Tennessee Repeals Gift Tax; Inheritance Tax Coming Next

At the tail end of the most recent session of the Tennessee General Assembly, the legislature accomplished an unusual and historic step: repeal of the State's gift tax.

Moreover, the General Assembly also set in motion legislation that would repeal the State's inheritance tax.

Gift, estate, and inheritance taxes are taxes imposed on the transfer of property. Estate and inheritance taxes are imposed upon the death of the owner of the property transferred, while gift taxes are imposed on transfers without consideration made during the owner's lifetime (sometimes referred to as "inter vivos" transfers).

An estate tax is applied to the decedent's total estate. Assume that John dies and, after all credits and exemptions, his total taxable estate is $2 million. The representative of his estate files an estate tax return (federal or state or both), and pays the estate tax from the decedent's assets.

Both the federal government and Tennessee impose estate taxes. At one time, federal law allowed the decedent's estate to claim a "State Death Tax Credit" against the federal estate tax. Like many states, Tennessee passed a law to "pick up" that tax that would otherwise be paid to the federal government.

For example, assume John's estate owes $500,000 in federal estate tax. If the state had no "death tax" (whether estate or inheritance), all $500,000 would be paid to the federal government. None would be paid to the state. If the state imposed a $100,000 estate tax, John's estate would still owe a total combined estate tax of $500,000.

There is no federal inheritance tax; there is, however, a Tennessee inheritance tax. A true inheritance tax is based upon who receives bequests from the estate, and is a tax on the transfer. Typically, spouses and children will be taxed at a lower rate than other classes of beneficiaries.

The Tennessee Department of Revenue calls the inheritance tax "a tax upon the privilege of receiving property by transfer because of a decedent's death." So it's not a true inheritance tax, which is based upon who gets the bequest; instead, the Tennessee tax is more like an estate tax, which is based on the net value of the estate.

State Gift Tax Is Gone
A gift tax resembles both an estate and an inheritance tax: after all credits and exemptions, the donor files the return and pays the tax, but the rate varies depending upon the relationship of the donee to the donor.

Thus, if Irene gave her daughter Jane and Jane's husband Jack $30,000 in 2010, the Tennessee gift tax allows Irene to exempt $13,000 for each Class A donee (her daughter and son-in-law). Of the total gift in 2010, the amount subject to Tennessee gift tax would be $4,000. (The rate graduates from 5.5% to 16%.)

Irene would owe the Tennessee gift tax even though no federal gift tax might be owed.

On May 1, the General Assembly repealed Tennessee's gift tax. Although repeal was expected, in somewhat of a surprise move, a last minute amendment pushed up the effective date of the repeal, from January 1, 2013, to January 1, 2012.

With that move, Connecticut is now the only state with a gift tax.

State Inheritance (Wait ... Estate) Tax Going
The legislature also moved to change the Tennessee "inheritance" tax.

In 2012, the maximum allowable exemption from the state's inheritance tax is $1 million. Beginning in 2013, it increases to $1.25 million. In 2014, to $2 million; in 2015 to $5 million.

Beginning in 2016, Tennessee inheritance tax is eliminated.

No More "Death Taxes" in Tennessee?
So that means that beginning in 2016, residents of Tennessee will enjoy freedom from all gift, estate, and inheritance taxes? No taxes imposed on property transferred either during lifetime or at death?

Maybe, or maybe not. What the state legislature giveth, the state legislature can taketh away.

And, remember the State Death Tax Credit? What legislation the U. S. Congress enacts could affect estate and inheritance taxes enacted by the Tennessee General Assembly.

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