Is confronting death's financial impact keeping you awake at night? Understanding the difference between estate and inheritance taxes can significantly reduce your family's tax burden when transferring wealth to the next generation.

Estate taxes are levied on the entire estate before distribution to heirs, but only affect estates exceeding federal exemption thresholds—currently high enough that most Americans won't face them.

Inheritance taxes, however, are paid directly by beneficiaries in just six states and DC, with tax rates varying based on the heir's relationship to the deceased.

This guide explores both tax types, their crucial distinctions, and strategic planning approaches to potentially minimize their impact, helping you preserve more of your legacy for loved ones rather than tax authorities.

Key Takeaways

• Estate tax is paid by the estate before assets go to heirs. It applies if an estate's value exceeds $13.99 million in 2025. Federal rates can reach up to 40%.
• Inheritance tax is paid by people who inherit money or property. Only six states charge it, and the tax rate depends on how closely related you are to the deceased.
• You can lower both taxes through lifetime gifts and setting up trusts. Giving gifts each year under the exclusion limit ($19,000 in 2025) helps reduce estate size and taxes due later.
• Trusts manage your assets for others' benefit and keep your estate out of probate. Charitable giving reduces your taxable estate's value and may offer deductions.
• Understanding these taxes helps in planning to protect family wealth, using strategies like gifting or trusts for future savings on taxes owed after death.

What Is Estate Tax?

The government imposes a fee on the value of a person's assets at death. This tax is collected before heirs receive anything. Assets include houses, cash, and stocks. The federal estate tax kicks in for estates over $13.99 million as of 2025.

States may have their own estate taxes with unique rules and rates. Only estates above certain values face these taxes. At the federal level, estate taxes can hit 40%. The IRS raises the exemption limit yearly to account for inflation. However, current laws setting these higher exemptions are scheduled to expire at the end of 2025 unless new legislation extends them.

Each state sets its estate tax rates differently. For instance, Maryland and Rhode Island impose their own taxes in addition to the federal one. This means an estate might pay both state and federal taxes if it exceeds both thresholds.

The main aim of these taxes is to gather revenue from transferring property after someone dies. They target wealthy taxpayers more because larger estates are more likely to exceed exemption thresholds.

In summary, when a person passes away, their estate may owe federal and possibly state taxes if its net value crosses set limits.

What Is Inheritance Tax?

Some states charge an inheritance tax when someone inherits money or property after another person's death. The heir, not the deceased's estate, pays this tax. States set their own inheritance tax rates and rules.

For instance, inheriting a house in a state with this tax means you might owe taxes on it.

The tax rate varies based on how closely related you are to the deceased and the value of what you inherit. Close family members usually pay less than distant relatives or friends do.

This reveals why knowing about potential inheritance taxes is crucial for financial planning around inherited assets.

Key Differences Between Estate Tax and Inheritance Tax

These two taxes differ in who pays them and how they are applied. Estate tax is paid from the estate before assets are distributed, while inheritance tax is charged on what heirs receive.

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When planning your legacy or receiving an inheritance, it’s important to understand the difference between estate tax and inheritance tax—two terms that often get confused but function very differently.

Who Pays the Tax?

• Estate Tax: The estate pays the tax before assets are distributed to heirs. This reduces the overall amount beneficiaries receive.
• Inheritance Tax: The heirs are responsible for paying the tax after they receive their share. The amount they owe depends on the value inherited and their relationship to the deceased.

Federal vs. State Application

• Estate Tax: Imposed at the federal level, and also by some states.
• Inheritance Tax: Only a few states (like Iowa, Kentucky, Nebraska, New Jersey, and Pennsylvania) levy inheritance taxes.

How the Tax Is Calculated

• Estate Tax: Calculated based on the total value of the deceased’s estate, including assets like real estate, investments, and personal property.
• Inheritance Tax: Calculated based on the amount received by each heir, and the closeness of their relationship to the deceased—spouses and children often receive favorable treatment.

Common Exemptions

• Estate Tax: As of 2025, the federal exemption is $13.99 million per individual, meaning estates under that amount typically owe no federal estate tax.
• Inheritance Tax: Many states fully exempt spouses and often provide reduced rates or exemptions for close family members like children or siblings.

