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Being ranked “#1” isn’t always a good thing, especially when the list is highest tax rates. Although Nebraska ranks high in a number of tax rankings, it earns the dubious honor of highest inheritance tax rate of any state in the nation. Only six states have an inheritance tax. Although you will never pay this tax, your heirs will. The rate paid is determined not by the property owner who has died, but rather who the individual chooses to leave their assets to and the nature of their relationship. Because of its steep inheritance tax, a Forbes article listed Nebraska as a state “where not to die”, a distinction you won’t likely see on chamber of commerce fliers.
Although the inheritance tax is established by state law, the tax is paid directly to the county in which the individual lived or where the property was located. If the deceased owned property in multiple counties, the tax is paid to each county. Inheritance tax revenue is, by its very nature, unpredictable. The current market value is used to determine the taxes due. Thus, as property values have increased, the amount collected by counties has sharply increased, rising more that 75% over a 6 year period. Over $70 million is paid to counties in inheritance taxes annually.
Using the nature of an heir’s familial relationship to the deceased as the basis for the tax rate and amount of assets taxed is unique to the inheritance tax in Nebraska tax law. It also creates some rather odd scenarios. All property left to a spouse is exempt from the inheritance tax. Lineal descendants and ascendants–children, grandchildren, parents, grandparents, and siblings–pay no taxes on the first $40,000 of assets inherited, and 1% on any amount above. The relationship does not have to be biological. Relatives of a spouse, even a deceased former spouse, can be included even if they have no biological relationship to the deceased.
If you inherit property in Nebraska but fall outside of a lineal relationship with the deceased, your tax bill rises dramatically. It is these rates that puts Nebraska at the top of the national rankings. Should you leave assets to a niece, nephew, cousin, aunt, or uncle, they will be taxed 13% of any amount over $15,000. Should you leave any of your estate to a non-relative, they will pay the highest rate in the nation: 18% of any amount over $10,000. For comparison, the often maligned federal inheritance tax exempts over $5 million in assets before it applies.
The steep tax penalty for non-familial heirs has a curious loophole in Nebraska law. Any person to whom the deceased for not less than ten years prior to death stood in the acknowledged relation of a parent qualifies for the 1% lineal relative rate. This legal standard, known as in loco parentis, can apply to adult-adult relationships with no legal, biological, or familial ties. For example, a business owner could leave their business assets to a long-time employee whom they “thought of as a daughter”. The distinction has rather larger financial implications for the heir: the difference between a 1% and 18% tax rate.
The inheritance tax is controversial for a number of legitimate policy reasons. Depending on the type of asset inherited, the taxes due represent a second, third, or even fourth taxation of the same property. For example, a piece of farm ground you leave to your nephew was purchased with money you already paid income taxes on. The ground has been assessed property taxes annually. When the title changes, a documentary stamp tax will be assessed. The nephew will then be assessed a fourth tax on the same asset at a rate of 13% of the value above $15,000.
Using the assessments of simplicity, transparency, neutrality, and stability to evaluate tax policy, the inheritance tax fails all four standards. The various exemptions, rates, and use of familial but not necessarily legal or biological relationships to determine who pays the tax is far from simple. It is unlikely most heirs are even aware they are responsible for paying the tax, which may require them to sell some of the asset just to cover the tax bill. The taxes are due within 12 months of death, and will function as a lien against the property if unpaid. That makes the tax far from transparent. By treating different heirs very differently, the policy is not neutral. Finally, as a revenue source, counties cannot predict any stable level of revenue. Most counties direct inheritance tax revenues to special designated funds rather than general funds.
It has been said that only two things are certain in life: death and taxes. Under current Nebraska law, those two events intersect with the inheritance tax. If you inherit assets from a loved one, you can be certain that within 12 months of their death the county will come knocking to collect.