Understanding Estate Taxes
Estate taxes are separate from probate expenses and final income taxes. Probate costs may often be avoided through proper estate planning tools, such as a revocable living trust, while final income taxes apply to any income earned during the year of death. Estate taxes, however, are a separate matter that can significantly impact the value of an estate passed on to loved ones.
Federal estate taxes can be substantial. Currently, assets exceeding the federal estate tax exemption are taxed at a rate of 40%, and these taxes are generally due within nine months after death. Because estate taxes must typically be paid in cash, families may be forced to sell real estate, business interests, or other valuable assets to satisfy the tax obligation. With proactive planning, however, many families can reduce or even eliminate estate taxes altogether.
Who Pays Estate Taxes?
Your estate may be subject to federal estate tax if the total net value of your assets exceeds the exemption amount established by Congress at the time of your death. The current federal exemption is approximately $15 million per individual, adjusted annually for inflation. Any amount above the exemption may be taxed at 40%.[1]
In addition to federal estate taxes, some states impose their own estate or inheritance taxes. While Delaware repealed its state estate tax effective December 31, 2017, and does not impose an inheritance tax, residents who own property in other states may still face state-level estate tax issues.
How Is the Value of an Estate Calculated?
The value of your taxable estate is determined by calculating the total value of your assets and subtracting any outstanding debts and liabilities. Assets commonly included in an estate valuation are:
Real estate, including your home and vacation properties
Business interests
Bank accounts and cash assets
Investment and brokerage accounts
Retirement accounts, including IRAs and 401(k)s
Personal property and valuable collectibles
Life insurance death benefits
Because many individuals underestimate the total value of their estates, it is important to periodically review your assets with an experienced estate planning attorney.
Strategies to Reduce or Eliminate Estate Taxes
There are several effective estate planning strategies that may help minimize estate tax exposure, including:
1. Maximizing Both Spouses’ Estate Tax Exemptions
Married couples can often structure their estate plans to fully utilize both spouses’ federal estate tax exemptions, potentially shielding a significant amount of wealth from taxation. [2]
2. Reducing the Size of Your Taxable Estate
Certain gifting strategies and irrevocable trusts can help remove assets from your taxable estate during your lifetime. By transferring appreciating assets out of your estate early, you may reduce future estate tax liability.
3. Using an Irrevocable Life Insurance Trust (ILIT)
An Irrevocable Life Insurance Trust (ILIT) can hold life insurance outside of your taxable estate. The insurance proceeds may then provide liquidity to pay estate taxes, preserve family assets, or replace wealth gifted to charity.
The Importance of Advance Planning
Estate tax laws are complex and subject to change. Even if your estate does not currently exceed the federal exemption amount, future growth in asset values or changes in tax laws could create unexpected tax consequences for your family. A carefully designed estate plan can help preserve your wealth, protect your loved ones, and ensure your wishes are carried out efficiently.
Schedule a Consultation with Our Estate Planning Attorneys
If you have questions about estate taxes or would like to create a comprehensive estate plan, our experienced estate planning attorneys are here to help. We can evaluate your assets, explain your options, and develop strategies tailored to your family’s needs and goals. Contact our office today to schedule a consultation and begin protecting your legacy for future generations.
[1] Estate Tax
