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I Received an Inheritance. How Is This Money Taxed?
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Spouses and Nonspouses

Spouses typically may inherit an unlimited amount of assets free of federal estate taxes. Estates bequeathed to nonspouses, in contrast, may be subject to federal estate taxes and state inheritance taxes depending on the level of assets within the estate.

For nonspousal heirs, in 2015, the federal estate tax is levied at a maximum rate of 40% after a $5.34 million exclusion. For estate tax purposes, heirs typically value assets at the fair market value on the date of the deceased's death.

Note that many states impose inheritance tax thresholds and tax rates that differ from those at the federal level. An estate planning attorney can advise you on taxation issues in your area.

Special Rules for Retirement Accounts

In most instances, spouses who inherit IRAs may treat the IRA as their own and must begin required minimum distributions (RMDs) after age 70½. RMDs, which are taken annually, are taxed as ordinary income.

Nonspouses, in contrast, may not delay RMDs until they reach age 70½. Nonspouses may transfer the IRA assets into an inherited IRA titled specifically for an heir. When taking distributions, which are taxed as ordinary income, a nonspouse has two options. As one option, the nonspouse may empty the account over a five-year period. A second option available to a nonspouse is to take annual distributions, with the amount determined by the account balance and the heir's life expectancy (or the life expectancy of the plan owner if longer and if RMDs have already begun). The latter strategy may permit a larger portion of the account to remain invested and subsequently provide the potential to grow tax-deferred.

Similar rules apply to employer-sponsored retirement plans, such as 401(k) plans or 403(b) plans. If you inherit assets that are within an employer-sponsored plan, you may want to contact the sponsoring employer to determine rules affecting beneficiaries.

Inheritance taxes are a complicated issue. When determining how they apply to your situation, an experienced estate planning lawyer could be your most valuable asset.

© Wealth Management Systems Inc. All rights reserved.

This material is authored by Wealth Management Systems Inc. and was not authored by Merrill Edge. Assumptions, opinions and estimates constitute judgment from Wealth Management Systems Inc. as of the date of this material and are subject to change without notice. Past performance does not guarantee future results. The information contained in this material does not constitute advice on the tax consequences of making any particular investment decision. This material does not take into account your particular investment objectives, financial situations or needs and is not intended as a recommendation, offer or solicitation for the purchase or sale of any security, financial instrument, or strategy. Before acting on any recommendation in this material, you should consider whether it is suitable for your particular circumstances and, if necessary, seek professional advice. Any opinions expressed herein are given in good faith, are subject to change without notice, and are only correct as of the stated date of their issue.

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