What Is an Estate Tax?
An estate tax is a tax on the transfer of a deceased person’s assets. The tax is assessed on the fair market value (FMV) of the estate at death and applies only to the portion that exceeds an exclusion (or “exemption”) set by law. The levy is assessed at the federal level and by some states. The estate itself generally pays the tax before assets are distributed to beneficiaries.
Key numbers (federal, recent)
– 2024 federal estate-tax exemption (lifetime exclusion for estate + prior taxable gifts): $13.61 million per decedent.
– 2025 federal estate-tax exemption: $13.99 million per decedent.
– Annual gift-tax exclusion: $18,000 per recipient for 2024; $19,000 per recipient for 2025.
(These amounts are adjusted periodically for inflation.)
Source: Internal Revenue Service; Investopedia.
How Federal Estate Taxes Work
– Who files: Estates with combined gross assets and prior taxable gifts that exceed the federal exemption must file Form 706 (Estate Tax Return) and pay any tax due.
– Basis: Tax is calculated on the estate’s fair market value at death (not what the decedent originally paid).
– Marital deduction: Transfers to a surviving spouse (who is a U.S. citizen) are generally deductible from the estate (unlimited marital deduction), so no estate tax is due when assets pass to the spouse.
– Portability: The surviving spouse can elect to use the deceased spouse’s unused exclusion amount (Deceased Spouse’s Unused Exclusion, DSUE) by timely filing Form 706 — this can preserve the unused portion of the deceased spouse’s federal exemption.
– Timing: Form 706 generally must be filed within nine months of death (extension available).
Source: IRS — “Estate Tax” and “Frequently Asked Questions on Estate Taxes”.
How State Estate Taxes Work
– Many states either mirror the federal rules or set their own exclusion thresholds and tax rates. Some states have estate taxes, some have inheritance taxes, and others have neither. State exemption levels are usually much lower than the federal exemption in states that impose them. Check your decedent’s state of residence at death for state rules and filing requirements.
Source: Investopedia; state revenue departments.
Estate Tax vs. Inheritance Tax
– Estate tax: Paid by the estate before assets are distributed. Applies to the total estate value above the exemption.
– Inheritance tax: Paid by the beneficiary on what they receive; assessed by the state where the beneficiary lives (or where the estate is probated in some cases). There is no federal inheritance tax. As of the recent reporting, only a handful of states impose inheritance taxes (states have been changing rules—confirm current state laws).
Source: Investopedia.
Gift Tax and Strategies to Reduce Estate Tax
Gifting is a common way to reduce the value of a taxable estate during your lifetime. Key points:
– Annual gift-tax exclusion: You may give up to the annual exclusion amount to as many individuals as you wish tax-free each year ($18,000 in 2024; $19,000 in 2025).
– Lifetime exclusion: Gifts above the annual exclusion count against your lifetime estate/gift exemption. If you exceed the annual exclusion, you must file Form 709 (gift-tax return) but you may not owe gift tax immediately if you have remaining lifetime exclusion.
– Example (from reported correction): If you gave $79,000 to one person in 2024, $18,000 is excluded and $61,000 is a taxable gift that must be reported on Form 709. That $61,000 reduces your lifetime exclusion (for example, reducing it to $13,549,000 if starting from $13,610,000).
– Trade-offs: Gifting removes future appreciation from your estate but gifts made during life do not receive the step-up in basis at death (capital gains tax consequences to donees may change).
Source: IRS; Investopedia.
Deductions That Reduce Estate Tax
Common deductions allowed against the gross estate include:
– Debts and mortgages owed by the decedent.
– Funeral and administration expenses of the estate.
– Property passing to a surviving spouse (marital deduction) or to qualifying charities (charitable deduction).
– Certain business or farm interests may qualify for valuation reductions or special use valuation in limited situations.
– Qualified terminable interest property (QTIP) and other trust structures can affect how and when assets are taxed.
Source: IRS; Investopedia.
When Was the Federal Estate Tax Created?
– The first federal estate tax appeared in 1797 (to fund the U.S. Navy), and the modern estate tax framework dates from legislation enacted in 1916. The law has been changed many times since to adjust rates, exemptions, and mechanisms.
Source: Investopedia.
What Is Included in an Estate?
An estate includes everything the decedent owned or had an interest in at death: real estate, cash, securities, business interests, retirement accounts (subject to income tax rules), life insurance payable to the estate, and other assets. Nonprobate transfers (e.g., payable-on-death accounts, jointly owned property with right of survivorship, beneficiary-designated retirement plans and life insurance paid directly to a named beneficiary) may bypass probate but can still be included for estate-tax purposes under certain conditions.
Source: Investopedia; IRS.
Differences to Consider: Estate Tax vs. Income Tax for Beneficiaries
– Estate tax is levied on the estate’s value at death (if above exemptions).
– Beneficiaries generally do not pay federal estate tax; they may owe income tax on distributions from retirement accounts or on capital gains if they sell inherited assets (benefit from step-up in basis for assets owned by decedent at death unless the asset was given away earlier). Consult a tax advisor for specifics.
