7 Costly Inheritance Mistakes That Can Cost You Six Figures

Mistake #1: Selling Inherited Stock Without Documenting Step-Up Basis

Potential cost: tens to hundreds of thousands in unnecessary capital gains tax.

When someone dies, the cost basis of assets they own resets to the fair market value on the date of death. This is called the step-up in basis under IRC § 1014. It is one of the largest tax breaks in the tax code — and one of the most frequently wasted.

Example: Your parent bought 1,000 shares of Apple in 2005 for $10 per share ($10,000 total). At their death, the shares are worth $400,000. Without step-up basis, selling those shares would trigger a $390,000 long-term capital gain — roughly $58,500 in federal tax at the 15% rate, plus 3.8% NIIT for high earners ($14,820), plus state tax. With step-up basis properly documented, your cost basis becomes $400,000. Sell the shares immediately and you owe zero federal capital gains tax.

The mistake: selling inherited stock before contacting the broker, establishing the date-of-death value in the account records, and confirming the stepped-up basis is on file. Some heirs — especially those handling the estate themselves — sell quickly to simplify things, not realizing that the step-up documentation hadn't been applied.

How to avoid it:

• Before placing any sell order, call the brokerage and confirm the account has been re-titled as an inherited account and the cost basis reflects the date-of-death value.
• Get a written statement of the stepped-up basis from the broker before you sell anything.
• For real estate and other non-brokerage assets, get a formal estate appraisal completed at or near the date of death. You'll need documentation if you sell later.
• If you're in an estate with multiple beneficiaries and haven't received your share yet, the step-up still applies — but confirm with the executor that basis documentation is complete.

Related: Step-Up Basis Tax Savings Calculator — see exactly how much the step-up saves you.

Mistake #2: Cashing Out an Inherited IRA as a Lump Sum

Potential cost: $50,000–$150,000+ in excess taxes on a $500K IRA.

The SECURE Act (effective for deaths after December 31, 2019) eliminated the "stretch IRA" for most non-spouse beneficiaries. You must now drain the account within 10 years of the decedent's death.¹ But you get to choose when to take distributions within that window — and that choice has enormous tax consequences.

The lump-sum mistake: Taking the entire balance in year 1 or 2. On a $500,000 inherited IRA, adding that to a year when you're already earning $150,000 means the IRA distribution is taxed at 32–37% marginal rates. Total federal tax: $160,000–$185,000.

The alternative: Spreading distributions across low-bracket years — taking more in years when your income is lower (a part-time year, early in retirement, a sabbatical) and less in high-income years. With careful planning, effective rate on the same $500,000 can be 22–28%, saving $50,000–$75,000 in federal tax alone.

Example of the optimization: You inherit a $600,000 traditional IRA at age 52. You plan to retire at 60. Your income is $200,000/year now, dropping to $80,000/year in retirement. Taking $60,000/year for 10 years is worse than taking $20,000/year for years 1–8 and then $440,000 across years 9–10 when your bracket is lower. The right answer depends on your specific income path and requires modeling.

For inherited Roth IRAs, the opposite is true: Roth distributions are tax-free (qualified), so you want to defer as long as possible to maximize tax-free compounding. Take nothing until year 10, then deplete in a single tax-free distribution.

Related: Inherited IRA 10-Year Drawdown Calculator — model even vs. accelerated vs. deferred strategies with your actual income scenario.

Mistake #3: Missing Annual RMDs on an Inherited IRA

Potential cost: 25% penalty on each missed distribution (10% if corrected timely).

Before 2024, there was confusion about whether non-spouse beneficiaries subject to the 10-year rule also owed annual RMDs. The IRS waived penalties during 2021–2024 while the rules were being finalized. That grace period is over. Treasury Decision 10001 (finalized July 2024) settled the issue: if the decedent died after their Required Beginning Date, beneficiaries must take annual RMDs in years 1 through 9 using the Single Life Table — and fully deplete the account by year 10.²

The RBD is April 1 of the year after the owner turns:

• Age 73 — for those born 1951–1959
• Age 75 — for those born 1960 or later (SECURE 2.0 § 107)³

Example: Your mother was born in 1950. She turned 73 in 2023 and died in mid-2024 at age 74, having already taken her 2024 RMD. She died after her Required Beginning Date. You inherit her $400,000 traditional IRA. You must take annual RMDs in years 1–9, calculated using the IRS Single Life Expectancy Table based on your age the year after her death. If your life expectancy factor at age 48 is 37.9, your year-1 RMD is $400,000 ÷ 37.9 = $10,554.

