3 Ways to Avoid Tax on Your Inheritance
Move Out of State
You can avoid the tax by living in a state other than the six that still impose inheritance taxes. Avoid Nebraska, Iowa, Kentucky, Pennsylvania, New Jersey and Maryland if you don't want to pay as much as 10 to 18 percent in inheritance taxes nine to 18 months after a loved one passes away. General requirements for residency in another state include having a driver's license and voter ID card in your new state. You may also consider signing a lease for an apartment or buying a house to show you live in another state.
Weigh the costs of living elsewhere versus how much money you may lose in inheritance taxes. Consider the minimum limits of inheritance taxes as well, since states usually do not impose the tax until the amount reaches a minimum threshold.
Set Up a Trust Fund or Life Insurance Policy
Trusts allow deceased persons to pass assets to beneficiaries without having to go through the probate court system. Trust funds outline specifically how assets distribute to certain people at certain times.
Revocable trusts allow beneficiaries to take money out of the distribution whenever needed. Irrevocable trusts require beneficiaries to wait until the grantor dies. Joint accounts with a child's name may actually mean higher tax burdens for children on dividends and interest later.
Consider a life insurance policy as well, since life insurance does not fall under the auspices of inheritance taxes if the benefits go directly to someone's heirs rather than to the estate.
Bequeath Money to Charity
Estate planners may suggest people bequeath money, assets or property to charities until the inheritor reaches the minimum inheritance tax threshold. For instance, if someone's estate is worth $3 million, and inheritance tax starts after $2 million, that estate may bequeath $1 million to various nonprofit agencies since charities do not pay inheritance taxes. Otherwise, an inheritor could pay more than $100,000 in inheritance taxes on the $1 million beyond the $2 million minimum.
The downside to this method is losing the remainder of the assets that could have gone to people named in the estate. Consider the consequences if a state inheritance tax rate remains lower than tax rates paid on normal income, or if receiving some money is better than receiving none.
People pay inheritance taxes on money they receive from a deceased person's estate. As of 2015, spouses and children generally do not have to pay inheritance taxes in the six states that levy such a tax. Learn how to avoid paying inheritance taxes even if you do not meet one of the exception rules.