The Most Tax-Efficient Ways to Leave Investments to Your Children
Planning for death (and taxes) isn't fun, but it is necessary. And leaving investments to your children in a tax-efficient way is a good thing.
As the saying goes, there are only two certainties in life: Death and taxes. But when it comes to estate planning, many Americans are reluctant to spend time thinking about either.
According to a new survey conducted by Morning Consult on behalf of Kiplinger, only about 56% of parents admitted to having a conversation with their children about inheritance. That number drops to just 39% when you ask adult children whether they have had a discussion about family plans for passing on money and assets.
The lack of engagement and understanding is also stark when it comes to estate taxes, according to the survey. Roughly 40% of both children and parents say they are "not sure" whether taxes will apply to any inheritance plans.
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Considering the U.S. is already in the beginning stages of the Great Wealth Transfer, where members of the massive baby boomer demographic reach the end of their lives, this kind of procrastination with estate planning comes with a real cost. By some estimates, the collective fortune that will be passed down to younger generations tops well over $100 trillion in value.
Naturally, you want to ensure that your financial legacy stays in the hands of your loved ones, and doesn't get consumed by the Internal Revenue Service. Perhaps you're making arrangements for your own estate. Maybe you're overdue for such a plan and don't know where to start.
Whatever your case may be, take a few minutes for an introduction to the most tax-efficient ways to leave investments to your children.
1. Hold appreciated investments until death
A lot of research shows that the best strategy for investing is to buy and hold stocks for very long periods of time rather than actively trading in and out of fads. And when it comes to tax planning, one of the best strategies for those stocks that have appreciated over the long-term is to hold them until the day you die.
According to IRS rules, heirs are frequently eligible for a "step-up" in cost basis to the asset's fair market value at the date of death. That has the potential to entirely eliminate capital gains taxes on a stock's appreciation over the original owner's lifetime.
Considering long-term capital gains can be 15% or more of the profits on a stock sale, this strategy of handing down the stock itself can result in significant cost savings.
If you've invested wisely and have big winners, one of the most tax-efficient ways to leave investments to your children is to not liquidate shares or to pass on the stock as a gift while you're still alive. Just let your heirs inherit the stock and do the selling directly.
2. Make your 401(k) and IRA beneficiaries your heirs
For many families, one of the biggest legacies they will leave is the retirement funds left in a tax-deferred retirement account like a 401(k). As the term implies, the taxes on this money were deferred when originally invested. So, when withdrawals are made, the IRS is due its share.
The challenge is that withdrawals from such an account are taxed as "ordinary income," so a big one-time windfall results in a big tax bill. For example, current tax brackets include a 24% tax rate on anything above $105,701 – and a hefty 32% rate on anything above $201,776.
Remember, because this ordinary income category includes an employer's paycheck, an heir who makes a decent living may find themselves in a steep tax bracket even if the distribution from your estate is relatively modest.
This is where adding heirs directly to your account can help. The IRS generally allows 10 years for non-spouse beneficiaries to liquidate an account like a 401(k). As such, they can withdraw the money in smaller chunks on their own terms to maximize tax savings.
While there's no way to avoid taxes entirely on an inherited 401(k) or traditional IRA, this longer runway allows heirs to avoid a big one-time tax hit from a single distribution.
3. Regular gifts under the tax threshold
If you want the warm feeling of delivering some cash into your child's hands so you can watch them enjoy it, there are also ways to pass on assets now without running afoul of the tax man. Parents can gradually transfer investments during their lifetime using the federal annual gift tax exclusion.
The maximum annual tax-free gift as of 2026 IRS rules is $19,000. That's a nice chunk of change by itself, but you can also continue to provide that gift annually – and to as many different individuals as you see fit – to transfer significant wealth over time.
What's more, making annual gifts in this manner may actually reduce the size of a taxable estate after death.
As long as you don't cross the threshold in a given year, your heirs won't have to claim the cash on their tax returns. They also can put that money to immediate use to take a trip, put a down payment on a house or anything else – while you have the benefit of seeing them put your gift in action.
4. Irrevocable trusts
It's worth noting that most families won't face significant tax burdens by deploying the strategies above. However, if your estate is particularly large, then a comprehensive irrevocable trust may be in order.
Irrevocable trusts are commonly used by higher-net-worth families to remove future appreciation from a taxable estate by permanently giving ownership of assets to a trust. That trust then manages those assets for the benefit of other people and can deliver the cash according to the grantor's instructions.
This is the big artillery when it comes to the most tax-efficient ways to leave investments to your children.
Trusts have numerous benefits, including protecting assets from creditors or lawsuits as well as taxes and allowing you a measure of control on how your heirs spend their inheritance long after you've passed away.
However, the word "irrevocable" is not to be taken lightly. Many estate planners call such a trust a one-way street where you can't change your mind to get the money back or change your mind about your directions.
That said, these trusts can sometimes span multiple generations and efficiently protect a hard-earned fortune from eroding thanks to mismanagement or heavy taxes.
5. Financial planning is personal, so talk about it
The Morning Consult survey conducted for Kiplinger found that almost a third of all U.S. parents say they have no formal estate plan at all – including failing to document arrangements in a will. There are many reasons for this, of course, including the fact that some families don't have significant assets to pass on.
But it's also simply a matter of avoiding the topic.
Estate planning begins by taking stock of what you want to leave behind when you're gone. These financial goals will naturally be personal, based on your specific portfolio as well as your family situation and your final wishes.
You have a sense of your situation; consider talking with a good estate planning attorney or tax adviser next. These professionals can be well worth their fees by providing tailor-made solutions where various investing and tax strategies can be used in complementary ways.
And most importantly, share your plans clearly with your heirs before it's too late.
Nobody likes to dwell on death or taxes, but they are realities for all of us. If you're confused about how to arrange your estate, the simplest way to begin is by talking about it.
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