Penalty: Missing an annual RMD triggers a 25% excise tax on the missed amount (SECURE 2.0 § 302 reduced this from 50%). The penalty drops to 10% if you correct the shortfall by taking the missed RMD and filing Form 5329 within the correction window — generally by the end of the second tax year following the year of the miss.⁴

How to avoid it:

• Determine whether the decedent died before or after their RBD. Check when they were born, calculate their RBD date, compare to date of death.
• If they died after their RBD, calculate your first-year RMD from IRS Publication 590-B, Table I (Single Life Expectancy). The factor is based on your age in the year after the owner's death.
• Set a calendar reminder every year. Your life expectancy factor decreases by 1 each subsequent year.
• Consider working with a specialist to model the full 10-year schedule — missing year 3 or 5 by accident is easy without a plan.

Related: Inherited IRA RMD Calculator — determines whether annual RMDs apply to your situation and shows your full 10-year required distribution schedule.

Mistake #4: Non-Spouse Attempting a 60-Day IRA Rollover

Potential cost: the entire distribution becomes permanently taxable — no do-overs.

The 60-day rollover rule allows you to take a distribution from an IRA and redeposit it within 60 days without it counting as a taxable distribution. This rule applies to your own IRA — not to inherited IRAs you receive as a non-spouse beneficiary.

Non-spouse beneficiaries who receive an inherited IRA distribution cannot roll it back, ever. The distribution is taxable income in the year received, period. IRC § 408(d)(3)(C) explicitly prohibits non-spouse inherited IRA rollovers.⁵

How this happens: A financial advisor (incorrectly) tells a beneficiary they can take $200,000 from the inherited IRA and roll it to a new IRA within 60 days. They do it. The IRS treats the $200,000 as a taxable distribution — adding it to income for that year at ordinary rates. There is no mechanism to reverse this.

The right move: Non-spouse inherited IRA transfers must be done as direct trustee-to-trustee transfers. You never take personal possession of the funds. Call the new custodian, have them initiate the transfer directly from the original IRA. This is not a rollover — it's a transfer — and it's not taxable.

Mistake #5: Missing the December 31 Separate-Account Deadline (Multiple Beneficiaries)

Potential cost: loss of individual life-expectancy stretch for Eligible Designated Beneficiaries.

When an IRA or retirement account has multiple named beneficiaries — for example, three adult children — each beneficiary's distribution rules depend on their own relationship to the decedent and their own age. But to use individual rules, each beneficiary must establish their own separate inherited IRA account by December 31 of the year following the year of the owner's death.¹

Why this matters: Suppose one of three siblings qualifies as an Eligible Designated Beneficiary (EDB) — say, they're within 10 years of age of the decedent (born 1960 or later vs. decedent born 1948 = within 12 years, not an EDB — but imagine the sibling was born in 1950, 2 years apart). If the separate account isn't established by December 31 of the year after death, the beneficiary designation date defaults to the oldest beneficiary's rules — or the most restrictive set — potentially forcing a shorter distribution window for someone who would otherwise qualify for the stretch.

More commonly, the issue affects the life expectancy calculation for RMD purposes. If separate accounts aren't established by the deadline, all beneficiaries must use the oldest beneficiary's life expectancy factor, which may be shorter than their own.

How to avoid it:

• Don't wait for the estate to formally close. Inherited IRA splits don't require probate.
• Each beneficiary should contact the custodian and open a separate inherited IRA account in their name, then request a direct transfer of their proportional share.
• Do this within the year after the owner's death — ideally within the first few months.

Mistake #6: Commingling Inherited Cash With Joint Marital Accounts

Potential cost: loss of separate property status, exposure in divorce or creditor claims.

