Does Maryland inheritance tax apply to money from a retirement plan or IRA left to someone other than a surviving spouse?

Plain-English summary

A Register of Wills asked the Attorney General three questions about how Maryland's inheritance tax treats money passing from retirement plans, IRAs, and annuities: whether a 1990 change to the Tax-General Article changed the tax treatment of these plans, whether a smaller estate size makes the plan proceeds exempt, and whether proceeds going to a surviving spouse are exempt.

The opinion answered all three. First, the 1990 amendment to TG §7-203(a) did not change the law at all, it just fixed a drafting mistake made when Maryland's tax statutes were recodified in 1988, restoring the original rule that has applied since 1978: retirement plan proceeds are taxed exactly as they are treated under federal estate tax law. Second, the size of the decedent's estate has nothing to do with whether plan proceeds are taxable, since federal law already includes virtually all such proceeds in a decedent's gross estate regardless of estate size, even if a federal tax credit later reduces the actual federal tax bill to zero. Third, proceeds passing to a surviving spouse are generally exempt from Maryland inheritance tax, because they typically qualify for the federal marital deduction, which under Maryland's linked-to-federal-law rule keeps them out of Maryland's tax too, though the exact answer for a surviving noncitizen spouse depends on more specific federal marital deduction rules.

Currency note

This opinion was issued in 1991 and interpreted TG §7-203(a) of the Tax-General Article together with several Internal Revenue Code provisions (I.R.C. §§2039, 2056, 2010) as they then existed, including the effects of the Tax Equity and Fiscal Responsibility Act of 1982 and the Tax Reform Act of 1984. Subsequent amendments to Maryland's inheritance tax statute, further Internal Revenue Code changes, court decisions, or later AG opinions may have changed this analysis substantially, particularly given how often federal estate and gift tax exemption amounts and marital deduction rules have since been revised. Treat this page as historical context, not current legal advice. Verify the current Maryland inheritance tax rules and federal estate tax figures before relying on any specific rule or dollar amount described here.

Common questions

Does Maryland charge inheritance tax on a 401(k), IRA, or pension paid to a beneficiary? According to this 1991 opinion, generally yes, if the proceeds are taxable for federal estate tax purposes. The Attorney General concluded that under TG §7-203(a), retirement plan proceeds follow federal tax treatment, and virtually all such proceeds were includable in a decedent's federal gross estate under the law as it then stood.

Does a small estate avoid inheritance tax on retirement plan proceeds? No, according to the opinion. It concluded that the size of the decedent's estate does not affect whether retirement plan proceeds are taxable, since the federal unified credit only reduces the amount of tax owed on an already-includable estate, and does not change whether the proceeds counted as "taxable for federal estate tax purposes" in the first place.

Is money from a retirement plan left to a surviving spouse taxed in Maryland? Generally no, according to the opinion. It concluded that retirement plan proceeds passing to a surviving spouse are typically exempt from Maryland inheritance tax because they usually qualify for the federal marital deduction, though the opinion flagged more complex rules for a noncitizen surviving spouse and for property qualifying only as "qualified terminable interest property."

Background and statutory framework

Maryland's inheritance tax reaches property passing from a decedent with a Maryland taxable situs under TG §7-202, subject to exemptions in TG §7-203, including a life insurance exemption in TG §7-203(d). Before 1978, public retirement plan proceeds were treated as exempt like life insurance, while private plan proceeds were taxable because the power to name a beneficiary was treated as retained "dominion" under former Article 81, §151. Chapter 187 of the Laws of Maryland 1978 amended §151 to say that naming a beneficiary no longer counted as dominion, and instead tied Maryland taxability of retirement plan proceeds directly to their federal estate tax treatment. When Maryland recodified its tax statutes into the new Tax-General Article by Chapter 2 of the Laws of Maryland 1988, the recodified TG §7-203(a) accidentally tied taxability to §11-105 of the Estates and Trusts Article instead, a narrower and different standard than the old federal linkage. The opinion found this was an unintended drafting slip rather than a deliberate substantive change, citing In re Special Investigation No. 236 for the presumption that recodification is meant to clarify, not alter, existing law, and explained that Chapter 706 of the Laws of Maryland 1990 (originally introduced as House Bill 1538) corrected the error retroactively to restore the original federal-law linkage.

