Are You Really Taxed on an Inheritance? Avoid this Mistake + FAQs

Yes, you can be taxed on inheritance in the U.S., but it depends on several factors including federal estate tax thresholds, state inheritance tax laws, and the type of asset received.

😮 Only about 0.2% of U.S. estates are large enough to owe federal estate tax. Yet many heirs still face state inheritance taxes or other tax surprises.

Imagine inheriting your grandparents’ house while grieving, then discovering a letter from the tax collector demanding a cut of your inheritance.

This scenario is rare, but it can happen. Understanding when and where inheritance is taxed can save you from unwelcome shocks during an already emotional time.

Inheritance Tax Surprise: What Heirs Need to Know

In this comprehensive guide, you’ll learn:

• Estate vs. Inheritance Tax: The critical difference between federal estate taxes and state inheritance taxes, and why it matters for your family.

• Who Actually Pays (and How Much): Current 2025 tax thresholds – including the hefty $13.99 million federal exemption – and which states might tax your inheritance (with a state-by-state breakdown 🗺️).

• Different Assets, Different Taxes: How inherited cash, property, stocks, or retirement accounts are taxed differently – and the secret benefit of the step-up in basis that spares many heirs from capital gains taxes.

• IRS Rules & Key Forms: The IRS regulations, forms (like Form 706), and concepts (unified credit, marital deduction, etc.) that determine if you owe anything, explained in plain English.

• Avoiding Costly Mistakes: Common mistakes people make with inheritances (like confusing estate tax with income tax, or missing important deadlines) and how to plan ahead to minimize taxes, including cross-border inheritance tips 🌐.

Let’s dive in and demystify whether your inheritance will be taxed – and how to navigate the rules like a pro.

Inheritance Tax vs. Estate Tax: The Basics

When people ask, “Are you taxed on inheritance?”, they’re usually worried about losing a chunk of their inherited money to taxes. In the U.S., there isn’t a straightforward “inheritance tax” at the federal level.

Instead, the main tax on inherited wealth is the federal estate tax, which is applied to the decedent’s estate before you receive anything. However, some states impose a true inheritance tax on beneficiaries (heirs) after they receive assets. This distinction is crucial:

• Estate Tax – Taken from the estate itself. The estate (the total assets of the deceased) pays this tax before distributions to heirs. If an estate is large enough to be taxable, the executor must file a return and pay any due tax out of estate funds. Beneficiaries typically don’t pay this tax directly – it’s settled by the estate. The U.S. federal government and some states have estate taxes.

• Inheritance Tax – Taken from the heir’s share. This tax is levied on what you inherit, and you, as the beneficiary, might have to pay it. There is no federal inheritance tax in the U.S., but a handful of states charge inheritance tax on certain beneficiaries. The rate can depend on your relationship to the deceased (for example, children might pay less than distant relatives).

In short, the federal government taxes estates, not individual inheritances, while a few states tax inheritances received by beneficiaries. To know if you’ll be taxed, you need to consider both the federal estate tax rules and your state’s laws. Let’s break down each.

The Federal Estate Tax: Uncle Sam’s Cut (Only for Big Estates)

The federal estate tax is often a non-issue for most Americans because of a very high exemption. As of 2025, the IRS lets an individual pass on up to $13.99 million to heirs tax-free. This amount is known as the estate tax exemption (or unified credit).

If a married couple plans properly, they can double that and leave almost $27.98 million combined without federal estate tax, thanks to a provision called portability (the unused exemption of the first spouse can transfer to the survivor).

What happens if an estate exceeds that exemption? The portion above $13.99 million is taxed on a sliding scale from 18% up to 40%. The top rate, 40%, is reached at the very upper end of large estates. For example, if someone dies in 2025 with a $15 million estate and no spouse, roughly $1.01 million would be taxable above the exemption, and the estate might owe around $345,000 in federal estate tax. The larger the estate, the bigger the tax bite – but only on the amount above $13.99 million.

Key point: Only about 1 or 2 out of every 1,000 estates end up owing federal estate tax. Most people’s estates are below $13.99 million and owe nothing to the IRS. That’s why inheritance taxes feel “invisible” to most families – they never encounter the federal estate tax at all.

However, wealthy families do need to plan for it. The executor of a taxable estate must file IRS Form 706 (Estate Tax Return), typically within 9 months of death, reporting all assets and applying the exemption and deductions. Common deductions include debts, funeral expenses, and any assets left to a surviving spouse or charity (those transfers are generally deductible and not taxed). The estate tax is then calculated and paid out of the estate’s funds before heirs get their shares.

• Unlimited Marital Deduction: If all assets go to a surviving spouse who is a U.S. citizen, no federal estate tax is due at the first spouse’s death, no matter the amount. The estate tax is deferred until the second spouse dies (this is the “unlimited marital deduction”). This is why typically a widow or widower doesn’t pay estate tax when their spouse dies – Uncle Sam waits until the survivor’s own death to see if the combined estate exceeds the exemption.

