Estate tax and inheritance tax: what’s the difference?
Benjamin Franklin said: Nothing is certain in this world but death and taxes. But even death cannot alleviate taxes.
Yes, death can be a tax-triggering event. There are two types you should be aware of: estate tax and inheritance tax.
Many people think they are the same, but they are not.
The estate tax is imposed on things that the deceased owned or had certain interests in upon his death. Inheritance tax is paid by the heir.
The federal government only has an estate tax, but states can have one, both, or neither, which can make death taxes more confusing.
Most people probably won’t have to pay these taxes because the limits are high. In 2019, for example, only 6,409 federal tax returns were filed. Of those, only about 40% were taxable, but the revenue collected amounted to $13.2 billion, according to IRS data. However, the Congressional Budget Office expects revenues to increase “sharply after 2025, when the amount exempt from the estate tax is scheduled to fall in half” due to the expiration of the Tax Cuts and Jobs Act.
So, it’s best to know how these taxes work in case you reach the threshold.
What is the difference between inheritance tax and estate tax?
- The IRS says the estate tax is “a tax on your right to transfer property upon your death.” It is paid from the estate of the person who died before the assets were distributed.
- Inheritance tax is imposed on a person who has inherited money, property or other assets. This only applies when the person who dies and transfers his or her assets lives in a state that imposes an inheritance tax. It does not depend on where the beneficiary lives.
Who imposes the property tax?
This tax is imposed by the federal government, but dozens of states and the District of Columbia also impose it.
Federal tax rates range from 18% to 40%, depending on how much exceeds the $12.92 million threshold, or exemption amount, per person in 2023 or $13.61 million in 2024. For each tax bracket, you pay a basic tax fee and an additional marginal adjustment.
State property tax rules vary from state to state, but exemption levels and top tax rates are usually much lower than the federal levels. For example, Oregon’s exemption is only $1 million.
Countries that impose a real estate tax:
Is there a federal inheritance tax?
No, there is no federal inheritance tax, so you do not have to report your inheritance to the IRS.
However, any gains from the estate between the time of the person’s death and the date the amount is distributed to you must be reported and taxed on your personal tax return, said Brian Schultz, a partner at certified public accounting firm Plante Moran.
Gains can include dividends from any stocks or bonds you may have inherited, for example.
important dates:Tax deadlines to keep in mind as tax day approaches
Who imposes inheritance tax?
Only six states have an inheritance tax, but it will be reduced to 5 next year as Iowa drops the tax.
Tax rates vary by state but range from less than 1% to 20% and usually apply to the amount that exceeds the exemption limit. Prices depend on the size of your inheritance, state tax laws, and your relationship to the deceased.
In general, the closer you are to the deceased, the less likely you are to pay this tax. Spouses are always exempt from paying inheritance tax, and immediate family members such as children and parents are often exempt too, or pay a lower rate.
This year, these states impose an inheritance tax:
Why do you need to watch Maryland?
Maryland is the only state that imposes an estate tax and an inheritance tax.
How can you avoid these taxes?
The best way to avoid inheritance tax is to manage assets before death. To eliminate or limit the amount of inheritance tax your beneficiaries may have to pay, consider the following:
- Giving away some of your assets to potential beneficiaries before death. Each year, you can gift a certain amount to each person tax-free. In 2023, the annual gift exclusion is $17,000 and increases to $18,000 in 2024. These separate gifts are in addition to your lifetime estate tax exemption of $12.92 million in 2023.
- Moving to a state without inheritance and estate tax. The federal estate tax may still apply even though your estate exceeds the exemption threshold.
- Create an irrevocable trust. You give up some control over the assets because the trust becomes the official owner, and you cannot change or cancel it. But trust assets are not transferred upon death, so no estate or inheritance taxes are imposed. Assets that you think will appreciate are particularly good candidates for a trust because “appreciation evades taxes,” said Scott Goldberger, director of estates and trusts at accounting firm Kaufman Rossin.
What if I can’t avoid inheritance tax?
If for some reason you cannot avoid inheritance tax but your heirs will be short on cash to pay (the bill is usually due within several months), consider purchasing a small term life insurance policy, which has a death benefit that The wealth of financial services company Ally says they can cover the tax bill.
Medora Lee is the money, markets and personal finance correspondent for USA TODAY. You can reach her at firstname.lastname@example.org and sign up for her free Daily Money newsletter for personal finance tips and business news every day Monday through Friday.