Is an IRA Subject to Estate Tax?

Your gross estate includes anything you own at your death that has value -- including your IRAs. For estate tax purposes, the value of your IRA isn't affected by whether it's a traditional or Roth IRA. When figuring the value of someone's gross estate, you typically use the IRA value as of the date of death. In some cases, if the executor is using an "alternative valuation date" for purposes of calculate the value of the estate, you must use the IRA value as of that date instead.

Depending on who receives your IRA, all or a part of the value might be deductible from the gross estate. First, any portion that goes to your spouse is deductible. Second, you can deduct any part that goes to charity. For example, if you have an IRA worth $170,000 at your death but you leave $100,000 to your wife, $50,000 to your son and $20,000 to charity, you have to include $170,000 in your gross estate but you get $120,000 in deductions.

Most assets that count in the gross estate receive a step-up in basis to the fair market value when transferred to the heirs. For example, if you bought stock for $1,000 and it's worth $5,000 when you die, your heirs get to treat the stock as if they paid $5,000 for it, so there's considered to be less of a profit -- and therefore, less tax for them to pay -- when they eventually sell it. However, IRAs don't get any step-up. The distributions are generally just as taxable to your heirs as they would be if you had taken the money out yourself.

If an estate is large enough that it owes some estate taxes, the heirs get to claim a deduction for the portion of the estate tax allocatable to the IRA. The deduction is taken when the money comes out of the IRA. For example, say you inherit an IRA that costs your dad's estate an extra $100,000 of estate tax paid. If you withdraw half the money the first year and half the money the second year, you can take a $50,000 deduction each year.