On the federal side, the opinion traced I.R.C. §2039's treatment of retirement plan proceeds from an unlimited pre-1982 estate tax exclusion, through a $100,000 cap imposed by the Tax Equity and Fiscal Responsibility Act of 1982, to that cap's full repeal by the Tax Reform Act of 1984, meaning virtually all retirement plan proceeds are now includable in a decedent's gross estate. The opinion distinguished "gross estate" from "taxable estate," explaining that deductions under I.R.C. §§2052 through 2056, including the marital deduction of I.R.C. §2056(a) for property passing to a spouse, are what actually reduce the taxable estate, and that the separate unified credit under I.R.C. §2010 only reduces the tax bill on an already-determined taxable estate rather than shrinking the estate itself. Applying the rule from Perdue, Inc. v. State Department of Assessments and Taxation that tax exemptions are strictly construed against the taxpayer, the opinion concluded that proceeds includable in the federal gross estate remain "taxable for federal estate tax purposes," and so remain subject to Maryland inheritance tax, even where the federal unified credit reduces the actual federal tax due to zero.

Citations and references

Statutes:

• TG §7-202, imposing Maryland's inheritance tax on property with a Maryland taxable situs
• TG §7-203, listing the exceptions to Maryland's inheritance tax
• TG §7-203(d), exempting life insurance proceeds payable to a beneficiary other than the estate
• former Article 81, §151, the pre-1988 statute governing "dominion" over property and the taxability of retirement plan proceeds
• Chapter 187 of the Laws of Maryland 1978, amending §151 to exclude beneficiary designation from "dominion" and link plan taxability to federal law
• Chapter 2 of the Laws of Maryland 1988, recodifying Maryland's tax statutes into the Tax-General Article effective January 1, 1989
• TG §7-203(a), the recodified (and later corrected) provision governing inheritance tax on retirement plan proceeds
• §11-105 of the Estates and Trusts Article, the narrower standard TG §7-203(a) was mistakenly tied to in the 1988 recodification
• Chapter 706 of the Laws of Maryland 1990, correcting the 1988 drafting error retroactively to January 1, 1989
• 26 U.S.C. §§2039 and 2056, the federal provisions governing gross estate inclusion and estate tax deductions for retirement plan proceeds
• I.R.C. §2039(a), including in the gross estate an annuity or payment receivable by a beneficiary by reason of surviving the decedent
• I.R.C. §2039(b), limiting §2039(a) inclusion to the portion of the purchase price attributable to the decedent (including employer contributions made by reason of employment)
• I.R.C. §§2052 through 2056, the deductions used to calculate the taxable estate from the gross estate
• I.R.C. Reg. §20.2051-1, defining the taxable estate as the gross estate less allowable deductions
• I.R.C. §2056(a), allowing a marital deduction for qualifying property passing to a decedent's spouse
• I.R.C. §2010, the unified credit against gift and estate tax, $192,800 for 1987 and thereafter
• I.R.C. §2052, the former $60,000 estate tax exemption replaced by the unified credit
• I.R.C. Reg. §20.2039-1T, a temporary regulation on transitional rules following the Tax Reform Act's repeal of the $100,000 exclusion
• TG §7-203(j)(3), exempting the first $100,000 of personal property passing to a surviving spouse other than by right of survivorship
• I.R.C. §2056(d)(2)(A), requiring a qualified domestic trust for a noncitizen surviving spouse to claim the marital deduction
• I.R.C. §2056(b)(7), allowing a marital deduction for qualified terminable interest property passing to a spouse for life
• House Bill 1538, the 1990 emergency bill enacted as Chapter 706 to correct the recodification error

Cases:

• In re Special Investigation No. 236, 295 Md. 573, 458 A.2d 75 (1983), Maryland Court of Appeals decision on the presumption that recodification clarifies rather than substantively changes the law
• Perdue, Inc. v. State Department of Assessments and Taxation, 264 Md. 228, 233, 286 A.2d 165 (1972), Maryland Court of Appeals decision holding tax exemptions are strictly construed in favor of the State
• Supervisor v. Washington National Arena, 42 Md. App. 695, 402 A.2d 148 (1979), Maryland Court of Special Appeals decision cited alongside Perdue on strict construction of tax exemptions

Source

• Landing page: https://oag.maryland.gov/resources-info/Pages/attorney-general%E2%80%99s-opinions.aspx
• Original PDF: https://oag.maryland.gov/resources-info/Documents/pdfs/Opinions/1991/Volume76_1991.pdf (this opinion appears at printed pages 385-391 of the bound annual volume; Maryland's site does not publish a standalone PDF of this opinion)

Original opinion text

Best-effort transcription from a scanned PDF. Minor errors may remain, the linked PDF is authoritative.

