Minnesota Estate Tax

Minnesota imposes its own estate tax on estates that have a total value of more than $1 million, or $5 million for qualifying small businesses and farms. That means that even if the estate you’re handling isn’t large enough to owe federal estate tax, it might need to pay a separate Minnesota estate tax.

Minnesota does not have an inheritance tax.

Which Estates Must File

For deaths in 2011 or 2012, if the gross estate of a Minnesota resident has a value of more than $1 million, the executor must file a state estate tax return. (Under current law, federal estate tax returns are required only for estates worth more than $5 million in 2011, and $5.12 million in 2012.) That doesn’t mean the estate will necessarily owe tax. Because some expenses can be subtracted from the gross estate, and some property (for example, property left to the surviving spouse) is not taxed, the estate may be over the filing threshold but not owe tax. Also, the exempt amount for certain small businesses and farms is $5 million, as discussed below.

It’s not just state residents who may owe Minnesota estate tax; the state also taxes assets that are physically in the state. So if a deceased nonresident owned valuable real estate in Minnesota or kept other tangible assets in the state, the estate may need to file a Minnesota estate tax return.

Adding Up the Gross Estate

To determine whether or not a Minnesota estate tax return is required, add up the value of the deceased person’s gross estate, as of the date of the person’s death. (If you’re required to file a federal estate tax return, you can choose the alternate valuation date of six months after the death.) Be sure to include:

• Minnesota real estate
• Bank accounts, certificates of deposit, and investment accounts, including those for which a payable-on-death beneficiary was named
• Vehicles and other personal property
• Proceeds from life insurance policies on the deceased person’s life, unless that person didn’t own the policy
• Retirement account funds
• Business interests (sole proprietorship, limited liability company, or small corporation)

If any assets were owned with someone else, count only the value of the deceased person’s interest. For example, if the deceased person owned a house with her husband, include half of its value. If, however, property was held in joint tenancy, then include the total value except for funds that the other person contributed. For example, the full value of a joint tenancy bank account would be included, unless the other owner actually made contributions to the account.

Also include:

• Taxable gifts made during life. If the deceased person made taxable gifts (more than the annual exclusion amount, which is currently $13,000 per year per recipient), then add the taxable amount of those gifts to the value of the estate.
• Some transfers made fewer than three years before death. If the deceased person transferred a life insurance policy to an irrevocable life insurance trust within three years of death, you must include the value of the policy in the estate. 
• Assets held in a trust. The value of assets the deceased person held in a revocable living trust or other trusts the deceased person controlled is included in the taxable estate.

Property Left to a Surviving Spouse

Property left to a surviving spouse is exempt from state estate tax, no matter what the amount.

Spouses cannot share their individual estate tax exemptions for Minnesota estate tax purposes. Federal law, by contrast, currently allows spouses to share their individual federal estate tax exemptions. If the first spouse to die doesn’t use up all of his or her entire $5 million federal estate tax exemption, then the second spouse’s estate can use the unused portion of the first spouse’s exemption amount. This is called the “portability” provision; it’s set to expire at the end of 2012, but Congress could extend it.

Special $5 Million Exemption for Some Small Businesses and Farms

Not all small businesses and farms qualify for the $5 million exemption from Minnesota estate tax. There are several requirements, including:

• The business must be closely held (not publicly traded)
• It must have $10 million or less in annual gross sales
• The deceased person (or his or her spouse) must have been participating in the business
• The deceased person must have owned the business for at least the three years before death
• A family member must inherit the business
• The inheritor must participate significantly in the business for three years after the death

Many of the requirements are the same for a farm, but the farm must also be classified as the deceased owner's "agricultural homestead" and must comply with detailed rules about ownership in order to qualify as a family farm. If you think property in the deceased person's estate could qualify for the special $5 million estate tax exemption, obviously you should consult an attorney for advice.

Filing the Tax Return and Paying the Bill

The executor must file the Minnesota estate tax return (Form M706) 15 months after the date of death. The official deadline is nine months after the death, but every estate gets an automatic six-month extension.

The tax, however, must be paid nine months after the death; if it isn’t, penalties and interest start to accrue on the unpaid amount. You may be able to pay in installments if you’re also paying federal estate tax in installments. You’ll still have to pay interest on the balance. And if the IRS grants the estate an extension for paying the federal tax, you won’t be assessed a late payment penalty on any tax due Minnesota that’s not paid by the regular due date.

Before you can prepare the Minnesota return, you’ll have to fill out a federal estate tax return (IRS Form 706), even if you aren’t required to file it with the IRS. You must attach the federal return (including schedules) to the state return when you file it.

For Minnesota estate tax return information and downloadable forms and instructions, go to the state revenue department’s website.

Expert Help With Estate Tax Returns

Preparing a state or federal estate tax return isn’t a job you’ll want to tackle yourself; you need an expert. Both state and federal returns are long and complicated—and if a Minnesota return is required, you’ll have to prepare a federal one as well. Find a lawyer or a CPA who has lots of recent experience with state and federal estate tax returns and procedures. The fee will probably be several thousand dollars, but it will be worth it.