When you inherit from an estate, you may wonder if the money you receive is taxable income. The federal government doesn't impose an inheritance tax on money you receive from a deceased person's estate. However, the deceased person's estate may be required to pay estate taxes before you receive your inheritance, and you might pay a state inheritance tax.
The federal government imposes no inheritance tax on estates of any size. However, the administrator of the deceased person's estate must use the estate's assets to pay federal estate taxes prior to distributing property to beneficiaries. At the time of publication, the federal estate tax applies to estates with taxable values greater than $5 million. The IRS determines the taxable value of the estate by calculating the gross value and deducting administration expenses, charitable contributions and gifts to surviving spouses.
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State Inheritance Tax
Not all states impose an inheritance tax, and those that do have varying regulations and tax rates. At the time of publication, the only states that collect inheritance tax are Indiana, Iowa, Kentucky, Maryland, Nebraska, New Jersey and Pennsylvania. None of these states imposes an inheritance tax on surviving spouses. Most states only tax inheritances that exceed a set limit.
State Estate Tax
At the time of publication, the states that impose estate taxes are Connecticut, Delaware, Hawaii, Illinois, Maine, Maryland, Massachusetts, Minnesota, New Jersey, New York, North Carolina, Ohio, Oregon, Rhode Island, Tennessee, Vermont and Washington. Most states calculate taxes on the net worth of the estate, and exemptions range from $380,000 to $5 million. Most states allow additional deductions for charitable contributions and property left to a surviving spouse.
Though you won't pay income tax on your inheritance, the estate may pay federal or state taxes before it disburses property to beneficiaries, so you may receive less than the amount you expected. The federal estate tax exemption of $5 million is valid until 2013, so the estates of individuals who die after Dec. 31, 2012, may incur more estate taxes.