TAXATION

Taxation - Estate Taxes - Applicability of Inheritance Tax to Retirement Plans

July 1, 1991

The Honorable Kay Hartleb
Register of Wills for Howard County

You have requested our opinion concerning application of the Maryland inheritance tax to various retirement plans, individual retirement accounts, and annuities.1 Specifically, you have inquired whether a 1990 amendment to §7-203(a) of the Tax-General Article ("TG" Article) has changed the taxability of the proceeds of retirement plans. You have also inquired whether the size of the decedent's estate affects the taxability of these retirement plan proceeds and whether retirement plan proceeds passing to a surviving spouse are exempt from the inheritance tax.

For the reasons set forth below, we conclude as follows:

1. The 1990 amendment to TG §7-203(a) does not represent a substantive change in the law and therefore did not change the tax status of retirement plan proceeds. The amendment merely corrected an inadvertent error.

2. The taxability of retirement plan proceeds is not premised on the size of the decedent's estate.

3. As a general rule, retirement plan proceeds passing to a surviving

spouse are exempt from Maryland inheritance tax.

                               I

                      Applicable Laws

A. Maryland Law

The Maryland inheritance tax generally is imposed on the value of property that passes from a decedent and has a taxable situs in the State. TG §7-202. The only exceptions are set out in TG §7-203. To cite an important exemption, "[t]he inheritance tax does not apply to the receipt of the proceeds of a life insurance policy payable to any beneficiary other than the estate of the insured." TG §7-203(d).

Prior to 1978, the proceeds of public retirement plans were not subject to the Maryland inheritance tax, on the theory that a public retirement plan was analogous to a nontaxable life insurance contract. 52 Opinions of the Attorney General 403 (1967). By contrast, the proceeds of private retirement plans in which employees had vested rights were subject to the tax because, in the words of former Article 81, §151, the tax extended to property "over which the decedent retained any dominion during his lifetime" and the authority to designate the beneficiary was deemed to constitute dominion. 57 Opinions of the Attorney General 545 (1972); 56 Opinions of the Attorney General 368 (1971); 51 Opinions of the Attorney General 207 (1966).

Former Article 81, §151 was amended by Chapter 187 of the Laws of Maryland 1978 to establish that the right to designate the beneficiary of a retirement plan would not constitute "dominion" within the meaning of the statute. The 1978 amendment also provided that the taxability of retirement plan proceeds would be tied directly to their taxability under federal law. Former Article 81, §151, as amended in 1978, provided in pertinent part:

The [inheritance] tax imposed by §§149 and 150 of this subtitle applies to all tangible or intangible property, real or personal, passing either by will or under the intestate laws of this State ... including property over which the decedent retained any dominion during his lifetime .... The reservation of a beneficial interest in favor of the decedent or of a power of revocation, absolute or conditional, or of a power of appointment by will or otherwise, in or over any property passing subject to the tax imposed by this subtitle, shall be deemed to constitute dominion within the meaning of this section, except that the authority to designate the beneficiary of annuities or other payments under public or private employees' pension or benefit plans does not constitute dominion for the purposes of this section. These payments, if not taxable for federal estate tax purposes, are not subject to the taxes imposed by §§149 and 150 of this subtitle.

(Emphasis indicating 1978 amendment added.)

In Chapter 2 of the Laws of Maryland 1988, the statutes governing Maryland's inheritance tax were recodified as part of the new Tax- General Article, which became effective January 1, 1989. The pertinent part of former Article 81, §151 relating to the taxability of retirement plan proceeds was recodified as TG §7-203(a), which provided as follows: "The inheritance tax does not apply to the receipt of a death benefit excluded from an estate under §11-105 of the Estates and Trusts Article."

This subsection was subsequently amended by Chapter 706 of the Laws of Maryland 1990, effective from date of passage and applicable retroactively to people who died on or after January 1, 1989 (the effective date of the Tax-General Article). TG §7-203(a), after this amendment, provides as follows: "The inheritance tax does not apply to the receipt of an annuity or other payment under a public or private employees' pension or benefit plan if the annuity or other payment is not taxable for federal estate tax purposes."

B. Federal Law

Two provisions of the Internal Revenue Code ("I.R.C."), 26 U.S.C. §§2039 and 2056, govern the federal taxability of retirement plan proceeds in ways pertinent to your questions. I.R.C. §2039 specifies the values that are includable in the decedent's gross estate, and I.R.C. §2056 specifies the circumstances under which plan proceeds that are includable in the decedent's gross estate may be deducted from it in determining the taxable estate.

