It happens all too often: a couple has an estate plan created, including a last will, upon the birth of their first child. However, it’s never updated when a second child is born. Or a man neglects to update his named beneficiary on a retirement account after he and his first spouse divorce. Failing to update wills or beneficiary assignments results in problematic situations for heirs, according to the article “Inheritance Tax: What Happens When You Split What You Inherit With Someone Outside of the Will?” from Go Banking Rates.
When someone inherits money or other assets, they sometimes must pay taxes on it—if they live in one of only six states still having an inheritance tax. Those states are Iowa, Kentucky, Nebraska, New Jersey, Pennsylvania, and Maryland.
The taxes range from 0% to 16% on assets with a value greater than the state threshold. The rates also vary depending on the relationship between the decedent and their heir.
If you live in Nebraska, as of 2023, any immediate family members must pay a 1% tax on inherited assets if the estate is valued at more than $100,000. Heirs not immediate family members must pay 11% for assets valued over $40,000 and 15% for assets worth more than $25,000.
If you live in Pennsylvania and are a minor child under age 21 or a spouse, you don’t need to pay an inheritance tax. However, children of the decedent do have to pay one.
Inheritance tax is different than estate tax. The federal government doesn’t levy an inheritance tax but has an estate tax. Heirs pay the inheritance tax, while the deceased person's estate pays estate taxes.
To get a rough idea of the estate’s value, the executor adds up the fair market value of all assets the decedent owns, including property, cash, investments, cash and insurance. The executor must next add all liabilities: credit cards, mortgages, car loans, etc. Subtracting the total liabilities from the assets results in the value of the net estate. An estate planning attorney will be able to help determine an accurate value.
In 2024, the threshold for estate tax is $13,610,000, paid only by a few Americans.
Some states also have an estate tax. This includes Connecticut, Hawaii, Illinois, Maine, Maryland, Massachusetts, Minnesota, New York, Oregon, Rhode Island, Vermont, and Washington. State estate taxes vary considerably, from as low as 0.8% to 20%. A local estate planning attorney will know your state’s estate tax and how to structure your estate plan to limit tax liabilities.
Inherited property is taxable if you sell it for more than it was worth when it was first inherited. Let’s say someone leaves you a valuable sailboat with a fair market value of $100,000 when you inherit it. If you don’t want it and sell it for $200,000, you have a capital gain of $100,000. You’ll likely owe capital gains tax on the difference.
If someone neglected to update their estate plan and a sibling was left out of the will, you can make them whole by sharing the estate. However, you’ll have to inherit the asset first and then determine how to distribute it. An estate planning attorney is the best resource to solve this problem.
Reference: Go Banking Rates (April 8, 2024) “Inheritance Tax: What Happens When You Split What You Inherit With Someone Outside of the Will?”