Inheritance taxes are taxes that a person needs to pay on money or property they have inherited after the death of a loved one. Here are the basics.
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An inheritance tax is a state tax that you pay when you receive money or property from the estate of a deceased person. Unlike the federal estate tax, the beneficiary of the property is responsible for paying the tax, not the estate. As of 2023, only six states impose an inheritance tax. And even if you live in one of those states, many beneficiaries are exempt from paying it.
Additionally, Iowa passed legislation to phase out its inheritance tax until it is eliminated for deaths on or after January 1, 2025.
The key difference between estate and inheritance taxes lies in who is responsible for paying it.
However, before an inheritance tax is due, the value of the assets have to exceed certain thresholds that can change each year. Because of this threshold, only about 2% of taxpayers will ever encounter this tax.
If a loved one passed away and left you money or assets in their will, you may be wondering: is inheritance taxable? Whether your inheritance is taxed often depends on your state or the state of the deceased individual.
The amount that you owe on an inheritance can also vary depending on a wide range of factors, such as the:
The rate at which your inheritance is taxed is typically only applied to the portion of your inheritance that exceeds your jurisdiction’s exemption threshold. Any inheritance above those thresholds can be subject to inheritance taxes on a sliding scale, with rates typically increasing the more you inherit.
In most states, spouses are exempt from the tax when they inherit property from another spouse. Children and other dependents may also be exempt from the inheritance tax, though in some cases, only a portion of the inherited property may qualify.
Once the executor of the estate has divided up the assets and distributed them to the beneficiaries, the inheritance tax can come into play. The amount of tax is calculated separately for each individual beneficiary, and the beneficiary has to pay the tax.
The federal government doesn't have an inheritance tax. The six states that impose an inheritance tax are:
Of course, state laws are subject to change, so if you are receiving an inheritance, check with your state's tax agency. The tax rates on inheritances can range from less than 1% to as high as 20% of the value of property and cash you inherit.
Because inheritance tax rules vary by state, the rate at which they’re taxed can also vary.
Many states calculate inheritance taxes based on the closeness of the relationship between the beneficiary and the deceased individual. Often, the closer you are to the person who passed away, the higher the likelihood you will be exempt from paying inheritance taxes.
When it comes to calculating inheritance taxes, the tax is often applied to inheritance above a certain amount, with the rate either being flat or graduated on a sliding scale.
Cash received as an inheritance isn’t taxable, according to the IRS.
But, if the cash you received later generates further income–for example, if you have it in an interest-bearing account– subsequent earnings may be considered taxable income . Whether it’s taxable hinges on whether those subsequent earnings come from a tax-free source.
If you’re not sure whether the cash inheritance you’ve received is considered as generating further income, a tax professional can help you determine whether it’s exempt.
In some cases, you may be able to avoid getting taxed on your inheritance. The most common solution for how to avoid inheritance tax is by giving inheritance to those closest in relation to you.
Depending on your relationship to the decedent, you may receive an exemption or reduction in the amount of inheritance tax you must pay.
Aside from the relationship between the deceased individual and the beneficiary, there may be other ways taxes on your inheritance can be avoided, including:
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The above article is intended to provide generalized financial information designed to educate a broad segment of the public; it does not give personalized tax, investment, legal, or other business and professional advice. Before taking any action, you should always seek the assistance of a professional who knows your particular situation for advice on taxes, your investments, the law, or any other business and professional matters that affect you and/or your business.
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