01The Estate Tax
The first death tax is the estate tax. The federal government collects one, but only from very large estates — those with values in excess of $5.49 million as of 2017. Only the value over that threshold is taxed. Fourteen states and the District of Columbia also have an estate tax, but at least the IRS allows a deduction for anything your estate pays to your state. This reduces the value of your estate for federal tax purposes, potentially bringing it under the exemption.
As the name implies, the estate tax is paid from your estate’s coffers. Your beneficiaries and heirs receive what is left over. The IRS defines the estate tax as one that applies to “your right to transfer property at your death.” Ouch.
02The Inheritance Tax
Then there’s the inheritance tax, the other death tax. The federal government doesn’t have one of these, but six states do. This tax is levied against those who inherit from you. If you leave your best friend your vintage automobile, he’ll have to pay a percentage of its fair market value to the state if you — not he — lives in one of those that imposes an inheritance tax.
If you want to spare him this burden, you can leave instructions in your estate plan that your estate should pay for any inheritance taxes that come due when ownership of your property transfers to others. Governments don't particularly care who pays a given tax as long as someone does and it gets paid.
Here’s where the tax situation can get costly: Two states collect both an estate and inheritance taxes as of 2017. Do you live in one of them?
There’s both good news and bad news if you die owning any real or personal property in New Jersey. The bad news is that as of 2017, it’s one of the two states that collect both an inheritance tax and an estate tax. The good news is that the estate tax is scheduled to be eliminated as of January 1, 2018.
If you or a loved one dies before that date, it can be costly. First, the New Jersey estate tax exemption is only $2 million, significantly less than the $5.49 million offered by the federal government. Estates are taxed on their values over this $2 million threshold at anywhere from 8 percent to 16 percent. It depends on how much your estate exceeds $2 million. The larger your estate, the higher an estate tax rate it will pay.
Then some of your beneficiaries might have to pay an additional 11 to 16 percent of the value of the inheritance they received. At least the state takes it easy on immediate kin. Spouses, parents, grandparents, children, grandchildren and stepchildren are not taxed. But all others — including your siblings, the spouses of your children, or your civil union partner — will pay an inheritance tax at a rate that escalates with the value of the property they’ve inherited from you.
You can see why New Jersey has been tagged as the worst state in the country in which to die. The elimination of the estate tax should knock it off the top of the list, however.
Maryland will likely take over as the costliest state in which to die in 2018 when the New Jersey estate tax is repealed. This is the other state that imposes both an estate tax and an inheritance tax.
The estate tax exemption here is somewhat more generous than New Jersey’s is. It’s $3 million as of 2017, so that helps. The tax rate is a flat but pretty significant 16 percent for all estate values over $3 million. So if your estate is worth $3,000,001, it will pay 16 cents. If it’s worth $3,100,000, it will pay $16,000 in estate tax.
But Maryland is making some changes, too. The exemption is slated to increase to $4 million in 2018, and again in 2019 to match whatever the federal exemption is at that time. Because the 2017 federal exemption is $5.49 million and is indexed for inflation, Maryland estates can count on not paying estate taxes on values of up to at least this much. And the inflation provision means that the federal exemption will most likely increase a little every year.
As for Maryland's inheritance tax, this tops out at 10 percent for more distant relatives and unrelated beneficiaries. But combine that with the current estate tax and a single bequest can be hit by a combined 26 percent in death taxes.
Washington doesn't have an inheritance tax, but it makes the list of states having the costliest death taxes because it has the highest estate tax rate of any state in the nation — 20 percent. Of course, that applies only to estates valued at over $9 million, but it's still 4 percent more than any other state in the country. OK, you’d have to be pretty wealthy before you’d have to worry about your estate paying that rate, but the estate tax exemption here is just $2.129 million as of 2017. Even estates that just inch over this threshold will pay a 10 percent rate.
Your estate won’t pay a death tax if you die owning property in Kentucky because this state is one that doesn’t collect an estate tax. But it still makes our list because it imposes a pretty significant inheritance tax at a rate of 16 percent. Kentucky does offer an exemption for its inheritance tax—only gifts valued at more than the exemption amount are taxed—but it’s a paltry $500. So if you give your neighbor that $1,000 garden sculpture he’s always coveted, he’ll have to give the state government $80, or 16 percent of the $500 balance over the exemption amount. Kentucky does spare spouses, siblings, parents and children from this tax, however.
Nebraska does not have an estate tax, and it actually has a higher inheritance tax rate than Kentucky, but its inheritance tax exemptions are significantly larger. This can result in a lower tax bill. The exemption is $10,000 for non-relatives, $15,000 for distant relatives like aunts, uncles, nieces, nephews and in-laws, and $40,000 for parents, siblings, children and grandchildren. Only gifts valued at more than these thresholds are taxed.
Spouses are totally exempt—they can inherit without worrying that the tax man will cometh. That said, all others will pay from 1 percent up to a walloping 18 percent in inheritance tax. Close relatives in the $40,000 exemption category only pay 1 percent, but non-relatives might have to sell their inheritances to pay that 18 percent rate.
This is not a complete list of all states that collect death taxes. It just includes those where the tax tab has the potential to be pretty high in one way or another. Pennsylvania and Iowa also collect an inheritance tax, but the highest rates top out at 15 percent as of 2017.
Connecticut, Delaware, Hawaii, Illinois, Maine, Massachusetts, Minnesota, New York, Oregon, Rhode Island and Vermont also collect an estate tax, but their rate are somewhat less grievous than those in Washington and they don't double-dip the way Maryland and New Jersey do, imposing an inheritance tax as well.
States With the Highest Death Taxes
Do You Live in One of These States Where Dying Is Particularly Costly?
Two words in the English language have the power to make almost anyone wince: “death” and “taxes.” Combine them and they sound particularly ominous. Even worse, not everyone really understands what death taxes are or if they’re even subject to them. It depends to some extent on where you live and just how much you own of value when you die.
Technically, there are two “death taxes,” so even if one doesn’t get you, the other might. Death taxes can also be imposed at both the federal level and state level. In other words, there might be a big tax snarl out there waiting for you when you or a loved one dies.