Navigating the Complexities of Inheriting Shares

Inheriting shares can be both a financial boon and a complex challenge, especially when it comes to understanding the tax implications and aligning inherited assets with your financial goals. Here’s a comprehensive guide tailored for Australian investors.

Understanding Capital Gains Tax (CGT)

Equities are split into two categories based on their acquisition date relative to September 1985, which marks the establishment of Capital Gains Tax (CGT) in Australia:

1. Pre-September 1985 Equities: These are treated with the cost basis as the date of the owner’s death.

2. Post-September 1985 Equities: These retain the original purchase date as the cost basis.

This distinction is crucial as it affects the capital gains tax burden upon the sale of these assets. For larger estates, this can be significant.

Selling Inherited Shares

When selling inherited shares, CGT is added to the beneficiary's income. Here are some strategies to consider:

• Young Beneficiaries: If the recipient is young and has not reached their full earning potential, their taxable income may be lower, resulting in a lower marginal tax rate.

• Staggered Sales: Disposing of the asset in parcels over separate financial years can help utilise lower marginal tax rates.

Managing Dividends and Cash Flow

Income tax applies to all dividends received. For example, a younger person on a low salary inheriting a $1,000,000 portfolio with reinvested dividends might face a hefty tax bill without the cash flow to cover it. Planning is essential to avoid triggering additional CGT from asset sales to fund tax debts. Consulting a financial professional is advisable.

Misalignment of Assets to Goals

Inherited shares often reflect the previous owner’s financial goals, which may not align with the beneficiary’s. For instance, inheriting a large parcel of BHP shares might not suit an investor focused on ESG considerations. Here are some strategies to address misalignment:

• Turn Off Dividend Reinvestment: Redirect income to other assets until a suitable time to realise capital gains.

• Sell in Parcels: Temper capital gains by selling in parcels each financial year and reinvesting in aligned assets.

• Alternative Uses: Use the funds outside the share market, such as towards a mortgage or travel.

Additional Considerations for Inheriting a Share Portfolio

Inheriting large portfolios geared towards income requires immediate consideration of additional income tax and cash flow management issues. Here are some key points:

• No Inheritance Tax: Australia does not have an inheritance tax, so there are no immediate tax consequences of inheriting shares. However, future tax consequences for the beneficiary are inevitable.

• Cash Flow Management: Investors must manage the cash flow implications of additional income tax from dividends and potential CGT from asset sales.

Early Inheritance and Planning

Discussing estate plans and specific assets with parents can be beneficial. Transparency helps manage tax situations before death, potentially benefiting both parties. For retirees with lower marginal tax rates, it might be worth considering selling assets while alive to manage taxes and hold funds in a way that benefits the child.

Proper planning can ensure that inherited shares are used effectively, whether for funding a mortgage, travel, or other goals. Seeing the positive impact on beneficiaries’ lives can be rewarding for parents.