Most people have heard about estate tax–the federal tax on estates valued at more than $5.45 million in 2016. What fewer people realize is that this estate tax is not the same as an inheritance tax. Estate taxes are taken directly out of the estate before beneficiaries receive anything. It is a tax on the person who has died, not the income being received by the beneficiaries (even though the ultimate effect may be the same). Inheritance tax, on the other hand, is a tax on the income received by beneficiaries. It is taken out of the portion of the estate each beneficiary receives.
Unlike estate tax, there is no federal inheritance tax. What you inherit should not be subject to any federal income tax, no matter how much you are left. Six states, however, still have state-level inheritance taxes. If you inherit money in Iowa, Kentucky, Maryland, Nebraska, New Jersey, or Pennsylvania, that income would be subject to tax. Also unlike estate taxes, there is not a threshold for inheritance taxes. Even a very small amount of money or minor possession can be subject to inheritance tax.
Do I Owe Inheritance Tax in California?
As a California resident, you generally don’t have to worry about inheritance tax. California is not a state that collects inheritance tax, so if you and the deceased both lived in California at the time of death, you should not owe any inheritance tax.
The exception, of course, would be if you inherit something from a resident of one of the states where there is an inheritance tax. While you may live in California where there is no inheritance tax, these taxes are levied at the state level in the state where the estate is located, not the beneficiary. That means that if you have a loved one in one of the states with a current inheritance tax, anything you are left by them may be subject to inheritance tax, regardless of where you live.
Luckily, you shouldn’t have to do research on how to file inheritance taxes yourself after receiving the money. Inheritance taxes must be filed by the executor of the estate before any inheritances are released. You should not have to personally do anything. The exception is if you inherit something that does not need to go through probate court, such as a payable-on-death bank account. In these cases, you would be personally responsible for any inheritance taxes.
In most cases, inheritance taxes are not something that you should worry about. Still, if you are receiving any significant inheritance from a person who resided in Iowa, Kentucky, Maryland, Nebraska, New Jersey, or Pennsylvania, it may help to consult an estate lawyer to ensure that you do not neglect your tax responsibilities. There is nothing worse than finding out that you face tax penalties in another state due to simply not understanding estate laws. Be proactive and prevent this from happening to you.