A major concern for many clients when they begin discussing estate planning is the estate tax. Indeed, the primary goal of most estate plans is to reduce or eliminate the estate tax owed. California no longer imposes estate taxes on the state level. However, there is still a federal estate tax of 40% that some people have to be worried about. This article will discuss three of the most common questions clients ask about estate tax.
No. 1. Does everyone have to pay the federal estate tax?
The answer to this one is no. Not everyone will be required to pay the federal estate tax. Whether you can escape it depends on the value of your estate at the time of your death. There is a federal estate tax exclusion that serves as a cut-off for estate tax liability. If you estate does not exceed the exclusion amount then your estate will be able to pass on tax-free. In 2016, the federal estate tax exclusion is $5.45 million. Even if you estate exceeds this amount, on the excess will be subject to the 40% federal estate tax. If on the other hand, your total estate value does not exceed that amount, then the entire estate will be excluded.
This lifetime credit is also “portable” for married couples. Being portable means that if your estate does “use” the full exemption amount, your spouse can benefit from the remainder of that exemption. For instance, if your estate is worth $3 million when you die, your spouse will be able to use the remaining $2.45 million towards his or her estate.
No. 2. Can I avoid estate tax by giving it all away before I die?
Your estate includes everything that you own, in your name alone. This includes your personal possessions, such as jewelry, antiques, collectibles, cars, homes, everything. The value of all of these assets, not just money or securities, will be included in determining whether you qualify for the federal estate tax exclusion.
Many people consider giving away their property while they are still alive, in order to reduce the ultimate value of their estate. While this is one useful strategy, often included in proper estate planning, there may still be some tax consequences. The value of your lifetime gifts is also limited by the same $5.45 million exclusion. In fact, it is referred to as the “unified credit.” There is also an annual gift tax exclusion of $14,000, per individual or recipient. That means you can give gifts of up to $14,000 in value, each year, to as many recipients as you wish, tax-free. Those gifts are not counted towards your unified credit.
There are also two other exemptions that you can consider when it comes to gifting and avoiding estate or gift taxes: payment of medical expenses and tuition. In other words, you can pay medical expenses for someone as a gift and that amount is not subject to gift tax and does not count against your lifetime exclusion. The same is true for paying school tuition for a student. That gift is also tax-free, as long as it is made directly to the institution. The tuition exemption only applies to the tuition itself, not books, fees or living expenses.
No. 3. If I inherit money from my spouse, will my estate owe any taxes?
When it comes to exemptions, spouses enjoy unlimited ones. You are not required to pay any estate tax on an inheritance from your spouse regardless of the amount. Spouses can give each other unlimited property tax-free thanks to the marital exclusion. There is no gift tax applied to transfers between spouses, either, for gifts given during their lifetime.
Be careful using trusts to avoid estate tax
It is important to understand that not every trust can provide estate tax avoidance. A living trust, for instance, cannot eliminate taxes for the simple fact that, with a living trust, in particular, you retain the power to amend or revoke your trust at any time during your lifetime. Estate taxes can only be avoided if the assets are completely and irrevocably removed from your estate. However, because a living trust allows you to take back your property at any time, you are essentially considered to still own those assets. Therefore, federal tax laws include living trust assets in your estate for the purpose of estate taxes.
Join us for a free seminar! If you have questions regarding estate tax, or any other estate planning needs, please contact the experienced estate planning attorneys Schomer Law Group for a consultation, either online or by calling us at (310) 337-7696.