How to Invest Your Inheritance Strategically

Receiving an inheritance can leave you with many questions. Most importantly, how do you use this gift responsibly?

Losing a loved one is a difficult experience. The grief you may feel can grow more complex due to the detailed financial choices you need to make during a trying time. Just a few considerations that can arise in relation to your inheritance include:

• Wealth management.
• Estate and capital gains tax implications.
• Asset planning.

However, it is important to make a strategic plan for investing your windfall. An inheritance is both a financially valuable gift and a sign of your importance to a close friend or relative who recently passed. Effective use of your inheritance, then, is a way to honor the person or people who left it to you as well as a way to build a more stable financial foundation.

A crucial early step for inheritance investment decisions

Have you received an inheritance, and are you looking to invest? You should talk with a financial advisor as part of the process.

These professionals can help you build a personalized and comprehensive strategy for financial management, from savings and tax planning to your own wealth planning and preservation needs. They may even offer assistance with more detailed strategies, such as establishing a special needs trust.

Be sure to ask about training, qualifications, licensure and past experience with clients in similar financial positions to your own before making your decision.

As a first step, consider these ideas for how to invest an inheritance responsibly.

Establish an emergency fund

Financial security is the ultimate goal of investing and, more broadly, retirement planning. You need a solid foundation to ensure the funds dedicated to investments aren’t suddenly required to pay for an unexpected bill or emergency expense.

An emergency fund is a readily accessible source of money used only when unplanned and substantial expenses arise. Medical emergencies, loss of a job and similarly unpredictable situations can all be less stressful if you know you have the funds on hand to address the financial responsibilities tied to them.

If you do not already have an emergency fund, consider calculating your basic expenses — needs like rent or mortgage payments, groceries, utilities and insurance. Then, set aside enough funds to address 3-6 months’ worth of those costs.

If you already have an emergency fund, now is a good time to reassess your expenses and, if necessary, add to your financial reserve.

Save and invest for retirement

Some loved ones pass on individual retirement accounts (IRAs) to their heirs, but inheriting a lump sum of cash can still help you save for retirement.

An inheritance cannot be used to open or fund an IRA because it is not earned compensation —  but it can help you in other ways. An inheritance may serve as a financial backstop for expenses, allowing you to max out your contributions for an existing traditional or Roth IRA.

Of course, there are options beyond IRAs that can help you meet your financial goals for retirement. Choices ranging from certificates of deposit to index funds and making your own choices in the stock market through a brokerage account may be appealing, depending on your own needs, priorities and appetite for risk. You could choose to focus on one type of investment, or a combination of them.

This is one area where a financial advisor can play a key role, by helping to tailor a plan that emphasizes retirement accounts relevant to your position.

Pay off debt

While the temptation to splurge can be hard to resist when you receive newfound wealth, it may be more prudent to use an inheritance to pay down debts rather than create new ones.

Promptly addressing debt isn’t an investment activity by itself, but it can reduce the amount of money you owe in the long term. In time, you will have more money to put toward your investments and fewer financial obligations to address.

Debt reduction is an especially beneficial strategy if you have multiple student loans or credit cards with high interest rates that continue to rack up costs. A windfall like a cash inheritance empowers you to make a lump sum payment, which can help you:

• Clear out a high-interest account by finally paying the balance down to zero.
• Reduce your expected date of payment for all your student loans by closing an account or two earlier than expected.

Using the snowball tactic of debt reduction can help you pay off debt. In this plan, you address the accounts with the smallest balances first while maintaining at least the minimum payments on more significant debts. Then, you work your way up the list of debts until all are paid off.

This plan is not the right choice for everyone, but it can prove especially effective if you are motivated by seeing debt-related bills drop off of your monthly budget relatively quickly.

You might also consider the debt stacking approach, where you pay off balances with the highest interest rate first. If knowing that the most expensive debts are addressed first will motivate you, debt stacking may be your best bet.

Start a 529 plan or ESA

The cost of education is substantial. If you have recently received an inheritance gift and have children (whether young or approaching college age), consider putting those funds toward a college savings plan: whether a 529 plan or an education savings account (ESA).

Both of these accounts may provide tax-advantaged help for addressing the costs of education. Tax-free withdrawals could be made from a 529 plan for college costs like tuition, room and board, fees and textbooks. Meanwhile, an ESA plan could help pay for qualified expenses including elementary, secondary and post-secondary tuition and vocational schooling.

Open an interest-bearing account

Using an inheritance to open a savings or checking account is one way to ensure money is strategically and responsibly used. You can use inherited cash to start an emergency or rainy-day fund through a savings account that accrues interest.

High-balance checking accounts, such as Comerica Platinum Circle Checking®, often feature favorable interest rates, but also larger minimum initial deposits. You can use an inheritance to meet that requirement, which then lets you access to other digital banking services and products.

Determining how best to invest your inheritance can be an emotional decision. With the help of a financial advisor, you can more clearly plan out long-term goals and identify the ideal uses of your inheritance. Contact Comerica Bank today to talk with industry leaders about these topics and what to do.