An Overview Of The System Of The Inheritance Tax

There is no federal inheritance tax in the United States. The tax that heirs and beneficiaries pay on proceeds received from an estate is known as the estate tax. Some people may also refer to it as a death tax, since it taxes a deceased person’s assets that are passed on to loved ones and other heirs. The purpose of the estate tax is to assess a tax on the amount of assets that may have been sheltered or otherwise not subject to income taxation such as undistributed 401(K) plan and other retirement assets that were not distributed due to the beneficiaries death.

The Fairness of Estate Taxes

There are arguments as to the fairness of the estate tax, particularly given the repressive effect it has on farmers and small business owners who may be subject to a tax rate of up to 55 percent on the value of an estate inherited, regardless of whether the estate itself is liquid or not.  

In the case where the estate is not liquid and comprised of mostly hard to value assets such as stock in a closely held, family-owned corporation or real estate in a declining market, a recipient of the estate may find themselves liquidated assets at less than fair market value in order to pay the estate taxes owed.

Estate Tax Repeal

The estate tax is subject to repeal in the year 2010. During the year, the amount of estate tax payable on any inheritances received will be 0 percent. It is expected by tax and estate planning experts that the majority of sizeable estate transfers will take place in 2010 in order to avoid taxation. This will be accomplished through the use of legal trusts and other devices designed to transfer ownership of the estate to an heir or beneficiary without necessarily ceding control of those assets for the purpose of triggering other taxation.

Federal Gift Tax

An individual in receipt of a large inheritance may be able to exclude an amount of those proceeds up to a maximum permitted under federal gift laws and the amount allowed to be excluded from estate taxation. The amount that may be given as a tax-free gift from one individual to another is around $12,000 per year (and is adjusted annually for inflation) or $60,000 as a 5-year gift, with no additional amount permitted to be given during that period.

Federal Estate Tax Exclusion Amount

An amount of up to $1,000,000 can be excluded from estate taxation. The exclusionary amount will also be eliminated in 2010 as a result of the repeal of the federal estate tax.