“Death taxes,” the ominous name given to estate and inheritance taxes, create almost as much angst as the eventuality that triggers them.
The federal estate tax applies when a person’s assets exceed a certain amount — $5.49 million in 2017 — at the time of death. When Uncle Sam collects the estate tax, the U.S. Treasury gets 40% of any dollars above the current exclusion figure, which is typically adjusted each year for inflation and doubled for married couples.
But a handful of states also impose estate taxes at various income thresholds. A few others impose inheritance taxes, which are different from estate taxes in that they are paid by heirs rather than the deceased’s estate.
Estate taxes by state
For 2017, 14 states and the District of Columbia have an estate tax. Many have lower estate tax thresholds than the federal government. Each state’s exclusion amount and rounded top tax rate on the excess are shown in the table below.
|State||Exclusion amount||Top tax rate|
|District of Columbia||$1 million||16%|
|New Jersey||$2 million||16%|
|New York||$5.25 million||16%|
|Rhode Island||$1.5 million||16%|
New Jersey’s estate tax will be repealed on Jan. 1, 2018.
If you live in one of the states with an estate tax, the good news is that your payments are subtracted from the value of your taxable estate before you calculate any amount your estate might owe the U.S. Treasury.
Inheritance taxes by state
Six states have an inheritance tax. Both estate and inheritance taxes are collected in two states this year: Maryland and New Jersey.
Inheritance tax rates often depend on the heir’s relationship to the deceased. A surviving spouse is exempt from inheritance tax in all states. Some states tax a deceased person’s children, but at a low rate. More distant relatives or heirs who aren’t related to the deceased usually face the highest inheritance tax rates.
Here are the six states that collect an inheritance tax on beneficiaries and their potential maximum tax rates:
|State||Top tax rate|
Although New Jersey’s estate tax will cease on Jan. 1, 2018, the Garden State’s inheritance tax will remain.
Capital gains on inheritances
Even if your inheritance isn’t taxed when you receive it, any subsequent earnings or income that it produces is taxable income at both the federal and state levels. If you decide to sell an asset you have inherited, any profit is taxed at the federal level as a capital gain, either long- or short-term, depending on when you dispose of the property.
Since there rarely is a way to plan for an inheritance, if you do receive a bequest, especially a sizable one, it’s a good idea to talk with an attorney who specializes in estate tax matters about the best ways to minimize any potential state tax bite.
» Don’t know where you stand on taxes? See NerdWallet’s rundown on federal tax brackets.
How to reduce your estate’s taxes
You can generally reduce your estate’s taxes at the state level through the same tactics you would use to protect your property from the federal estate tax. They include:
- Spending your assets. If you’re not afraid of running out of money before you die, enjoy your wealth.
- Spreading your assets. Depending on your state’s tax laws, you could give away part of your estate as gifts to loved ones while you’re still around. Most states don’t tax gifts.
- Shielding your assets in a trust. Properly created irrevocable or bypass trusts could provide a way to legally shelter some of your assets from state and federal taxes.
- Moving to a more favorable tax environment. Since most states don’t have estate or inheritance taxes, you have many relocation options.
For more on transferring your assets wisely, see the NerdWallet estate planning checklist.