• Portability: By filing a Form 706 even when no tax is owed (because of the exemption), a widow(er) can claim the unused portion of their spouse’s $13.99M exemption. This adds to their own exemption. For instance, if a husband dies in 2025 and uses $3 million of the exemption (perhaps by leaving $3M to children, everything else to spouse), the wife can file an estate return to keep the remaining $10.99M of his exemption. She would then have $10.99M + $13.99M = $24.98M exemption when she later passes. Not filing that return is a costly mistake if the combined estate might approach taxable levels. (We’ll cover more common mistakes later 😬.)

Estate Tax in 2026 and Beyond: It’s worth noting that the record-high $13.99M exemption is set to drop dramatically in 2026 (potentially to around $6 million per person) unless new laws are passed.

So while in 2025 very few estates owe tax, starting in 2026 many more moderate-sized estates could become taxable. This looming change has wealthy individuals considering estate planning moves now (like large gifts) to lock in the higher exemption. But for now, in 2025, most estates are off the hook federally.

State-Level Taxes on Inheritance: Does Your State Want a Cut?

Just because you escape federal tax doesn’t mean you’re completely in the clear. State taxes can still apply to inheritances, and they come in two flavors:

• State Estate Taxes: Similar to the federal estate tax, these are imposed on the overall estate before distribution. A state estate tax has its own exemption (often much lower than the federal $13.99M) and tax rates (usually up to ~16%). The estate’s executor pays it to the state.

• State Inheritance Taxes: True “inheritance” taxes. These are imposed on beneficiaries after they inherit assets. Typically, the more distant your relation to the deceased, the higher the tax rate. Inheritance tax is calculated on each recipient’s share.

Only a minority of states still have these taxes, but if you or the deceased lived in one, it’s crucial to know the rules. Below we break down which states have estate or inheritance taxes in 2025, and what their thresholds are. If you inherit from someone who lived (or owned property) in these states, part of the estate or your inheritance could be taxed at the state level.

States with Estate Taxes (2025)

As of 2025, 12 states plus D.C. impose an estate tax on large estates. These states set their own exemption amounts – often far lower than the federal $13.99M – and tax rates up to 16% (some even 20%). That means an estate too small to owe the IRS could still owe state estate tax if the decedent lived or owned real estate in one of these states.

In the table above, notice how low some state exemptions are. For example, Oregon taxes estates above $1 million – a threshold unchanged for years, which can easily include a house and retirement account. Massachusetts doubled its exemption to $2 million in 2023 (it was $1M before), but that’s still a fraction of the federal amount. New York offers a generous $7.16M exemption, but it has an infamous “cliff”: if an estate exceeds 105% of the exemption (~$7.518M), the entire estate becomes taxable, not just the excess. Ouch! In other words, go a dollar over the limit in NY and you could pay taxes on the full estate value. Most other states only tax the value above the exemption.

If you’re inheriting from someone in these states, you personally don’t pay the estate tax – the estate’s executor will handle it out of estate assets. But it could reduce how much you ultimately receive. For instance, imagine your aunt left a $3 million estate and lived in Massachusetts. There’s no federal tax (since $3M < $13.99M), but it exceeds MA’s $2M exemption. The estate might owe Massachusetts estate tax on that ~$1M above the threshold (MA’s rates are graduated up to 16%). The result could be roughly $100k+ going to the state instead of to heirs. The executor must file a state estate tax return for Massachusetts and settle that bill.

Many states have repealed their estate taxes over the past two decades to remain competitive and not drive wealthy retirees away. The list above is the stubborn dozen (plus D.C.) that still impose an estate tax in 2025. If you don’t see your state, good news: your state government won’t take a bite out of the estate. Over 30 states have no estate or inheritance tax at all.

States with Inheritance Taxes (2025)

Now onto inheritance taxes – the ones that you as a beneficiary might have to pay. In 2025, only six states impose inheritance taxes, and importantly Iowa is repealing theirs completely by 2025. The states that may tax your inheritance are:

If you inherit from someone who lived in one of these states (or, in some cases, if the property inherited is located in one of these states), you might owe an inheritance tax to that state’s revenue department. The tax is typically due shortly after the death (e.g., within 9 months in PA). Often, the executor will either pay it from the estate on your behalf or at least inform you of your share so you can pay.

A few scenarios to illustrate:

• If your parent in Kentucky dies and leaves you $100,000, you owe nothing to Kentucky (children are exempt from KY’s inheritance tax). But if your parent left the same $100k to a close family friend, that friend would owe Kentucky inheritance tax (likely the top 16% rate minus a $500 token exemption).

