The taxes that are levied when someone passes away are referred to as many things such as, death tax, inheritance tax, or estate tax. There is a difference between each of terms even though they are used interchangeably.
To put it in layman’s terms, estate tax is levied on the representatives of the person who passed away while inheritance tax is levied on the beneficiaries of an estate. Estate tax is a federal tax while in majority of the cases inheritance tax is levied by the state yet all states will not have inheritance tax. It is important for you to know the difference between the terms.
Currently only the following 11 states collect inheritance tax: Iowa, Connecticut, Kansas, Indiana, Maryland, New Jersey, Kentucky, Nebraska, Pennsylvania, Oregon, and Tennessee. However, all states agree that when assets are transferred to a spouse they are not exempt from tax. But, some states do exempt transfers to children and close relatives.
Inheritance tax is the taxes on the money and/or assets that a beneficiary received from the estate of the deceased. The interesting part about this tax is the way the tax rates are calculated. In most states, the taxes are based on how close you were to the decedent. For example take a look at the taxes for Pennsylvania:
- 4.5% for lineal descendants
- 12% for siblings
- 15% for everyone else
To make things even more complicated there are numerous exemptions to help you avoid paying inheritance tax. You can claim exemptions that will reduce the amount of taxes that you pay on your inheritance just like you would do with your earned income.
The first thing to keep in mind is if you were the deceased spouse you are 100% exempt. If you are not the spouse your state may have an exemption threshold available for you based on your relationship to the deceased.
Apart from the relationship to the decedent another important exemption is your state’s minimum tax threshold. Majority of the states are going to have a threshold that would be tax-exempt, yet anything over it you would be taxed for. Some states will even allow an exemption if you donate to charitable organizations. Furthermore, usually, you can deduct any life insurance benefits from the decedent’s estate as well.
The Important of Estate Planning
Death and taxes are set in stone however people often wonder what is going to happen with their money when they die. The discussion is obviously not going to be the most pleasant but it is important that it is done.
Depending on the amount of money you have, who you want it to go to, and where you reside not planning your estate could cause a lot of your money to go to the government that doesn’t have to. So, it is important to take some time to plan things out so you can minimize the burden on your heirs.
If you use TurboTax they will ask you a few simple questions so you can get all of the tax deductions and credits that you qualify for. If you want to know how much your refund is going to be check out their free tax refund calculator any time you please.