Is My Inheritance Taxable? What You Need to Know

Is an Inheritance Taxable?

When a life event, such as a death in the family, occurs and you are uncertain what the tax implications are, it is best to seek out the expertise of a CPA to help answer your tax questions. “My aunt passed away and left me some money . . . . Is it taxable?” Like most tax questions, the answer depends on the answers to several other questions. Usually, the answer is NO. However, there are instances where you will pay income tax on money you receive as an inheritance, or be taxed on the income that the assets you inherited generate.

The Difference Between Specific and Residuary Bequests

For example, if Aunt Sally’s will says, “I leave $5,000 to my nephew Johnny,” Johnny will receive $5,000 of cash, and it is NOT taxable to Johnny. This is called a “specific bequest.” Aunt Sally wanted to leave Johnny a specific amount of cash. She could have also made a specific bequest of property – “I leave my piano to my niece Susan.” The piano is also not taxable to Susan.

Residuary Bequest

If the will says “I leave everything to my nephew Johnny,” this is called a residuary bequest – meaning Johnny will receive 100% of the residue – or remainder – of the estate (after expenses and taxes). In the example above, if all Aunt Sally owned was cash, then all the cash goes to Johnny, and it is NOT taxable to Johnny (even if it is $20 million!).

Federal Estate Tax and Pennsylvania Inheritance Tax

The difference now is that the estate is large enough (in 2026, over $15 million) to require the filing of a Federal Estate Tax Return. So the ESTATE (not Johnny) is taxed on the excess of the $20 million in cash over the federal estate tax exclusion for the year (in 2026, it is $15 million), less the expenses paid by the estate (for lawyers, accountants, probate, estate debts, and administrative costs). Federal estates are taxed at 40%. And that’s not including the Pennsylvania Inheritance Tax, which for a nephew (not a lineal relative) is 15% of the taxable assets (in this case, the cash) after expenses. If Johnny were a sibling, the rate is 12%, and if a direct ancestor or descendant, 4.5%. So Johnny will receive, not $20 million, but whatever is left – the remainder – after expenses and taxes are paid, but it is still NOT taxable to Johnny for income tax purposes.

Inheriting Retirement Accounts: Why IRAs Are Different

Let’s use a different asset instead of cash. If Aunt Sally owned an IRA, it is very important for her to name an IRA beneficiary. If the IRA does not have a beneficiary named, the IRA balance will be distributed to the estate, and if estate net income (income generated by estate assets while the estate is open less deductible expenses) is over $16,000, the estate will end up paying income tax (on Form 1041) on the IRA using the highest individual tax rate (now 37%). This result can be mitigated by distributing the proceeds to the beneficiaries of the estate who might be in lower tax brackets.

What Happens When an IRA Has a Named Beneficiary

If the IRA does have a named beneficiary, then the beneficiary will receive the proceeds from the IRA and will receive a 1099-R for the year of receipt in order to report the IRA income and any tax that was withheld on their tax return. There are several options for how the IRA can be distributed depending on your relationship with the decedent/IRA owner and the decedent/IRA owner’s age at the time of death. So the entire balance may NOT need to be distributed all at once.

Inheriting Stocks or Real Estate

If Aunt Sally owned shares of stock or even a piece of real estate and left it to Johnny, Johnny would still NOT be taxed on the inheritance. In fact, for tax purposes, Johnny’s basis in the stock and the real estate would most likely be “stepped up” to the fair market value of the stock and/or real estate as of the date of Aunt Sally’s death. It is referred to as a “step up” because Aunt Sally’s basis in the stock may have been $5 per share when she purchased it, but the amount that is taxed for Federal Estate tax and PA Inheritance Tax purposes when she dies is the fair market value of the stock on her date of death, which could be $25 per share. So Johnny receives that “stepped up” value as his basis to calculate any gain or loss if and when he sells the property himself, rather than Aunt Sally’s $5 per share basis.

When Inherited Assets Generate Taxable Income

So what IS taxable to a beneficiary? Remaining beneficiaries will not only receive their share of the assets owned at the date of death, but will also receive their share of the income generated by estate assets while the estate is being administered until its closing. For example, if the estate has $500,000 cash in an interest-bearing account, the interest earned after the date of death until the cash is distributed and the estate is closed is taxable income to the remainder beneficiary.

How Estate Income Is Reported to Beneficiaries

They will receive a Schedule K-1 from the income tax return that the Estate files for the year. The income reported on the beneficiary’s Schedule K-1 should be included on the beneficiary’s Form 1040 as taxable income. It will not equal the amount of the inheritance, nor necessarily agree to any amount actually received by the beneficiary.

How We Help Clients Navigate Estate Tax Questions

While the drafting of wills and trusts is done by attorneys, we often help with the tax implications and planning related to estates. If you have questions about the tax implications of an inheritance, a gift, or an estate or trust, call Walz Group so we can walk through your questions to help achieve the most tax-efficient result.