You may assume that your loved ones will have some significant taxes to pay when they receive their inheritances. A lot of people have heard of the estate tax, and the term “inheritance tax” is thrown around as well. And of course, there is the matter of federal and state income taxes.
We will take a look at taxes on inheritances in this post, and you may be pleasantly surprised when you learn all the facts.
The IRS and the state tax authorities work with the understanding that they cannot tax the same income twice. If you leave someone an inheritance, you are transferring after-tax earnings in one form or another. As a result, they are not subject to another round of taxation.
However, distributions from the earnings that are generated by assets in a trust would be taxable because they were never taxed previously. This also applies to distributions to a traditional individual retirement account beneficiary.
Capital Gains Tax
There have been a lot of discussions in the news recently about billionaires not paying taxes because they are not selling their appreciated assets. If you do sell an asset that appreciated while it was in your possession, the capital gains tax would be applicable.
However, this does not apply to inherited appreciated assets. You would get a step-up in basis if you inherited resources that appreciated during the life of the person that left you the inheritance. The transfer would take place in a tax-free manner, but you would be responsible for future gains.
Federal Estate and Gift Taxes
The logic about double taxation is thrown out the window when it comes to the federal estate tax. It is in fact imposed on assets that are in the possession of the decedent after they paid taxes on the income, but it is only a factor for high-net-worth individuals.
In 2022, there is a $12.06 million federal estate tax exclusion. You can transfer this much tax-free, and the remainder would be subject to the estate tax and its 40 percent maximum rate.
If you are married to an American citizen, you can use the unlimited marital deduction to transfer any amount of property to your spouse tax-free.
Lifetime gift giving would be a simple way to get around the estate tax, but there is a gift tax that is unified with the estate tax. The multimillion-dollar exclusion applies to large gifts that you give during your life, and the remainder can be applied to your estate.
In addition to this exclusion, there is a $16,000 per year, per person gift tax exclusion. You can give up to $16,000 to an unlimited number of people in a calendar year tax-free without using any of your unified exclusion.
State-Level Estate Tax
There are a dozen states that have state-level estate taxes, and there is a separate tax in the District of Columbia. The exclusions are typically lower than the federal estate tax exclusion. We do not have a state-level estate tax in Ohio.
Some people that live in our state own property in another state. If you are in this position, the state-level estate tax in that state would apply to your estate if the value of the property is greater than the exclusion.
An inheritance tax is different from an estate tax. This type of tax is levied on distributions to each person that is receiving an inheritance that is not exempt. As a result, an estate tax and an inheritance tax could be applicable when an estate is being administered.
There is no federal inheritance tax, but six states have state-level inheritance taxes. Maryland actually has an estate tax and an inheritance tax.
Schedule a Consultation Today!
Even if taxation is not going to be a source of concern, you should work with a Cincinnati estate planning lawyer to develop a custom crafted plan that suits your needs. If you are ready to get started, you can send us a message to set up a consultation appointment or call us at 513-721-1513.