When someone dies, the Executor or Administrator of the person’s estate must close out the person’s financial affairs. One of the responsibilities of the Executor or Administrator is to file tax returns for the person who died and pay any taxes due. There are usually three or four different types of tax returns required. The Executor or Administrator is personally liable if these taxes are not paid.
Individual Income Tax Return
The federal individual income tax return, Form 1040, is due every year on April 15. The Executor or Administrator must make sure that a final 1040 is filed for the year the person died and for any preceding years for which a return was not filed. These returns report all income received while the person was alive. The Executor or Administrator must look for the necessary financial information in the decedent’s personal records. If there is tax due, it is paid from the estate’s assets, and if there is a refund due to the deceased person, the refund is added to the estate.
Estate Income Tax Return
The estate of a deceased person is a new tax-paying entity. It gets its own tax identification number from the IRS, and it must file a tax return (Form 1041) annually while the estate is open. The estate reports the earnings generated by the estate assets that were formerly owned by the deceased person. For example, the estate may have income in the form of interest and dividends from stocks and bonds in the estate account. The estate may receive rent from rental property that the estate owns. If more than $600 in annual income is generated from these sources, the administrator must file the estate income tax return, Form 1041. In most cases the earnings of the estate are paid out to the beneficiaries. The beneficiaries then must report those earnings as income on their personal returns and pay any tax due.
Federal Estate and Generation-Skipping Transfer Tax Return
Estate tax is a tax on the transfer of assets and properties from the deceased person to their beneficiaries. If the estate is big enough, Uncle Sam takes a cut. Under current law, the federal estate tax applies only to estates over $5,430,000 in 2015. This number is indexed to inflation and goes up to $5,450,000 in 2016. If estate taxes are due, the estate administrator files a federal Estate and Generation-Skipping Transfer Tax Return, Form 706. The return is due 9 months after the date of death.
The gross estate includes the fair market value of everything the deceased person owned. This can include real estate, retirement accounts, life insurance proceeds, bank and investment accounts and personal property. These assets comprise the gross estate. The administrator of may use professional appraisers to determine the fair market value of real property and valuable personal property. To establish the “taxable estate,” deductions are allowed for debts, estate administration expenses, and property bequeathed to charities or to the surviving spouse. The estate tax rate of 40% is applied to the taxable amount and the tax credit for the $5.43 million exemption amount is applied to determine the tax due.
State Inheritance or Estate Tax Return
About 20 states, including Tennessee until December 31, 2015, also have an estate or inheritance tax that is applied when a resident of the state dies. The state may tax the value of real property located in the state when it is owned by a non-resident who has died. The state may have a smaller exempt amount than the federal government and all have a much lower tax rate. The calculation of the tax is similar to calculation of the federal estate tax. These returns are due 9 months after the date of death.
Seek Professional Help
There are many details that must be attended to in administering an estate, especially one with multiple tax liabilities. Not everyone has the time or the knowledge necessary to handle these details. If you find yourself in this position, make sure you hire a qualified professional to help.