People use estate tax and inheritance tax interchangeably, but they are two different taxes with different payers. An estate tax is charged to the deceased person's estate before anything is distributed; an inheritance tax is charged to each heir on what they receive. Knowing which applies, and where, helps families anticipate the real cost of passing wealth on.
Who pays each tax
The estate tax is paid by the estate itself, calculated on the total value of everything the person owned at death, and settled by the executor before heirs receive their shares. The inheritance tax works in reverse: it is levied on the beneficiary and depends on how much that specific person inherits. So an estate tax looks at the size of the whole estate, while an inheritance tax looks at each recipient individually. The two can even coexist in the same estate.
Where each applies
The federal government imposes an estate tax but no inheritance tax, and its exemption is so high that few estates owe it. About a dozen states plus the District of Columbia have their own estate tax. Only a handful of states, currently Kentucky, Maryland, Nebraska, New Jersey, and Pennsylvania, impose an inheritance tax. Maryland is the lone state that levies both, though its exemptions and rates are limited.
How relationship changes the bill
Inheritance tax almost always depends on how closely related the heir is to the deceased. Surviving spouses are typically exempt everywhere, and children and other close relatives often pay little or nothing. Distant relatives and unrelated beneficiaries face the highest inheritance-tax rates. Estate tax, by contrast, does not care who inherits; it is based on the estate's total value and the available exemption.
Planning around both
Because state thresholds are far lower than the federal exemption, families of relatively modest wealth can still face a state estate or inheritance tax. Strategies include lifetime gifting, the marital deduction, trusts, and sometimes relocating to a state without these taxes. Where you own real estate matters too, since a state can tax property located within its borders. Coordinating federal and state rules is where good planning earns its keep.
A Pennsylvania resident leaves 100,000 dollars to an adult child and 100,000 dollars to a niece. Pennsylvania charges no inheritance tax to a spouse, a low rate to lineal descendants like the child, and a higher rate to collateral heirs like the niece. The child owes a modest tax while the niece owes considerably more on the same amount.
Key takeaways
- An estate tax is paid by the estate; an inheritance tax is paid by each heir.
- The federal government has an estate tax but no inheritance tax.
- Only a few states levy an inheritance tax, and Maryland alone has both.
- Inheritance-tax rates usually rise the more distantly related the heir is.
Common mistakes
- Confusing the two taxes and assuming the heir always pays.
- Overlooking state-level estate and inheritance taxes because the federal exemption is high.
- Forgetting that owning property in another state can trigger that state's death taxes.
FAQ
Is there a federal inheritance tax?
No. The federal government imposes an estate tax, not an inheritance tax. Inheritance taxes exist only in a few states.
Do spouses pay inheritance tax?
Surviving spouses are exempt from inheritance tax in every state that has one, and close relatives usually pay reduced rates.