Although it is morbid to dwell on, the holiday season can see an increase in deaths for a number of reasons. This often leaves people confused as to how to deal with the taxes due after someone dies. While it can be sad to consider, it is also very important to discuss these things with your loved ones.
Things to Consider
When a person dies, taxes are the last thing on their family’s mind. Unfortunately, their heirs will have to address the taxes due because of the loved one’s death. Below are some of the taxes that the estate or trust of a deceased person may owe, as well as the types of tax returns that will need to be filed by the family members left behind.
Federal Estate Taxes
Although estate taxes seem to get the most publicity, most estates will not owe any federal estate taxes. The 2021 federal estate tax exemption is $11.7 million and the exemption will continue to be adjusted upwards on January 1 of each year due to inflation.
However, if the estate is valued at $11.7 million or more, a federal estate tax return must be filed using IRS Form 706-NA.
State Estate Taxes
While many estates do not have to file a federal estate tax return, certain states require a state estate tax return. A resident, or deceased person who owned real estate in one of these states, may owe state estate taxes.
State Inheritance Taxes
Inheritance tax is based on who receives a deceased person’s property. Currently, only a few states collect state inheritance tax. These include Iowa, Kentucky, Maryland, Nebraska, New Jersey, and Pennsylvania.
In all six of these states, assets passing to the deceased person’s surviving spouse and charity are exempt from the state inheritance tax. Furthermore, in several of them, the assets passing to the deceased person’s descendants are also exempt. Essentially, the likelihood of being subject to a state inheritance tax is minimal.
[Related: How to Make Sudden Wealth Last]
Generation-Skipping Transfer Taxes
Generation-skipping transfer taxes, known as GST taxes, only apply to estates that owe federal estate taxes where some of the estate is passing to someone who is a “skip person”, or some of the estate is passing into a trust that is a generation-skipping trust.
A “skip person” is a relative who is two or more generations below the deceased person, or an unrelated person who is 37 ½ years or younger than the deceased person. The exemption at the federal level is the same as estate tax exemption, meaning the exemption is $11.7 million in 2021. Remember that this number will continue to adjust in relation to inflation.
In addition to filing a deceased person’s final income tax return, there will also be a period when the estate or trust is being settled after someone dies that the estate/trust earns interest prior to the time assets can be distributed out of the estate/trust to the beneficiaries.
Furthermore, certain assets owned by a deceased person will receive a step-up in basis if they are sold after death if the sale of these assets results in capital gains.
Aside from that, certain accounts have built-in income tax consequences often referred to as “income in respect of a decedent” or IRD. These come into play when the owner of the account dies.
So, while many estates and trusts may not be impacted by estate taxes, gift taxes, inheritance taxes, or generation-skipping transfer taxes, most will be affected by income taxes in some way.
Estate Planning Financial Advisors
We understand that the death of a loved one is a very emotional time. However, there are important tax considerations that need to be handled. It is best to discuss these with your family and have a plan in place before the death of a loved one. To learn more about the estate financial planning considerations involved, please contact Argent Bridge Advisors today.