Mutual funds invest in various stocks and bonds, based on the type and goal of the fund. Like stocks, mutual funds have shares, but the value is not based on an individual company but the fund's overall investments. Taxes on inherited mutual funds generally come into play if the beneficiary sells them.
The tax basis for an inherited mutual fund is the date of the decedent's death. While the inherited mutual fund may not be transferred to the beneficiary until going through probate, a process that can take months or even years, that is the tax basis if the beneficiary decides to sell all or part of the fund shares. For example, if the fund shares were worth $10,000 on the day of the decedent's death, and the beneficiary sells them a year later for $10,500, capital gains tax is due only on the $500 increase. If the beneficiary sells the shares for $9,000, he may take a $1,000 capital loss for tax purposes.
Most beneficiaries will not owe taxes on inherited mutual fund shares. The estate pays any federal or state estate taxes before distributions are made to heirs. Certain states impose inheritance taxes, although lineal descendants of the decedent, such as children or grandchildren, are usually exempt from tax. Other family members may have to pay a certain percentage of inheritance tax, and non-relatives usually pay a higher percentage. Check with the estate attorney for information in your situation.
Inherited IRAs in Mutual Funds
Beneficiaries inheriting an Individual Retirement Account invested in mutual funds are subject to the Internal Revenue Service's minimum distribution rules, generally based on their own life expectancy. If more than one person inherited the IRA mutual fund assets, each beneficiary should establish his own inherited IRA for his amount of the inherited account by the last day of the year following the decedent's death.
Transfers on Death
Account owners who want to avoid probate may file a transfer on death beneficiary form with the mutual fund company. The account owner must provide the name, address and Social Security number of the beneficiary. If the account is divided among several beneficiaries, the percentage designated to each must be included. The beneficiaries must provide a certified copy of the death certificate and required personal identification to receive the proceeds. Accounts titled in this way avoid the probate process with the decedent's other tangible and intangible property.
- Charles Schwab: Heir Economics
- Internal Revenue Service: Publication 551- Main Content
- Congressional Research Service. "Inherited or 'Stretch' Individual Retirement Accounts (IRAs) and the SECURE Act," pages 1-2. Accessed Sep. 1, 2020.
- Internal Revenue Service. "Publication 590-B: Distributions from Individual Retirement Arrangements (IRAs)." Accessed Sep. 1, 2020.
A graduate of New York University, Jane Meggitt's work has appeared in dozens of publications, including Sapling, Zack's, Financial Advisor, nj.com, LegalZoom and The Nest.