What is the Estate Tax? | What is Estate Tax Portability? | What is the Gift Tax? | How should I plan if my Estate will not be subject to Estate Taxes?
What is the Estate Tax?
The estate tax is a tax on a decedent’s assets at the time of
his or her death. All assets held by the decedent are included in
determining the decedent’s taxable estate, including real estate,
securities (stocks and bonds), bank accounts, retirement accounts,
assets in a living trust, and sometimes life insurance. Generally,
the status of the beneficiary is irrelevant; if a decedent had
assets greater than the amount excluded from estate taxes (the
“applicable exclusion amount”), there will be a tax. However, gifts
to charities and spouses, who are citizens of the U.S., are free of
tax.
The estate tax is due nine months after the
decedent's death. The estate tax is separate from and in addition to
any income taxes that are due annually on April 15.
The
estate tax applies to estates greater than $5 million, indexed for
inflation beginning in 2011 and doubled beginning in 2018. In 2023,
$12.92 million is protected from estate tax. The rate on assets
greater than $12.92 million is 40%.
California does
not have a separate inheritance tax. Previously, the federal
government allowed the states to “pick up” a portion of the estate
tax for themselves. Effective 2005, no estate or inheritance tax is
being forwarded to the states. Some states have established their
own inheritance or estate tax. A California constitutional amendment
would be required for there to be a new California inheritance
tax.
What is Estate Tax Portability?
Portability (also known as DSUE – “Deceased Spouse’s Unused
Exclusion”) is a concept that entered the law in 2011 and became
permanent with the American Tax Relief Act of 2012 (“ATRA”). It
allows a surviving spouse of a married couple to utilize his or her
deceased spouse’s unused applicable exclusion amount, effectively
increasing the amount that the surviving spouse can gift or bequeath
to family or friends tax free.
Example: Sam died in
2023, leaving an estate of $2 million to his children. His wife,
Miriam, is quite wealthy and does not need any of Sam’s assets to
live a comfortable life. She realizes that Sam could have gifted up
to $12.92 million under the tax code, but only had $2 million to
give. She files an “Estate Tax Return” and claims Sam’s lost $10.92
million in available exemption. At Miriam’s death (also in 2023),
she is able to utilize her $12.92 exclusion and Sam’s lost $10.92
exclusion to protect more than $20 million from estate taxes. Her
children will only have to bear estate taxes if her estate is
greater than $23.84 million.
Portability is only
available to persons who are legally married and must be claimed
using a timely-filed Estate Tax Return following the deceased
spouse’s death. It cannot be used twice if a person has two deceased
spouses and does not protect the growth of a deceased spouse’s
assets. It is often used in conjunction with one of the trusts for
a married couple, described in this website.
What is the Gift Tax?
The gift tax is an additional tax designed to discourage
wealthy persons from making large gifts to family members during
their lifetime, to avoid an estate tax on the same assets at death.
Each person may give up to $12.92 million during his lifetime
without paying any gift tax. On April 15 of the year following the
gift, the donor must file a “Gift Tax Return” to record his use of a
portion of his $12.92 million exemption. Any amount used during
lifetime will reduce the applicable exclusion amount available at
the donor’s death.
In addition to the lifetime
exemption, a donor may make gifts of up to $17,000 (2023) to anyone
in each calendar year. Wealthy people with large families can give
hundreds of thousands of dollars away every year by use of the
$17,000 exemption. The donor must be very careful if he intends to
gift assets that are hard to value (such as real estate or business
interests) or wishes to make gifts to minors.
How should I plan if my Estate will not be subject to Estate
Taxes?
Since the credit from estate taxes is now $12.92 million per
person, most estates (even in Los Gatos, Saratoga, and western
Silicon Valley) are not subject to the estate tax. However, this
does not mean that proper planning can be ignored. If you fall into
any of the following categories, you should consider establishing a
living trust that will focus on controlling the beneficiaries of
your estate and avoidance of probate, rather than directed by tax
planning:
- Have Young Children
- Have Children from Prior Marriages or Relationships
- Own Substantial Separate Property
- Would
Prefer to Leave Your Property to Non-Family Members
-
Have Concerns about the Persons who may Manage your Estate
- Own Real Property (especially if located in multiple
states)
Trusts can be drafted to provide an education
fund for your children, but leave the bulk of the funds in the care
of a trusted relative or friend until each child is of a more mature
age (such as 25 or 30). If you have substantial separate property,
it may be to your advantage to structure a trust that will provide
health care and maintenance to your spouse, but leave any remaining
principal at your spouse’s death to your family line (not your
spouse's family). Please contact me to discuss your particular
concerns about your family, so that together we can craft an estate
plan that truly reflects your wishes.
** Any
information contained in this website was not written, is not
intended to be used, and cannot be used by any taxpayer for the
purpose of avoiding any federal tax penalties that may be imposed
upon the taxpayer. (See IRS Circular 230) **