• If your uncle in New Jersey leaves you $50,000, and you’re not in the exempt class (niece/nephew are not exempt in NJ), you’ll pay NJ inheritance tax. Roughly, after a $500 exemption, the $49.5k could be taxed in brackets up to 16%. The tax might be around $7-8k. The executor might deduct that amount and send it to the NJ Treasury, giving you the rest.

• In Pennsylvania, a son inheriting $200k pays 4.5% (about $9k) to PA, while a friend inheriting the same would pay 15% ($30k). PA’s tax applies to real estate in PA too, even if the heir lives elsewhere.

Remember, these taxes are state-specific. If either the decedent or the asset is tied to one of these states, the tax comes into play. For example, if you live in a no-inheritance-tax state but inherit a farm in Nebraska, Nebraska will assess its tax on that asset.

Most states (44 of 50) do NOT have an inheritance tax. Outside the six listed, you won’t owe any state tax as a beneficiary. And Iowa’s tax is gone for anyone dying 2025 onward, leaving only five states going forward.

Also, note that spouses are exempt in all of these states – none of them charge a surviving spouse inheritance tax. Many also exempt children, but not all (Pennsylvania taxes adult children at 4.5%). Maryland and New Jersey notably exempt quite a broad class of family (siblings too). It’s the unrelated heirs and distant relatives that usually face the highest rates.

How Much Can You Inherit Without Paying Taxes?

Between the federal and state rules we just covered, let’s summarize when you’d actually face a tax on inheritance:

• Federal: You can inherit $13.99 million (in 2025) from one person without any federal estate tax. In practice, this means most people can inherit unlimited amounts from parents or others, because few estates exceed that. If you inherit above that, it’s the estate that pays the tax, but effectively it reduces your share.

• State Estate Tax: This kicks in at much lower levels in some states. In Oregon or Massachusetts, anything over $1M or $2M in the estate can trigger tax. So inheriting even a $3M estate in MA means tax is owed (by the estate) on that excess $1M. Thus, in those states you effectively can only inherit up to their exemption tax-free from that state’s perspective. Above that, part of your inheritance goes to the state.

• State Inheritance Tax: If you’re an immediate family member (child, spouse, etc.) in the few states that have it, you often can inherit any amount tax-free by law (since you’re exempt). But if you’re a more distant heir in, say, PA or NE, you could face tax even on relatively modest inheritances above the tiny exemptions ($500 in NJ for a friend, $25k in NE for a non-relative, etc.).

Let’s answer the common query more directly: How much money can you inherit without paying taxes? If we’re talking federal taxes – you personally never pay a tax just for inheriting money, and the estate pays only if over $13.99M. So you can inherit any amount without income tax, and up to $13.99M without any estate tax cutting it down. If we’re talking state taxes – it entirely depends on the state (and your relationship to the deceased). In most states, any amount is tax-free because there’s simply no tax. In some states, you might be taxed if the estate or inheritance is above a low threshold (as low as $1 in some cases for non-exempt heirs!).

The table below highlights a few example scenarios to clarify when taxes apply:

These examples show that most inheritors in the U.S. don’t pay a tax on their inheritance, especially if they’re immediate family or the estate isn’t huge. But watch out for state-specific taxes if you’re inheriting from one of the few states with these laws, or if you’re not an immediate relative.

Taxes on Different Types of Inherited Assets

So far, we’ve talked about estate and inheritance “death” taxes. But another aspect of being taxed on inheritance is how different assets are treated after you inherit them. One of the most common confusions is: “Do I have to pay income tax on the money or property I inherit?” The short answer is generally No – inheritance itself is not considered ordinary income for federal tax purposes. You don’t report inherited cash or assets on your 1040 as income. However, certain assets can trigger taxes later (for example, when you sell an inherited asset or withdraw from an inherited account). Here’s a breakdown by asset type, including the critical concept of step-up in basis which is a huge tax benefit for heirs of property and investments.

Inherited Cash

Cash (or cash equivalents) is the simplest. If you receive $50,000 from an estate, that money is not taxable income to you. It doesn’t matter if it was sitting in a bank or under a mattress, you just get the money. The estate might have already paid any estate tax due (if applicable), but once it’s distributed, you owe no income or inheritance tax on pure cash in almost all cases. (Exception: if the cash came from something like the decedent’s paycheck that wasn’t received before death, that might be considered “income in respect of a decedent,” but that’s a niche situation.)

So, inheriting money won’t itself add a penny to your income tax bill. If you later invest it and earn interest or dividends, those earnings are taxable to you as normal. But the principal inherited amount is yours free and clear.

Inherited Property & Investments (Stocks, Real Estate, etc.)

When you inherit assets like stocks, bonds, real estate, or other property, you get a fantastic tax break called the step-up in basis. This rule means that the tax “basis” of the asset steps up to the value as of the date of death. In plain English: the IRS pretends you bought the asset for its value at the time you inherited it. So if grandpa leaves you shares worth $100 each that he originally bought for $5, you inherit them with a cost basis of $100 (the market value at his death), not $5.

