2023 State Estate Taxes and State Inheritance Taxes
In addition to the federal estate taxAn estate tax is imposed on the net value of an individual’s taxable estate, after any exclusions or credits, at the time of death. The tax is paid by the estate itself before assets are distributed to heirs.
, with a top rate of 40 percent, some states levy an additional estate taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities.
or inheritance taxAn inheritance tax is levied upon an individual’s estate at death or upon the assets transferred from the decedent’s estate to their heirs. Unlike estate taxes, inheritance tax exemptions apply to the size of the gift rather than the size of the estate.
. Twelve states and the District of Columbia impose estate taxes and six states impose inheritance taxes. Maryland is the only state to impose both an estate tax and an inheritance tax.
Estate taxes are paid by a decedent’s estate before assets are distributed to heirs and are thus imposed on the overall value of the estate. Inheritance taxes are remitted by the recipient of a bequest and are thus based on the amount distributed to each beneficiary.
In most states, estate taxes are progressive: the tax rate increases with the total value of the decedent’s assets. Two states, Connecticut and Vermont, have flat estate taxes with a single tax rate. Hawaii and Washington have the highest top rates in the nation at 20 percent. Eight states and the District of Columbia are next with a top rate of 16 percent. All states impose certain exemptions that prevent smaller estates from being subject to these taxes. Massachusetts has the lowest exemption at $1 million, and Connecticut has the highest exemption at $12.92 million.
Of the six states with inheritance taxes, Kentucky and New Jersey have the highest top rate of 16 percent. Iowa is phasing out its inheritance tax, with full repeal scheduled for 2025, with the tax’s top rate at 6 percent in 2023. All six states exempt spouses, and some fully or partially exempt immediate relatives. Compare state estate tax rates and state inheritance tax rates below.
In 1926, the federal government began offering a generous federal credit for state estate taxes, meaning taxpayers were paying the same amount in estate taxes whether their state levied the tax or not. This made estate taxes an attractive option for states. After the federal government fully phased out the state estate tax creditA tax credit is a provision that reduces a taxpayer’s final tax bill, dollar-for-dollar. A tax credit differs from deductions and exemptions, which reduce taxable income, rather than the taxpayer’s tax bill directly.
, some states stopped collecting estate taxes by default, as their provisions were directly linked with the federal credit, while others responded by repealing their tax legislatively.
In the Tax Cuts and Jobs Act of 2017, the federal government raised the estate tax exemptionA tax exemption excludes certain income, revenue, or even taxpayers from tax altogether. For example, nonprofits that fulfill certain requirements are granted tax-exempt status by the IRS, preventing them from having to pay income tax.
from $5.49 million to $11.18 million per person and started adjusting it to inflationInflation is when the general price of goods and services increases across the economy, reducing the purchasing power of a currency and the value of certain assets. The same paycheck covers less goods, services, and bills. It is sometimes referred to as a “hidden tax,” as it leaves taxpayers less well-off due to higher costs and “bracket creep,” while increasing the government’s spending power.
(in tax year 2023, the federal exemption is $12.92 million), though this provision expires December 31, 2025. Initially, some states conformed to this higher exemption, though all but Connecticut have since decoupled from it, offering lower exemptions than those permitted by the federal government.
Most states have been moving away from estate or inheritance taxes or have raised their exemption levels, as these taxes hurt states’ competitiveness and create incentives to avoid paying them, especially for wealthy taxpayers. Delaware repealed its estate tax at the beginning of 2018. New Jersey finished phasing out its estate tax at the same time, and now only imposes an inheritance tax. Vermont finished phasing in an exemption increase in 2021, bringing the exemption to $5 million that year, compared to $4.5 million in 2020. In 2023, Maine increased its estate tax exemption from $6.01 million to $6.41 million, while Connecticut finished phasing in an increase to its exemption, matching the federal estate tax exemption, and simultaneously transitioned to the flat taxAn income tax is referred to as a “flat tax” when all taxable income is subject to the same tax rate, regardless of income level or assets.
rate.
Iowa is phasing out its inheritance tax by reducing its rates by an additional 20 percent each year (from the baseline rates) until 2025, when the tax will be fully eliminated. The top rate in 2020 was 15 percent, but a reduction of 60 percent brings the top rate to 6 percent in 2023. Starting in 2023, Nebraska lowered its inheritance tax rates and increased exemption amounts for different categories of heirs, bringing the top rate down from 18 percent to 15 percent.
The District of Columbia moved in the opposite direction, lowering its estate tax exemption from $5.8 million to $4 million in 2021, but simultaneously dropping its bottom rate from 12 to 11.2 percent. An inflation adjustment then brought the exemption to $4.53 million for 2023. Most recently, Massachusetts enacted legislation on October 4th which, among other things, raises the state’s estate tax exemption from $1 million—tied for the lowest with Oregon—to $2 million for calendar year 2023 and thereafter.
Reforms are possible in other states as well. In Oregon and Illinois, several proposals have been made to substantially increase the estate tax exemption to $12 million or above. This discussion will likely continue.
Estate and inheritance taxes are burdensome. They disincentivize investment and can drive high-net-worth individuals out of state. They also yield estate planning and tax avoidance strategies that are inefficient, not only for affected taxpayers but also for the economy at large. The handful of states that still impose them should consider gradually eliminating them or at least conforming to federal exemption levels.
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