The Federal estate tax is the tax levied on estates valued at over a certain amount on the date a person dies. The portion of the estate that exceeds the exclusion amount is taxed. The current tax rate is 40%. As of 2017 the exclusion is $5.49 million and, as it goes up with inflation, the excluded amount will continue to change.
We often hear the current exclusion expressed as "$5.49 million or $10.98 million for a couple". This is an expression of the portability of the estate tax exclusion. In the past, the exclusion was personal and an unused amount could not be passed on to a spouse. For this reason, several types of trust vehicles were used to separate a couple's assets so that the surviving spouse did not simply add the deceased spouse's assets to her own and leave a taxable estate upon her death. In 2011 the exclusion became portable and the survivor of a married couple can now add the unused portion of the deceased spouse's exclusion to her own. This is not automatic, however, and it is important to understand that the IRS Form 706 must be filed within 9 months of the decedent's date of death in order to preserve portability. This form must be filed by the Executor or Personal Representative of the decedent's estate.
The "estate" for federal estate tax purposes is different than the "probate estate". The probate estate only includes assets that need to pass through the probate process and does not include assets that pass by beneficiary designation or otherwise pass outside of the probate process. "Estate" for the purposes of determining whether estate tax is due, however, includes nearly everything in the name of the decedent at the time of his or her death, including assets held in a revocable living trust and, under certain circumstance, life insurance on his life. It is also important to remember that the exclusion amount will be reduced by the value of any gifts made during the decedent’s lifetime that required the filing of a Federal gift tax return.
The Federal estate tax exclusion and the Federal gift tax exclusion are uniform. They are, essentially, the same exclusion. A gift tax return must be filed with the IRS for cumulative gifts to one person in any year those gifts exceed the Federal annual gift tax exclusion (currently $14,000.00). The amount over the annual gift tax exclusion rate will be deducted from the Federal estate tax exclusion when calculating whether estate tax is due. Tuition and medical bills that are paid directly to educational institutions or health care providers do not require a gift tax return and will not reduce the available exclusion.
Another aspect of the current Federal estate tax rules is the "step-up" (or "step-down") in basis. The basis is the value of an asset used to calculate capital gains. If the sale price of the asset is greater than its basis, capital gains tax must be paid. The basis of an inherited asset is the value of the asset on the date of the decedent's death. This is one reason it pays to be careful about making gifts of assets other than cash, particularly as one ages. Consider a home purchased decades ago for $100,000.00 and now worth $1,000,000.00. That home, gifted during life, will retain its tax basis of $100,000.00, whereas the same home inherited after death will "step-up" in basis to $1,000,000.00. Bear in mind, however that it is also possible to have a “step-down” in basis if an asset has lost value. This is a very simplified explanation of this rule, so please be sure to consult a tax professional before making any decision based on this rule.
Virginia does not currently have a separate estate tax or inheritance tax. Many other states do, however, have either an estate tax (a tax levied on the decedent's assets and payable by the estate), an inheritance tax (a tax levied on a person inheriting assets and paid by that person), or both. If a resident of Virginia dies owning real property in another state, some or all of the assets of the estate could be subject to an estate or inheritance tax in the state in which the real property is held.