Why does that matter? Because if you sell those assets, capital gains tax only applies on any increase after you inherited them. Using the example above, if you sell the shares later at $105, you only have a $5 gain per share (taxable), instead of a $100 gain that would’ve existed from grandpa’s purchase. Essentially, all the appreciation during the decedent’s lifetime is never taxed as capital gains to anyone – it disappears for tax purposes. 🎉

Example: Your mother bought a house in 1980 for $100,000. It’s worth $500,000 when you inherit it. You immediately sell it for $500,000. Thanks to step-up in basis, it’s as if you “bought” it for $500k, and sold for $500k – so no capital gain, no tax on the sale! If you had somehow been given the house before her death (as a gift), you’d take the original $100k basis and owe tax on the $400k gain upon selling. This is why heirs often prefer inheriting appreciated assets rather than receiving them as lifetime gifts.

The step-up applies to almost all capital assets: real estate, stocks, mutual funds, collectibles, etc. There are a couple of nuances:

• If the estate is subject to estate tax, the assets might get valued (stepped up) at the date of death value, but you might still effectively “pay” tax through the estate tax on overall value. Even then, any post-death growth is all you pay capital gains on.

• If assets go into a trust or there’s some special arrangement, step-up can vary, but generally for outright inheritances, you get the step-up.

• Community property states (like California, Texas, etc.) even allow a double step-up for married couples – when one spouse dies, both halves of community property get stepped up to market value, benefiting the surviving spouse (not just the deceased’s half).

One exception to note: if you inherit from someone who held assets in certain retirement accounts or annuities (see below), those don’t get a step-up since they’re not capital assets in that sense.

In summary, for most inherited property or investments:

• No immediate tax when you receive it.

• No income tax on unrealized gains that occurred during the original owner’s life (because of stepped-up basis).

• If and when you sell the asset, you’ll pay tax only on gains above the value at inheritance. If you sell quickly, often that gain is zero or minimal.

This system is a huge benefit to heirs and a cornerstone of U.S. tax law. (It’s sometimes debated in politics whether to change it, because wealthy families can avoid a lot of tax this way. But as of 2025, it’s firmly in place.)

Inherited Retirement Accounts (IRA, 401(k), etc.)

Inherited retirement accounts like Traditional IRAs, 401(k)s, 403(b)s are a different beast. These accounts are tax-deferred – meaning the original owner didn’t pay income tax yet on that money (for traditional accounts). When you inherit them, you don’t owe estate or inheritance tax just for inheriting the account (unless the estate was large enough for estate tax), but you will owe income tax when you withdraw the money from the account.

Important rules for inherited retirement accounts:

• If you inherit a Roth IRA (where the original owner already paid taxes on contributions and growth is tax-free), you generally can withdraw money tax-free (as long as the Roth was held >5 years by the original owner). However, you may be required to empty the account within a certain period (10 years under current rules for many beneficiaries).

• If you inherit a Traditional IRA or 401(k), the funds have never been taxed, so as you take distributions, you pay income tax at your ordinary rate. You typically cannot keep it tax-deferred forever; recent law changes (the SECURE Act) require most non-spouse beneficiaries to withdraw all funds by the end of 10 years after the owner’s death. You can take withdrawals any time in that period (and pay taxes on those withdrawals), or even wait and take it all at once at the end (though that could bump you into a high tax bracket).

• If you’re a spouse inheriting an IRA, special rules allow you to treat it as your own IRA, effectively continuing tax deferral until you’d normally take Required Minimum Distributions (RMDs). A spouse can often just roll it over to their own IRA. Non-spouse heirs can’t do that.

• Inherited 401(k)/403(b) often can be rolled into an inherited IRA to take advantage of similar withdrawal rules.

So, do you pay taxes on an inherited IRA? Yes, eventually. You don’t pay a “death tax” on it by simply inheriting, but as you draw money out, the IRS will tax those distributions just like it would have taxed the original owner’s withdrawals. In contrast to inherited stocks or a house, there’s no step-up in basis for retirement accounts because everything in them is pre-tax money.

One strategy for heirs: plan withdrawals over the allowed period in a tax-efficient way. If you have 10 years, you might withdraw some each year to avoid spiking your income in one year. If you’re young and inheriting a sizable IRA, be mindful of that timeline – the old rules allowed “stretch IRAs” where you could take distributions over your lifetime, but that’s mostly gone now.

Also note, inherited pension benefits or annuities may have their own taxation rules. Often, any portion that was pre-tax will be taxable as income when paid out to you.

