritance coming your way, you will have to decide whether to receive or reject it. Here are some factors that may impact your decision:
- Outstanding debt. Your inheritance could include a big ticket item, such as a house, car, or RV, that carries outstanding debt. As the inheritor, you may be responsible for servicing the loan or mortgage and will have to figure out if you can afford to pay it off or refinance and continue making the payments.[1] You could always sell the item, but if more than one heir inherits a home, that would have to be a group decision. Also, keep in mind that real estate and other valuable property will need to be insured, at added cost to you.
- Oversized items. You could inherit a car, truck, RV, or other large item or collection that comes with no debt obligations but poses a storage problem. This is particularly true if you do not have your own home or if you live in an apartment or condo with limited space. Paying for additional storage is an option, but if you do not really want the item in the first place, storing it may not be worth the cost.
- Logistics. Taking possession of an item might sound good in theory but turn out to be a logistical nightmare. You might have to travel a long distance and pay for a trailer to haul it. Shipping may be an option, but who will pay for the transport? The money could come out of the estate or out of your own pocket.
- Tax consequences. Six states impose an inheritance tax on beneficiaries: Iowa, Kentucky, Maryland, Nebraska, New Jersey, and Pennsylvania.[2] In addition to a potential inheritance tax, which ranges from 1-20 percent of the value of the assets you inherit[3], income-producing assets such as real estate, securities, and retirement accounts can increase your taxable income and could even place you in a higher tax bracket. Be clear on the tax implications of your inheritance and how inherited assets may affect your overall financial situation.
- Personal considerations. Perhaps you just do not want to take possession of an item that somebody left to you in their will. You may also realize that somebody else in the family really does want it and would feel hurt if you got it instead. Inheritances can produce hurt feelings and irritate existing tensions. To squelch conflicts before they get out of hand and lead to legal disputes, consider taking the high road.
Whichever path you choose—acceptance or refusal—be prepared to file documents stating your intentions. Another thing to keep in mind is that if you refuse an inheritance, you will have no say in who receives it. If the will does not name a backup (contingent) beneficiary, it will pass back to the estate and on to the next beneficiary according to state law. To make sure that a specific person receives what you are rejecting, you have the option to accept it and then gift it to them. However, as the giver, giving a gift comes with possible tax implications.
Managing Your Inheritance and Planning for the Future
An inheritance could be a pleasant surprise, but most people expect to receive an inheritance at some point in their life. Whenever that day comes, you will want to make the most of your inheritance. Working with a trusted advisory team can help you assess your finances, preserve your wealth, plan for the future, and establish an estate plan of your own. For wealth and estate planning advice, reach out to our office to schedule an appointment.
[1] Victoria Araj, Inheriting a House with a Mortgage, Quicken Loans (Sept. 17, 2021), https://www.quickenloans.com/learn/inheriting-a-mortgage.
[2] Anna Hecht, Millennials Will Inherit $68 Trillion by 2030—Here’s What to Know If You Receive a Windfall, CNBC: Make It (Jan. 16, 2020), https://www.cnbc.com/2020/01/16/receiving-an-inheritance-four-things-experts-say-you-should-know.html.
[3] What Are Inheritance Taxes?, Intuit TurboTax (Oct. 16, 2021), https://turbotax.intuit.com/tax-tips/estates/what-are-inheritance-taxes/L93IUc3sC.