Join #1 A.I. tax service for freelancers

Resources

⏳C-Corp and individual extended tax returns are due October 15!

Home › Business › Federal Taxes › Inheritance Tax

Do You Have To Pay Taxes On Inheritance?

When you inherit money or property, the question of taxes often comes up. This guide will cover inheritance tax, states with inheritance tax, federal inheritance tax 2024, PA inheritance tax and answer the question do I have to pay taxes on inheritance.

Table of contents

Key Takeaways:...Read more

What is inheritance tax?...Read more

How much is inheritance tax?...Read more

What states have inheritance tax?...Read more

Do beneficiaries have to pay taxes on inheritance?...Read more

Do I have to report inheritance on my taxes?...Read more

Inheritance tax forms...Read more

How do you pay tax on inheritance?...Read more

Taxes on inherited IRAs...Read more

Inheritance tax on property...Read more

How to avoid inheritance tax?...Read more

How to avoid paying capital gains tax on inherited property?...Read more

Key Takeaways:

Inheritance tax is only applied at the state level.
Only six states impose inheritance tax.
You can avoid inheritance tax by setting up trusts and giving gifts.

What is inheritance tax?

Inheritance tax is a type of tax that some states impose on the beneficiaries of an estate. So, this tax is paid by the people who inherit the assets rather than by the estate itself. The amount you owe in inheritance tax depends on the value of the inheritance and your relationship to the deceased. Generally, closer relatives like spouses and children either pay a lower rate or are exempt altogether. More distant relatives and non-relatives usually pay higher rates. So if you inherit money or property from a close family member, you might not owe anything. However, if you inherit from a distant relative or a friend, you could be taxed on the amount you receive. There is no federal inheritance tax, so these taxes only are determined at the state level.

How much is inheritance tax?

Inheritance tax rates vary depending on the state and your relationship to the deceased. Only six states impose an inheritance tax. In these states, the tax rates can range from as low as 1% to as high as 18% of the value of the inherited assets. Each state has different thresholds for exemptions. For instance, PA inheritance tax rates are 4.5% for direct descendants, 12% for siblings and 15% for other heirs. In New Jersey, the first $25,000 inherited by a child is exempt from tax. Remember, there is no federal inheritance tax in 2024 or any previous year.

What states have inheritance tax?

Only six states have an inheritance tax: Kentucky, Pennsylvania, Maryland, Iowa, New Jersey and Nebraska. If you inherit assets in one of these states, you might owe taxes on the value of what you receive. Each of these states with inheritance tax has its own rules and rates. In Iowa, the inheritance tax rate depends on your relationship to the deceased and the value of the inheritance. Kentucky also varies its rates based on these factors. Maryland has different rates for different classes of beneficiaries, with close relatives often paying less. Nebraska’s rates can be higher, especially for distant relatives and non-relatives. New Jersey exempts close family members like spouses and children from the inheritance tax but applies it to others. PA inheritance tax rates are set at 4.5% for direct descendants, 12% for siblings, and 15% for other heirs.

Infographic entitled States With Inheritance Tax showing places with the inheritance tax USA.

Do beneficiaries have to pay taxes on inheritance?

Whether beneficiaries have to pay taxes on inheritance depends on a few factors. In the U.S., there is no inheritance tax at the federal level, so beneficiaries don't have to worry about that. However, some states do impose inheritance taxes. If you inherit assets from someone who lived in Kentucky, Pennsylvania, Maryland, Iowa, New Jersey and Nebraska, you might owe state inheritance tax. It's also important to consider other types of taxes. While inheritance itself might not be taxed federally, any income generated from the inherited assets, like interest, dividends or capital gains, is subject to federal income tax.

Do I have to report inheritance on my taxes?

The IRS does not impose a federal inheritance tax, so you don’t need to pay federal taxes on the value of the assets you inherit. However, any income generated from the inherited assets is taxable. For example, if you inherit a savings account, the interest it earns is subject to federal income tax. When it comes to state taxes, some states with inheritance tax do have rules you need to follow. If you inherit assets in states with inheritance tax, you may owe state taxes. Additionally, if you sell inherited property, you might need to pay capital gains tax on the difference between the property’s value at the time of inheritance and the sale price. The value of inheritance is known as the “stepped-up basis.”