I.R.C. §2039 has changed dramatically since 1978, when the Maryland inheritance tax law first linked the taxability of retirement plan proceeds to federal law. Prior to 1982, the proceeds of qualified retirement plans enjoyed an unlimited exclusion from a decedent's gross federal estate so long as the proceeds were payable to a beneficiary other than the decedent's estate. The Tax Equity and Fiscal Responsibility Act of 1982 limited this exclusion to $100,000. The Tax Reform Act of 1984 repealed the $100,000 exclusion altogether.2

I.R.C. §2039(a) currently provides as follows:

The gross estate shall include the value of an annuity or other payment receivable by any beneficiary by reason of surviving the decedent under any form of contract or agreement ...
(other than as insurance under policies on the life of the decedent), if, under such contract or agreement, an annuity or other payment was payable to the decedent ....

I.R.C. §2039(b) expressly refers to retirement plans:

Subsection (a) shall apply to only such part of the value of the annuity or other payment receivable under such contract or agreement as is proportionate to that part of the purchase price therefor contributed by the decedent. For purposes of this section, any contribution by the decedent's employer or former employer to the purchase price of such contract or agreement (whether or not to an employee's trust or fund forming part of a pension, annuity, retirement, bonus or profit sharing plan) shall be considered to be contributed by the decedent if made by reason of his employment.

To summarize, in 1978 the proceeds of qualified retirement plans were excludable from the decedent's gross estate and therefore were not taxable for federal estate tax purposes. Under the current federal law, however, the proceeds of virtually all retirement plans, individual retirement accounts, annuities, and profit-sharing plans are included in a decedent's gross estate.

The fact that plan proceeds are included in the decedent's gross estate does not, in and of itself, make these proceeds taxable for federal estate tax purposes, for there is an important distinction between the decedent's gross estate and the taxable estate. The "taxable estate" for federal estate tax purposes is determined by subtracting the deductions authorized by I.R.C. §§2052 through 2056 from the total amount of property included in the decedent's gross estate. I.R.C. Reg. §20.2051-

1. In determining the taxable federal estate, a marital deduction may be
   taken for qualifying property passing to the decedent's spouse. I.R.C.
   §2056(a). See Part IV below.

                              II
   
                Effect of 1990 Amendment
   

   The 1988 recodification into the new Tax-General Article of the
   provisions of former Article 81, §151, pertaining to the taxability of retirement plan proceeds, resulted in an inadvertent substantive change. For the first time, the taxability of these plan proceeds was tied directly to §11-105 of the Estates and Trust Article ("ET" Article). As originally enacted, TG §7-203(a) provided that "[t]he inheritance tax does not apply to the receipt of a death benefit excluded from an estate under
   §11-105 of the Estates and Trusts Article." Although ET §11-105 excludes certain retirement plan benefits from the decedent's estate, these exclusions are not co-extensive with federal tax exclusions. Thus, if the originally enacted TG §7-203(a) had remained in effect, it would have had tax consequences different than those of its predecessor, former Article 81, §151, which linked the Maryland tax to the federal tax.

   This substantive change was not intended. Recodification of
   statutes is presumed to be for the purpose of clarity, rather than a change of meaning, unless the General Assembly expresses its intention to modify the law substantively. See In re Special Investigation No. 236, 295 Md. 573, 458 A.2d 75 (1983).

   In 1990, House Bill 1538 was introduced to correct this inadvertent
   substantive change. It was introduced as an emergency bill, effective upon passage and applicable retroactively to January 1, 1989, the effective date of the Tax-General Article. This bill, enacted as Chapter 706 of the Acts of Laws of Maryland 1990, stated in its purpose clause that it was "intended to be corrective and clarifying."

In summary, the State law regarding the taxability of retirement plan proceeds has remained unchanged since 1978. The 1990 amendment to TG §7-203(a) merely restated prior law.

                               III

 Size of Decedent's Estate and Taxability of Plan Proceeds

 Under TG §7-203(a), retirement plan proceeds are subject to the

inheritance tax unless they are "not taxable for federal estate tax purposes." In our view, retirement plan proceeds that are included in the taxable estate are "taxable for federal estate tax purposes" and therefore subject to Maryland inheritance tax, even if the federal tax on the estate ultimately equals zero because of the application of a federal tax credit.

