What to Do With a $500K Inheritance

You inherit $500,000 and your first instinct is to figure out how to invest it. But before choosing stocks, funds or other investments, there are important decisions that can have an even bigger impact on your financial future. Your first move is important. One mistake and you could hand over thousands of dollars to the IRS.

Know What You Have and What You Could Do With It

You can’t make smart investment decisions until you know which assets you’re dealing with. Different assets follow different tax rules, and those rules can affect whether you should hold, sell or reinvest.

Cash, for example, has no immediate federal income tax when you inherit it. That gives you the flexibility to invest it whenever you’re ready.

Taxable brokerage accounts, on the other hand, often receive a stepped-up cost basis, which resets to the investment’s market value on the date of death for tax purposes. So, if you sell inherited investments soon after receiving them, you may owe little or no capital gains tax.

Not all inherited assets get this treatment, though. Inherited traditional IRAs are treated differently. Withdrawals are generally taxed as ordinary income, and many non-spouse beneficiaries must empty the account within the period required under current IRS rules.

Real estate, however, is closer to the brokerage account example. Real estate can receive the same stepped-up cost basis as taxable brokerage accounts. If you sell the property, that adjustment may significantly reduce or eliminate your capital gains tax.

A financial advisor can help you minimize taxes for an inheritance. Get connected with an advisor today!

This Mistake Can Cost You Thousands

How you take money out of an inherited IRA can set your investment plan back by years. For example, let’s assume you inherit $500,000: $200,000 in a taxable brokerage account holding stock that your parent bought for $100,000, and $300,000 in an inherited traditional IRA.

The brokerage account receives a stepped-up cost basis, resetting your cost basis to $200,000. If you sell the investments soon after inheriting them, you generally would not owe capital gains tax on the $100,000 of appreciation during your parent’s lifetime.

The inherited IRA is different. If you withdraw the full $300,000 in one year and already have $100,000 of taxable income, your total taxable income goes up to $400,000.

For tax year 2026, the additional IRA income would be taxed as follows: ¹

• 22% on $5,700 = $1,254
• 24% on $96,075 = $23,058
• 32% on $54,450 = $17,424
• 35% on $143,775 = $50,321

Your estimated additional federal tax would be $92,057 before deductions, credits and state taxes. This figure reflects the extra tax caused by the withdrawal itself, not your total tax bill for the year, which would be higher once tax on your other income is included.

The IRS, however, offers a way to avoid this hit: The agency generally allows non-spouse beneficiaries to spread withdrawals over 10 years. Taking smaller distributions each year can help keep more of the money in lower tax brackets, reducing your total tax bill by tens of thousands of dollars when compared with a lump sum withdrawal of the money in lower tax brackets, reducing your total tax bill by tens of thousands of dollars when compared with a lump sum withdrawal.

How to Put $500,000 to Work for You

Once you’ve identified the inherited assets and their tax treatment, set aside enough cash to cover each year’s tax bill from the IRA distributions, plus any other near-term needs, before investing the rest.

Then invest what remains based on your time horizon. Retiring within five years and relying on this money for living expenses calls for a conservative mix. But a 20-year horizon or longer may support a stock-heavy portfolio for long-term growth.

A financial advisor can help you create an investment plan to make the most of an inheritance.

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