Every estate is liable for estate tax. However, each person has a combined lifetime federal estate and gift tax exemption (for persons dying in 2017) of approximately $5.49 million. In 2018 the combined lifetime federal estate and gift tax almost doubled to $11.2 miller per person. The amount stays in effect until 2016. At that time the law will grandfather back to the lower $5.49 million with some adjustments for inflation.
With the combined lifetime federal estate and gift tax at such a large amount, this is an excellent time to gift assets outside of your taxable estate. There are several excellent planning tools to accomplish this. One of Rhonda Miller’s favorites is a Spousal Lifetime Access Trust (SLAT). This trust allows one spouse to gift assets to the other spouse and vice versa. The gift can be done with discounts. The giftee spouse has access to the assets. The assets grow outside of the couple’s taxable estate. When both of the spouses die these assets will continue to grow tax-free for the generations to come outside of the estate of children, grandchildren and great-grandchildren. This is a wonderful and tax effective way to pass on wealth. An added bonus is the assets in the SLAT also receive creditor protection.
Gifting from one generation to the next is a wonderful opportunity right now. Rhonda is handling a lot of family businesses. In some instances, Dad or Mom is ready to retire and wants to get his or her shares to the children now running the business. Depending on the size of the estate this can be done all at once or a plan can be developed to optimize the ability to lower the value of the actual gift. This is done through valuation discounts. Lack of marketability and lack of control are the two most popular.
If you are putting off your planning, thinking the combined lifetime federal estate and gift tax is so large you do not need to plan, you may be missing out on a great opportunity.
There is no state estate tax in Virginia, DC or California. However, many other states do. In some states, you do not have to be a resident but merely own property in that state to have it subject to that state’s estate tax. It is not just real property that is subject to tax but also bank accounts and stocks. If a bank is only located in a state that has a state estate tax, that account will be subject to that state’s estate tax.
In addition to state estate tax, some states have death tax and inheritance tax. Again Virginia, DC and California do not have these taxes. Like with state estate tax, owning property in one of the states that impose death taxes and inheritance taxes may subject you to death tax or inheritance tax.
Recently we worked with a Virginia client who owned multiples pieces of property in Pennsylvania, Illinois and a farm Iowa. Pennsylvania has a 4% death tax on assets except for farmland. Illinois has a state estate tax rate that varies. The highest rate is 28.5%. Iowa has inheritance tax even on farmland.
It is important that documents be drafted for flexibility to deal with owning property in states that have state estate tax, inheritance tax and/or death tax. It is also important to draft documents that have a flexible tax section in case you move to a state that has state estate tax, inheritance tax or death tax.
The value of an estate is determined by the value of all property including death benefits and cash value of life insurance of the decedent. Although life insurance is not subject to income tax it is subject to estate tax. Over all estate value also includes your personal property. For those of you who have valuable collectables they can add serious value to an already highly valued estate. It is very important that good estate documents address personal property. If you are lucky enough to have collectibles do you want to donate them to a museum? Have you already made arrangements with the museum? Personal property is often the most difficult thing to deal with after a person dies. There are estates that accidentally go through probate because the personal property was not handled correctly by the attorney.
The sad fact of the matter is many children do not want their parents’ collectibles. Some of the younger generation do not value china, silver, or crystal.
There is no estate tax for married people. There is an unlimited amount of money that can pass between spouses. It does not matter how large the estate is, no tax is paid unless the spouse is not a U.S. citizen. Tax is paid when the surviving spouse dies.
The “portability election” is the right of the surviving spouse to claim the unused portion of the federal estate tax exemption by filing a 706 tax return. The 706 tax return must be filed within 9 months of the decedent’s date of death. The negative to electing portability is that the growth of assets continue in the surviving spouses’ estate. This can be a problem because if your estate is close to the limit and the estate continues to grow inside the surviving spouses taxable estate the extra growth could possibly tip you over the limit.
An alternative is to set up a by-pass trust. Many of you may remember what this is as in 2000 practically everyone needed something called an A/B trust because the estate tax limit was only $1.0 million per person.
To use a by-pass trust the surviving spouse sets up a trust for the deceased spouse’s assets. The trick to planning is to make sure to only put what has to go into the by-pass trust. This means it needs to be written correctly. The assets in the by-pass trust are considered part of the taxable estate of the deceased spouse. The growth of those assets stay out of the surviving spouse’s taxable estate. As with portability a 706 tax return must be filed.
As an aside, what do you do if you have an A/B trust meaning a trust that creates a by-pass trust upon the death of the first to die and your estate is well below the combined lifetime federal estate and gift tax. Not the $22.0 million, but $10.0 million. Rhonda’s advice is to have a complete amendment and restatement of your trust drafted. Some of this old tax planning can inadvertently disinherit the surviving spouse. This happens because the plan is designed to maximize the first spouse to die’s combined lifetime federal estate and gift tax exemption. If your estate is only worth $3.0 million that would put the entire amount in the by-pass trust.
The by-pass trust comes with some limitations for the surviving spouse. The surviving spouse has the right to all of the income. Also, the greater of 5% or $5000.00 of the fair market value of the trust per year. The principal however, is limited to health, education, maintenance and support. That means the surviving spouse cannot do whatever he or she wants with the principal. You definitely do not want to set up a by-pass trust unless it is needed.
The federal and state estate tax laws change each year. It is important to stay abreast of these changes.