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What is Inheritance Tax & How is It Calculated?

Understanding the implications and methods to mitigate tax obligations remains essential for estate planning.

  • 6,093 Views | Updated on: Jun 26, 2024

You might be concerned about the tax burden on the assets you have inherited. Your inherited assets can comprise real estate or immovable property, as well as movable assets like gold, mutual funds, certificates of deposit, etc.

In India, there are various restrictions on the tax liability of any inherited asset. You can find all the information about tax on inheritance right here.

What is Inheritance Tax?

A sort of tax known as the tax on inheritance in India is assessed on the income that a person receives from their ancestors’ property. Property belonging to a deceased person would be passed on to their lawful heirs, who could be children, grandchildren, or wards, in the event of death.

Many times, the inherited property serves as the new owner’s source of income in the form of rent, interest, etc. The income belongs to the heir once they take ownership. As a result, the new owner is required to report this income and pay taxes as necessary. However, this tax on inheritance is not implemented anymore.

History of Inheritance Tax

The Inheritance tax was implemented in India through the Estate Duty Act of 1953 with the aim of taxing inherited wealth to lessen economic inequality. Key points about estate duty include:

  • Scope: The tax applied to the market value of all movable and immovable property inherited, including agricultural land.
  • Exemption: Not levied on the entire estate; an exemption limit was set by the Act.
  • Tax Rate: Determined by the market value at the time of death.
  • Abolition: Estate duty was abolished in 1985 due to high administrative costs and time involved in collection compared to the meager revenue generated.

When is the Inheritance Tax Levied?

Inheritance tax is levied on individuals who receive property from a deceased individual. The timeline for tax payment differs depending on the location, with the beneficiary usually required to pay within a designated period ranging from a few months to a year after the individual passes away. In certain areas, it may be possible to make installment payments, depending on the size of the inheritance.

How is Inheritance Tax Calculated?

Although there is no inheritance tax in India nowadays, it is quite intriguing to consider the existence of such a system in the past. An Estate Duty like the inheritance tax was once prevalent until the year 1985 until it was done away with by the then PM of India Mr. Rajiv Gandhi.

This Estate Duty, introduced in 1953, functioned like this:

  • Tax on Estate Value: It was a tax levied on the total value of the deceased’s estate at the time of death.
  • Exclusion Limit: Similar to today’s tax systems in other countries, there was an exclusion limit. Estates below a certain value were exempt from the duty.
  • Progressive Tax Rates: The tax rate increased as the estate value grew. Historical records suggest rates as high as 85% for some properties. Even properties valued at ₹1.5 lakh faced a 7.5% duty.
  • For example: In the 1980-81 regular budget, it was noted that the Estate Duty only contributed ₹12 crore out of the total gross tax revenue of ₹11,447 crore in the 1979-80 period. This contribution was later revised to ₹13 crore, accounting for 0.1% of the total revenue. The projected Estate Duty collection in the budget was estimated to be ₹13 crore.

Methods of Inheritance Tax

Will of Succession

This is a time-honored and conventional method of inheritance. In a will of succession, the deceased person names the rightful owner of their property in advance.

Inheritance by Nomination

A person can nominate someone of their choice (called a nominee). The asset and the benefit it produces are then legally owned by the nominee.

Inheritance by Joint Ownership

If an asset is owned jointly by two or more people, the survivor(s) is/are granted management of the asset following the passing of the other owner.

Taxation on Inherited Assets

In the Indian context, personal law and succession law are implemented together. That is if the policy holder dies without having proper will documentation, then the assets will be distributed following the Hindu Succession Act and other laws.

According to the Income Tax Act of 1961, there is no capital gains tax on inherited property as such, whether it is moveable or immovable. If the new owner chooses to sell the property, the tax will be imposed. The new owner is not required to pay any tax in the event of movable assets such as mutual funds, gold, shares, etc. However, when they choose to sell these mobile goods, they must pay taxes.

To Help You See Things More Clearly, Consider the Following Circumstances

Tax on Inheritance of Immovable Property

Remember to pay taxes on the long-term capital gains from the sold property when selling the inherited property. The new owner is responsible for paying taxes on the proceeds of the asset’s sale if it is kept for a period of time beyond three years from the date of acquisition.

According to Section 54 of the Income Tax Act of 1961, the new owner can avoid paying capital gains tax if they invest the proceeds of the sale in another asset with an equivalent or greater value. The remaining balance must be deposited in a Capital Gains Account scheme before filing an income tax return if the purchased property is of lower value.

According to the Foreign Exchange Management Act (FEMA), an NRI can inherit property in India without paying inheritance taxes.

Tax on the Inheritance of Movable Assets

The movable assets are not subject to tax unless they are sold by the legal heir, nominee, or joint owner. However, if acquiring movable assets, the inheritance owner must complete a number of formalities.

If you inherit a bank account, you must rename it to Account Holder Deceased. The pipeline flow to withdraw from the account will be attributed to you if you are the nominee, survivor, or legal heir.

If you inherit a locker, all of its contents will become your property. The bank will give you access to your possessions in exchange for an indemnity. Here, no tax is imposed.

