State Inheritance Tax: The One That Ignores Your Net Worth

Estate tax and inheritance tax are routinely used as synonyms, and they are not. Estate tax is charged to the estate, before anything is distributed, on the total value of what the decedent owned; the executor writes the check. Inheritance tax is charged to the beneficiary, after distribution, on what that particular person received — and the rate turns on who they were to the decedent rather than on how large the estate was. There is no federal inheritance tax. Five states impose one: Kentucky, Maryland, Nebraska, New Jersey, and Pennsylvania. Maryland is the only state that levies both.

The distinction is not academic, because an inheritance tax has effectively no size threshold. It reaches a $400,000 estate exactly as it reaches a $40 million one, which means every exemption figure in this chapter is irrelevant to it. What it keys on is the family tree:

Pennsylvania

0% to a surviving spouse, 4.5% to lineal descendants, 12% to siblings, 15% to everyone else — and, for the non-spousal classes, from the first dollar. There is no exempt amount to hide a modest bequest inside.

New Jersey

repealed its estate tax in 2018 and kept this one. Class A — spouse, children, grandchildren, parents — is exempt outright. Siblings and children-in-law pay 11–16% above a $25,000 exemption. Everyone else, including nieces, nephews, friends, and an unmarried partner, pays 15–16% from essentially the first dollar.

Nebraska

close relatives 1% above $100,000; aunts, uncles, nieces, and nephews 11% above $40,000; everyone else 15% above $25,000.

Kentucky

Class A is exempt and, unusually, includes siblings. Class B (nieces, nephews, aunts, uncles, in-laws) runs 4–16% above a $1,000 exemption; Class C, everyone else, 6–16% above $500.

Maryland

10% on transfers to anyone outside the exempt close-family circle, stacked on top of a $5 million state estate tax.

Who this actually hits. Read those schedules again with a specific person in mind: the reader with no children, or the one leaving something meaningful to a niece, a godchild, a friend of forty years, or a partner they never married. In New Jersey that beneficiary surrenders 15–16% where a child would surrender nothing. This tax is not aimed at the wealthy — the estate tax already handles them — it is aimed at the unconventionally related, and it is the one death tax that a middle-class estate in the wrong state reliably pays. If your plan sends anything substantial outside the lineal line and you are domiciled in one of the five, that percentage is a line item you should be sizing now, not a surprise your beneficiary discovers nine months after your funeral.

Situs follows the dirt. Domicile at death governs the tax on intangibles, but real property and tangible personal property are taxed where they sit. The Florida retiree who kept the Pennsylvania farmhouse leaves their heirs a Pennsylvania inheritance tax bill on that farmhouse, no matter how clean the domicile change was (section “Domicile and the Conversion Year”). Maryland’s estate tax reaches nonresidents the same way, on Maryland-situs real property. A move that solves your income-tax problem does not automatically solve your heirs’ death-tax problem, and the asset most likely to be left behind is exactly the one that is immovable.

The levers. Four work reliably. Transfers to a spouse are exempt in all five states, and charitable bequests are exempt as well — which makes an inheritance-tax state one of the better places to be philanthropic. Life insurance paid to a named beneficiary escapes the tax in Pennsylvania and New Jersey, so the cleanest way to leave a meaningful sum to a non-lineal heir there is a policy rather than a share of the residuary estate; funnel the same money through the estate and it is taxed (section “Life Insurance Workaround”). Lifetime gifting works but must be done early: Pennsylvania pulls back transfers made within one year of death to the extent they exceed $3,000 per recipient per year, so the deathbed transfer accomplishes nothing. And moving the immovable — selling the out-of-state house rather than bequeathing it — is often cheaper than the tax on it.