Choosing to Leave an Inheritance Can Impact Many Other Financial Planning Decisions

If you have worked hard and planned properly, you may be well situated to leave an inheritance to your children. It can feel very meaningful to be able to provide a financial legacy for your loved ones, but it’s important to be practical, too, and to go about your estate planning in the right way. This single decision can impact all of your financial decisions, such as how much you put into savings, the types of retirement accounts you utilize, and your strategy for taking distributions.

Make sure you’ve covered all your estate planning bases by reading through these eight considerations for passing an inheritance to your children.

1. Your Personal Income Needs

Generosity feels good, but it must be wise, too. Don’t make the mistake of giving away more of your retirement savings than you’re truly able to. While the decision to provide for your children can be a very emotional one, it’s important to be financially savvy about it. Determine your own monthly or annual income needs, then use a retirement calculator like this one to help you develop a savings and withdrawal plan.

2. Rising Healthcare Costs

It’s important to remain vigilant about planning to pay for an unexpected illness or injury – and the medical bills that come with them. These costs pose a risk to your retirement and to your heirs’ inheritance, and there’s no good way to predict how much you could need. It’s also risky to rely on government programs like Medicare and Medicaid because they don’t cover everything. One potential option to explore is long-term care insurance. it seeks protection for your assets in the event of catastrophic illness. However, policies can be quite expensive and aren’t necessarily investments for everyone.

3. Planning for a Longer Retirement

One of the most common retiree fears is running out of money in retirement. Make sure you have a plan to manage your savings and withdrawals appropriately so you can avoid depleting your assets while you’re still alive. If your goal in estate planning is to leave an inheritance for your children, the last thing you want is to saddle them with paying your bills as you age.

4. Tax Liability

When you leave an inheritance to your children, it’s important to understand the potential tax implications. The choices you can make now can help them enjoy more favorable tax treatment when you’re gone. For example, inherited stocks and mutual funds are eligible for a step-up in basis that could lead to significant savings.

Be mindful, too, about the rules for inheriting IRAs, such as the requirement that non-spousal beneficiaries take full distribution of the amount inherited within ten years. Formerly, heirs could take advantage of a “stretch IRA” that allowed them to stretch distributions over their entire lives. However, the stretch IRA was eliminated by the Setting Every Community Up for Retirement Enhancement (SECURE) Act in 2019. Some exceptions to this remain for a child who is not yet 18, for those who are disabled or chronically ill, and for heirs who are less than ten years younger than the owner of the IRA

5. The Advantages of a Trust

Some estate planning tools can allow you more control when you want to leave an inheritance. A trust, for instance, will control distributions on behalf of your estate. This can be a useful tool to help you plan for the distribution of your assets to the children you designate them to. For this reason, a Trust can be particularly useful for blended families where one or both spouses have children from previous relationships.

6. Making Informed Investment Decisions

You should always choose your investments wisely, whether you hope to leave an inheritance or not. However, if it is your goal to pass inherited assets to your children, then you need to design a portfolio that will last for several generations. We aim to manage your investment portfolio with the goal of growth, capital preservation, and income generation. You should also do everything you can to avoid dipping into the principal for withdrawals. When you’re estimating the amount that you’ll be able to use to leave an inheritance to your children, don’t neglect to consider both compound interest and inflation.

7. Options for Carrying Out Your Legacy

Estate planning isn’t one-size-fits-all, and there are several options to choose from to leave an inheritance:

Gifts

If you choose to, you can gift assets to your children and allow them to make use of your money before you die. If they qualify as annual exclusion gifts, they won’t be subject to the gift tax. This may potentially be tax-free and not subject to IRS filing, depending on individual circumstances. This strategy is also advantageous in that you can use a separate annual exclusion for each person to whom you make a gift. While your recipients won’t receive the step-up in cost basis, any capital gains will be taxed at their rate (rather than yours) which may be higher.

Trusts

Trusts can be a beneficial tool in estate planning, as they can help avoid probate, maintain privacy, and potentially protect your heirs’ interests. You can select an individual or a company to act as your trustee to manage distributions according to your wishes. A revocable trust allows you to maintain control of the assets during your lifetime, while an irrevocable trust is treated as a gift that you cannot control or take back into your possession. Examine which type might benefit your estate planning goals.

Deferred Income

Certain retirement accounts, including IRAs and 401(k) plans, defer taxes on capital gains, interest, and dividends until the funds are withdrawn. When they are, they’re taxed as ordinary income. If you believe you will be in a higher tax bracket in retirement than you are in currently, you might look into using a non-deductible IRA. It is a tool that may allow for potential tax-free growth, and withdrawals may be subject to taxes.

Life Insurance

Life insurance offers several estate planning benefits if your goal is to leave an inheritance to your children. If you have a policy, your beneficiaries receive the money tax-free. They may be able to avoid probate, and while market fluctuations can impact the dollar amount, it’s important to consider other factors as well. If life insurance is an attractive option for you, you might also consider fixed or variable annuities. They allow you to invest in the stock market through mutual funds, but they also have a life insurance component. Many times, they also carry hidden fees, so be cautious before taking this route. It’s usually best to discuss your options with a trusted financial advisor before you purchase an annuity product.

8. Estate Planning Legal Details

After you determine the mechanics of your estate plan, work with an estate attorney or a financial planner who specializes in estate planning to ensure you have everything in writing. This also gives you a chance to ask questions about beneficiary changes, probate laws in your state, and whether you’ve included all necessary items in your will. You should feel comfortable and confident in the estate plan you’ve created to leave an inheritance to your children, so be diligent and intentional in getting all the information you need from the professional you’re working with.

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