Limitations of Inheritance Tax

Here are the top three common challenges associated with inheritance tax:

Double Taxation

One primary criticism is the potential for double taxation, where assets are taxed both during the deceased’s lifetime and again upon transfer to heirs. This can deter saving and investment and further lock up of resources by individuals who have already incurred taxes on their income.

Wealth Redistribution

Despite its goal to pursue the policies of wealth redistribution and equality of incomes, inheritance tax fails to do this quite often. To avoid paying hefty taxes, people who earn well can adopt methods like putting assets in trust or giving them away during their lifetime. In addition, inheritance tax may not be able to include all forms of wealth, such as those that may be situated outside the country or in some investments.

Complexity and Compliance Costs

Inheritance tax systems can be intricate and, as an upshot, are often fiscally and administratively demanding both for the taxpayers and the tax administrators. Evaluating assets, calculating the amount of taxes, and providing necessary reports are rather problematic and require much time and funds, resulting in mistakes, possible conflicts, and waste of resources. This caused more complications that led to the removal of this kind of tax in India in the year 1985.

Difference between Inheritance Tax vs Estate Tax

Here is a table highlighting the key differences between inheritance tax and estate tax:

Aspect

Inheritance Tax

Estate Tax

Definition

Tax on the value of inheritance received by the beneficiary

Tax on the total value of the deceased person’s estate

Payer

Beneficiary

Estate (handled by the estate’s executor)

Assessment Basis

Fair market value of inheritance received

Fair market value of the entire estate

Payment Responsibility

Beneficiary pays the tax

Estate pays the tax

Tax Trigger

Based on the inheritance received by each beneficiary

Based on the total value of the estate before distribution

Impact on Heirs

Beneficiaries might receive different amounts after tax

Estate value is reduced before distribution to all heirs

Potential Double Taxation

Possible in rare cases when both inheritance and estate taxes apply

Possible if inheritance is subject to both state inheritance tax and federal estate tax

Key Takeaways

  • An assessment of property acquired from a deceased person is known as an Inheritance tax.
  • India had an inheritance tax system called the Estate Duty, implemented in 1953 and abolished in 1985.
  • An inheritance tax is assessed on the value of the inheritance received by the beneficiary.
  • The estate tax is assessed on the value of an estate and paid by it.
  • The size of the inheritance and your relationship to the deceased will determine whether you must pay tax on inheritance
  • Smaller sums received from close relatives are more likely to be excluded.

Conclusion

Only inhabitants of six states are subject to tax on inheritance. Additionally, they primarily apply to distant relatives or others who had no connection to the deceased. The immediate family, parents, children, and spouses are frequently exempt. If they are taxed at all, siblings, grandkids, and grandparents are given preferential treatment (larger exemptions, lower rates). Even so, relatively small inheritance amounts, sometimes as low as ₹500, can trigger inheritance taxes. Consider estate-planning techniques like gifts, insurance policies, and irrevocable trusts if you are considering leaving a legacy that might be subject to tax on inheritance.

FAQs on Inheritance Tax India

1

What is inheritance tax in India?

Inheritance tax, formerly referred to as succession tax or death duty was a tax charged on the transfer of property between the deceased and the beneficiaries. Despite the fact that the inheritance tax was repealed back in 1985 in India many people still often wonder is inheritance taxable in India.

2

Why was inheritance tax abolished in India?

India abolished its inheritance tax, Estate Duty in 1985 due to poor implementation, loopholes, and its failure to reduce economic inequality. The high rates, reaching up to 85% for properties over ₹20 lakhs, and excessive administrative costs exceeded the tax collected, leading to its removal.

3

How to avoid inheritance tax?

There are estate planning tactics that can help reduce the impact of inheritance tax such as transferring assets through gifts before passing establishing trusts, taking advantage of exemptions and Income tax deductions, and making charitable contributions.

4

How to show inherited money in ITR?

Inherited money does not require disclosure on your ITR. As per section 47 of the Income Tax Act inherited wealth is not subject to taxation. Therefore, there is no necessity to report on your ITR. Tax obligations only come into play when selling inherited assets.

5

Can a father give all his property to one child in India?

Certainly, a father has the right to allocate his assets according to his preferences, even if he chooses to leave everything to a child.

- A Consumer Education Initiative series by Kotak Life

Amit Raje
Written By :
Amit Raje

Amit Raje is an experienced marketer who has worked in various Fintechs and leading Financial companies in India. With focused experience in Digital, Amit has pioneered multiple digital commerce in India. Now, close to two decades later, he is the vice president and head of the D2C business department. He masters the skill of strategic management, also being certified in it from IIMA. He has challenged his challenges and contributed his efforts in this journey of digital transformation.

Amit Raje
Reviewed By :
Prasad Pimple

Prasad Pimple has a decade-long experience in the Life insurance sector and as EVP, Kotak Life heads Digital Business. He is responsible for developing user friendly product journeys, creating consumer awareness and helping consumers in identifying need for life insurance solutions. He has 20+ years of experience in creating and building business verticals across Insurance, Telecom and Banking sectors

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