There are many types of inheritance. You can inherit cash, land, vehicles, stocks, money that was saved in a retirement account, rental property, a business, equipment, a payout from a life insurance policy and so on. Many times an inheritance will include a mixture of different assets that were saved and accumulated in different ways.
In most cases, your inheritance is not taxable. Whether you receive money that was in a bank account, cash that was squirreled away somewhere, a direct payout from a life insurance policy or a house, you will receive it free and clear. However, there are some instances in which you will pay taxes on something that you have inherited.
Inheriting an IRA or 401k
One important and common example of this is an Individual Retirement Account (IRA) or a 401k. If you inherit this type of asset, the money will be taxed eventually. How much tax is assessed will depend on if the account was funded with pre-tax or post-tax dollars. If pre-tax dollars where used to fund the account, the entire amount of each distribution will be taxed. If post-tax dollars where used to fund the account, only the interest that has accumulated on the distribution will be taxed. This latter is because the money was already taxed before it was put into the account. Regardless, the money will not be taxed as long as it remains in the account.
Selling an Inherited Property
If you inherit a home, land, stock, etc. and sell it, you may be taxed on some of the proceeds. The property is given a fair market value, which is based on what it was worth when the decedent died in most cases. If you sell the property for more than the fair market value, you will pay taxes on the gain. If you sell it for less than or equal to the fair market value, you won’t be taxed on the money at all.
Earning Money from an Inheritance
Any money you make off of an inherited asset will be taxed, just as any other income would be taxed. If you inherit a rental property, the rent you make off of it will be claimed and taxed each year. The same goes for dividends from an inherited stock and money made from an inherited business.
Tax laws can be tough and complicated, but with this handy guide you will be able to determine the taxable status of the most common types of inheritance.