Categories of Taxes at Death in DC
There are three categories of taxes attorneys must look at when somebody dies in DC. These are inheritance tax, income tax, and estate tax. A well-versed attorney can help you understand these categories of taxes and how they will affect your estate.
What Is Inheritance Tax?
Inheritance tax is a tax on the right to receive assets at a person’s death. DC repealed its inheritance tax so it is no longer an issue for DC residents. However, it can be an issue if DC residents own real estate in other jurisdictions that have inheritance tax such as Maryland. The Maryland inheritance tax is a 10 percent tax and is applicable to any assets that are distributed to non-exempt beneficiaries. Meaning, if the beneficiary is not exempt, they will pay 10 percent of the amount that they have received.
Beneficiaries that may be considered exempt include all lineal descendants and charities. This refers to children, grandchildren, siblings, and parents. However, nieces, nephews, and friends are not exempt. If an individual were to leave money to a non-exempt person, the share to that person would be taxable.
Tax on Income in DC
Another tax system attorneys review at death is the income tax system. Generally, income tax is collected on any income accrued whether the person is living or deceased. In DC that means a resident could pay both DC and federal income tax. From January 1 through the date of death, any income that is accrued is filed on an individual’s final income tax return or their 1040 regardless of how they filed. The estate is assigned a new tax ID at the date of death and income is accrued under that tax ID and is filed on a fiduciary income tax return or a Form 1041.
All of the assets that an individual owns on the date of their death are valued as of the current market value based on the federal regulations. This becomes important because it often minimizes capital gains for the estate or the beneficiary for the exposure to capital gains taxes. Sometimes individuals with terminal illnesses or who are aging begin to give away their assets. However, in some cases, by giving away the assets, they are losing the opportunity to get that step-up in basis. Meaning, if they waited until they passed away, the children would get the benefit of the increased cost basis or the current market value which is usually higher than the cost basis at the time of purchase.
What is important to know is that this step-up in basis can also be a step down in basis in the event the asset has lost value. Everyone tends to think that assets will continue to increase in value, and they do tend to increase in value the longer they are held. However, there are assets that may decrease or depreciate over time, and this can be seen to occur when the economy is down. For example, in 2008 there were many individuals who had real estate that was purchased for a higher value than it was worth when they passed away because the real estate market was in decline.
The estate tax is a tax on the right to leave assets at death. In DC, individuals need to be cognitive of both the DC and the federal estate tax system. In addition, if someone owns real estate or other assets in other jurisdictions such as Maryland, they would also need to make sure that they reviewed the Maryland system as well. All three jurisdictions right now have a different estate tax exemption. The DC estate tax exemption is 5.6 m million index for inflation each year. The federal estate tax exemption is 11.2 million indexed for inflation, meaning for decedents dying in 2019, it would be 11.4 million.
The primary difference beyond the exemption for the federal system and the DC system is that DC does not currently recognize the concept of portability. Portability allows a married couple to be considered one financial unit. Prior to portability, if an individual passed away without using or fully utilizing their exemption, their exemption died with them. Now, with the concept of portability, the unused amount of the exemption from the first spouse can be carried over to the surviving spouse if the surviving spouse is a U.S. citizen and U.S. resident and an estate tax return has been filed to preserve that portability.
However, portability can be only used for the last deceased spouse. If an individual is married and their spouse passes away, they are able to port over five million in exemption. If they married again and passed away, they are still able to use the five million from the prior spouse even though they are remarried. However, if their current spouse predeceases them, it is only the last spouse’s exemption that they get to continue to carry over.
It is important to note that DC does not recognize the concept of portability at this time. There is some estate planning that attorneys can so that exemptions can be preserved. But without planning in advance, there is not anything an attorney can do to preserve any unused exemption when a first spouse passes away in DC.
Ask An Attorney About the Categories of Taxes at Death In DC
There are three categories of taxes that are important to consider at death in DC. Some of those have both state and federal implications as well, and attorneys must also look to the tax systems of the other jurisdictions where an individual may own assets. To better understand these taxes and your obligations, call today for a consultation.