Taxes and Your Inheritance

Taxes and Your Inheritance
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As if taxes and death weren’t bad enough, the government has managed to combine the two into a single, miserable experience. In many cases, you don’t have just a single tax pay. There can be multiple taxes due at various points in the inheritance process. 

Little, if anything, can be done to reduce taxes after death. However, proper estate planning before death can make a huge difference. 

A skilled estate planner can utilize trusts, properly timed gifts, insurance policies, and donations to minimize the taxes owed.

Estate Tax versus Inheritance Tax

First, estate tax and inheritance tax are not the same thing, even though you’ll find many experts that use the terms interchangeably.

An estate tax is imposed before the heirs receive any property or monies. The executor pays the remaining debts from money or property in the estate. Any funeral or legal expenses are also paid. The federal government taxes whatever remains, if it’s a large estate. Much like income taxes, the rate varies with the value of the estate. A few states also have an estate tax.

In a nutshell, all the bills are paid using proceeds from the estate. What remains is subject to a federal tax if the amount is larger than the current exemptions, and possibly, a state tax.

The heirs then pay inheritance taxes after receiving their inheritances. This tax is a state-level tax. It’s not just the home and the funds in the bank account that are subject to inheritance tax. It’s just about everything:

  • Cash, stock, bonds
  • Real estate
  • Business interests
  • Boats
  • Cars
  • Art
  • Anything else of value – The value of the estate is determined by the fair market value of all the assets


There are a few tricks that can be used to pass more to your heirs and less to Uncle Sam:

  1. There is a spousal exemption. The surviving spouse is not subject to any estate taxes at the federal or state level. This exemption does not apply to children or siblings.
  2. There is a limit exemption. Any estate worth less than $5.43 million is exempt from estate taxes. This is for an individual. Unless you’re quite well off, estate taxes are a non-issue. However, the amount of tax can be significant for a large estate, up to 40% at the highest rate.
    • Even if you’re over this limit, a good estate planner may be able to structure your assets in such a way that you’re below the threshold.
    • Remember that this is an estate exemption. There’s only one estate, regardless of the number of heirs. The exemption can only be used once.
  3. At the state level, there are no hard and fast rules. Remember that many states don’t have a tax at all. Those that do offer exemptions to certain family members, but not to orders. The tax rates can also vary based on the relationship to the deceased.
    • As of 2014, 31 states do not have either an estate or an inheritance tax.

Most estates fall well under the exemption limit. In addition, many of those above the limit can be organized in a way to bring them under the limit. If you’ve been worrying about the government taking a bite out of your estate, you’re probably in the clear.

The average person doesn’t have to worry about federal estate taxes, and most states don’t tax the estate of their heirs. Large estates, however, are well-served by knowledgeable and aggressive estate planning. Certainly, this area requires expertise. If your family has a large estate, an estate attorney can save you a lot.


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