Concepts for Avoiding Tax on Inheritance

This is not construed as legal advice – we recommend that you consult an attorney.

Taxes that are levied on the property and assets of a deceased person are sometimes called an estate tax or inheritance tax. In the United States, these taxes are paid to the federal government and state government. The tax on inheritance is usually based on a specific dollar amount set by the state and the federal government. Unfortunately, inheritance taxes can be a burden on loved ones, but tax on inheritance can be avoided with proper estate planning and distribution of assets by the beneficiaries of the estate.

. For Those Planning Their Estate

Usually, US federal tax on inheritance are paid out of the estate or the sale of the estate. If you live in the US and you are looking to avoid paying inheritance tax on the assets that you leave to your loved ones, there are a few things you can do yourself as you make your will.

. Leave Everything to Your Spouse

Taxes are less for spouses who inherit assets, and you can take advantage of this by turning your entire estate over to your spouse upon your death. If your spouse is in good health and capable of dividing assets among family members, this can be an excellent plan to avoid high tax on inheritance. However, if you think your spouse might not be capable or willing to be executor and divide your assets equally, there are other strategies for avoiding paying high estate taxes.

. Divide Assets Among Close Family Members

Since most state and federal inheritance taxes are based on a specific dollar amount, you can split up your assets into portions that are smaller than this dollar amount to avoid paying tax on inheritance for a large lump sum. This will divide up the value of your estate and keep it under the minimum for state inheritance tax. Often, taxes are lower for inheritance given to close family members like spouses and children, rather than extended family members, so you should divide your estate between close family members and give instructions as to how they might give to extended family.

. Give Gifts Instead of Inheritance

Many gifts are not subject to taxes, such as wedding gifts, gifts under a certain dollar amount or charitable contributions. You can keep your loved ones from paying exorbitant taxes by giving gifts of assets or cash during holidays or special family events such as weddings or giving to your favorite charities. Check with an attorney or tax professional about what kinds of gifts are subject to the least amount of taxes.

. Avoid Tax on Inherited Stocks

If you own stocks, your beneficiaries will have to pay an inheritance tax on those stocks when they transfer them. One way to avoid this tax is to get an inheritance tax waiver. This form allows the stocks to be transferred without inheritance tax being taken out of the value of the stocks.

. For Those Who Have Inheritance

If you have inherited assets from a deceased family member, you may think you are exempt from taxes on your inheritance, but you may still have to pay taxes on any accounts you have inherited. Often, state tax on inheritance will be paid by the beneficiaries of the estate, rather than out of the estate itself.

. How to Delay Taxes on an Inherited IRA

If you have inherited an IRA, some or all of the money in the IRA will be subject to income taxes, depending on what you do with the account. If you are the spouse of the deceased, there are less penalties and taxes that are applied to your inherited IRA. As a spousal beneficiary, you can roll your IRA over into your own account or keep the account as a beneficiary. Rolling over your account will help you avoid paying a large amount of taxes.

If you have an inherited IRA as a beneficiary who is not the spouse of the original account holder (sometimes called a non-spouse beneficiary), your inherited IRA works much like a typical IRA. Distributions from the account can be subject to income tax, and you will be required to take out distributions from the account once per year. These are called Required Minimum Distributions, and they are usually based on the life expectancy of the beneficiary. Taking out only these Required Minimum Distributions will keep you from paying a large lump sum in income taxes. After five years have passed, you may be able to take larger distributions without penalty or additional taxes, but you should check with your IRA holder.