Washington state’s estate tax hits only a small percentage of the state’s decedents. (The threshold for paying tax is $3,000,000, and though the data is scarce, it looks like less than one percent of estates trip over this amount.)
But when taxpayer estates do the pay the tax? Ouch. Rates start at 20%. And rise ultimately to 35%.
Further, as bad as that may sound if your estate or the estate of someone in your family pays this tax? The situation may be far worse because of the way “income in respect of a decedent” is taxed.
The problem in a nutshell: State estate taxes may fully tax the “pre-tax” income in respect of a decedent.
What is Income in Respect of a Decedent?!
Good and important question. And one we can best answer with a simple example. The most common form of income in respect of a decedent are the wages someone earned but hadn’t yet been paid when they died. That income hasn’t yet been subjected to income taxes. Thus, federal tax laws tax it.
Example: Someone dies with $10,000 of accrued wages. Those wages paid after death represent income in respect of a decedent. The estate or heirs pay the income taxes the decedent would have paid on the $10,000. Maybe $3,000 to $4,000 in most cases. Thus the estate or heirs may only receive $6,000 or $7,000. But Washington state may tax the full $10,000.
Now a single payroll? Probably not that big a deal. A family that’s just lost a breadwinner has far bigger issues and concerns. And most estates don’t pay the Washington state estate tax.
But if an estate does pay Washington state estate taxes, the IRD issue grows in significance. And here’s why.
IRD includes a bunch of stuff. It includes most retirement account balances like traditional deductible IRA, 401(k), 403(b) and 457(b) and cash balance retirement plans. IRD includes some of the common equity compensation income provided to technology company employees including nonqualified stock options, restricted stock units, restricted stock awards and then other deferred compensation or stock deferral plans. IRD can also include large windfall amounts—lottery winnings, composer and author royalties, and SEC and IRS whistleblower awards—which won’t be collected until years or decades after the estate taxes are due. (More on this in few paragraphs.)
How Washington State Handles IRD
The problem here? The Washington estate tax is imposed on the full value of income in respect of a decedent (IRD) without regard to the income taxes that will later be owed.
Example: A Washington decedent’s estate includes $10,000,000 of IRD and is subject to the top 35% Washington estate tax rate. The resulting state estate tax equals $3,500,000.
When the IRD is later received, the estate or beneficiaries receive an income-tax deduction under IRC §691(c) equal to the estate tax attributable to the IRD. As a result, only $6,500,000 of the IRD is subject to federal income tax. At a combined 37% federal rate plus 3.8% net investment income tax, that produces an additional $2,652,000 of federal income tax.
In total, the combined Washington estate tax and federal income tax equal $6,152,000 — an effective tax rate of roughly 62%
How Federal Estate Taxes Handle IRD and State Estate Taxes
The tax situation becomes even worse when federal estate tax applies because the decedent’s estate exceeds the basic exclusion amount. In that case, income in respect of a decedent (IRD) can be subjected to Washington estate tax, federal estate tax, and federal income tax.
Example: A Washington decedent’s estate includes $10,000,000 of IRD. Washington estate tax at 35% produces a $3,500,000 tax. Because Washington estate tax is deductible for federal estate tax purposes, the federal taxable estate attributable to the IRD equals $6,500,000, resulting in $2,600,000 of federal estate tax at a 40% rate.
The total estate tax attributable to the IRD is therefore $6,100,000. Under IRC §691(c), that amount becomes an income-tax deduction when the IRD is later received. As a result, only $3,900,000 of the IRD is subject to federal income tax. At a combined 37% federal rate plus 3.8% net investment income tax, this produces an additional $1,591,200 of income tax.
In total, combined Washington estate tax, federal estate tax, and federal income tax equal $7,691,200 — an effective tax rate of nearly 77% on the $10,000,000 of IRD.
And believe it or not, the situation can in a handful of situations get even worse. There is a nightmare scenario.
The Liquidity Nightmare: Estate Taxes Due Before IRD Pid
Here’s the true nightmare scenario: a decedent’s estate includes substantial income in respect of a decedent (IRD), but the estate will not actually receive the income for many years.
This can occur, for example, when IRD consists of a long-term payout stream such as a lottery annuity, structured settlement, or deferred compensation arrangement. In these cases, the estate tax is due shortly after death—even though the cash needed to pay that tax may not arrive for decades.
Example: Suppose a Washington decedent dies owning the right to receive $1,000,000 per year from a lottery annuity, with 15 annual payments remaining. For estate-tax purposes, the annuity is valued at $10,000,000. Washington estate tax at the top 35% rate produces a $3,500,000 estate tax liability attributable to the IRD.
The problem is timing. The Washington estate tax is generally due within nine months of death, but the estate does not receive its next $1,000,000 lottery payment until a year later. As a result, the estate must either borrow to pay the tax or request extensions while interest accrues.
When the first $1,000,000 annuity payment is eventually received, a substantial portion is immediately consumed by federal income taxes. Even after accounting for the §691(c) deduction, roughly $250,000 to $300,000 of the payment may go to federal income tax and net investment income tax. The remaining cash is then applied toward interest and principal on the estate tax obligation, leaving only a fraction of each annual payment to reduce the underlying estate tax balance.
Because the annuity payments are relatively small compared to the upfront estate tax liability, it can take many years for the estate to fully retire the tax debt. During that period, interest continues to accrue, and heirs may receive little or no net benefit from the IRD for a long time.
In extreme cases, the estate may be forced to borrow repeatedly or even liquidate non-IRD assets simply to service the estate tax obligation created by the IRD itself.
Some Quick Final Comments
What do you do about this? You’ve already taken the first step (maybe) which is recognizing the potential size of the problem if your estate includes substantial IRD.
As far as remedies or palliative measures? Your first step is probably to confer with a good estate planner. All the usual federal estate planning techniques and methods probably get turbocharged if you’re talking about IRD potentially subject to Washington state’s estate tax. (Here’s a primer of basic techniques: Washington state estate tax planning techniques. But if you’re potentially taxed on a lot of IRD? You’re going to want to look at the more sophisticated techniques available too.)
Thus, three closing remarks and ideas to discuss with your attorney or accountant.
First, an interesting feature of Washington’s estate tax regime is, the state doesn’t tax gifts. Thus, while a large gift to heirs might trigger federal gift taxes or use up the federal basic exclusion amount, those gifts typically don’t result in additional Washington state estate taxes.
Note: Starting in 2026, you can gift up to $15,000,000 without triggering gift taxes. Married? The amount doubles: You and your spouse can together gift up to $30,000,000.
Second, I’m usually not a big Roth account fan. (See here for a list of all blog posts that discuss the reasons here.) But paying the taxes now to convert a big $10,000,000 tax-deferred IRA (and IRD) to a smaller but equivalent after-tax $5,900,200 Roth account (which is not IRD)? That often makes good sense if it saves Washington state estate taxes. If a $10,000,000 traditional IRA gets converted and you’re avoiding the top estate tax rate, for example, the tax savings roughly equal $1.6 million.
And then, third, the other obvious option to at least consider: Someone with a lot of IRD in their estate may want to consider changing their domicile.
Additional Resources
Need more background information on the state’s new estate tax? Check out this blog post: Planning for the New 35% Washington State Estate Tax.
Want to estimate what state taxes an estate might pay? This calculator makes a good estimate for estates created after July 1, 2025: Washington State Estate Tax Calculator.