Death taxes are levies imposed by the federal and some state governments on an estate’s value upon a person’s death. These taxes are collected from either the beneficiary who inherits the property or directly from the estate before it transfers the inheritance. Death taxes are commonly referred to as estate taxes or inheritance taxes.
Key Takeaways
- Death taxes are government-imposed taxes on a deceased person’s estate.
- They include both estate and inheritance taxes.
- Death taxes usually apply only to estates and inheritances of significant value. In 2023, estates valued over $12.92 million are subject to federal taxes; this threshold increases to $13.61 million in 2024.
The Fundamentals of Death Taxes
A death tax is levied on the transfer of assets upon someone’s death. The term “death tax” became popular in the 1990s as a clearer, though sometimes pejorative, way to refer to estate and inheritance taxes. Estate taxes are paid by the deceased person’s estate, while inheritance taxes are paid by the beneficiary.
Estate Tax
This tax, applied by the federal and certain state governments, is based on the value of the deceased’s property at the time of death. The federal estate tax rate ranges from 18% to 40% of the estate’s value.
Twelve states and the District of Columbia impose their own estate taxes, regardless of federal taxation. These states include Connecticut, Hawaii, Illinois, Maine, Maryland, Massachusetts, Minnesota, New York, Oregon, Rhode Island, Vermont, and Washington.
Inheritance Tax
Although not imposed by the federal government, certain states levy an inheritance tax, including Iowa, Kentucky, Maryland, Nebraska, New Jersey, and Pennsylvania. Transfers to surviving spouses are exempt in these states, though Nebraska and Pennsylvania tax transfers to direct descendants in some instances.
Death Tax Thresholds
While many may never have to pay death taxes due to high exclusion thresholds, a comprehensive understanding is crucial for effective estate planning. As of 2023, the estate tax excludes assets up to $12.92 million, increasing to $13.61 million in 2024.
For example, consider an individual who leaves an estate worth $13 million in 2023. Given the exclusion amount of $12.92 million, $80,000 will be taxable. Using the Unified Rate Schedule, the tax due amounts to 28% of $80,000 plus a base tax of $18,200, resulting in a total liability of $40,600.
Unified Tax Credit
The unified tax credit allows individuals to gift a certain amount during their lifetime without incurring gift or death taxes. This unifying system merges gift and estate tax policies, reducing overall tax burdens.
Unlimited Marital Deduction
A key provision to mitigate death taxes is the unlimited marital deduction, allowing spouses to transfer unlimited assets to each other, tax-free, including at death. This postpones tax liability until the surviving spouse’s death, enabling high net-worth couples to plan effectively.
Advantages and Disadvantages of Death Taxes
Advantages
- High Threshold: Triggered for estates exceeding $12.92 million in 2023 and $13.61 million in 2024, making it a concern primarily for the wealthy.
- Revenue Generation: Estate and gift tax revenues significantly contribute to government funding.
Disadvantages
- Double Taxation: Wealthy estates face both income and estate taxation.
- Loopholes: Various loopholes can allow affluent individuals to avoid substantial tax obligations.
Strategies to Reduce or Avoid Death Taxes
While most people won’t exceed the estate tax threshold, those who do can adopt effective strategies to minimize or avoid tax burdens:
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Create an Irrevocable Trust: Placing assets in an irrevocable trust can shield them from estate taxes and provide income distributions under favorable terms.
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Strategic Gifting: Lifetime gifting within exclusion limits can reduce taxable estates. For 2023, the lifetime exclusion is $12.92 million ($25.84 million for spouses), rising to $13.61 million ($27.22 million for spouses) in 2024.
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Charitable Donations: Donating to charities can offset estate sanctions while supporting cherished causes.
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Enjoy Your Wealth: Spend assets during your lifetime to ensure family well-being and potentially reduce the taxable estate after death.
Frequently Asked Questions
How to Avoid Death Taxes?
Most estates won’t be subject to death tax liabilities, but those valued at $12.92 million or more (as of 2023) can consider charitable donations, strategic gifting, and establishing trusts to mitigate taxes.
Which States Have Death Taxes?
States levying an estate tax include Connecticut, Hawaii, Illinois, Maine, Maryland, Massachusetts, Minnesota, New York, Oregon, Rhode Island, Vermont, Washington, and the District of Columbia.
Difference Between Estate Tax and Inheritance Tax?
Estate tax is levied on the deceased’s estate before assets are distributed, while inheritance tax is paid by the heirs after receiving their inheritance.
Final Thought
Death taxes, impacting estates exceeding substantial asset thresholds, can generally be mitigated through strategic planning. With the right measures, you can minimize tax liability and ensure more of your wealth benefits your heirs.
Related Terms: estate planning, inheritance tax, estate tax, gift tax, trust funds.
References
- Internal Revenue Service. “Instructions for Form 706”.
- Internal Revenue Service. “IRS Provides Tax Inflation Adjustments for Tax Year 2024”.
- Internal Revenue Service. “Treasury, IRS: Making Large Gifts Now Won’t Harm Estates After 2025”.
- Internal Revenue Service. “Estate and Gift Tax FAQs”.
- National Archives, Code of Federal Regulations. “Title 26, Chapter I, Subchapter B, Part 20, Taxable Estate, § 20.2056(a)-1 Marital Deduction; In General”.
- Internal Revenue Service. “Code of Federal Regulations 2012, Title 26, Vol. 14, Section 20, 2044-1”, Page 355.
- FiscalData. “How Much Revenue Has the U.S. Government Collected This Year?”
- The Journal of Accountancy. “Great Time for a GRAT”.
- Internal Revenue Service. “Frequently Asked Questions on Gift Taxes, Select What Can be Excluded from Gifts?”
