If you have inherited a large sum of money it can be difficult to know how best to use it.
Before you make any decisions, it’s important to give yourself time to grieve for the person you’ve lost, so that you can be in a clear headspace when you come to work out what you’re going to do with the legacy they’ve left you. Powerful emotions can tempt us to make impulsive decisions, but you’ll be able to make the best choice once you’ve had time to process things and take stock.
If you have an obvious use for your inheritance, such as paying off your mortgage, then this might seem like a no-brainer. But there are a variety of ways you might be able to make the most out of this money, so it’s worth considering how to proceed carefully.
Here, we explore some of the options you may want to consider. Remember that what’s right for you will depend entirely on your individual circumstances and your financial priorities.
Using an inheritance to pay off a mortgage or other debts
If you have outstanding debts, such as a mortgage or other types of loans, then these might be the first thing you think of when you receive your inheritance.
Your mortgage is likely to be the largest outstanding loan you have, so you might be tempted to pay this off if you can. After all, it would mean that you’d own your home outright and remove a potentially substantial regular payment from your outgoings. However, there are a couple of reasons why you might end up deciding this isn’t the best course of action.
Firstly, some mortgage deals come with early repayment penalties, meaning you might be charged extra for paying back the full amount sooner than planned. This might not be the case, however, or you might simply decide it’s worth paying to get the mortgage out of the way. Bear in mind that early repayments can also sometimes damage your credit score.
Most mortgage lenders, however, allow you to pay back up to 10% of your mortgage balance each year without penalty, so you could decide to use your inheritance to pay back what you owe gradually over time. Find out more in our guide Should I overpay my mortgage?
The second reason is that other types of debt, such as credit cards and student loans, tend to have higher interest rates than mortgages. While your mortgage is designed to be paid back over a number of years, a loan on a shorter term can build interest very quickly and become harder to pay back over time. It could be worth clearing these first to stop additional interest from accruing, before you turn your attention to your mortgage.
If you’re looking for expert mortgage advice, you can speak to an independent mortgage broker with Unbiased. Every advisor you find through Unbiased will be FCA-regulated, qualified and unconnected to product providers – so they can offer you truly unbiased advice.
Saving or investing inheritance money
Another option for your inheritance could be to put the money into a savings account, either as a long term measure or just until you figure out a use for it.
If you think you might need the money soon, or want the option to withdraw it at short notice in case of emergencies or sudden expenses, you could consider an easy-access savings account, which is designed to let you do just that. Read more in our article How to build an emergency fund. If you already have an emergency fund, pitching in some of your inheritance could help make it more secure.
If you want to let your savings grow over time, there are various other kinds of savings accounts to explore, such as regular savings accounts, individual savings accounts (ISAs) and fixed-rate bonds. For the full rundown, read our article What are the different types of savings accounts?
Remember, however, that the Financial Services Compensation Scheme will only cover £85,000 with a single institution in the event your savings provider fails, so if you have more than this amount held with the same bank or building society, you won’t get the full amount back if something goes wrong. Find out more about how this scheme works in our guide Are my savings safe?
Alternatively, providing you’re comfortable accepting the risks involved, you might want to take this opportunity to invest the money and potentially gain even bigger returns. Our article Is investing right for you? contains more information to help you make this decision.
Don’t rush into a decision, especially if you are thinking of investing. Emotions like grief can easily cloud our judgment, but investing is not something you should undertake impulsively, and should only be considered if you’re comfortable tying your money up for five to 10 years, but preferably longer. It’s usually far better to let the money sit in a savings account until you have had some time to reflect on your financial goals and attitude to risk before you start investing it.
Adding inheritance money to your pension pot
Another option, particularly if you are looking ahead to retirement, could be to pay your inheritance into your pension pot instead. You can use the Rest Less pension calculator to estimate how much you need to save for the retirement you want, and decide whether adding your inheritance money to the pot could make your retirement date more achievable.
Paying money directly into your pension comes with considerable tax benefits, as you can contribute a maximum of £60,000 into your pension and benefit from tax relief on this amount each year – this is known as your annual allowance. Find out more in our guide How do pension allowances work?
However, bear in mind that if you’re already started taking money out of your pension, any subsequent payments into your pension become subject to Money Purchase Annual Allowance rules. These restrict the amount you can contribute to your pension going forward to £10,000 a year. Read more about this in our article What is the Money Purchase Annual Allowance?
If you’re considering getting professional financial advice, Unbiased is offering Rest Less members a free pension review. It’s a chance to have a qualified independent financial advisor (IFA) take a look at your pension arrangements and give an unbiased assessment of your retirement savings.
The review is free and without obligation, but if the IFA feels you’d benefit from paid financial advice, they’ll go over how that works and the charges involved.
Read more in our articles How much should I pay into my pension? and Is it better to save into an ISA or a pension?
Passing on inheritance money to your children
If you have children or grandchildren of your own then you might want to consider gifting some of your inheritance to them.
Bear in mind that your gift allowance each year is £3,000, also known as your annual exemption. What this means is that if you exceed this limit in your total financial gift-giving in a year, the excess amount will be considered part of your estate if you die within seven years, and will be subject to inheritance tax. If you live past seven years of giving the gift, however, this will not apply. You can find out more about inheritance tax allowances in our guide Which gifts are exempt from Inheritance Tax? And about inheritance tax more generally in our article Understanding Inheritance Tax.
Alternatively, you could find a way to spend this money on your child without giving it to them directly, such as by helping them onto the property ladder or helping them pay for university. Or, you might decide to save or invest the money now and pass it on via your own will.
Our article Financial gifts for young children: what are the options? outlines your options for gifting money to young relatives who are not old enough for a direct cash gift.
Getting financial advice
You may well be feeling overwhelmed, particularly if the inheritance you have received is a large sum. Remember that there is no rush to make a decision about what to do with the money.
Speaking to a financial advisor could help you understand your options better and decide whether you’d be better off putting the money towards a repayment or investing in your future. Read more in our article Should I get a financial advisor?
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