20 Jan Calculating capital gains tax on inherited stock
Q. I have about $500,000 in stocks that I inherited from my mom about 20 years ago. I haven’t sold anything and they’ve grown over time. I’d like to turn the money into cash so I can have a cushion without accessing my retirement accounts when I stop working. I’m 61 and I’d like to retire as soon as possible. Tax-wise, what’s the best way to do this, because I know I’ll owe a lot in capital gains taxes.
A. That all depends on the cost basis of the shares.
“The shares you inherited from your mom when she passed away 20 years ago would have been stepped up to their fair market value at the date of her death,” said Michael Maye, a certified financial planner and certified public accountant with MJM Financial in Gillette. “Any incremental shares added over the years via dividend reinvestment, the basis on those shares, if any, would be the price they were acquired at.”
But before you get to the tax issue here, Maye says it’s important to know your concentration in these stocks compared to your overall net worth.
“If you were to tell me the $500,000 is in one stock and it represented a large percentage of your net worth, I would be more concerned about the investment risk than paying taxes which are going to be long-term capital gains,” he said.
The federal long-term capital gains rate ranges from zero up to almost 24 percent for higher wage earners, he said. In terms of lowering the impact of the tax, Maye said you could look to utilize any capital loss carry forwards or create a capital loss by selling losing investments in your taxable portfolio.
And assuming your portfolio is not too concentrated, Maye suggested you could time the sale of the stocks over multiple years to spread our any tax liability.
He said the best way to determine the impact is to run a tax projection that takes into account all the moving parts, including your other income, capital gain, and even your exposure to the Alternative Minimum Tax, or AMT. You can then see how the tax liability would be different if you sold the stock all in the same year versus over several years.
Maye said it’s important to remember that taxes are only part of a larger financial equation, and you can’t view your finances a series “of one-off questions viewed from a silo perspective.”
The bigger question, Maye said, is if you can really afford to retire now. That answer can’t solely rely on your ability to sell the inherited stock, but a variety of questions, such as: Have I saved enough to support a 30-year retirement? When should I begin collecting Social Security? What am I going to do for health care till I reach Medicare age? And there are other questions, too.
You may want to talk to a financial advisor about your entire situation before making a decision.
Devang Patel, a certified financial planner with MetLifePremier Client Group in Cranford, agreed that it’s essential to look at your overall retirement prospects
“You should run numbers to make sure that you have enough assets to last you through retirement,” Patel said. “Be sure to use at least a 3.75 percent inflation rate to be on the safe side.”
Patel said retirees face a higher rate of inflation in general because the things they tend to do and need — traveling, eating out and more frequent medical care and services — tend to rise faster than the overall inflation rate.
Depending on your income when you retire, you can start using a combination of dividends from the stocks and liquidating a portion of the stock to supplement your retirement income, Patel said.
“You should consult your accountant each year to get an idea of how much in capital gains you would realize,” Patel said. “Try to keep your taxable income at a level where capital gains would not be cost prohibitive and you may be able to hold onto the stock for many years into the future.”
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This story was first posted in January 2015.NJMoneyHelp.com presents certain general financial planning principles and advice, but should never be viewed as a substitute for obtaining advice from a personal professional advisor who understands your unique individual circumstances.