How to Calculate Inheritance Tax: Deductions, Exemptions, and Form 706

To calculate inheritance tax at the federal level, add up the fair market value of everything the deceased person owned at death, subtract their debts and allowable deductions, add back any taxable gifts they made during life, and compare the result to the federal exemption. For 2026, that exemption is $15,000,000 per person, and only the amount above it is taxed.¹ Several states run their own systems with much lower thresholds, so an estate that owes nothing federally can still owe state tax.

One clarification before the math. The federal government imposes an estate tax, paid by the estate before assets are distributed. A few states instead (or additionally) impose an inheritance tax, paid by each heir based on what they receive and how closely they were related to the deceased. The steps below cover the federal estate tax calculation first, then the state layer.

Step 1: Value Everything the Deceased Owned

Start with a full inventory: bank accounts, investment portfolios, retirement accounts, real estate, vehicles, business interests, life insurance proceeds, and valuable personal property such as art or jewelry. Each asset is valued at fair market value, meaning what a willing buyer and willing seller would agree to in an open transaction.²

The rules differ by asset type. Publicly traded stocks and bonds are valued at the average of the highest and lowest selling prices on the date of death.³ Real estate, closely held businesses, and collectibles usually need a professional appraisal. Vehicles are valued at the retail price a member of the public would pay for a comparable car, not the wholesale price a dealer would offer.² All values are reported on the schedules of IRS Form 706.⁴

The Alternate Valuation Date

If asset values have fallen since the date of death, the executor can elect to value the whole estate six months later instead. The election is made on Form 706, applies to every asset (no cherry-picking), and is only allowed if it reduces both the total estate value and the tax owed.⁵ Any asset sold or distributed before the six-month mark is valued as of that earlier date.

Step 2: Subtract Debts and Deductions

Once you have the gross estate, subtract what the deceased owed and what the estate spends to administer itself. That includes mortgages, personal loans, credit card balances, funeral costs, legal fees, and executor commissions. Keep invoices, payoff statements, and receipts, because the IRS can ask for documentation on any deduction.

Marital Deduction

Assets passing to a surviving spouse who is a U.S. citizen are fully deductible with no dollar cap. This unlimited marital deduction lets a married couple defer all federal estate tax until the second spouse dies. If the surviving spouse is not a U.S. citizen, the deduction is generally unavailable unless the assets pass through a qualified domestic trust (QDOT).⁶ The 2026 annual gift exclusion for transfers to a non-citizen spouse is $194,000.

Charitable Deduction

The full value of assets left to qualifying charitable, religious, educational, or governmental organizations is deductible, with no cap. To qualify, the recipient generally must be a domestic organization or the gift must be earmarked for use inside the United States.⁷

Step 3: Add Back Taxable Lifetime Gifts

Federal estate and gift tax share one unified system. Taxable gifts made during the deceased person’s lifetime, going back to 1977, are added back to the net estate before the tax is computed.⁸ This prevents someone from avoiding tax by giving away assets before death.

Not every gift counts. Each year, up to $19,000 per recipient qualifies as an annual exclusion gift and stays outside this add-back.⁹ Anything above that per-recipient amount uses part of the $15,000,000 lifetime exemption, leaving less to shelter the estate at death. If someone used $3,000,000 of exemption on lifetime gifts, only $12,000,000 remains.

Step 4: Apply the 2026 Exemption and Compute the Tax

Compare the taxable estate plus adjusted taxable gifts to the $15,000,000 exemption. If it falls below, no federal estate tax is owed. Form 706 is required only if the gross estate (increased by adjusted taxable gifts) exceeds $15,000,000 for a 2026 death, or if the executor is electing portability for a surviving spouse.⁸ The $15,000,000 figure reflects a permanent increase enacted in 2025; before that legislation, the 2017 doubled exemption was set to revert after 2025.¹⁰ Inflation adjustments to the $15,000,000 base begin for deaths after December 31, 2026.¹¹

The federal estate tax uses a graduated schedule from 18 percent on the first $10,000 up to 40 percent on amounts over $1,000,000.¹² Because the unified credit already offsets the tax on the first $15,000,000, every dollar above the exemption effectively taxes at 40 percent for any estate large enough to owe.

A Worked Example

Consider a 2026 estate with these figures:

Gross estate: $17,000,000
Debts and expenses: $200,000
Adjusted gross estate: $16,800,000
No marital, charitable, or other deductions; no lifetime taxable gifts
Taxable estate: $16,800,000

The IRS computes a tentative tax on the full $16,800,000 using the graduated schedule. For amounts above $1,000,000, the formula is $345,800 plus 40 percent of the excess over $1,000,000.¹² That gives a tentative tax of $6,665,800. Subtract the unified credit, which equals the tentative tax on $15,000,000 ($5,945,800), and the estate owes $720,000.¹

Quicker method: multiply the amount above $15,000,000 by 40 percent. Here, $1,800,000 × 0.40 = $720,000, the same answer. If the deceased paid gift tax on lifetime taxable gifts, that gift tax is credited against the estate tax to prevent double taxation.