Strategies to Reduce the Impact

• To reduce estate tax: Consider lifetime gifting, setting up trusts, or using charitable giving to lower the taxable estate.
• To reduce inheritance tax: Heirs and estate planners can use trusts and strategic inheritance distributions to lessen the tax burden or delay it.

Who Pays the Tax

The estate tax is paid by the decedent's estate. This happens after someone dies. The total value of owned property and other assets determines the tax amount. If the estate exceeds a certain value, it must file an estate tax return.

Inheritance tax works differently. Here, immediate family members or heirs pay the tax on what they receive from the decedent's estate. Each state has different rules for who pays this tax and how much is owed.

Some states do not have an inheritance tax at all. Others may charge rates based on relationship closeness to the deceased person.

Federal vs. State Application

The differences extend to how these taxes are applied at federal and state levels. The federal government imposes an estate tax on the total value of a person's assets at their death, known as the gross estate.

This applies if the estate exceeds a certain exemption amount, which is over $13 million for 2025.

States may also have their own estate taxes or inheritance taxes. Some states levy this type of tax based on the value transferred to heirs. Each state sets its rules, rates, and exemptions.

Knowing whether your state has estate taxes is important for planning purposes—especially if you're trying to minimize the impact of taxes after a decedent's death.

How to Reduce Estate and Inheritance Taxes

You can cut down on estate and inheritance taxes by giving gifts during your life or setting up trusts. Charitable donations also help.

Lifetime Gifts

Making gifts while you're alive can help lower estate and inheritance taxes. Giving away assets reduces the value of your estate, meaning less tax is levied when you pass away.

In the U.S., there is an annual gift exclusion limit. For 2025, this limit is $19,000 per recipient. Gifts below this amount do not count against your lifetime exemption.

Making lifetime gifts to family members or charities can also provide federal credit benefits. These gifts transfer property now instead of later, which can aid in economic growth for both parties involved.

Taxpayers can enjoy more flexibility with lifetime gifting strategies to minimize future tax burdens on heirs or beneficiaries.

Trusts and Charitable Giving

Trusts offer a way to manage your assets. They can help reduce estate taxes. A trust holds property for the benefit of others. It can keep your estate out of probate, making things easier for your family.

Charitable giving is another effective way to cut down on taxes. Donating to charity helps others and reduces the value of your taxable estate. You might receive tax deductions too.

These strategies work well together, helping you pay less in taxes while supporting causes you care about. It's a win-win!

Conclusion

Estate and inheritance taxes affect wealth transfers differently—one applies to the entire estate before distribution, while the other impacts what heirs receive. Both can significantly reduce what you leave behind for loved ones.

Fortunately, strategies like lifetime gifts or setting up trusts can help minimize these taxes. Taking proactive steps today can lead to significant savings in the future.

To make informed decisions, explore resources from financial advisors or estate planning experts. Protecting your family's wealth starts with knowledge—take charge of your future today!

FAQs

1. What's the difference between estate tax and inheritance tax?

Estate tax and inheritance tax, though often used interchangeably, are different. Estate taxes are levied on the entire value of a deceased person's money and property and paid out of the decedent's assets before any distribution to beneficiaries. Inheritance taxes, however, are imposed on an individual who inherits property or money.

2. How does a surviving spouse impact estate or inheritance tax?

In most cases, a surviving spouse is exempt from both estate and inheritance taxes in many states. This means they won't have to pay taxes on any wealth transferred to them after their partner's death.

3. Are there exemptions for these so-called "death taxes"?

Yes! The federal government provides an exemption for estate taxes that changes each tax year - it is $13.99 million per individual in 2025, for example.

4. Can you give me an example of how state estate or inheritance taxes work?

Sure! Let's say your uncle leaves you $50,000 in his will... If your state has an inheritance tax rate of 10%, you would owe $5,000 in state inheritance taxes—regardless of the total size of your uncle's estate.

5. Does every state impose these types of "death" taxation?

No. Only certain states impose either a separate state-level estate or an inheritance tax with varying rates – not all states charge the same amount.