Can the IRS Take Inheritance Money for Taxes?

The Internal Revenue Service (IRS) can claim inherited money for taxes. This authority extends to assets acquired through inheritance. Understanding when inherited funds might be affected by tax obligations is important for beneficiaries. These situations relate to the beneficiary’s own tax debts, the deceased person’s tax debts, or specific taxes on inherited assets.

When Your Own Tax Debts Are Involved

When an individual receiving an inheritance has pre-existing tax debts, the IRS can collect those outstanding liabilities. Once inherited funds or assets become the beneficiary’s property, they are not exempt from IRS collection actions. The source of funds does not shield them from efforts to settle unpaid taxes.

The IRS employs various tools to collect unpaid taxes, including levies and liens. A federal tax lien is the government’s legal claim against a taxpayer’s property when a tax debt is neglected or not paid. This lien protects the government’s interest in all property, including real estate, personal property, and financial assets, and attaches to assets acquired even after the lien is in place.

A levy is the actual legal seizure of property to satisfy a tax debt. The IRS can issue a levy on bank accounts, garnish wages, or seize and sell vehicles, real estate, and other personal property. If the IRS levies a bank account, funds are held for 21 days before being sent to the IRS. The taxpayer can resolve the situation during this period. The IRS must send a “Final Notice of Intent to Levy,” giving the taxpayer at least 30 days to respond or appeal before a levy is initiated.

When the Deceased’s Tax Debts Are Involved

The IRS can claim inheritance money if the deceased person or their estate owed taxes. When someone passes away, their estate is responsible for settling all outstanding debts, including federal tax liabilities, before assets are distributed to heirs.

The executor or administrator of the estate is responsible for managing the deceased’s financial affairs and ensuring all tax debts are paid from the estate’s assets. This includes filing the deceased person’s final income tax return and making any due payments. If the estate lacks sufficient assets to cover these debts, the inheritance might be reduced or eliminated for beneficiaries.

Executors are not personally liable for the deceased’s tax debts, but they can face personal responsibility if they distribute assets to beneficiaries before paying taxes and other estate debts, making the estate unable to satisfy its obligations. To avoid this, an executor should ensure all tax returns are filed and taxes paid, potentially obtaining a tax clearance letter from the IRS before distributing assets.

Understanding Taxes on Inherited Assets

Beyond existing tax debts, certain taxes may apply directly to inherited assets, affecting the net amount a beneficiary receives. These are distinct from the IRS seizing funds for a debt.

Federal estate tax is a tax imposed on the deceased person’s estate itself, not on the beneficiary’s inheritance. This tax only applies to very large estates, with a high exemption threshold. For 2025, the federal estate tax exemption is $13.99 million per individual. If an estate’s value exceeds this amount, the tax is paid by the estate before any distributions are made to heirs.

State inheritance tax is another form of tax that applies to inherited assets, imposed by a few states and paid by the beneficiary, not the estate. These taxes are based on the beneficiary’s relationship to the deceased and the value of the inheritance. States that impose an inheritance tax include Iowa (phasing out with full repeal scheduled for 2025), Kentucky, Maryland, Nebraska, New Jersey, and Pennsylvania. Exemptions and rates vary by state, with surviving spouses often exempt, and closer relatives facing lower rates or higher exemption thresholds. Maryland is the only state that imposes both an estate tax and an inheritance tax.

At the federal level, inherited money or property is not considered taxable income to the beneficiary. However, there are exceptions. Inherited retirement accounts, such as traditional IRAs or 401(k)s, are taxable as income to the beneficiary when distributions are taken. Non-spouse beneficiaries of inherited IRAs must withdraw all funds within 10 years of the original owner’s death. While Roth IRAs are tax-free upon distribution, earnings may be taxable if the account is less than five years old.

Additionally, any income generated by the inherited assets after they are received, such as interest, dividends, or rental income, is taxable to the beneficiary. For inherited assets like real estate or stocks, the “step-up in basis” rule can significantly reduce capital gains tax if the asset is later sold. This rule adjusts the asset’s cost basis to its fair market value on the date of the deceased owner’s death. If the asset is sold shortly after inheritance for its fair market value at death, little to no capital gains tax would be owed.