What Is Generational Wealth?

Generational wealth, a term that encompasses financial resources and assets passed down from one family generation to the next, has recently gained significant attention. This is particularly true in discussions about the racial wealth gap and the increasing concentration of wealth in the United States. The impact of generational wealth on these issues is profound, making it a crucial topic to understand.

Key Takeaways

• Generational wealth consists of assets passed from one generation of a family to the next.
• Some assets are transferred after the individual’s death through inheritance, while others are given during the giver’s lifetime.
• Generational wealth plays a significant role in the wealth disparity between the affluent and less wealthy in the U.S. and the racial wealth gap.

Generational Wealth Transfers After Death

Most generational wealth is transmitted after death through inheritance. For the majority of American families, inheritances are relatively small. For instance, between 1995 and 2016, over 55% of inheritances were under $50,000. Conversely, only 2% of inheritances exceeded $1 million, but this small percentage represented over 40% of the total inherited wealth; the 55% of inheritances below $50,000 collectively contributed to less than 6% of the total inherited wealth.

The federal government imposes estate taxes on inheritances above a specific threshold. Additionally, some states have their own estate or inheritance taxes. The estate itself pays estate taxes, while inheritance taxes are the heirs’ responsibility.

Most inheritances in the U.S. do not exceed the federal estate tax exemption limit, which is $13.61 million for 2024. The federal government does not levy an inheritance tax.

State estate and inheritance taxes also affect a small percentage of families. Only 12 states plus the District of Columbia impose estate taxes. These states are Connecticut, Hawaii, Illinois, Maine, Maryland, Massachusetts, Minnesota, New York, Oregon, Rhode Island, Vermont, and Washington. All these states have exemptions starting at $1 million, with some offering much higher thresholds.

Seventeen states and the District of Columbia have inheritance or estate taxes; only Maryland enforces both. These taxes can vary based on the heir’s income level and relationship to the deceased. Transfers between spouses are not taxed. Wealthy families often use trusts and other legal mechanisms to minimize estate or inheritance taxes.

Generational Wealth Transfers During Life

Generational wealth does not always have to be passed down through death. Families can transfer significant amounts of wealth in other ways, including:

• Gifts: In 2024, families can give $18,000 per person, or $36,000 per couple, in money or property without incurring federal gift taxes. For instance, a couple with four children could gift $144,000 tax-free in 2024 and continue to make such gifts in subsequent years.
• Educational Expenses: Payments made directly to academic institutions for someone’s tuition are also a common way to transfer wealth without incurring gift taxes. However, other educational expenses, such as room, board, and books, are not exempt from gift taxes.
• Medical Expenses: Similar to educational expenses, payments made directly to medical providers for someone’s medical care are not subject to gift taxes.

Generational Wealth and the Wealth Gap

According to a Federal Reserve survey, the wealthiest 10% of the U.S. population holds 74% of the country’s total wealth. In contrast, the bottom 50% has only 2%. A significant factor contributing to this disparity is the transfer of wealth from one generation to the next.

A 2018 Federal Reserve analysis underscored the significant impact of intergenerational transfers on wealth distribution. It revealed that nearly 40% of these transfers went to households in the top 10% of income earners, while about 20% went to families in the bottom 50%. This data highlights the role of generational wealth in shaping economic disparities.

Various types of intergenerational wealth transfers play a significant role in wealth accumulation. For instance, education is closely linked with more significant earning potential and wealth accumulation. Therefore, a family that can fund the next generation’s college education gives them a considerable advantage in building their wealth, empowering them to strive for financial success.

Note

The Great Gatsby Curve, a visual representation of the correlation between income inequality and the potential for upward mobility, offers a glimmer of hope. It shows a strong positive relationship between inequality and limited upward advancement across generations, suggesting that efforts to reduce inequality can pave the way for a more promising financial future.

Generational Wealth and the Racial Wealth Gap

The 2022 Survey of Consumer Finances by the Federal Reserve reveals racial disparities in financial well-being across the U.S. The report indicates that the average White family holds approximately six times more wealth than the average Black family and five times more than the average Hispanic family.

In 2022, the median wealth for White families was $287,000, compared to $45,000 for Black families and $61,000 for Hispanic families. The St. Louis Fed attributes the significant gap between White and Black families to historical practices and policies that systematically deprived Black families of wealth and facilitated wealth accumulation among White families.

The report notes that “overcoming these gaps remains extremely challenging” due to ongoing barriers and the intergenerational nature of wealth.

How Do You Build Generational Wealth?

Generational wealth can be built through various means, including investing in stocks and bonds, owning real estate, starting a business, or combining these strategies. Effective estate planning ensures that generational wealth is preserved and not diminished by avoidable taxes.

What Is Considered a Gift for Tax Purposes?

The Internal Revenue Service defines a gift as “any transfer to an individual, either directly or indirectly, where full consideration (measured in money or money’s worth) is not received in return.”

How Much Is the Federal Estate Tax?

The federal estate tax currently ranges from 18% to 40% of the taxable amount, which is the portion exceeding the exemption limit.

The Bottom Line

Families in the U.S. can pass on wealth from one generation to the next through inheritances and other methods, often without tax consequences. Critics argue that the transfer of generational wealth exacerbates inequality, widening the gap between wealthy individuals and the rest of the population and between White Americans and racial minority groups.