IRS Inheritance Tax Rules

The IRS has laws that apply to inheritances.The girl and money image by Hunta from Fotolia.com

An inheritance is money or property that is willed to an individual. It is similar to a gift, but a gift is given during the lifetime of the giver, while an inheritance is given after death. The Internal Revenue Service (IRS) governs the taxation of inheritances. Many times there is no tax owed on the inheritance, but there are exceptions to this.

Taxes Owed

Income taxes must still be filed for the deceased. These taxes must be paid, even if the taxes due lessen the value of the estate or inheritance. If there is a refund due to the deceased, this amount will go to the estate. If a spouse is filing the income tax return as a joint return, the refund will go directly to the spouse. To receive this refund, the person filing the return must file Form 1310 with the IRS. The person who files the return can be the spouse of the decedent (if not filing a joint return) or the will's executor. Taxes can be forgiven if the deceased was killed in combat or as a result of a military or terrorist action.

Any inheritance received by the descendant can be subject to an estate tax. The estate tax is applied to the taxable estate. This is determined by subtracting any credits or deductions from the gross estate. Credits and deductions include funeral expenses, debts, and charitable and death tax deductions. The Unified Tax Credit will further decrease the taxable estate. Typically, unless an estate exceeds $1,000,000, it will not be subject to tax.

Income received as an inheritance from the estate is considered taxable income for the descendant. This can include wages or salary for the deceased, pensions and Individual Retirement Accounts (IRAs). Under some conditions, if the beneficiary who receives the IRA is the spouse of the deceased, the IRA might be eligible to be rolled-over into another IRA tax-free. Any life insurance held by the deceased is paid out to the beneficiary of the policy. This generally is not considered taxable income for the recipient.

When a beneficiary receives property as an inheritance, the property is not considered income and is not subject to income tax. However, any income, such as dividends or rental income, produced by that property is taxable.