“Death taxes” is a general phrase referring to a tax imposed by the government on large transfers of property or money upon an individual’s death. Death taxes are commonly known as “estate taxes” or “succession taxes.” Federal and state laws covering estate taxes are frequently undergoing many changes, but fortunately, many estates are not large enough to have such a tax imposed on them.
A more specific form of a death tax is the “inheritance tax.” This is a tax that is levied on persons who receive property from an estate upon the death of the transferring person. In contrast to estate tax laws, federal laws do not cover inheritance taxes.
Instead, inheritance tax laws are implemented by each individual state, and will vary according to the location where the estate holder became deceased. Estate taxes are much broader than inheritance taxes and can cover situations outside of transfers to beneficiaries.
How Are Inheritance Taxes Calculated?
Inheritance taxes are taxes on property received by an heir upon the decedent’s death. This is usually a family member or a close friend who was listed in the person’s will. Inheritance taxes are usually calculated according to the amount of property received by the heir or beneficiary, as well as the heir’s relationship to the decedent. Basically, inheritance taxes are a tax on the beneficiary’s right to receive the property. In addition, a court may use other factors to calculate inheritance taxes, including:
Any outstanding debts held by the decedent
Whether the decedent made certain transfers to charitable organizations
Whether they made transfers to a spouse
Whether the decedent claimed losses, such as casualty or theft losses
Again, the calculation of inheritance taxes varies widely by state. Most states will require that the estate have a minimum worth before taxes are levied. If the estate is below the minimum value, then inheritance taxes will not be required. Moreover, not all states impose an inheritance tax.
For states that do impose inheritance taxes, the maximum percentage will vary. Below is an incomplete list outlining a maximum percentage of several of the state's that have a death tax.
New Jersey: 16%
Washington, D.C.: 16%
What Can Be Done to Minimize Inheritance Tax Liability?
Inheritance taxes can present a great financial burden on the beneficiary or any person who is receiving property upon a person’s death. Oftentimes, the tax requirements can outweigh the benefit of actually receiving assets through an estate distribution. There are many steps that a person can take to ensure that death tax liability is minimized for the beneficiaries.
Buy life insurance for the estate holder, which may serve to offset some costs
Inquire about inheritance and estate tax payment options
Create a family trust which sometimes allows transfers to be made to family members at less than full value
Do I Need a Lawyer for Issues with Inheritance Tax Liability?
Planning an estate is not a simple task. Unlike income taxes, death taxes are calculated in regards to the person’s entire lifetime, and can cover a vast amount of property and assets. While the tactics above to minimizing tax liability are general ideas, executing them requires expertise. Therefore, when dealing with inheritance taxes and their consequences, it is to your advantage to speak with an estate attorney for advice. A lawyer can explain to you the inheritance tax laws of your state and inform you as to ways to avoid high tax liabilities.
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