Life Insurance Payouts

Life insurance is a common part of inheritances and has special tax treatment:

• Income Tax: Life insurance proceeds are generally not taxable as income to the beneficiary. If your mom had a $500,000 life insurance policy and you get the payout, you don’t report that money on your income tax return. It’s tax-free money (one of the reasons life insurance is often used in estate planning).

• Estate Tax: However, if the deceased owned the policy, the payout amount is considered part of their estate for estate tax purposes. For large estates, this can matter. For example, if someone with $10M in other assets also had a $5M life insurance policy on themselves, the estate is effectively $15M for tax. It could push an estate that seemed under the exemption over the line. There are planning techniques (like having a life insurance trust) to keep it out of the taxable estate if needed.

• Some life insurance payouts offer to pay you interest if disbursed over time rather than lump sum; that interest portion would be taxable. But the base payout is tax-free.

In summary, inheriting life insurance is usually one of the most straightforward, tax-free inheritances for the beneficiary. Just be aware the deceased’s estate might have included it for estate tax if they were very wealthy.

Other Assets (Businesses, Cars, Art, etc.)

If you inherit a small business or shares in a private company, the tax situation can be complex (valuation issues, possibly installment payments of estate tax, etc.), but the fundamental ideas still apply: there’s no income tax just to inherit it, and you get a stepped-up basis in the business’s assets or stock value. If you later sell the business, capital gains would apply from the new basis.

Tangible personal property (cars, jewelry, artwork) usually doesn’t trigger any tax at receipt. If valuable art or collectibles are sold later, capital gains could apply based on stepped-up value at death.

One caveat: if the deceased owes taxes or the estate generates income during administration, those are separate tax matters (estate might pay income tax on its earnings via Form 1041, etc.), but that’s not a tax on your inheritance per se.

The Unified Credit and Gifting: Planning Around Inheritance Tax

Let’s switch perspective: instead of the heir, think about the person leaving the inheritance. If you’re planning your estate and worried about taxes on what you pass to heirs, you’ll encounter the term unified credit and concepts of gift vs. estate tax.

The U.S. has a unified system for estate and gift taxes, meaning the $13.99 million exemption in 2025 is a combined limit for tax-free gifts during life and bequests at death. You can use it up in either realm (hence “unified”). Here’s how it works in practice:

• You can give away money or assets while you’re alive. There’s an annual gift tax exclusion (which is $17,000 per recipient in 2023, $18,000 in 2024, and $19,000 in 2025). You can give up to that much per person per year with zero tax and no need to even file a gift tax return. If you give more than that to any one person in a year, you’re supposed to file Form 709 (Gift Tax Return). But you likely still won’t pay any gift tax – instead, the amount over the annual limit just counts against your lifetime $13.99M exemption.

• Example: In 2025 you gift $119,000 to your daughter to help her buy a home. The first $19k is free under the annual exclusion. The remaining $100k uses up $100k of your $13.99M lifetime exemption. No tax due now, but your remaining exemption to cover your estate at death is now $13.89M. It’s tracked on that gift tax return.

• If you somehow give more than $13.99M away while alive (very few do!), then you’d start owing gift tax (which is also up to 40%). Similarly, if you die with an estate over the remaining exemption, estate tax applies.

Unified Credit (Lifetime Exemption): The term “unified credit” refers to the tax credit equivalent of that $13.99M exemption. It’s the IRS’s way of saying how much tax you can avoid. We usually just refer to the exemption amount directly because it’s easier. Essentially, every person has a $13.99M coupon against estate/gift tax.

So how does knowing this help avoid taxes?

• Gifting strategies: Wealthy individuals might give gifts during life to reduce the size of their taxable estate on death. Especially with the exemption set to drop in 2026, some are gifting millions now (locking in use of the $13.99M exemption while it’s high). The IRS has confirmed it won’t “claw back” gifts if the exemption later drops – in other words, use it or lose it. This is an advanced planning move for multi-millionaires.

• Charitable giving: Gifts to charity are generally not subject to gift tax and are also deductible from the estate if made at death. So leaving part of an estate to charity can reduce tax, and giving to charity while alive doesn’t use your exemption (plus can give you income tax deductions).

• 529 plans and medical gifts: Certain payments like medical bills or tuition paid directly to the institution for someone are not counted as taxable gifts at all. So, one could pay a grandchild’s college tuition directly; it doesn’t use the $17k/$18k/$19k annual limit or the lifetime exemption.

• Trusts and other tools: There are irrevocable trusts, family limited partnerships, etc., used to leverage the exemption and remove assets (and their future growth) from one’s estate. That’s beyond our scope here, but it’s part of the estate planner’s toolbox to minimize estate taxes for the very wealthy.

For most people, the unified credit simply means they’ll never pay estate or gift tax because their net worth is below the limit. It also means heirs of those folks don’t need to worry about a tax on inheritance aside from any state considerations.

