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How can I avoid estate taxes?

February 07, 2014

By Richard Barrington | MoneyRates.com Senior Financial Analyst, CFA

avoid estate taxes

Q: My sister and I recently inherited money from the sale of a condo my mother owned. Where can I put my money so no taxes are taken out? Also, what's the best option for earning income on that money these days?

A: It is always perilous to give tax advice without knowing all the specifics, but there are some basic parameters you might find helpful. In the end, especially given all the complications that come with estates, you would be wise to run the details of the situation by a tax expert. It might cost you a little, but probably not nearly as much as making a tax mistake would cost you.

For the most recently completed tax year, the estate tax exclusion was $5,250,000. As a result, unless your mother's condo was extraordinarily valuable, the proceeds are probably under the estate tax exclusion. However, there are a few wrinkles to that exclusion:

  1. It includes the entire value of the estate.
  2. It may include certain gifts that were given to you during your mother's lifetime.
  3. Your mother's estate may be eligible for a higher exclusion if her spouse died without fully utilizing his estate tax exclusion.
  4. Expenses involved in settling the estate can be deducted from the amount applied against the exclusion.

If your mother's estate is large enough to be at or close to that $5,250,000 estate exclusion level, it really would be prudent for you to consult a tax expert.

As for investing for income, you have a few options. If you will need to draw on principal as well as income, you would do well to put at least part of your inheritance in a completely liquid and safe deposit vehicle, such as a savings or money market account. The best savings and money market rates these days are just shy of 1 percent.

If you can afford to live primarily off income and do not plan to draw significantly on the principal, you can earn higher rates by depositing your money in CDs. If you are willing to lock your money up for five years, the best CD rates at that length are around 2 percent. A third income option is to invest in high-quality, long-term bonds. Thirty-year Treasury bonds are yielding in the neighborhood of 3.75 percent. Keep in mind, though, that unlike bank deposits, Treasury bonds are not insured by the FDIC, and though the face value and interest are backed by the U.S. government, the value of a Treasury bond might fluctuate between now and when the bond matures.

Finally, remember that there is a $250,000 limit on FDIC insurance, so if your inheritance comes to more than that, you may want to spread it among multiple banks.

Got a financial question about saving, investing or banking? MoneyRates.com invites you to submit your questions to its "Ask the Expert" feature. Just go to the MoneyRates.com home page and look for the "Ask the Expert" box on the lower left.

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