Taxes Regarding Inheritance
It doesn't seem fair that a bequest should be taxable, but sometimes it is. Eight states impose taxes on inheritances at the time of publication: Tennessee, Pennsylvania, New Jersey, Nebraska, Maryland, Kentucky, Iowa and Indiana. If you live in any of these states, you might not receive all your inheritance because the state will take a bite. Even if you live elsewhere, you might incur other taxes, depending on what you do with the bequest.
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Inheritance Taxes
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The Internal Revenue Service (IRS) won't tax you on anything you receive as a bequest, either as an inheritance or as part of your income, so federal taxes are generally not an issue. The states that impose inheritance taxes take a percentage of what you receive, but they usually don't treat the inheritance as income on top of that. Some states require that the executor of the estate pay the tax on your behalf within nine months of the decedent's death; you inherit what is left of your bequest after the taxes. In other states, you're responsible for paying the tax on your own.
Estate Taxes
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At the time of publication, the IRS only taxes estates with a value of $5 million or more, but this is subject to change. Some states charge their own estate taxes, regardless of federal law. These include Washington, Vermont, Rhode Island, Oregon, Ohio, New York, New Jersey, Minnesota, Massachusetts, Maryland, Maine, Hawaii, Delaware and the District of Columbia. The state thresholds are usually much lower than the federal threshold. For example, New Jersey taxes estates with a value in excess of $675,000. If you're inheriting, this means that the executor of the estate must first pay all the estate taxes before giving you your bequest. This can diminish the value of your inheritance if there's not enough money in the estate to go around. If the estate can't cover the estate taxes plus the full value of the bequests, your bequest becomes less than the decedent intended. New Jersey law affects your bequest both ways. The estate must pay taxes on its own value over $675,000, and you might have to pay inheritance tax on what you receive.
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Exceptions
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The states that do impose an inheritance tax generally make exceptions for bequests to spouses. Surviving spouses can usually inherit without an obligation to pay taxes. Likewise, many states that impose estate taxes also exempt any assets that pass directly to a surviving spouse.
Inheritance Tax Rates
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Most states that impose inheritance taxes provide for some exemptions for non-spouse beneficiaries. If you're the son or daughter of the deceased, you might have to pay as little as 5 percent of your inheritance. If you're the deceased's best friend, however, you might have to pay as much as 15 percent of the value of your bequest. In addition, a base amount of the inheritance is usually tax-free. For example, you might have to pay taxes on any amount over $10,000, depending on how closely related you are to the deceased.
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