Depending on the size of your estate, where you live, and how much you leave to loved ones, your estate and beneficiaries may need to pay inheritance or estate taxes.
Estate taxes and inheritance taxes are both considered "death taxes" because they come up after a person dies. But there are differences between them, including who must pay and how much.
Estate Tax
In the United States, the main estate tax is the federal estate tax. A few states also have their own state estate taxes. In both cases, the tax is based on the value of the estate. That value is all of the property left by the deceased person, excluding any property left to a tax-exempt charity or to a surviving U.S. citizen spouse.
The vast majority of estates do not owe estate taxes because the federal government and most state governments collect estate taxes only from estates worth many millions of dollars.
Federal Estate Tax
For deaths in 2023, the individual federal estate tax exemption is $12.92 million. In other words, any person can give away or leave $12.92 million in taxable gifts without paying any federal estate tax. And many gifts are not taxable, including property given or left to a spouse or to a tax-exempt charity.
Married couples get twice the individual exemption: $25.84 million. Due to a rule called "portability," couples can share their combined $25.84 million exemption in any way lets them avoid the most tax. In other words, if one spouse uses up only $3 million of their exemption, the surviving spouse can carry over the unused portion and still leave behind an estate of $22.84 million without incurring federal estate tax.
The federal tax rate is 18%-40% on the amount over the exemption. The first $10,000 over the exemption is taxed at 18%. This rate increases incrementally and flattens out at 40% for amounts greater than $1,000,000. (So for 2023, the rate would be 40% for amounts over $13.92 million.) You can see the whole rate table on IRS Instructions for Form 706—just look for the "unified rate schedule."
State Estate Tax
A few state governments also levy estate taxes. Like the federal government, each of these states exempts a large amount—in most cases, the first several million dollars. Here are the states with estate taxes and their 2023 exemption amounts:
- Connecticut, $12.92 million
- District of Columbia, $4 million
- Hawaii, $5.49 million
- Illinois, $4 million
- Maine, $6.41 million
- Maryland, $5 million
- Massachusetts, $1 million
- Minnesota, $3 million
- New York, $6.58 million
- Oregon, $1 million
- Rhode Island, $1.73 million
- Vermont, $5 million
- Washington, $2.19 million
Estates that must pay these taxes pay them in addition to any federal estate taxes they owe.
Inheritance Tax
A few states impose inheritance taxes, rather than estate taxes. (Just Maryland has both, and there is no federal inheritance tax.) People who inherit property from someone who lives in one of these states might be liable for inheritance tax. It doesn't matter which state the inheritor lives in. For example, an Illinois resident who inherits from someone who lived in New Jersey might owe New Jersey inheritance tax.
Unlike estate taxes, inheritance tax rates don't depend on the size of the whole estate. Instead, inheritors are taxed based on their relationship to the person they're inheriting from and the size of the gifts they receive. As a result, inheritors may owe state inheritance tax even if they inherit a relatively modest amount of property.
Surviving spouses (and in some states, domestic partners who have registered with the state) generally pay nothing at all. Charitable beneficiaries may also be exempt from the tax. Children are either exempt from the tax or pay low rates. For example, New Jersey doesn't tax money left to a surviving spouse or children, but siblings must pay 11% to 16% of what they inherit on amounts over $25,000.
These states currently have inheritance taxes:
- Iowa (though Iowa is phasing out its inheritance tax)
- Kentucky
- Maryland
- Nebraska
- New Jersey
- Pennsylvania
Comparing Estate Taxes and Inheritance Taxes
|
Federal Estate Taxes |
State Estate Taxes |
Inheritance Taxes |
|
|
What is taxed? |
The estate of the person who died. |
The estate of the person who died. |
Individual gifts left to beneficiaries. |
|
Who pays? |
The estate pays. |
The estate pays. |
The beneficiary pays. |
|
Exemption amounts |
Estates valued under $12.92 million do not pay tax. |
Estates valued under the state's exemption amount do not pay tax. |
Varies by state, size of the gift, and the relationship of the recipient to the decedent. |
|
How is the tax calculated? |
Amounts over the exemption are taxed incrementally from 18% to 40%. |
Amounts over the state's exemption are taxed according to the state's tax table. |
Varies by state. Generally, spouses and children pay no tax. Other close relatives pay a relatively small tax and beneficiaries with no relation to the deceased person pay a higher tax. |
How to Avoid Paying State and Inheritance Taxes
There is no immediate solution to avoiding estate taxes. However, you can plan ahead to reduce your estate tax liabilities by reducing the size of your estate. This kind of planning usually involves giving up ownership and control of some of your wealth—either through planned giving or through specialized trusts. Of course, the government does not want you to do this, so making an estate-tax-avoidance plan isn't easy, simple, or cheap. In fact, if you are fortunate enough to be concerned about estate taxes—because you have many millions of dollars—you can and should hire a lawyer to make a personalized plan that is best for your situation.
Avoiding inheritance tax is a somewhat different challenge because inheritance taxes are less about the size of your estate and more about the relationship between you and the recipient. You may be able to avoid inheritance taxes by giving away some of your wealth, reducing the size of gifts to certain people, or finding creative ways to leave assets to people who aren't closely related to you. It might also be possible to avoid inheritance taxes by changing your state of residence. Again, you need to get an attorney's help.