Inheritance tax forms

When dealing with inheritance taxes, the forms you'll need depend on whether you're handling federal or state taxes. There is no federal inheritance tax, so you won’t need federal forms specifically for inheritance taxes. However, if you receive income from inherited assets, you'll report it on your federal income tax return. For state inheritance taxes, you'll need to use the appropriate state forms. Each state has its own forms and instructions for reporting and paying inheritance taxes. For example, Pennsylvania uses Form REV-1500 for this purpose. If you inherit assets from a business or partnership, you might receive a Form 1041 K-1 tax form inheritance. This form details your share of the income, deductions and credits from the inherited business. You’ll need to include this information on your federal income tax return. It's important to check the specific requirements for the state where the deceased lived or where the assets are located. If you're unsure about which forms to use or need help with the K-1 tax form for inheritance, consult a tax pro.

How do you pay tax on inheritance?

Paying tax on inheritance involves handling both state and potentially federal tax responsibilities. If you’re in a state with inheritance tax, you need to file the relevant state tax forms. Each state has its own procedure for paying inheritance tax. You’ll complete the necessary forms, calculate the tax based on the value of the inheritance and your relationship to the deceased, and submit your payment to the state’s revenue department. There is no federal inheritance tax, so you won’t need to pay federal taxes specifically on the inheritance itself. Make sure to keep thorough records of the inheritance and any income or expenses related to it.

Taxes on inherited IRAs

Taxes on an inherited IRA can be complex, so understanding the rules is crucial. When you inherit an IRA, the taxes you owe depend on whether it’s a traditional or Roth IRA and your relationship to the deceased. For a traditional IRA, you will face income taxes on any withdrawals you make. The money you inherit is subject to ordinary income taxes at your current rate. Depending on how you choose to take distributions—whether as a lump sum or over a period of time—this can impact your total tax bill. Roth IRAs are a bit different. If the Roth IRA was held for at least five years before the owner's death, you won’t owe any income taxes on withdrawals. This is because Roth IRAs are funded with after-tax dollars, making them tax-free for you. Regardless of the type of IRA, you must start taking required minimum distributions (RMDs) based on your life expectancy or within specific timeframes. This is part of the inheritance taxes rules related to IRAs.

Inheritance tax on property

When dealing with inheritance tax on property, the rules depend on where you live. If you inherit real estate, such as a home or land, you might face state inheritance taxes in states like Iowa, Kentucky, Maryland, Nebraska, New Jersey, or Pennsylvania. Each state has its own rates and exemptions for the tax on inheritance. The value of the inherited property is assessed to determine how much inheritance tax you might owe.

How to avoid inheritance tax?

To avoid or minimize inheritance tax, it's important to plan ahead. First, there is no federal inheritance tax so you won't need to worry about that. Just focus on state inheritance taxes. One way to reduce state inheritance tax is by gifting assets before you pass away. Many states have gift tax exemptions, which can help lower the overall value of your estate. For 2024, the exemption is $18,000. Most states also exempt a spouse from paying inheritance tax when they inherit property from their partner. Another strategy is to set up irrevocable trusts, which can remove assets from your estate and potentially reduce the tax on inheritance. Additionally, some states offer exemptions or lower tax rates for close relatives, so it's beneficial to know the specific rules in your state.

How to avoid paying capital gains tax on inherited property?

Avoiding or minimizing capital gains tax on inherited property involves understanding the stepped-up basis rule. When you inherit property, its tax basis is "stepped up" to its fair market value at the date of the original owner’s death. This means if you sell the property soon after inheriting it, you might owe little to no capital gains tax on inherited property, as the sale price is likely close to the stepped-up basis. To further minimize capital gains tax on inherited property, you can hold onto the property until it qualifies for long-term capital gains treatment, which applies after you've held the asset for over a year. Long-term capital gains are taxed at lower rates than short-term gains. Another strategy is converting the property into your primary residence. If you've lived in the property for at least two years, you can exclude up to $250,000 ($500,000 for married couples) of capital gains from your taxes under the home sale exclusion rule.

Tax on inherited stocks

The states with lowest property tax are Hawaii, Alabama, Colorado, Nevada, Utah. Assessing property tax by state is a key factor in deciding where to live.