Practical Steps to Reduce or Manage Estate Taxes (Actionable checklist)
1. Inventory assets and calculate likely gross estate value
– Gather account statements, deeds, business valuations, insurance policies, and any outstanding debts. Get recent valuations for real property and business interests.
2. Confirm beneficiaries and review nonprobate designations
– Check beneficiary designations for retirement accounts, life insurance, and transfer-on-death accounts. These control where proceeds go and may affect estate tax exposure.
3. Use the annual gift exclusion each year
– Make tax-free gifts up to the annual exclusion amount to as many individuals as you wish. This removes future appreciation from your estate.
4. Consider larger lifetime gifts (with planning)
– If appropriate, use part of your lifetime exclusion to reduce estate size (file Form 709 to report taxable gifts). Weigh losing a step-up in basis for gifted assets vs. removing growth from the taxable estate.
5. Elect portability when a spouse dies
– Surviving spouse: timely file Form 706 to elect portability of any unused deceased spouse exemption (DSUE). This preserves the deceased spouse’s unused federal exclusion for the survivor.
6. Use trusts strategically
– Revocable living trusts: avoid probate and clarify distribution but generally don’t reduce estate tax.
– Irrevocable life insurance trusts (ILITs): keep life insurance proceeds out of the taxable estate if properly structured.
– Grantor retained annuity trusts (GRATs), charitable remainder trusts (CRTs), qualified personal residence trusts (QPRTs): can move assets out of your estate while retaining some economic benefit or providing charitable deductions.
7. Leverage charitable giving
– Gifts to qualified charities at death are deductible from the gross estate. Consider charitable remainder trusts or direct bequests.
8. Consider business succession and valuation planning
– Family limited partnerships (FLPs) or minority-interest discounts may be appropriate for some family businesses—use caution and professional advice due to IRS scrutiny.
9. Watch state rules and residency
– Estate-tax thresholds and rates vary by state. Residency at death can determine state estate tax exposure. Consider domicile planning if appropriate and feasible.
10. Keep documents current and engage professionals
– Update wills, trusts, powers of attorney, and health directives. Work with an estate planning attorney, tax advisor (CPA), and, if you have a business, a business valuation expert.
11. Mind the filing deadlines
– Form 706 generally due within nine months of death (extension possible); Form 709 (gift tax) due with your tax return for year of gift. Missing deadlines can affect portability elections and other planning.
Quick examples to illustrate
– Small estate: If total gross estate + prior taxable gifts ≤ federal exemption, no federal estate tax is due (but state estate taxes may still apply if the state exemption is lower).
– 2024 example: An estate worth $13.7 million with a 2024 exemption of $13.61 million would have $90,000 subject to federal estate tax.
Source: Investopedia.
Fast Fact
– The estate tax is often colloquially called a “death tax.” Technically it’s a tax on transfers at death (estate tax) and is distinct from an inheritance tax (paid by beneficiaries).
When an Inheritance Might Be Taxed
– There is no federal inheritance tax, but a handful of states historically imposed inheritance taxes. Whether a beneficiary pays depends on the state’s rules, the beneficiary’s relationship to the decedent, and exemption thresholds. Spouses are generally exempt in states that impose inheritance taxes. Because laws change, check current state statutes.
Source: Investopedia.
When to Get Professional Help
– If your estate is sizable (near or above federal or state thresholds), includes closely held business interests, certain trusts, or complex holdings (foreign assets, partnerships), consult an estate planning attorney and tax professional. Many strategies have technical requirements and trade-offs (e.g., tax vs. control vs. capital gains basis).
Where to Find Official Guidance
– IRS — “Estate Tax” (irs.gov) and related publications (including instructions for Form 706 and Form 709).
– State revenue or tax department websites for state estate/inheritance tax rules.
– Reputable financial-education resources and legal counsel for detailed planning tailored to your situation.
Sources: Internal Revenue Service; Investopedia; Peter G. Peterson Foundation.
Bottom Line
The federal estate tax applies only when a decedent’s gross estate (plus prior taxable gifts) exceeds the statutory exemption. Many estates fall below that threshold and owe no federal estate tax, but state estate or inheritance taxes can still apply. Thoughtful planning—annual gifting, strategic use of trusts, portability elections, charitable giving, and professional advice—can help minimize estate taxes and ensure assets transfer according to your wishes. Always confirm current exemption amounts and state rules before making major decisions.
Selected sources
– Internal Revenue Service — “Estate Tax”; “Frequently Asked Questions on Estate Taxes”; Forms 706 & 709 (irs.gov).
– Investopedia — “Estate Tax” (investopedia.com).
– Peter G. Peterson Foundation — “What Are Estate and Gift Taxes and How…” (for background on policy and history).
If you’d like, I can:
– Outline a sample step-by-step estate-plan checklist tailored to a specific estate size.
– Draft sample language for a simple estate planning checklist (assets, beneficiaries, trusts, filings).
– Look up current state-specific estate and inheritance tax thresholds for a particular state (tell me which state).