Inheritance Tax Rates
Inheritance and estate taxes tend to be fairly high, which is one of the reasons controversy surrounds them. The exact rates vary from state to state, but inheritance taxes tend to be set up on a progressive scale. The more valuable the estate, the higher the tax rate.
How do you know what your inheritance tax rate will be?
- You must find out the total appraised value of your inheritance.
- Apply any exemptions you can claim.
- Find the tax bracket for your inheritance.
The tax bracket for your inheritance depends on your relationship to the decedent. Whether your state considers you a beneficiary, an heir or a transferee, the state will classify you according to your relationship to the decedent. Which class you fall into determines your tax rate. Remember, surviving spouses are completely exempt from inheritance tax.
For example, Pennsylvania has the following basic tax rates:
- 4.5 percent for lineal descendants
- 12 percent for siblings
- 15 percent for anyone else [source: Law Offices of Robert Clofine]
This means that Mr. Smith's children and grandchildren have to pay 4.5 percent of the value of their inheritance (after exemptions). Mr. Smith's brother Ralph has to pay 12 percent. Mr. Smith's fishing buddy Terrance would pay 15 percent.
Scott J. Ferrell/Congressional Quarterly/Getty Images
In the summer of 2006, then-Senate Majority Leader Bill Frist, R-Tenn., discussed the federal estate tax with an aide.
For a more nitty-gritty example, let's take a look at Indiana's inheritance tax system.
Indiana divides heirs into three classes. Each class has a different tax rate schedule and exemption.
- Class A ($100,000 exemption): direct ancestor or descendant, stepchild, direct descendant of stepchild (stepchild doesn't need to be adopted)
- Class B ($500 exemption): sibling (brother or sister); descendant of sibling; spouse, widow or widower of your child
- Class C ($100 exemption): anyone else, besides your spouse [source: Indiana Department of Revenue]
Mr. Smith's children Timothy and Belinda would be Class A heirs. Let's say Timothy and Belinda each inherit $450,000 in cash. Because they are Class A heirs, each can claim a $100,000 exemption, reducing their taxable inheritance to $350,000 apiece. Now, let's see what their tax rate will be.
- inheritance of $25,000 or less: 1 percent of net taxable value
- over $25,000 but not over $50,000: $250, plus 2 percent of net taxable value over $25,000
- over $50,000 but not over $200,000: $750, plus 3 percent of net taxable value over $50,000
- over $200,000 but not over $300,000: $5,250, plus 4 percent of net taxable value over $200,000
- over $300,000 but not over $500,000: $9,250, plus 5 percent of net taxable value over $300,000 [source: Indiana Department of Revenue]
Belinda and Timothy are in the fifth marginal tax rate for the Indiana inheritance tax. This means that their first $25,000 will be taxed at 1 percent, their second $25,000 ($25,001 to $50,000) will be taxed at 2 percent, and so on. When their income reaches the fifth bracket, they have a remaining $49,999 that will be taxed at the 5 percent rate. The calculation will look like this:
$49,999 x 0.05 = $2,499
To find their total tax, add the tax from the fifth bracket to the tax accumulated in the lower tax brackets.
$2,499 + $9,250 = $11,749.95
So, Timothy and Belinda each owe $11,749.95 in inheritance tax. Since Departments of Revenue prefer to round their figures, Timothy and Belinda will pay $11,750 each.
Each state has their own rates they charge. And of course, there's also the federal tax rate, which is much higher. For 2007-2009, the federal estate tax rate is 45 percent of the total inheritance. $11,750 doesn't seem like a lot of money anymore does it?
To learn more about inheritance tax and related topics, you can follow the links on the next page.