One more concept:

• Generation-Skipping Transfer (GST) Tax: If you’re leaving assets to grandchildren or further down (skipping a generation), there’s another tax, also with a similar high exemption (also $13.99M in 2025). It’s basically to prevent people from avoiding a layer of estate tax by skipping kids and leaving everything to grandkids. Most people don’t bump into this except in specific trust setups or very large transfers. Just know it parallels the estate tax system.

Common Mistakes and Misconceptions (and How to Avoid Them)

Even with the relatively limited situations where inheritance is taxed, people can still run into trouble. Here are some common mistakes or misunderstandings related to inheritance and taxes, and tips to avoid them:

• Assuming You Owe Tax When You Don’t: Many heirs mistakenly think they owe income tax on an inheritance, and some even try to report inherited money as income – which is wrong. Don’t do this! Inherited property or cash (outside of retirement accounts) is not income to you. The amount is tax-free to receive. The only time you’d report something is if that asset later generates income (interest, dividends, rental income, etc., which you report normally) or if you sell it and have gains beyond the stepped-up basis.

• Ignoring State Tax Obligations: On the flip side, some people overlook state inheritance or estate taxes. For instance, an executor might be unaware that a piece of real estate in another state could trigger a state estate tax or that beneficiaries in Pennsylvania owe inheritance tax even if the will didn’t mention it. Solution: Always consider where the deceased owned property and resided. If it’s a state from our lists earlier, consult that state’s rules or a local attorney. Executors should typically file necessary state death tax returns where required. If you’re a beneficiary, ensure any required inheritance tax gets paid – states can pursue beneficiaries for unpaid inheritance taxes.

• Missing the Estate Tax Return Deadline or Portability Chance: If an estate is above the federal exemption, an estate tax return (Form 706) is due within 9 months of death (you can request a 6-month extension, but any tax should be paid by 9 months to avoid interest). Missing this can incur penalties and interest. Even if no tax is due, failing to file when portability could benefit the surviving spouse is a mistake. Tip: File Form 706 for portability within 2 years of death even if not required for tax purposes, if the surviving spouse might benefit. This secures the first spouse’s unused exemption.

• Not Reporting Large Foreign Inheritances: If you inherit money or property from a foreign national or outside the U.S., the good news is the U.S. still doesn’t tax you on that inheritance. But if a U.S. citizen or resident receives more than $100,000 from a non-U.S. person (be it via inheritance or gift), they are required to file IRS Form 3520 to report it. This is an informational form (no tax due), but the penalty for not filing can be steep. Many people don’t realize this and skip it. Don’t be one of them – if Uncle Johan in Germany leaves you $500k, file that form within the deadline.

• Selling Inherited Assets without Understanding Basis: While typically selling inherited assets soon after death results in little to no capital gain (thanks to step-up in basis), issues arise if heirs don’t know about the step-up and assume they owe huge tax on the sale, or conversely if they wait and the asset increases in value after death. For example, say you inherited stock at $50/share; you hold it for 2 years and it’s $70/share when you sell. You will owe capital gains on that $20 rise. Some heirs are surprised by that because they thought inheritance was tax-free. The inheritance was, but the subsequent growth is not. Tip: Determine the date-of-death value (the executor or broker often provides an inheritance tax basis statement). Use that for your selling decisions and tax reporting. Don’t use the original purchase price from the decedent – that’s not your basis.

• Mishandling Inherited IRAs or Retirement Funds: Inheriting an IRA comes with rules. A common mistake is neglecting required distributions. If you have an inherited IRA (non-spouse), you typically need to withdraw all funds by the end of 10 years (if owner died after 2019 under the SECURE Act). Some heirs mistakenly think they can just keep it like their own retirement account indefinitely. If the old rules (stretch IRA for certain eligible beneficiaries like minor children or if the death was before 2020) don’t apply, failing to empty the account in time can lead to harsh penalties. Another error is not naming it properly – if you retitle the inherited IRA incorrectly or withdraw it all at once without rollover (when not required), you could accidentally incur taxes or lose the account’s tax-advantaged status. Always consult an advisor on the best strategy to withdraw funds and stay compliant. If you’re a spouse, decide whether to roll it into your own IRA or keep it as inherited (depending on your age and needs).

• No Plan for State Estate Tax: Some folks live in a state with a low estate tax threshold (like Massachusetts, Oregon, etc.) and forget to plan for it, thinking only about the federal exemption. The result can be a big state tax bill that could have been mitigated. For instance, a Massachusetts resident with $5M in assets could set up trusts or gifts to use each spouse’s $2M state exemption fully, rather than all assets going to survivor and then only one $2M exemption at second death. Not planning means the estate might pay more MA tax than necessary. If you’re in a state with estate tax, consider speaking with an estate planner to optimize for state exemption (like credit shelter trusts, etc.).

