Understanding Inheritance Tax And Who Is Responsible For It

Some countries and jurisdictions levy a tax on the inheritors of property and wealth. The beneficiary of a gift, as opposed to the deceased's estate, is responsible for paying inheritance tax.

The value of the endowment, the beneficiary's relationship to the dead, and the state in which the deceased resided or owned property determine whether or not the tax applies in one of the six states with an inheritance tax as of 2022.

Implications of Taxes on Heirs

Inheritance taxes are levied on the gift recipients, whereas the estate pays estate taxes before assets are transferred. In the United States, the estate of a deceased person is exempt from federal taxation.

Iowa, Kentucky, Maryland, Nebraska, New Jersey, and Pennsylvania are the six states in the United States that levy inheritance taxes. Your inheritance may be subject to taxation, and the amount of tax may vary depending on its worth, your relationship to the deceased, and the laws in your jurisdiction.

A Guide to Figuring Out Your Inheritance Tax

To the extent that there is an inheritance tax, it is only applied to the sum of the inheritance that is more than the applicable exemption. Over and above certain limits, taxes are often charged on a progressive scale.

Prices usually start in the low single digits and go up to the high single digits. More so than the size of the inheritance at stake, your relationship to the decedent may determine whether you are eligible for a tax exemption and at what rate you are taxed. 2

In general, the exemption and fee reduction are more significant the closer your relationship to the dead. Spouses still together after one spouse passes away do not have to pay inheritance tax in any of the six states.

Inheritance Tax vs. Estate Tax

People frequently confuse inheritance taxes with estate taxes. However, these two types of taxes are not the same. Both taxes are calculated using the assets' "fair market value" as the decedent's "date of death."

In contrast, the beneficiary is responsible for paying any taxes due to the value of an inheritance they receive. If both the estate and inheritance tax have the same rates and exemptions, the latter may not matter to a single inheritor.

Ways To Avoid Paying Estate Tax

Residents with substantial assets in a state that imposes an inheritance tax may nevertheless desire to reduce exposure for successors, even though there are many exclusions and exceptions, particularly for spouses and children.

When planning a legacy gift, it is usual practice to take out a life insurance policy in the desired amount and name the recipient as the policy's beneficiary. Inheritance taxes do not apply to the proceeds of a life insurance policy.

One other option is to establish a trust, an irreversible one. This eliminates any chance of their being included in your will or passed down to heirs after your death. When you create a trust, you may decide how and when the money will be distributed.

What's The Tax-Free Inheritance Limit?

Exemptions from the six states in the United States that impose inheritance taxes differ depending on the quantity of the inheritance and the heir's relationship to the deceased. As of 2022, the federal estate tax exemption protects an estate worth up to $12.06 million from taxation. Inherited wealth is not subject to federal income taxation.

How Much Is The Federal Inheritance Tax Rate?

Inheritance tax levied on a person's share of a deceased person's estate is not imposed by the federal government. However, estates worth more than $11.7 million in 2021 and $12.06 million in 2022 are subject to federal estate tax. Only the excess value of an estate is subject to taxation. The rates range from 18% to 40% on a sliding scale.

Do Recipients of an Inheritance Owe Taxes?

The state where the decedent resided or possessed property, and the nature of their relationship to the deceased are also factors. Inheritance taxes are only applicable to estates and property in one of the six states that have passed legislation to implement them. Spouses who outlive each other are never required to pay inheritance taxes. In some states, other close relatives, such as the deceased's parents, children, and siblings, may be excluded from paying funeral costs.