Are Inherited Mineral Rights a Taxable Event? Simple Guide

You have just been notified that you have inherited some mineral rights. But are inherited mineral rights a taxable event? We’ll discuss.

Navigating the pitfalls of estate and inheritance tax can be a challenge. But we will break it down for you at the federal level and also state by state.

This guide will discuss how these rules work and determine and analyze some taxation related to inheriting mineral rights. Let’s get started.

Some background

When someone passes away, an estate is created. This estate includes all the assets of the person who passed away but also deducts any liabilities of the estate.

In most situations, a person’s estate includes real estate, stocks, and other assets. However, some estates include a large portion of mineral rights and royalties.

You’ll need to obtain the fair market values of all assets and then deduct any associated liabilities. The estate tax bill will be due if the net assets exceed $13.4 million.

It’s important to know that estate tax is different from inheritance tax. The federal government has an estate tax, but it does not have an inheritance tax. However, some states have an inheritance tax, and some have an estate tax. But most states don’t have either. Confused yet?

Do I have to pay tax on my inherited mineral rights?

The good news is that inheriting mineral rights is generally not a taxable event for the person who is inheriting them. However, it can be a taxable event for the estate of the person who passed away.

Let’s also not forget estate and inheritance taxes at the state level.

What about state inheritance and estate tax?

Aside from the federal estate tax, which has a top rate of 40 percent, some states also impose an additional estate or inheritance tax. Twelve states and the District of Columbia have estate taxes, while six states have inheritance taxes. Notably, Maryland is the only state that imposes both an estate tax and an inheritance tax, making it a unique case in the tax landscape.

Understanding the differences between estate and inheritance taxes is crucial when navigating the tax system. Estate taxes, which a decedent’s estate pays before assets are distributed to heirs, are based on the overall value of the person’s estate. In contrast, inheritance taxes are paid by the recipient of an estate and are calculated based on the amount distributed to each beneficiary.

The tax rates and exemptions play a significant role in the estate tax landscape. In most states, estate taxes are progressive: the tax rate increases with the total value of the decedent’s assets. Two states, Connecticut and Vermont, have flat estate taxes with a single tax rate. 

Washington and Hawaii have the highest top rates in the country at 20%. Eight states and Washington D.C. are next, with a top rate of 16%. All states impose certain exemptions that prevent smaller estates from being subject to these taxes. 

Oregon has the lowest exemption at $1 million, and Connecticut has the highest exemption at $12.92 million. Paying attention to these details can significantly impact your tax liabilities.

Of the six states that levy inheritance taxes, Kentucky and New Jersey have the highest top rate of 16%. Iowa is in the process of phasing out its inheritance tax, with full repeal scheduled for 2025.

All six states exempt spouses, with some fully or partially exempting immediate relatives. Compare state estate tax rates and inheritance tax rates below.

Let’s look at an example

Let’s look at an example: assume your father passed away on June 30th and left you with some mineral rights. You must determine the value of those mineral rights at that date. Let’s assume that the value is $10,000. This amount would be potentially taxable to your father and his estate. That also assumes that you are the sole heir of the estate.

So, you would not owe any estate or inheritance tax on the $10,000. But if your father’s estate exceeded $13.4 million in total, then estate tax would be due on the mineral rights.

The good news is that you are not responsible personally for any tax on the $10,000. However, you will have to record the royalty as income you receive.

Even though you must declare the royalty as income, you will still receive a deduction for local taxes and fees and a depletion allowance. This is discussed in more detail here.

Let’s do a slight variation on the example above. Let’s assume all the info is the same except that you and your sister inherited the mineral rights equally. That would be $5,000 of value to each of you.

This new scenario does not change the tech situation, but it does raise some concerns about how the assets are divided. The mineral rights were likely solely in your father’s name, but now they have to be split between you and your sister. There are a couple of ways to accomplish this.

1. you can set up a separate entity, like an LLC that will hold and retain all the assets and distribute them out the profits out to each of you annually.
2. You can have the less sore of the mineral rights complete a division order. This order will affectively divide these assets between the two of you. In this situation, you will receive your portion directly, and your sister will receive hers. this makes the accounting a little bit cleaner, but you have to go through the initial division order.

The table below spells out whether or not each state in the US has an inheritance tax and an estate tax.

State Estate Taxes and State Inheritance Taxes