Receiving an inheritance can be a financial boost, but many beneficiaries wonder whether they will have to pay taxes on the money or assets they receive. The short answer is that inheritance itself is not federally taxable, but certain aspects of inherited assets—such as investment income—may be subject to taxation.
Federal Inheritance Tax
The IRS does not impose a federal inheritance tax, meaning heirs generally do not owe taxes simply for receiving money or property from a deceased person’s estate. However, some states impose their own inheritance taxes, which depend on the heir’s relationship to the decedent and the value of the inheritance.
State Inheritance Taxes
Only a few states levy an inheritance tax, including:
- Iowa
- Kentucky
- Maryland
- Nebraska
- New Jersey
- Pennsylvania
Each state has different tax rates and exemption thresholds, often favoring close family members with lower or no taxes. If you inherit from someone in one of these states, you may owe state inheritance tax depending on the amount received and your relationship to the deceased.
Taxes on Investment Income from Inherited Assets
While the inheritance itself is not taxable, any income generated from inherited assets is subject to federal and possibly state taxes. Examples include:
- Interest and dividends: If you inherit stocks, bonds, or savings accounts that generate interest or dividends, those earnings are taxable.
- Capital gains tax: If you sell inherited assets, such as real estate or stocks, you may owe capital gains tax. The good news is that inherited assets receive a step-up in basis, meaning the asset’s value is adjusted to its fair market value at the time of the decedent’s death. This often reduces capital gains tax liability.
- Retirement accounts: Inherited 401(k)s or IRAs (except Roth IRAs) are generally subject to income tax when withdrawn. Heirs must follow distribution rules that could impact their tax situation.
Conclusion
While you won’t owe federal inheritance tax, state inheritance taxes or taxes on investment income from inherited assets may apply. Understanding the tax implications of your inheritance can help you plan accordingly. Consulting a tax professional can ensure you make informed decisions and comply with tax regulations.