Guide to Inheritance Tax in the USA

Our guide is designed to simplify the complex nature of inheritance taxes.

We can empathize with the fact that when saying goodbye to a loved one, the last thing you want to be doing is considering inheritance tax on cash and assets. But as the old saying goes, there are only two things that are certain in life – Death and Taxes.

And depending on which US state you or the deceased resided in, you’re unfortunately going to have to consider the fact that both can and do go hand in hand.

With the US tax system being so complex and varied from state to state, this guide outlines what is an inheritance tax, which states are subject to it and finally has a moral discussion on the practice.

What is an Inheritance Tax?

An inheritance tax is paid on assets received after someone has died. The key distinction to make is that it’s the person who is receiving the assets, who pays the inheritance tax.

At a federal tax level, any inheritance you receive from a deceased loved one, is not considered to be taxable income. However, it’s at a state level where things get a little more complex as in certain US states, it certainly is taxable.

As you can see, inheritance taxes are only collected by the states and never at a federal level and tax rates vary state by state, with the state the deceased resided in, being where the tax must be paid.

An inheritance tax is sometimes referred to as an estate tax and while both are forms of death taxes, they are not the same thing.

An estate tax is a tax on your right to transfer property at your death and consists of an accounting of everything you own or have certain interests in at the date of death.  The estate tax is deducted from the property that’s being passed down before you claim it.

While this is a completely different topic, it’s worth noting that inheritance taxes and estate taxes can go together and must both be considered as a result.

Now we have a basic understanding of what an inheritance tax is, let’s dig a little deeper into paying them.

Do I Have to Pay an Inheritance Tax?

It’s important to understand that not every US state imposes an inheritance tax on estates. In fact, there are only six states in which you have to pay an inheritance tax.

The six US states in which you must pay an inheritance tax and the rate at which you much do so can be found below:

  1. Iowa – Up to 15%
  2. Kentucky – Up to 16%
  3. Maryland – Up to 10%
  4. Nebraska – Up 10 18%
  5. New Jersey – Up to 16%
  6. Pennsylvania – Up to 15%

Keep in mind that tax laws are ever-changing and it’s vital that you speak to a local tax expert in order to receive up-to-date, specific advice around your particular estate.

Even if you as the beneficiary of any items from the estate don’t live in these states, you’re not off the hook just yet.

Remember, it’s the state that the deceased resided in, being where the tax must be paid so always check and take that into consideration first. 

Your relationship with the deceased will also determine whether you have to pay an inheritance tax.

Spouses (including same-sex spouses), don’thave to pay an inheritance tax, even if the deceased lived in one of the above mentioned states.

Children and grandchildren also don’t have to pay any inheritance tax, but only in four of the six abovementioned states.  These being:

  • Iowa
  • Kentucky
  • Maryland
  • New Jersey

All children, grandchildren and other relatives who receive an inheritance including property from Nebraska and Pennsylvania are subject to inheritance taxes.

Certainly a harsh reality for families going through the heartache of losing a loved one…

Is Inheritance Tax Fair?

In any debate around fairness, there are going to be two sides to every story.

While the exemptions for spouses and children in some states are great additions to the law, even family members in other states can be hit with a double whammy of taxes.

An example of this would be losing a loved one in the state of Maryland where the estate itself may have to pay both an inheritance and estate tax, before you as a beneficiary have to pay the state again.

Definitely not something that you want to be dealing with alongside the grief of losing a loved one, but it is what it is.

While not paying tax is never an option, there are a few strategies which can be used to minimise the amount of inheritance tax paid.  These include:

  • Gifting money: Gifts up to $15,000 within a single year can be made without triggering a taxable event.  These can be in the form of cash, stocks or other assets of value.
  • Setting up a trust: Both revocable and irrevocable trusts can be set up, handing ownership of the assets inside to the beneficiary when the person who established the trust dies.
  • Seek help from local tax experts: Seeking help from a professional, local tax expert to discuss your family’s specific financial circumstances is the best piece of advice we can give.  With inheritance tax laws varying from state to state, it pays to seek professional advice.

Final Thoughts

Once more, we can’t stress how tough it is to deal with all the tax implications on the estate items that you’ve inherited, alongside grieving for a loved one..

For this reason, having a frank, open discussion with relatives in any of the above-mentioned US states about the prospect of inheritance taxes is recommended.

It’s a topic nobody wants to bring up or talk about, but if approached in the right manner is a highly important fact of life that must be discussed.

Start the process of planning as soon as possible and it will be one less heartbreaking frustration when the time comes to truly say goodbye.

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