5 Steps to Manage an Inheritance


Planning on getting an inheritance? Be careful what you wish for in a will. Financial advisors know the danger of sudden money.  Studies show that people spend "windfalls" twice as fast as earned money. Lottery winners go bankrupt at twice the rate of the overall population.

Inheritors are no exception. Studies have shown that 70% of wealth disappears in the second generation, 90% in the third.  A recent survey by Interest.com says a sizeable portion will use it for luxury items, travel and housing upgrades -- and fewer than half (42%) plan it for long-term investing.

The recent recession has made people pessimistic that they'll even get an inheritance -- only one in four people expect one.  That's too pessimistic says Boston College Center for Retirement Research, which says two-thirds of Americans will get some of the $6 trillion to $8 trillion expected to change hands the next two decades.

If you are lucky enough to inherit, give yourself a break. Hold off on any big spending plans, quitting your job, or other major moves. Think of how the legacy you've landed can become a gift that keeps giving. Handled wisely, it can help create the kind of financial well-being that lasts a lifetime. 

Here are the five steps to take when you get that inheritance, or any kind of windfall:

1- Put the cash into a short-term money market account and take stock.

It's a chance to consider your overall financial situation. Until the check arrives, you are not likely to know exactly how much you'll get.  But whether you are pleasantly surprised or end up disappointed by the figure, you need time to absorb and assess the emotional and financial impact of your newfound wealth. Putting the funds into money market account will return little in the current interest rate environment, but the principal value will not fluctuate while you decide your strategy.

2- Pay down onerous debt.

Nobody likes paying interest on loans. Interest.com says 18 % of people would use an inheritance to pay down debt, which seems like a very frugal idea. But remember that not all debt is alike. Mortgage rates are low and tax deductible. It may be smarter to keep paying your home loan and look for an investment that pays more than your interest payments.  High interest credit card or auto debt, however, should be paid off because it is unlikely that you would earn a higher return in the stock market.

3- Set up an emergency account.

In uncertain times like the present, it's wise to have savings equal to six months to a year's worth of living expenses in case of a job loss or other unexpected event.  It doesn't mean stuffing bills under a mattress. It simply means putting a piece of your inheritance into secure, easy-to-access investments. We divide our clients' assets into accounts with specific purposes such as the emergency account.  Even a low duration bond fund can be a good option.  The important thing is that the client knows the money is there if needed.

4-A financial advisor can help deal with the added complexity of inherited money.

Having more money is great-- but it won't make you smarter overnight. Indeed, the more you inherit, the more likely you'll need professional help. You will deal with complex tax implications, a whole new financial plan and a review of your appropriate mix of stocks, bonds and other assets for your age, risk tolerance and your newly puffed net worth.  A financial adviser can also show you how to fund your personal goals - college for kids, retirement and spending on things you want.

5-Build long-term wealth (and bolster your investing knowledge.)

Now you are ready to focus on actually building wealth. You've avoided the impulse to go on a spending binge and found ways to cut your debt.  What's more, with an emergency fund you will sleep better.  You can take on a higher level of risk (and potential reward) with the rest of what you inherited.  

Extending the concept of "Purpose Based Asset Allocation," we divide the client's assets into accounts with specific goals - this account is for retirement, that account is for a child's college tuition in 4 years.  We adjust the asset allocation to optimize the return for a give time horizon.  For example, a college tuition account might be 50% stocks/50% bonds, while an account for retirement in 20 years might be invested 100% in stocks.

Working with Heron Financial Group can help you sort through your options.  You have ten thousand choices.  Our job is to show you the ten choices that matter to you, and help you choose the best.