• Overlooking Special Beneficiary Rules or Tax Breaks: There are nuanced breaks like farmland or small business estate tax breaks (Section 2032A valuations, installment payment of estate tax under Section 6166, etc.) that allow lower valuations or paying estate tax over 15 years for businesses. Executors sometimes fail to elect these or to meet the requirements, which is a missed opportunity. If you inherit a family farm or business that’s cash-poor but estate-tax-rich, know that there are provisions to help (you don’t necessarily have to sell the farm to pay the tax – you can often arrange to pay the IRS over time at low interest).

• Assuming all Heirs Treated the Same: With state inheritance taxes, people might assume if one sibling had no tax, none of them do. But if, say, one child lives in a different state or the bequest is structured differently, the tax outcome can change. Coordination is needed especially if assets are in multiple states or heirs live in multiple states (for inheritance tax, usually it’s based on decedent’s state, not the heir’s, except for things like real estate which is always taxed by the state it’s in).

• Not Seeking Professional Advice for Complex Cases: This isn’t just a plug – inheritance and estate taxation can get complicated quickly if large amounts or multiple jurisdictions are involved. A common mistake is trying to do it all DIY to save on attorney fees, but that can lead to missed filings or elections that cost far more. Example: Not realizing you had to file a state estate tax in Illinois because of a $5M life insurance pushing value over $4M could result in penalties and interest when Illinois discovers the transfer (states do get notified of deaths and sometimes coordinate with IRS). It’s wise to get at least a consultation if significant money is involved.

Avoiding these mistakes largely comes down to being informed (kudos – you’re doing that now!) and meeting deadlines. When in doubt, check the IRS instructions, state revenue guidance, or get professional help. A little diligence can save tens of thousands in taxes or penalties.

International Inheritance: Cross-Border Tax Considerations 🌐

What if your inheritance isn’t strictly a U.S. domestic affair? With a global economy and families spread across countries, you might inherit from someone outside the U.S. or be a U.S. citizen inheriting foreign assets. It’s a complex area, but let’s hit the highlights:

• No U.S. Tax on Foreign Inheritance to a U.S. Person: If you’re a U.S. citizen or resident and you inherit assets from a foreign person’s estate, the U.S. does not impose estate or inheritance tax on that transfer. For example, if your grandfather in Italy leaves you $1 million, the IRS doesn’t tax that as estate or gift – it’s treated like any other inheritance (not income). However, you may have to report it (Form 3520, as mentioned in mistakes section, if it’s over $100k). And importantly, the foreign country might have its own inheritance or estate tax. In our example, Italy might require some tax, or maybe not depending on their laws and your relationship.

• Foreign Country Estate/Inheritance Taxes: Many countries have inheritance taxes or their own version of estate tax. For instance, the U.K. has an “inheritance tax” (charged to the estate) of 40% on amounts above a certain threshold (£325k, with possible spouse or home allowances increasing it). If you, an American, inherit from a UK person, the UK estate might have paid that tax before you get your share. Japan and South Korea have very high inheritance taxes (up to 50% or more) on heirs. Canada doesn’t have an estate tax per se, but treats death as a sale for capital gains (so effectively tax is paid on gains at death).

• Treaty Benefits: The U.S. has estate tax treaties with several countries (like Canada, UK, France, Germany, etc.) to prevent double taxation or to define which country gets to tax what. If a person has connections to both countries (like a U.S. citizen owning property abroad or a foreigner with U.S. assets), these treaties often allow credits so the estate isn’t taxed twice on the same asset. This is more relevant for the estate planners – as an heir, you might just see that either the U.S. or foreign tax applied, but not both fully.

• U.S. Estate Tax for Non-Residents: Here’s one that catches non-Americans off guard: If a non-U.S. person (say a citizen of Country X) dies owning U.S. assets (like U.S. stocks or U.S. real estate), the U.S. can impose estate tax on those U.S.-situated assets. And the exemption for non-residents is only $60,000 (unless a treaty says otherwise)! So if, for example, a Canadian with $1 million of U.S. stocks passes away, their estate could owe U.S. estate tax on $940k (the amount above $60k). That tax must be paid before those assets transfer to the heirs. If you’re a U.S. heir and you think you’re inheriting that U.S. property, note that the executor might need to deal with U.S. IRS first. Treaties can raise that $60k exemption effectively in some cases, but without a treaty, it’s low. It’s often advisable for foreigners to hold U.S. investments via certain structures or not at all if concerned about that.

• Inheritance by Non-U.S. Citizens Spouses: We mentioned the unlimited marital deduction for U.S. spouses. If your spouse is not a U.S. citizen (even if a resident), the unlimited marital deduction does not automatically apply. The estate can still pass assets to a non-citizen spouse without immediate taxation only by using a special Qualified Domestic Trust (QDOT) or other mechanisms. Otherwise, amounts above the normal exemption could be taxed as if going to a non-spouse. This is a special case in international estate planning – relevant if, say, an American is married to a foreign national. For the inheriting spouse, it means if proper planning wasn’t done, they might find the estate had to pay tax that could have been deferred. If you’re the non-citizen spouse inheriting, be aware of this nuance.

