When you are planning your estate, you should understand the tax situation and share the information with your loved ones so they know what to expect. We are going to look at the capital gains tax first, and we will finish with an explanation of the other taxes that can enter the picture.

Step-Up in Basis

If you inherit appreciated assets, do you pay taxes on the gains that accumulated while the decedent was alive? The answer is no because the assets would get a stepped-up basis.

Let’s say that you inherit $200,000 worth of stock from your grandfather, and he paid $100,000 for the shares when he purchased them. When he was alive, the basis for tax purposes was $100,000, so the $100,000 gain would have been taxable if he realized the gain.

Since he never sold the stock while he was living, he did not realize a gain, so he never paid the capital gains tax. When you inherit the assets, they get a stepped-up basis, so you get a reset with a $200,000 basis going forward. You would not owe nothing at the time of acquisition.

With regard to the rate, there are short-term gains and long-term gains, and the dividing line is one year of possession of the assets after acquisition. Short-term gains are taxed at your regular income tax rate, and long-term rates are based on income.

People that earn $40,400 or less are not required to pay capital gains taxes on long-term gains. The rate is 15 percent for filers that make more than this amount but less than $445,850.

For those that claim more than $445,850, the rate is 20 percent right now. However, there is a tax bill in Congress at the time of this writing that would raise the rate to 25 percent for individuals with $1 million or more in annual income.

Income Taxes

There are no income taxes on inheritances when the assets that are being transferred are after-tax resources. If taxes have not been paid by the decedent, the inheritor would be required to report the income.

As a result, distributions from the earnings in a trust would be taxable, but the principal could be transferred tax-free.

There are no taxes on distributions to a Roth individual retirement account beneficiary because the original account holder funded the account with after-tax earnings. Deposits into traditional accounts are made before taxes are paid, so distributions are taxable.

Estate Taxes

The federal estate tax is applicable on the portion of an estate that exceeds the credit or exclusion, which is $11.7 million this year. There is a measure in Congress right now that would reduce it to just estate $6 million at the beginning of next year, and this would broaden the net considerably.

Here in Vermont, we have a state-level estate tax that has a $5 million exclusion this year. There are 11 other states with state-level estate taxes, and your estate would be impacted if you own property in one of these states and its value exceeds the exclusion.

The exclusion in Massachusetts is just $1 million, and this is also the exclusion in Oregon.

There are state-level inheritance taxes in New Jersey, Pennsylvania, Maryland, Kentucky, and Nebraska. This is a tax on distributions to individual inheritors rather than the entire taxable portion. The Iowa tax has been repealed, but it will be phased out over a few years.

We are sharing this information because a Vermont resident could be required to pay a state-level inheritance tax if they inherit property that is located in one of these states.

Schedule a Consultation Today!

We can help you mitigate the damage if taxation is a source of concern, and legal counsel is equally important if your estate will be exempt. Each situation is different, so you should understand your options and make informed decisions to provide for your loved ones in the optimal manner.

If you are ready to schedule a consultation appointment at our Essex Junction, VT estate planning office, you can call us at 802-879-7133, and you can use our contact form to send us a message.