Five Steps to Inheriting a Fortune

An inheritance is sometimes called a “legacy,” and receiving one can be a blessing – or a curse. One the one hand, there is the temptation to think like a lottery winner and imagine a life of easy indulgence. On the other, there is the instinct to do the “right thing” by paying off debts, investing wisely, and saving for the future. The fact that many lottery winners ultimately file for bankruptcy should be sufficiently instructive as to which course you should take.

Whether an inheritance is large or small, the best approach is to avoid extravagance and opt for discipline. Without careful and deliberate planning, a lifetime’s worth of accumulated wealth could be squandered in a matter of months. The following steps will help put you on the right path:

1) Wait. This is often the hardest step, especially during a time of mourning, when emotions may overtake common sense. Allowing six months to a year to pass before spending any of the money will give you time to move past the death that led to the inheritance. It will also allow you to seek professional help to manage your newfound wealth. Avoid the temptation to fill the void created by the loved one’s death with impulsive spending.

2) Talk to a CPA. A competent accountant can explain the tax implications of your inheritance. Most bequests are tax-free, but taxes could be due depending on your relationship to the person who died. For example, an inheritance from an unmarried partner or an uncle could be subject to the Maryland inheritance tax. Inheriting an IRA, 401(k), or other tax-deferred retirement account triggers complicated IRS rules that an accountant can help explain.

Unlike a financial adviser, an accountant will not ask to let him invest your money for you. An investment adviser may be helpful later in the process, but an accountant should be the first person you contact for advice.

3) Set clear financial goals. Decide what your financial goals are for the short and long term, and commit them to paper. Your short-term goals might be to pay down debt, buy a new house or car, or take a trip. Longer-term goals could include saving for retirement, putting your children through college, advancing your own education, or paying for a wedding.

Think in terms of expenditures that will have a future payoff. For example, eliminating debt will increase your disposable income, a new house may well appreciate in value, and a good education can increase future earnings significantly. By contrast, buying a car or taking a trip will not pay financial dividends. Expenditures like these should be made only out of necessity or when other expenses have already been fully met.

4) Pay off debt. Pay off your credit cards, car loans, and other high-interest debt. In addition to being expensive, this type of indebtedness is not tax-deductible, unlike home mortgage interest.

Some debt, however, such as student loans, may have such a low interest rate that it will be more economical to continue to pay it off over time, rather than in a lump sum. Investing the money that would otherwise be used to pay off low-interest debt can be more profitable in the long run. If you are unsure how to proceed, contact a financial adviser for guidance.

5) Prepare or update your own will. If well managed, the inheritance you received will form part of the wealth you leave behind. Proper planning can help save time, money, and considerable stress after you are gone. Contact an estates and trusts attorney and have a will drawn up so your legacy can be a blessing to the people you care about.