When you gain an inheritance from a deceased loved one, it’s important to understand how your taxes might be affected. Estate tax law has gone through several changes over the last few years, and the changes are still occurring. These taxes are going through a phase out right now, so you need to know the details of the changes in order to understand how your taxes will be affected in the year after you inherit an estate. Here are some of the basics:
• Spouses don’t pay estate tax. If your husband or wife dies, according to estate tax law, you’re generally not subject to estate taxes on the money you receive.
• You don’t pay estate tax on estates worth less than $2,000,000. – This estate tax law is part of the phase out that the laws are going through right now. The Economic Growth and Tax Reconciliation Act of 2001 was designed to put more money back in taxpayer’s pockets by giving them some relief from certain taxes, including estate taxes.
So, if a relative dies in 2006, 2007 or 2008, you are not subject to estate tax if their taxable estate is worth less than $2,000,000. In 2009, this amount will increase to $3,500,000 and in 2010, the estate tax will be repealed altogether. However, unless Congress acts, beginning in 2011, the estate tax will return, and you will be exempt from estate tax only up to $1,000,000.
• The Gift Tax Still Applies – Many people try to bequeath their money before their death to avoid their relatives having to pay estate tax. However, if your relative turns over their fortune to you just before their death, what you receive may still fall under the estate tax law requirements, under the gift tax law. The law only allows a person to receive $12,000 each year from a single source before gift tax must be paid. And, there is a lifetime limit, too. A person can only give away $1,000,000 in a lifetime to a given person before that person is subject to gift tax. The gift tax laws are somewhat complicated, so it’s wise to consult a tax attorney before you make or receive cash gifts, so that there are no surprises at tax time.
• Life Insurance doesn’t count – Generally, estate tax law says a payout you receive from life insurance proceeds are not subject to estate tax and are also not considered reportable income. However, any interest you receive on a life insurance policy is income that you must report.