The estate tax and the inheritance tax are both taxes imposed on property when a person dies. There are three types of tax that might effect an inheritance: state and federal income tax, state inheritance tax, and federal estate tax.
Income tax is only due on “income in respect to a decedent,” such as minimum distributions from inherited IRA accounts. An “inheritance tax” is a tax on the privilege of receiving an inheritance and it is paid by the heir. Some states impose an inheritance tax, but California does not. An “estate tax” is a tax imposed on the privilege of giving your assets away when you die. (Yes, really!! Can you say I.R.S.?) So the difference between an estate tax and an inheritance tax is when the tax gets imposed (before or after distribution) and who pays it (the estate “off the top” or the heirs).
The federal government charges an estate tax, but the tax is only imposed on estates that exceed $5 million (plus an inflation factor). The $5 million exemption from taxation is somewhat like having a standard deduction on an income tax return. If an estate’s countable assets are worth less than $5 million, then no estate tax will be due. Countable assets include everything owned by the decedent, even if it does not go through probate. So it includes, for example, life insurance, IRA accounts, and jointly owned property in addition to all property passing through probate or under a trust.
The maximum tax rate for estates over $5 million is 40%, as of January 1, 2013. If you accept property before the tax is paid, you will be liable for your share of the tax from the property you received.