Portability Between Spouses

When the first spouse in a married couple dies without using all $15,000,000 of exemption, the leftover — the deceased spousal unused exclusion, or DSUE — can pass to the surviving spouse and add to their own exemption. Together, that can shelter up to $30,000,000.¹

Portability is not automatic. The executor of the first spouse’s estate must file a complete Form 706, even when no tax is owed. The standard deadline is nine months after death, with a possible six-month extension. If that window is missed and the estate was below the filing threshold, a late portability election is available by filing Form 706 within five years of death, with a notation at the top of the return that it is filed under Rev. Proc. 2022-32.¹³ Once made, the election is irrevocable.

Generation-Skipping Transfer Tax

When assets pass to grandchildren or others more than one generation below the deceased, a separate generation-skipping transfer (GST) tax may apply on top of the estate tax. It is a flat 40 percent with its own $15,000,000 exemption for 2026, matching the estate tax figure.¹¹ GST is reported on the same Form 706 and can substantially raise the total bill for estates distributing wealth across multiple generations.

State Estate and Inheritance Taxes

An estate well under the $15,000,000 federal threshold can still owe state tax. About a dozen states and the District of Columbia impose an estate tax, and a few states impose an inheritance tax. State exemptions are often far lower than the federal amount, with some starting around $1,000,000.

The two work differently:

State estate tax is calculated on the estate’s value above the state exemption and paid by the estate before distribution. Rates generally run from about 10 percent to 20 percent.
State inheritance tax is paid by each heir on what they receive, with the rate tied to their relationship to the deceased. Spouses are almost always exempt, children and close relatives pay the lowest rates, and unrelated beneficiaries can face 15 percent or more.

As of 2025, five states impose an inheritance tax: Kentucky, Maryland, Nebraska, New Jersey, and Pennsylvania. Iowa’s inheritance tax was fully repealed for deaths on or after January 1, 2025. Maryland is the one state that imposes both. If the deceased lived in one state but owned real property in another, both jurisdictions may have a claim, so check the rules everywhere the estate touches.

Filing Form 706 and Paying the Tax

Form 706 and the full payment are due within nine months of death. The executor can request an automatic six-month extension to file by submitting Form 4768, pushing the filing deadline to 15 months after death. An extension to file does not extend the time to pay; estimated tax must still be sent by the original nine-month deadline to avoid interest and penalties.¹⁴

Late-Filing and Late-Payment Penalties

Missing the filing deadline triggers a penalty of 5 percent of the unpaid tax for each month the return is late, up to 25 percent.¹⁵ A separate failure-to-pay penalty of 0.5 percent per month applies to unpaid tax after the nine-month deadline, up to the same 25 percent cap.¹⁶ Interest compounds on top of the penalties, and the IRS adjusts the rate quarterly. Filing on time even without full payment limits exposure to the smaller failure-to-pay penalty.

Installment Payments for Illiquid Estates

If paying on time would force the estate to sell assets at a loss or under distressed conditions, the executor can request an extension of time to pay. A hardship-based extension can spread payments over up to 10 years from the original due date, but the estate must show that quick liquidation would cause real financial harm, not general inconvenience.¹⁷

Estates where a closely held business makes up more than 35 percent of the adjusted gross estate can qualify for a longer deferral. The executor can defer the first installment for up to five years and pay the tax on the business interest in up to ten annual installments, stretching the total to roughly 14 years.¹⁸ Interest accrues during the deferral, but this can keep a family from having to sell a farm or business to pay the tax.

1
Office of the Law Revision Counsel. 26 USC 2010 – Unified Credit Against Estate Tax
2
eCFR. 26 CFR 20.2031-1 – Definition of Gross Estate; Valuation of Property
3
eCFR. 26 CFR 20.2031-2 – Valuation of Stocks and Bonds
4
Internal Revenue Service. About Form 706, United States Estate (and Generation-Skipping Transfer) Tax Return
5
eCFR. 26 CFR 20.2032-1 – Alternate Valuation
6
Office of the Law Revision Counsel. 26 USC 2056 – Bequests to Surviving Spouse
7
Office of the Law Revision Counsel. 26 USC 2055 – Transfers for Public, Charitable, and Religious Uses
8
Internal Revenue Service. Estate Tax
9
Internal Revenue Service. What’s New – Estate and Gift Tax
10
Internal Revenue Service. Estate and Gift Tax FAQs
11
IRS. Rev. Proc. 2025-32
12
Office of the Law Revision Counsel. 26 USC 2001 – Imposition and Rate of Tax
13
Internal Revenue Service. Instructions for Form 706
14
Internal Revenue Service. Instructions for Form 706 (Rev. September 2025)
15
Internal Revenue Service. Failure to File Penalty
16
Internal Revenue Service. Failure to Pay Penalty
17
eCFR. 26 CFR 20.6161-1 – Extension of Time for Paying Tax Shown on the Return
18
Office of the Law Revision Counsel. 26 USC 6166 – Extension of Time for Payment of Estate Tax Where Estate Consists Largely of Interest in Closely Held Business