Inheritance Tax On Bequest To Nieces and Nephews

New Jersey remains one ofthe few States that imposes an inheritance tax.   The inheritance tax is not based on the sizeof the estate, but on who receives the estate. There is no inheritance taximposed on transfers to a parent, grandparent, spouse, domestic partner, childor step-child (Class “A” beneficiaries).  Inheritance tax is, however, imposed on transfers to nieces and nephews (Class“D” beneficiaries).  The tax rate isbetween 15%-16% depending on the amount transferred. Transfers made within threeyears of death are presumed to be “in contemplation of death” and, may, also,be subject to inheritance tax.  Inaddition, transfers intended to take effect at or after death are included inone’s estate for inheritance tax purposes.

Due to the inheritancetax, it would be financially advantageous to gift funds to your nieces andnephews during your lifetime (if you can afford it and the gifts do notcompromise your own standard of living). This could be accomplished by outright gifts or the payment of yournieces’ and nephews’ medical costs or educational expenses.   Inheritance tax can also be avoided throughthe use of an irrevocable trust under certain circumstances.   Thetrust can be used to pay expenses for the benefit of your nieces and nephews aswell.  This, however, requires giving upcontrol and use of the assets placed in trust. You cannot have the right to revoke, amend, modify or regain abeneficial interest in the trust. Likewise, the transfer of the trust property to your nieces and nephewscannot be specifically triggered by your death. 

In addition, lifeinsurance paid directly to your nieces or nephews (or any beneficiary,including a testamentary trust) is not subject to inheritance tax.  As a result, if you designate your nieces andnephews as a beneficiary of a life insurance policy no inheritance tax will beimposed.   If you are insurable, you canuse a portion of your liquid assets to fund a life insurance policy.  

Inheritance Tax is imposed on residents of New Jersey and non-residents owning real or tangible personal property in New Jersey. (The tax is not based on where the beneficiary resides). Accordingly, a simple way to avoid or reduce the inheritance tax is to change domicile to a State that does not impose an inheritance tax (which is every State other than Iowa, Kentucky, Maryland, Nebraska, New Jersey or Pennsylvania).

Originally appeared on NJBIZ Biz Brain December 2019.