How Much Is Inheritance Tax in California?

Zero. Zip. Nada. California, unlike some states, does not have an inheritance tax. This is excellent news if you’re anticipating an inheritance from someone who lived in or owned property in California. However, before you start planning your spending spree, understand that this simplicity doesn’t mean there are no tax implications whatsoever. While California itself doesn’t levy an inheritance tax, the federal estate tax could still apply, and other taxes related to inherited property, such as property taxes and income taxes, might come into play. Let’s delve deeper.

Understanding the California Inheritance Tax Landscape

California’s absence of an inheritance tax is a major boon for beneficiaries. Many states once had inheritance taxes, but over time, many have repealed them. Inheritance tax is a tax levied on the recipient of an inheritance. It is different from an estate tax, which is levied on the estate of the deceased.

The Crucial Distinction: Inheritance Tax vs. Estate Tax

It’s crucial to understand the difference between inheritance tax and estate tax. As mentioned, California doesn’t have an inheritance tax. But that doesn’t completely eliminate potential tax burdens. The federal government imposes an estate tax, and this could apply to estates of significant value, regardless of the state where the deceased lived or owned property.

The federal estate tax is applied to the total value of the deceased person’s assets at the time of death, before those assets are distributed to heirs. This includes real estate, stocks, bonds, cash, life insurance proceeds, and other property. In 2024, the federal estate tax exemption is substantial: $13.61 million per individual. This means that only estates exceeding this threshold are subject to the federal estate tax. For married couples, this exemption is effectively doubled to $27.22 million due to portability rules, allowing the surviving spouse to use the deceased spouse’s unused exemption.

Federal Estate Tax: When Does It Apply?

Even though California has no inheritance tax, you need to be aware of the federal estate tax. If the deceased’s gross estate exceeds the federal exemption amount (currently $13.61 million in 2024), then the estate will need to file a federal estate tax return (Form 706) and potentially pay estate taxes. The estate tax rates range from 18% to 40%, depending on the size of the taxable estate.

Planning is key to minimizing or eliminating federal estate taxes. This is where experienced estate planning attorneys become invaluable. Strategies such as creating trusts, gifting assets during one’s lifetime, and utilizing valuation discounts can significantly reduce the taxable estate and therefore minimize or eliminate the estate tax liability.

Other Tax Implications of Inheriting Property in California

Even if the federal estate tax doesn’t apply, inheriting property in California can still have other tax consequences:

• Property Taxes: While inheriting property in California doesn’t trigger an immediate property tax reassessment under Proposition 13 for certain transfers (e.g., transfers between parents and children), this exemption has limitations and exceptions. It’s essential to understand these rules to avoid unexpected property tax increases.
• Income Taxes: Inheriting assets doesn’t typically trigger income tax. However, if you later sell inherited property, you may be subject to capital gains tax. The “stepped-up basis” rule usually applies. This means the tax basis of the inherited property is adjusted to its fair market value on the date of the deceased’s death. This can significantly reduce the capital gains tax if you sell the property shortly after inheriting it.
• Trusts and Taxes: If the inherited property is held in a trust, the trust’s terms will dictate how the assets are distributed and what tax implications may arise. Different types of trusts (e.g., revocable, irrevocable) have different tax consequences.

Frequently Asked Questions (FAQs) About Inheritance Tax in California

Here are 12 frequently asked questions to further clarify the tax implications of inheritances in California:

1. Does California have an inheritance tax or estate tax? California has neither an inheritance tax nor an estate tax. However, the federal estate tax may apply to large estates.
2. What is the federal estate tax exemption for 2024? The federal estate tax exemption for 2024 is $13.61 million per individual and $27.22 million for married couples.
3. If I inherit property in California, will my property taxes go up? Potentially. While Proposition 13 provides some exemptions for transfers between parents and children (and in some cases, grandparents and grandchildren), there are limitations and requirements. Consult with a real estate attorney or tax professional to understand your specific situation.
4. What is a “stepped-up basis” and how does it affect capital gains taxes? A stepped-up basis adjusts the tax basis of inherited property to its fair market value on the date of the deceased’s death. This can significantly reduce capital gains taxes if you sell the property shortly after inheriting it, as you only pay tax on the appreciation since the date of death.
5. If I inherit an IRA or 401(k), do I have to pay income tax on it? Yes. Inherited retirement accounts are generally subject to income tax. The specific tax rules depend on whether you are a spouse or a non-spouse beneficiary, and the type of retirement account (e.g., traditional IRA, Roth IRA). Non-spouse beneficiaries typically must withdraw the funds within 10 years.
6. What happens if the deceased person lived in another state but owned property in California? The absence of a California inheritance or estate tax still applies. However, the state where the deceased person resided may have its own estate or inheritance tax laws that could affect the estate. The federal estate tax could still apply, regardless of the state.
7. How can I minimize estate taxes? Effective estate planning is crucial. Strategies include gifting assets during your lifetime, establishing trusts (e.g., irrevocable life insurance trusts, qualified personal residence trusts), and making charitable donations. Consult with an experienced estate planning attorney to develop a personalized plan.
8. What is probate, and how does it relate to inheritance taxes? Probate is the legal process of validating a will and distributing assets of a deceased person. While California doesn’t have inheritance taxes, probate can still be a costly and time-consuming process, especially for larger estates. Proper estate planning (e.g., using trusts) can help avoid or minimize probate.
9. If I inherit property held in a trust, do I have to pay inheritance taxes? Again, California has no inheritance tax. However, the terms of the trust will dictate how the assets are distributed and what income tax or capital gains tax implications may arise. The trust itself may have its own tax obligations.
10. Do I need to report an inheritance to the IRS or California Franchise Tax Board? Generally, you don’t need to report an inheritance as income on your federal or California income tax returns. However, you may need to report income generated from the inherited assets, such as dividends, interest, or rental income. The estate may need to file a federal estate tax return if it exceeds the exemption threshold.
11. What is portability, and how does it affect estate taxes for married couples? Portability allows a surviving spouse to use any unused portion of the deceased spouse’s federal estate tax exemption. This effectively doubles the exemption for married couples, shielding more of their combined assets from estate tax. However, a specific election must be made on the deceased spouse’s estate tax return to claim portability.
12. Where can I find more information about estate planning and inheritance in California? Consult with a qualified estate planning attorney, a certified public accountant (CPA), or a financial advisor specializing in estate planning. Resources are also available on the IRS website, the California Courts website, and through professional organizations such as the California State Bar.

In conclusion, while California thankfully shields its residents from an inheritance tax, navigating the complexities of federal estate taxes, property taxes, and income taxes related to inherited assets requires careful planning and expert guidance. Don’t assume that because California has no inheritance tax, you’re completely in the clear. Seek professional advice to protect your inheritance and minimize your tax burden.