Estate Planning for Tax Purposes - The KC Estate Planner, LLC
Estate Planning for Tax Purposes

Estate Planning for Tax Purposes

Historically, the primary tax consideration in estate planning was avoidance of the Federal estate tax.  With the Federal estate tax exemption currently at $11,180,000 for individuals and $22,360,000 for married couples, estate tax planning is not as critical for most folks as it used to be.  Some people will still be affected, but there are other tax planning strategies to consider when planning your estate.

Estate Tax Avoidance

Federal estate taxes are paid on the total value of your estate in excess of the exclusion amounts discussed earlier.  Generally speaking, if you are a single person with an estate valued at $12,000,000, you would have to pay Federal estate taxes on the $820,000 in excess of the $11,180,000 exclusion amount.

The Federal estate taxes are expensive (currently around 40%) and have to be paid in cash within a period of nine months after you pass away. In most cases, liquidating assets is necessary to pay the taxes. However, there are ways to reduce the value of your gross estate below the exclusion amount. A few ways to do this include:

  • Donate low-basis assets to charity or set up a charitable trust.  You will get a current deduction for your donation, and it reduces the overall value of your estate.
  • Remove the assets from your estate prior to your death by transferring them to an irrevocable trust.
  • For those who are married, use both of your estate tax exemptions.  Portability allows a surviving spouse to “use up” any exclusion amount not fully used by the deceased spouse.
  • Give tax-free gifts to as many people as you want, within the annual gift tax exclusion amount of $15,000 per recipient.
  • Establish a Family Limited Partnership

You should work with an estate planning professional like The KC Estate Planner to help you determine what estate tax avoidance strategy is best for you.

Income Tax Planning

Folks in the top tax bracket may want to consider income tax planning as part of their overall estate plan.  It is possible to shift income from high earners to family members in a lower tax bracket in order to reduce the family’s overall tax burden. It may also make sense to change the situs of a trust to a jurisdiction that treats trusts more favorably.

It’s a good idea to review your tax plan each year to ensure you are managing your wealth properly. You should also consider various strategies to ensure your financial goals are achieved. For example, you should max out all of your retirement plan contributions each year. Planning ahead of time is absolutely essential if you want to reduce headaches related to income taxes.

Planning for Basis Step-Up of Appreciable Property

When a beneficiary inherits property that is includible in a decedent’s gross estate, the basis in the property is its fair market value on the date decedent died.  This is known as a step-up in basis. If a beneficiary receives property that was not included in the decedent’s estate, the basis in the property is its original purchase price.

For example, John purchased a vacation home in Vail, CO, in 1975 for $100,000.  John transfers the home to an irrevocable trust for the benefit of his son, Sam.  According to the terms of the irrevocable trust, Sam gets the home when John dies. Since the trust is irrevocable, the home is not includible in John’s estate.  When Sam gets the home after his father dies, Sam’s basis in the vacation home is $100,000. When Sam sells the home shortly after his father passed away, he is surprised when it sells for $3,000,000.  He is even more surprised when he has to pay income tax on the gain of $2,900,000.

On the other hand, if John had transferred the vacation home to a revocable trust, the home would be included in John’s gross estate, and Sam’s basis in the property would be the property’s fair market value on the date of John’s death.  If Sam then sells the house for $3,000,000 shortly after John’s death, Sam would have no recognizable gain.

Tax Benefits of Charitable Planning

There are several ways to give to non-profit organizations that will also benefit you from a tax standpoint. Some options you have include:

  • Donor advised funds: This offers tax benefits and flexibility. You receive an immediate tax deduction and can gift the money to the non-profits in the future.
  • Highly-appreciated assets: If you donate appreciated mutual fund or stock shares, it can be a great tax strategy. You can avoid a tax on the gain you are earning while you still deduct the complete market value.
  • Tax free donations from your IRA: You can use your IRA to make a direct donation to any non-profit, at any time, completely tax free, which allows you to avoid the tax when distributed.

Work with a professional in the estate planning sector like The KC Estate Planner to know what options make the most sense for your situation.