Table of Contents
- What Are Death Taxes?
- Key Takeaways
- How Death Taxes Work: Key Details
- Death Tax Exemption Limits: 2023 and Beyond
- Unified Tax Credit: A Strategy to Lower Death Taxes
- Unlimited Marital Deduction: Tax Benefits for Spouses
- Weighing the Pros and Cons of Death Taxes
- Strategies to Minimize or Sidestep Death Taxes
- How Do You Avoid Death Taxes?
- What States Have Death Taxes?
- What Is the Difference Between an Estate Tax and an Inheritance Tax?
- The Bottom Line
What Are Death Taxes?
You might have heard of death taxes, which are basically estate or inheritance taxes imposed on large estates when the owner dies. In 2023, if your estate is worth more than $12.92 million, it faces federal estate taxes. I'm going to walk you through how these taxes operate and share some straightforward strategies to cut them down or dodge them completely.
Key Takeaways
Death taxes, whether you call them estate or inheritance taxes, get charged on assets moving from a deceased person's estate. For 2023, the federal estate tax kicks in for estates over $12.92 million, with rates between 18% and 40%. There are twelve states plus the District of Columbia that add their own estate taxes on top of the federal ones. You can use tools like irrevocable trusts or charitable giving to lower or skip these taxes. Also, the unlimited marital deduction lets spouses pass assets to each other without taxes, pushing the bill to after the second spouse passes.
How Death Taxes Work: Key Details
A death tax is essentially any tax on property transferred after death. The term 'death tax' popped up in the 1990s from folks pushing to repeal estate and inheritance taxes. With estate taxes, the estate itself pays before assets go to beneficiaries. For inheritance taxes, the inheritor foots the bill.
The estate tax comes from the federal government and some states, based on the asset value at death. Federal rates run from 18% to 40%. Twelve states like Connecticut and New York have their own estate taxes apart from the feds.
There's no federal inheritance tax, but states like Iowa, Kentucky, Maryland, Nebraska, New Jersey, and Pennsylvania do have them. In these places, assets to a surviving spouse are exempt. Nebraska and Pennsylvania sometimes tax assets to children or grandchildren.
Death Tax Exemption Limits: 2023 and Beyond
Most of you won't deal with death taxes since they only hit a tiny group. Thanks to the 2017 Tax Cuts and Jobs Act, the exemption is $12.92 million in 2023 and jumps to $13.61 million in 2024.
Keep in mind, that act expires after 2025, so the exemption could drop if Congress doesn't renew it.
Take this example: If someone leaves a $13 million estate in non-exempt assets to their kids, and they've never gifted over the limit, only the $80,000 over the 2023 exemption gets taxed. Using the Unified Rate Schedule, that's 28% on $80,000 plus $18,200 base, totaling $40,600 in taxes. If your estate is under the exemption, you owe nothing federally.
Unified Tax Credit: A Strategy to Lower Death Taxes
The unified tax credit sets a limit on what you can gift in your lifetime before gift or death taxes apply. It merges gift and estate taxes into one system, cutting your tax dollar for dollar.
Many choose to apply this credit to slash estate taxes after death rather than gift taxes during life.
Unlimited Marital Deduction: Tax Benefits for Spouses
You can use the unlimited marital deduction to transfer any amount of assets to your spouse anytime, including at death, without taxes.
This wipes out federal estate and gift taxes on spousal transfers, seeing them as one unit. It postpones taxes until the second spouse dies, unless assets are spent or gifted away first.
Weighing the Pros and Cons of Death Taxes
On the plus side, the high threshold means only estates over $12.92 million in 2023 or $13.61 million in 2024 get hit, so just the ultra-wealthy deal with it. It also brings in solid revenue—by July 21, 2024, the government pulled in $25 billion from estate and gift taxes this fiscal year.
Drawbacks include double taxation, as large estates pay income taxes first then estate taxes. Plus, loopholes exist, and those with means naturally use them to avoid paying.
Pros and Cons
- Pros: High threshold, High tax revenue
- Cons: Double taxes, Loopholes
Strategies to Minimize or Sidestep Death Taxes
For most, death taxes aren't an issue with assets under $12.92 million, even if the threshold falls to $5 million after 2025.
If you think you'll exceed it, try these: Set up an irrevocable trust to protect assets from taxes—you can have it pay income to you and beneficiaries, like with a grantor retained annuity trust (GRAT). Gift assets to family and friends tax-free up to the lifetime limit of $12.92 million in 2023 ($25.84 million jointly with spouse) or $13.61 million in 2024 ($27.22 million jointly). Spend your money wisely—give enough to family so they’re set, then enjoy what you've earned. Make charitable donations to causes you care about, which deduct from your estate.
How Do You Avoid Death Taxes?
You probably won't face estate taxes, but if your assets top $12.92 million in 2023 or $13.61 million in 2024, avoid them by donating to charity, gifting to lower estate value, or using special trusts.
What States Have Death Taxes?
Twelve states and the District of Columbia have estate taxes: Connecticut, Hawaii, Illinois, Maine, Maryland, Massachusetts, Minnesota, New York, Oregon, Rhode Island, Vermont, Washington, and D.C.
What Is the Difference Between an Estate Tax and an Inheritance Tax?
The estate pays estate taxes, while inheritors pay inheritance taxes.
The Bottom Line
Death taxes hit estates over $12.92 million in 2023 and $13.61 million in 2024, affecting few people. No federal inheritance tax exists, but some states have them. If you have a large estate, look into trusts, donations, or the unified credit to cut taxes. Most won't see these taxes, but if you might, plan ahead to align with your goals.
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