What is the best way to pass on an inheritance?

Early conversations and estate planning can enable more meaningful gifts.

Article published: January 12, 2023

When it comes to passing on an inheritance, there are three key things to decide – what you’re giving, who you’re giving it to and when you’re giving it.

  1. What you’re giving. Are you passing on money, real estate, collections or other material possessions?

  2. Who you’re giving it to. Are you planning an inheritance for children, grandchildren, other family, friends or charitable organizations?

  3. When you’re giving it. Do you want to pass on an inheritance while you’re still living or after your death? This may impact how you save and how you take any retirement plan distributions moving forward.

    • If you decide to give while you’re still living, be sure to consider your own income needs first. Factor in things like inflation, rising health care costs and taxes before making any gifts to inheritors.
    • Gifts that qualify for exclusion from the annual gift tax ($15,000 in 2021 and $16,000 in 2022) are tax-free and don’t require filing a gift tax return.
    • Gifting certain assets – such as cash from an IRA withdrawal – while you’re living may have tax implications for you, so it’s best to be clear on the gift’s impact on your own personal finances.

Passing on financial assets

In the case of passing on your financial assets, there are several things to consider before you formalize an inheritance. For example, if you’re giving to children, you may want to be sure you’re giving equally. Or perhaps, you want to determine their inheritance based on need. In either case, that’s something you should discuss with them so they’re aware of your reasoning and aren’t surprised by the decision you’ve made. Often, involving an impartial estate attorney helps make these conversations both more informed and easier for the family.

In any case, transparency will help ensure a smooth transition. Have a discussion with your heirs about who to contact, where you keep your paperwork and who will be the executor of your estate (or if it’s a shared responsibility) and successor trustee of any trust.

Inheritance can be a boon or a burden

Certain inherited assets, such as stocks and mutual funds, are eligible for favorable tax treatment called a step-up in basis. This tax treatment could mean significant savings for your heirs.

On the flip side, an inheritance could become a burden for some, including children or grandchildren attending college who may suddenly find themselves ineligible for financial aid, and special needs children who may no longer qualify for certain assistance programs.

Gifts of appreciated property will be subject to capital gains tax when sold by the recipient, so they need to be prepared for that expense.

In many cases, setting up a trust can protect your estate and your heirs. A trust is a fiduciary relationship in which a grantor (also known as a trustor or a settler) gives another party, known as the trustee, the legal right to hold assets for the benefit of a beneficiary, who will ultimately benefit from the trust assets. A trust can protect your heirs’ interests, and the assets in them avoid probate, which can be a long and costly process.

The relative benefit or disadvantage of an inheritance can vary greatly depending on your heirs’ personal circumstances, individual tax bracket and other factors. Consulting with a tax professional or estate attorney is the best way to help ensure your inheritance is optimized, and just as importantly, not causing any harm.

Trash or treasure?

When considering passing on an inheritance of material possessions, remember, one person’s trash is another’s treasure – and vice versa. That old adage often proves true when it comes to bequeathing your lovingly collected treasures to your heirs. This also applies if you’re downsizing to a smaller home and want to pass along much of your stuff to your children or grandchildren right now.

Either way, consider how your children really feel about the things you want to give to them. Don’t assume the younger generations will gladly take everything and cherish it the way you did. Instead, the odds are they:

  • Don’t want most of your stuff
  • Don’t need it
  • Don’t have room for it

You may find a middle ground because some younger generations say they actually would be interested in certain things – typically items that are linked to precious memories and don’t take up a lot of space. So, have an open, candid conversation with your offspring.

  • If they want it, they’ll tell you.
  • If they don’t want it, either they’ll tell you or you can read it in their eyes or hear it in their slow response to your offer.
  • If you aren’t passing the items on now, it is advisable to put the disposition of assets in writing. Adult children can change their minds, and there could be unnecessary discord if two kids thought they had dibs on the same item.

Here are five things that some millennials say they’d like to receive:

  1. Photographs. This doesn’t mean they want hundreds of them packed into dozens of albums dating back to the Civil War. Instead, try this: When your adult children visit, ask them to take a few minutes to sit down, look through just one or two photo albums and tell you which pictures they’d like. Or consider a photo scanning service that converts your photo albums into digital files that can be easily passed on to your children electronically.
  2. Grandma’s recipes. Generally, it’s not the cookbooks your kids or grandkids want, but their grandmother’s handwritten recipe cards. They likely remember her taking the cards out and using them while she cooked dishes everyone loved.
  3. Extra-special jewelry. Heirs want pieces attached to family memories. For example, a child or grandchild might like grandma’s beautiful engagement ring to give to a future fiancée. Or grandma or grandpa might have another special piece of jewelry to pass on to a child or grandchild.
  4. The family toolbox. Kids may choose tools they need – like hammers, screwdrivers, wrenches, saws or drills.
  5. Vinyl collection. Kids might enjoy playing the record albums they remember a loved one playing and singing along with them.

Preserving the value of your inheritance

If there are things your children don’t want, consider having high-value items appraised by a professional. And, if any of your furniture, paintings or other items are valuable, let your children know who to contact if they eventually choose to sell (i.e., auction house, collector or specialist). If your children don’t fully understand the value of your belongings, they could sell valuable items for pennies on the dollar at an estate sale.

In the meantime, consider going through your possessions and minimizing what you keep, as suggested by Marie Kondo, author of The Life-Changing Magic of Tidying Up: The Japanese Art of Decluttering and Organizing. As you pick up each item, ask yourself whether it sparks a feeling of joy and fits into your ideal lifestyle. If it does, keep it. If not, discard it. This process helps you identify exactly what you love – and what you need, Kondo believes. And when you pass these items on to your heirs, you’re giving them more than just possessions. You’re conveying to them at the same time a sense of your personal values.

No matter what you’re passing on to your heirs, it’s best to do so as part of an overall financial plan. Consult with your financial planner and estate attorney to discuss the best ways to pass on an inheritance and help secure your legacy for future generations.

Neither Edelman Financial Engines nor its affiliates offer tax or legal advice. Interested parties are strongly encouraged to include your qualified tax and/or legal professionals in these discussions and decisions to help determine the best options for your particular circumstances.