If I were to inherit $200,000 from a non-family member, how would this be taxed? Do I need to report it with my regular annual income taxes?
No. Inherited assets aren’t taxable to the beneficiary, regardless of his or her relationship to the deceased.
Here are the basic rules:
You inherit capital assets like a house, shares of stock or a diamond necklace, at their current market value. You don’t owe any taxes on that value. If you inherit a house that was worth $200,000 at the time its owner died, for example, you can sell it for $200,000 without taxable gain. If you sell it for more than $200,000, you’ll owe taxes only on its appreciation since you inherited it. If you sell the house for $230,000, for example, your taxable gain is only $30,000.
But special rules apply to tax-deferred retirement accounts.
Let’s say your $200,000 inheritance is an Individual Retirement Account, for example. The IRA balance isn’t taxable; but the account is subject to yearly required minimum distributions (RMDs). If you’re the decedent’s surviving spouse, you can postpone taking RMDs by transferring the account into a new IRA in your own name. But if you’re a non-spouse beneficiary, you must take RMDs based on your life expectancy. If you’re 50 years old, your first annual RMD from a $200,000 inherited IRA would be $5,848.
Annual RMDs are taxable as ordinary income, and they must be reported on your tax return. But the inherited IRA balance remains tax-deferred until it’s withdrawn — so if you invest the account wisely and can afford to limit your withdrawals to annual RMDs, your inheritance may grow to be worth more than $200,000 by the time you retire at 65.
THE BOTTOM LINE
An inheritance isn’t taxable income to the beneficiary.