"Estate Level Tax" vs. "Asset Level Tax"

Benjamin Haas |

Wealth Transfer Planning 2 of 6

Uncle Sam is probably an heir of your estate, whether you know it or not. The common misconception is that “my heirs won’t have to worry about taxes” because the size of my estate isn’t big enough. Many people know that the federal estate tax exemption is about $5.5 million, which does in fact mean that if the value of all your stuff, less debts isn’t over $5.5 million, then your heirs won't have to worry about taxation at the federal level. But there are two other taxes to consider…

First, estates can be taxed at the state level. Just like sales tax, each state can govern its own death tax. If you pass as a resident of the Commonwealth of Pennsylvania, the value of your estate will be taxed, less a $3,500 exemption. They call it an "inheritance tax” and the level of this tax is dependent on whom you leave money to (spouses don’t pay taxes but children and other heirs do). Some states have higher exemptions. Some states have no tax at all.

Second, your estate may also be taxed at the asset level. This tax depends on the type of asset you are passing and not all assets are taxed equally. For example, you may think you’re being fair and equitable leaving the $300,000 home to your daughter and your $300,000 IRA to your son. But certain qualified retirement account distributions are taxable as income to your heirs, just as they are to you while you are living. This is called "income with respect to decedent." In the end, your son’s inheritance, less the taxes paid over time, could be as low as 60% or 70% of the gross amount while the value of the house passes free and clear to your daughter.

One should understand the full spectrum of taxation in order to properly document their wealth transfer plan. Control involves identifying first, who are you giving to, second, what are you giving and third, how is the asset titled. As you see here, the titling ultimately determines if/how the IRS will tax your assets.

So here are our suggestions:

  1. Take the time to inventory what you own; from cash accounts, to investments, to real estate and life insurance, to family heirlooms and collectibles – anything that has worth. And then start to think about who gets what.
  2. Think about what your heirs actually want. We would hate to see the family lake house sold because one of the three kids didn’t want to use it and forced a sale to get their share of the estate in cash.
  3. Know that titling is everything, and beneficiary designations matter. After all, they supersede a will. So be sure they are up to date and accurate.
  4. Know that “fair is not always equal” based on how your heirs will pay taxes at your death. Take this into consideration when assigning certain assets or accounts in your plan.

In summary, even if your estate won’t be taxed at the federal level, remember that it could be at the state or asset level – especially if you pass away with certain qualified retirement assets.


This information is not intended to be a substitute for specific individualized tax or legal advice. We suggest that you discuss your specific tax or legal issues with a qualified tax or legal professional. Haas Financial Group, US Financial Advisors and LPL Financial do not provide tax and/or legal advice or services.

Securities offered through LPL Financial, Member FINRA and SIPC. Investment advice offered through U.S. Financial Advisors, a registered investment advisor. U.S. Financial Advisors and Haas Financial Group are separate entities from LPL Financial.

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