 Under I.R.C. §2010, a unified credit is allowed against gift and

estate taxes owed with respect to a decedent's lifetime transfers and transfers made at death. The amount of the unified credit for 1987 and thereafter is $192,800. The unified credit, first enacted in 1976, replaced an exemption of $60,000 that was deductible from the decedent's gross estate pursuant to I.R.C. §2052 in determining the taxable estate. Thus, instead of reducing the size of the taxable estate, the credit reduces the amount of the tax payable with respect to the taxable estate. In the case of estates smaller than $600,000, the credit reduces the tax to zero.

Retirement plan proceeds are "taxable for federal estate tax purposes"

and therefore subject to State inheritance tax under TG §7-203(a) if they are includable in the decedent's gross federal estate and not deductible from the estate in determining the federal taxable estate. This State tax consequence exists even if the federal tax payable is zero because of application of the unified credit. Cf. 63 Opinions of the Attorney General 623 (1978) (deed for no consideration is a "taxable" instrument even though tax on it is zero).

 Although we are of the view that the statute is clear, to the extent

that an ambiguity might be thought to exist, TG §7-203(a) would in any event be subject to the principle that tax exemptions are to be strictly construed in favor of the State. "[I]f any real doubt exists as to the propriety of an exemption that doubt must be resolved in favor of the State." Perdue, Inc. v. State Department of Assessments and Taxation, 264 Md. 228, 233, 286 A.2d 165 (1972) (emphasis in original). See also, e.g., Supervisor v. Washington National Arena, 42 Md. App. 695, 402 A.2d 148 (1979). Neither the language nor the history of TG §7- 203(a) suggests that the Legislature intended to expand the exemption from Maryland inheritance tax to apply to retirement plan proceeds that are included in the decedent's federal taxable estate, simply because the tax on the estate is not large enough to exceed the amount of the unified federal credit.

  The size of the decedent's taxable estate determines whether any

federal tax is ultimately payable but does not determine whether retirement plan proceeds are taxable for federal estate tax purposes. Hence, the size of the decedent's estate does not affect the application of the Maryland inheritance tax to retirement plan proceeds.

                               IV

        Surviving Spouse Deductions and Exemption

As set forth in Part II above, the "taxable estate" for federal estate

tax purposes is determined by subtracting certain authorized deductions from the decedent's gross estate. Accordingly, to the extent that the proceeds of a retirement plan passing to a surviving spouse would qualify for a federal estate tax marital deduction, they would be exempt from the Maryland inheritance tax.

  In stating this general conclusion, we are not unmindful of the

complex set of rules governing whether property passing to a surviving spouse qualifies for the federal marital deduction. Although it is beyond the scope of this opinion to provide a comprehensive review of the federal law on the marital deduction, the following brief summary may offer some guidance.

   Plan proceeds passing outright to a surviving spouse who is a

U.S. citizen qualify for deduction from the decedent's estate. I.R.C.
§2056(a). Plan proceeds passing to a spouse who is not a U.S. citizen does not qualify for the marital deduction unless the plan is part of a qualified domestic trust. I.R.C. §2056(d)(2)(A). Similarly, plan proceeds passing to a surviving spouse for life may be deductible as "qualified terminable interest property." I.R.C. §2056(b)(7).

In the event that plan proceeds payable to a surviving spouse do not qualify for a federal deduction, thereby rendering them not exempt from Maryland inheritance tax under TG §7-203(a), the proceeds might still be exempt from Maryland inheritance tax if TG §7-203(j)(3) applies. That provision exempts the first $100,000 of personal property passing to the surviving spouse from the decedent other than by right of survivorship.

                               V

                          Conclusion

In summary, it is our opinion that the proceeds of a retirement plan

are subject to Maryland inheritance tax if the proceeds are taxable for federal estate tax purposes. The proceeds of virtually all retirement plans are currently taxable for federal estate tax purposes, except those passing to the surviving spouse and qualifying for the marital deduction. The size of the decedent's estate does not affect the taxability of retire- ment plan proceeds.

                                       J. Joseph Curran, Jr.
                                       Attorney General

                                       Susan P. Whiteford
                                       Assistant Attorney General

                                       Julia M. Freit
                                       Assistant Attorney General

Jack Schwartz
Chief Counsel
Opinions and Advice

1
For brevity's sake we will generally refer to these investment vehicles collectively as "retirement plans" or "plans."

2
The repeal of the $100,000 exclusion by the Tax Reform Act is generally effective with respect to decedents dying after December 31, 1984. However, certain transitional rules, which are honored by Maryland taxing authorities, still apply. See I.R.C. Reg. §20.2039-1T.