• Moving inherited money internationally: If you inherit money from abroad, bringing it into the U.S. isn’t a taxable event, but large transfers might get attention from banks or require reporting (e.g., filing a FinCEN Form 105 for monetary transfers over $10k if you physically carry it, or bank reporting). Just paperwork, not tax.

• Foreign Trusts: If you are made a beneficiary of a foreign trust through inheritance, the tax situation can be complex. Distributions to a U.S. person from a foreign trust can carry income that is taxable and even punitive interest charges if it’s accumulated income (throwback rules). That’s beyond scope here but worth noting that not all inheritances are outright – some come in trust form.

• Estate Tax for Americans Abroad: If you’re a U.S. citizen living abroad and you die, the U.S. will still apply its estate tax to you (citizens are taxed on worldwide assets, same exemption $13.99M). The foreign country might also want to tax if you’re deemed domiciled there. Treaties resolve these in many cases. Heirs in the U.S. might not have to do anything special aside from working with the executor dealing with multi-country filings.

In general, if you’re inheriting across borders, it’s wise to consult professionals in both jurisdictions. The U.S. won’t tax you for receiving foreign inheritance, but there could be foreign taxes or legal processes (like obtaining probate in that country). Conversely, if a foreign person inherits from a U.S. person, the U.S. estate might handle U.S. taxes but the heir might face foreign rules on bringing that inheritance home.

The key reassurance: inheritance is not double-taxed by the U.S. as income. You won’t face U.S. income tax on top of any estate/inheritance taxes that might have applied. So at least you don’t have to worry about an IRS income tax bill for inheriting – just possible estate/inheritance taxes as we’ve discussed, and those are one-time transfer taxes.

Frequently Asked Questions (FAQ) 🤔

Q: Do I have to pay income tax on inherited money?
A: No. Inherited money (cash or assets) is not counted as income for federal tax purposes. 💰

Q: Is there a federal inheritance tax in the U.S.?
A: No. The federal government only imposes an estate tax on the deceased’s estate, not a tax on heirs receiving inheritance.

Q: Can I inherit a million dollars without paying taxes on it?
A: Yes. A $1 million inheritance will not trigger federal estate tax (threshold is $13.99M) and no income tax. Only a few states would tax that, and typically not if you’re an immediate relative.

Q: Which states tax your inheritance?
A: Yes, six U.S. states have inheritance taxes (Pennsylvania, New Jersey, Nebraska, Kentucky, Maryland, and Iowa until 2025). The tax usually depends on your relationship to the deceased.

Q: If I inherit a house, will I pay taxes when I sell it?
A: Usually no. Thanks to the step-up in basis, if you sell the house shortly after inheriting for around its date-of-death value, you won’t owe capital gains tax. 🏠

Q: Does a surviving spouse ever pay estate or inheritance tax?
A: No. Transfers to a surviving spouse are generally tax-free (no estate tax due to the marital deduction, and states exempt spouses from inheritance tax).

Q: Do I need to report an inheritance on my tax return?
A: No. You do not report inheritances on your income tax return. The exception is if you later receive income from it (then you report that income) or if it’s a foreign inheritance above $100k (separate IRS form, not on 1040).

Q: How much can parents pass to children without estate tax?
A: $13.99 million per parent in 2025 federally. With planning, a married couple can leave about $27.98 million to children estate-tax-free. State limits may be lower.

Q: Is the estate tax exemption really dropping after 2025?
A: Yes. Under current law, the federal estate tax exemption will roughly halve in 2026 (to about $6–7 million per person, adjusted for inflation) unless Congress extends the higher amount.

Q: If I inherit an IRA, do I pay taxes on it?
A: Yes, as you withdraw money from an inherited traditional IRA or 401(k), you pay income tax on those withdrawals. (No tax if it’s a Roth IRA and conditions are met.)

Q: Can I avoid inheritance taxes by gifting money before I die?
A: Yes, in part. Gifting can reduce the size of your taxable estate. You can give up to $17k/$18k/$19k per person per year without using your lifetime exemption, and larger gifts use your exemption. This can minimize estate tax later (though there’s no benefit for state inheritance tax, which doesn’t apply to gifts).

Q: Does life insurance get taxed when beneficiaries receive it?
A: No. Life insurance payouts to beneficiaries are income-tax-free. They could be included in the estate’s value for estate tax if the deceased owned the policy.

Q: I inherited overseas assets – do I owe U.S. tax on them?
A: No. The U.S. doesn’t tax foreign inheritances you receive. Just ensure to report it if over $100k. Be mindful of any foreign country’s taxes or requirements.