I work in the legal field, and even though most of our clients are fairly young, we get a lot of questions from them regarding wills, trusts, and estate issues. Recently, estate taxes and inheritance taxes have been a major issue at our office, and a lot of our clients are confused on what they and their heirs will have to pay in the event of their death. There are a lot of misconceptions and urban legends out there about estates. One of our jobs is to give the correct information to our clients, and clear up any misunderstandings.
The first thing that we usually explain to our clients is that there actually is a difference between the two types of taxes mentioned above – inheritance taxes and estate taxes. Inheritance taxes are imposed on each beneficiary’s share of the estate, while estate taxes are assessed based on the fair market value of the entire estate. The beneficiaries will be responsible for paying the taxes assessed on their inheritance. The amount they will have to pay will be calculated based on the amount of the inheritance and their relationship to the deceased.
It must be noted that property that is passed to a surviving spouse normally is not taxed, however, property that is passed to anyone else usually is. In most states, children are allowed a deduction of $3,000 and the remainder is usually taxed at a rate between 5% and 10%. As the relationship between the decedent and the beneficiary becomes more distant, the allowed deduction goes down to $100 and the inheritance tax rate will run between 10% and 30%. Be aware that some states have no type of inheritance tax. Only ten states still collect inheritance taxes. Those states are Indiana, Iowa, Kansas, Kentucky, Maryland, Nebraska, New Jersey, Oregon, Pennsylvania and Tennessee.
Now that I’ve explained the basics of inheritance taxes, I’ll give a brief overview of estate taxes. Estate taxes are imposed by the federal government, and everyone in the United States is subject to this type of tax if they meet certain requirements. Each beneficiary of an estate is allowed a deduction of $1.5 million from their inheritance. This $1.5 million is exempt from estate tax. Since most estates are worth less than $1.5 million, most people will never be subject to paying estate taxes. Be aware that the value of your estate is calculated by the fair market value of your estate at the time you pass away. If you paid $100,000 for your home in 1956, but it is worth $2 million at the time you die, your beneficiary will be charged estate tax, since the value of the estate exceeds $1.5 million.
If you have assets that total more than the $1.5 million threshold, you may want to consider giving gifts to your family members and friends. You are allowed to give away $1 million over your lifetime without being charged taxes on it, or $11,000 per spouse per year. Giving the gifts while you are still alive ensures that not only will your beneficiaries not have to pay taxes on the gifts, but you will still be around to see your loved ones enjoy the gifts they receive. If you have any questions about your will or estate, or would like advice on setting up a trust for your loved ones, you definitely will want to seek competent legal counsel. Each situation is different, and your attorney will be able to give you the best advice on how to proceed.