My children have inherited $5 million in stock from their father (whose estate is still not dispersed after 11 months) leaving them with a loss of about 30% in value that they had no control over. Is there a way for them to choose which stocks to sell and take tax losses? They understand that the 10-year withdrawal period for an Individual Retirement Account (IRA) is now reduced to nine years, making it even more taxing. Any help would be appreciated.
I am sorry to learn of his passing. I’m sure it’s already a difficult time for you and your children and I know dealing with his unstable fortune and the issue of investment losses is not making it any easier.
There are potentially a lot of complexities at play here that I’m not aware of because I don’t know all the details of the estate, but I’ll try to explain from a big picture perspective some things you need to know that might help you decide how to move forward from here.
A financial advisor can help you make decisions about handling an inheritance and minimizing taxes.
Talk to the executioner
First, I recommend that you speak with the executor and discuss any concerns you may have. There are several possible issues that may help resolve.
Without knowing anything else about the estate I can’t say if 11 months is a long time to wait for settlement. Simpler estates can be settled more quickly than complex ones, and more complex estates take longer. If you believe, however, that settlement is being delayed due to inaction or failure on the part of the executor then this needs to be addressed. This is especially true if the delay causes financial harm to your children.
Even if the delay is not due to something within the executor’s control, knowing which stocks your children would prefer to sell can help inform the executor’s decisions. Only the executor or an appointed receiver has the power to sell assets.
Inherited IRA Distributions
Let’s also clarify that they understand the inheritance IRA distribution rules. Assuming your children are not minors, then yes, under current law they have 10 years to withdraw any money held in inherited IRAs. Specifically, the money must be withdrawn by the end of the tenth year following the year of the original account holder’s death.
If their father died sometime in 2021, they have until December 31, 2031. If he died in 2020, they have until December 31, 2030.
Unfortunately, that clock starts at the time of the original account holder’s death, regardless of how long it takes to settle the rest of the estate and distribute the assets.
Capital loss harvesting
It is not clear whether the particular shares are held within the IRA or in a different account. This matters when it comes to calculating the tax implications and whether or not harvest losses are an option.
If the stocks are held inside the IRA, then the capital gains are already sheltered from taxation. The other side of this coin is that you also cannot collect capital losses for tax benefit. What will matter in this case is simply that when a distribution is taken from the IRA, it will be taxed as income to the recipient.
If the shares are held in a taxable brokerage account, then it’s a different story. In this case, capital losses can be used to offset capital gains. However, just because the value of the stock has dropped by 30% does not guarantee that there are actual harvest losses.
Make sure you check the basis of the stock and understand if there are any unrealized losses to take.
Real Estate Taxes
If the stocks are actually held in a taxable account so that capital losses can be harvested to reduce tax liability, and if there are actually capital losses to harvest, you need to consider the best approach to harvesting those losses. If you sell the shares while they are still held in the estate, then the estate will receive the capital loss deduction.
This may or may not be the best approach. While estates are taxed at a much higher rate than most taxpayers – ranging between 18% and 40% – the vast majority of estates are not taxed at all due to the current exemption amount of $12.06 million. It could well mean that you are collecting losses against an estate that has no tax liability anyway.
Distribution in kind
If instead the estate passes the stock to your children in kind, meaning the estate does not sell the stock but distributes the actual shares to them, then their basis in the stock is likely their fair market value on the date the father passed them. This would be regardless of how much their father paid for them or what his basis was. This is called a reinforced base.
This potentially creates a tax saving opportunity for your children. If the value of the stock has dropped 30% since their father died, then there’s nothing they can do about it now anyway. If they receive distribution in kind, they may be able to sell and reap the 30% loss, which it seems they were hoping to do in the first place.
I hope this provides some clarity and helps you think about your next steps. Real estate can be very complicated and tax rules often depend on small details. I strongly encourage you to speak with a team that includes an attorney, tax professional, and financial planner who all have the necessary expertise to assist you.
Brandon Renfro, CFP®, is SmartAsset’s financial planning columnist and answers readers’ questions about personal finance and tax issues. Have a question you’d like answered? Email AskAnAdvisor@smartasset.com and your question may be answered in a future column.
Please note that Brandon does not participate in the SmartAdvisor Match platform.
Investment and retirement planning advice
If you have questions about your investment and inheritance situation, a financial advisor can help. Finding a qualified financial advisor doesn’t have to be difficult. SmartAsset’s free tool matches you with up to three financial advisors serving your area, and you can interview your advisors at no cost to decide who is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
If you have a large enough estate, estate taxes could be high. But you can plan your taxes ahead of time to maximize your loved ones’ inheritances. For example, you can gift portions of your estate in advance to heirs or even create a trust.
Photo credit: ©iStock.com/PeopleImages, ©iStock.com/Natee Meepian
The post Ask an Advisor: My Kids Inherited $5 Million. How should they handle it? appeared first on SmartAsset Blog.