In most common-law states, an inheritance is separate property — it belongs to the person who received it, not to the marital estate. This protection holds as long as the assets stay separate. The moment inherited cash is deposited into a joint bank account or used to jointly purchase an asset, it may become marital property in many states — a process called commingling.

This matters in divorce, where separate property is generally not subject to equitable distribution, but commingled property may be. It also matters in some creditor situations where marital assets have different protections than separate assets.

How to avoid it:

• Open a dedicated bank or investment account titled in your name only. Deposit the inheritance there first.
• If you eventually want to use inheritance funds for a joint goal (home improvement, college fund), document clearly where the funds came from before they're used.
• Keep all transaction records showing the original source — a paper trail tracing inherited funds to their origin is the strongest defense of separate property status.
• Consult a family law attorney in your state if you're unsure about your state's specific commingling rules.

Mistake #7: Missing the 9-Month Disclaimer Window

Potential cost: stuck with assets you can't redirect, with tax consequences you can't undo.

A qualified disclaimer (IRC § 2518) lets you refuse all or part of an inheritance within 9 months of the decedent's death. The disclaimed assets pass to the next beneficiary in line — and crucially, the IRS treats it as if you never received the inheritance at all. No gift tax, no estate inclusion, no income recognition.⁶

Disclaimers are most useful when:

• You're in a higher tax bracket than the contingent beneficiary (disclaiming to a lower-bracket sibling or a trust can reduce total family tax burden)
• You've already inherited too much and want to redirect to the next generation
• You're on Medicaid or receiving means-tested benefits and an inheritance would disqualify you
• The inherited IRA's next beneficiary can use the stretch (an EDB like a surviving spouse) while you cannot

The deadline is absolute: A qualified disclaimer must be made in writing within 9 months of the date of death (not 9 months after you learn of the inheritance). Miss the deadline by one day and there's no qualified disclaimer — any attempt to redirect the assets becomes a gift from you to the next person, which may trigger gift tax consequences.

Additional requirements for a valid disclaimer (IRC § 2518(b)):

• Must be in writing
• Must be irrevocable and unconditional
• You must not have accepted any interest in or benefit from the property before disclaiming
• The disclaimed interest must pass to the decedent's spouse or to a person other than you, without direction by you

State law may add additional requirements. Get a qualified estate attorney involved before the 9-month window closes if you're considering this option.

Related: Qualified Disclaimer Guide — detailed walkthrough of the federal requirements and IRA-specific rules.

Other Traps Worth Knowing

The deathbed gift trap (§ 1014(e))

If you gift appreciated property to someone who is terminally ill, and they die within one year and leave it back to you, the step-up basis doesn't apply — the original cost basis survives the inheritance (IRC § 1014(e)).⁷ This trap catches people who gift low-basis stock to a dying parent hoping to get it back with a stepped-up basis. The IRS specifically blocked this. The one-year clock runs from the date of the gift to the date of the decedent's death.

Beneficiary designations override the will

Retirement accounts and life insurance policies are transferred by beneficiary designation — not by the will. If your parent listed their first spouse as beneficiary on a 401(k) and never updated it after remarrying, that first spouse receives the 401(k) regardless of what the will says. Heirs sometimes discover that what the will promised and what they actually receive are very different things.

Accepting an inherited property with a large mortgage

Inheriting a house with a $600,000 mortgage on a property worth $620,000 means you've inherited a $20,000 equity cushion — not a $620,000 asset. The heir takes the property subject to the mortgage. Before accepting (or failing to disclaim), calculate the net equity, factor in carrying costs, and decide whether it makes financial sense. The step-up in basis applies to the full property value, but you're also assuming the liability.

Not getting an estate appraisal for non-publicly-traded assets

For inherited real estate, a family business interest, private stock, or collectibles, the step-up basis is only as good as the documentation of date-of-death value. Without a formal appraisal, you may have difficulty establishing basis in a future sale. Get a qualified appraisal close to the date of death — ideally within 6 months (which also aligns with the alternate valuation date window under IRC § 2032).

Avoid These Mistakes With a Specialist

The mistakes above are avoidable — but they require knowing which rules apply to your specific situation before you act. A fee-only advisor who specializes in inheritance planning handles these decisions every week. Free match, no obligation.