Episode 56: The Hidden Dangers of Leaving Inherited Property to your Heirs

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questions from listeners of Big Picture Retirement Podcast

Most months, Devin and John devote an episode to answering questions from listeners of this podcast. Last month’s episode got missed with all the excitement of the new year and the tax bill, but now we’re back!

First, Devin’s client asked him, “Do I get a step-up in the basis of a property that I inherited?”

Of course, it’s not a yes or no question.  The value of many properties re-sets when transferred due to death. But there are a lot of exceptions and special situations.

Here’s the general concept: Our tax system is not generally designed to tax the same thing twice. And every estate, where actually taxes, is “taxable.” Therefore, once an asset has transferred ownership due to death, it has been “taxed” on the value at the death. In order to prevent double taxation, the value of the property then resets to the value at the time of transfer.

Now, while that’s the general rule, there are exceptions.  First, there are understandable exceptions, which would be things that were never taxed in the first place, such as a pre-tax Individual Retirement Arrangement. Then there are also not-so-obvious exceptions for specific types of property, like annuities.

John’s question is about leaving an inheritance to someone who may face a divorce. Should you do something special in this situation?

There are some steps you can take to protect an inheritance from a variety of threats, including divorce. John points out that divorce isn’t the only thing you should consider.  Every estate plan should factor in the death of a beneficiary, a disabled beneficiary, a beneficiary who is in debt, and the divorce of a beneficiary.

One solution may be to set up a trust to keep the inheritance separate from the individual’s other assets. Depending on your state law and specific situation, this may be more or less effective. Courts are generally tasked with doing what they see to be fair and equitable distribution of the marital estate. Sometimes, that means that they consider the existence of the estate when deciding how to divide the rest of the marital assets.

These two issues can be important when setting up your estate plan. Be sure to learn about all the details to avoid surprises!

Highlights include:

  • Devin’s now-valuable coffee cup
  • How something can be “taxed” even if no tax was paid.
  • Why John hates savings bonds

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Do you have a question for Devin and John?  Send it to questions@bigpictureretirement.net.  Not every question will make it on the air, but Devin and John to try to get to as many questions as they can manage.