How to Avoid Taxes on a Large Sum of Money

Receiving a financial windfall — whether from an inheritance, business sale, lottery winnings, or a major investment gain — is an exciting opportunity that can significantly impact your financial future. However, without careful planning, a substantial portion of your newfound wealth could end up in the hands of the government through taxes. Fortunately, strategic tax planning can help you legally minimize your tax liability and keep more of your money working for you. From tax-deferred accounts and charitable giving to strategic gifting and residency considerations, there are numerous ways to reduce the amount you owe.

Consider speaking to a financial advisor for customized advice about your unique situation.

Sources of Large Sums of Money

When it comes to accumulating large sums of money, the sources can vary widely, from traditional avenues like high-paying careers and business ventures to more unconventional means such as windfalls, investments or even luck. Understanding where substantial wealth originates is crucial for anyone looking to build financial security or capitalize on new opportunities. Here are some of the most common ways to acquire this amount of cash:

• Inheritances: While the federal government does not tax inheritances, some states do. If you receive an inheritance from non-spouse in Pennsylvania, Maryland, New Jersey, Kentucky or Nebraska, you may have to pay taxes on the windfall.
• Life insurance payouts: Luckily, many lump-sum death benefits are not subject to income taxes because the policyholder makes premium payments along the way.
• Gifts: You can receive tax-free gifts, although the person who makes an individual gift worth more than $19,000 in 2025 may owe federal gift taxes.
• Asset sales: The money you receive from selling an asset may be subject to long-term or short-term capital gains taxes. Capital gains are calculated by subtracting the cost of the asset from the sale price. If you’ve owned the asset for less than a year, the IRS will tax the gain as ordinary income.
• Lottery winnings: Lottery winnings are taxed as ordinary income. With that, the size of your winning determines what percentage you’ll pay in taxes.
• Lawsuits: A court ruling or out-of-court settlement can also produce a significant windfall, which may be subject to income taxes.
• Salary bonuses: Salary bonuses are another type of financial windfall that can bring about significant tax consequences.

The type of windfall impacts your tax obligations. But it’s possible to minimize your tax liabilities with savvy strategies. Let’s explore some of your options below.

Strategies to Minimize Taxes on a Lump-Sum Payment

While you may not be able to completely avoid paying taxes on a lump-sum payment, there are several strategies to minimize how much you’ll pay. Here are some of the best strategies to consider if you’re looking to cut down on your tax bill.

1. Harvest Your Tax Losses

Tax-loss harvesting allows you to lock in investment losses for the express purpose of lowering your taxable income. For example, let’s say you have a stock portfolio with some bad performers. When you have a windfall, it’s a good time to offload those bad apples.

The catch is that capital losses are mainly used to offset capital gains. If your capital losses exceed your capital gains for the year, you can use up to $3,000 of the excess loss to offset ordinary income, such as wages or salary. If your losses exceed that $3,000 limit, the remainder can be carried forward to future tax years to offset future gains or income.

2. Contribute to Tax-Deferred Accounts

One of the most effective strategies for reducing taxes on a large sum of money is to utilize tax-deferred accounts like individual retirement accounts (IRAs) or employer-sponsored retirement plans such as a 401(k). Contributions to these accounts can reduce your taxable income in the year you contribute and defer taxes on the earnings until you withdraw the funds, typically in retirement.

For example, if you receive a large bonus or settlement, you can contribute a portion to a traditional IRA or 401(k), lowering your immediate tax liability. However, keep in mind that these accounts have annual contribution limits, so you may not be able to defer all of your lump sums. Roth IRAs also offer tax benefits, though contributions are made with after-tax dollars, and withdrawals in retirement are tax-free.

3. Leverage Tax Credits and Deductions

Strategically using tax credits and deductions can significantly reduce the tax impact of a large sum of money. Deductions lower taxable income, allowing you to offset the lump sum with expenses like mortgage interest, medical costs and charitable contributions. Business-related deductions, such as for home offices or asset depreciation, can also be applied if applicable.

Tax credits, which directly reduce the amount of tax owed, are even more valuable. Options like energy-efficient home improvement credits or education-related credits can help lower your overall tax bill. While a large sum may disqualify you from some income-based credits, there are still opportunities to explore, particularly if you make qualifying investments or contributions.

4. Donate To Charity

Another way to reduce your taxable income is through charitable giving. Donations to qualified charitable organizations are deductible, meaning you can subtract the value of the gift from your taxable income, which may help lower your overall tax bill. This can be especially advantageous if the lump sum pushes you into a higher tax bracket.

Charitable giving strategies include direct donations, donor-advised funds (DAFs) or setting up a charitable trust. Donor-advised funds, in particular, allow you to contribute a lump sum to charity in one year while distributing the funds to various causes over time. This approach provides an immediate tax deduction while giving you flexibility in how you support the causes you care about.

5. Consider a Structured Settlement

If you receive a lump sum through a lawsuit or settlement, you may have the option of choosing a structured settlement, which pays out the money in smaller increments over time instead of as a single large payment. Spreading the income over several years can prevent you from being pushed into a higher tax bracket, reducing the overall tax burden.

Structured settlements can also provide a predictable stream of income, which may be helpful for budgeting and long-term financial planning. However, they may not offer as much flexibility as receiving the full amount upfront, so it’s important to weigh the pros and cons based on your specific financial goals.

Bottom Line 

Maximizing the amount of your financial windfall that stays in your pocket requires careful planning and smart tax strategies. While some tax obligations may be unavoidable, proactive measures can significantly reduce your burden and help you retain more of your hard-earned wealth. By leveraging tools such as tax-deferred accounts, charitable giving and strategic gifting, you can minimize the impact of taxes while staying within legal guidelines. To ensure you’re making the most of every available opportunity, consult with a tax professional who can tailor strategies to your specific situation. With the right approach, you can preserve more of your windfall and make it work for you in the long run.

Tax Tips

• The right tax strategy could save you thousands. If you aren’t sure of the best option for your situation, consider speaking to a financial advisor with tax expertise. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goal, get started now.
• Want to estimate how much you would owe to the government in taxes on a windfall? SmartAsset’s free income tax and capital gains tax calculators may help you estimate your tax liability.

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