If you have been very successful from a financial standpoint, you have the ability to do some fantastic things for the people that you love when you are planning your estate. This is certainly a good position to be in, but there is a looming threat to your legacy. We have a federal estate tax in the United States, and it can take a heavy toll. The maximum rate is an eye-popping 40 percent, so this is something to take very seriously.
Many people feel as though the very existence of the estate tax is unfair. They contend that you pay taxes all of your life on your personal income, and you pay capital gains taxes. There are many other types of taxation that enter the picture as well, like sales tax, property taxes, etc. Critics contend that any money that you have left over after paying all of these taxes should be permanently yours to pass along as you see fit.
Unfortunately, the estate tax is a fact of life at the present time, though there are always lawmakers that would like to see a total repeal of the death tax. On the positive side of the equation, on December 22, 2017, the Tax Cuts and Jobs Act was signed into law by the president. It provided a significant amount of the estate tax relief for high net worth individuals.
The estate tax credit or exclusion is the amount that you can pass along before the estate tax would become applicable. It has always been relatively high, and this is why it is only a factor for very wealthy families. A tax law went into effect in 2011 that allowed for a $5 million estate tax exclusion with ongoing adjustments to account for inflation. This base remained in place for a number of years, and after a series of adjustments, in 2017 the exclusion was $5.49.
Now, after the passing of the Tax Cuts and Jobs Act, the exclusion stands at $11.18 million. This is allotted to each individual, so a husband and wife would have a total exclusion of $22.36 million. It is also important to note that the estate tax exclusion is portable between spouses. In this context, the term “portability” refers the ability of a surviving spouse to use the exclusion that was allotted to his or her deceased spouse. As a result, a survivor would have a $22.36 million exclusion using the figures that are in place for 2018.
When you hear about the federal estate tax, you may consider lifetime gift giving as a way to sidestep the tax. Unfortunately, this loophole has been closed since 1934 when the gift tax was reenacted after a brief absence. It is unified with the estate tax, so it carries the same 40 percent rate. The exclusion is a unified exclusion that encompasses your estate along with any large lifetime gifts that you give to others.
Estate Tax Efficiency Strategies
There are steps that you can take to transfer assets in a tax efficient manner if you are exposed to the estate tax. The first thing that you should understand is the fact that there is an unlimited marital estate tax deduction. As long as your spouse is an American citizen, asset transfers between spouses are not subject to taxation.
Getting back to the concept of the gift tax, we used the term “large gifts” for a specific reason. In addition to the unified lifetime exclusion, there is also an annual gift tax exclusion. This allows you to give a certain amount to any number of gift recipients in a calendar year free of the gift tax. This figure is also adjusted incrementally. At the time of this writing, it is $15,000 per person.
This can be used to transfer quite a bit of money tax-free. To explain by way of example, let’s say that you are married, and you and your spouse have three married children. You have a $15,000 per person exclusion, and your spouse has his or her own exclusion. As a couple, you could give up to $30,000 to an unlimited number of people. This would allow you to give $30,000 to each of your children and the same amount to their spouses free of taxation every year.
In addition to this course of action, there are irrevocable trusts that can provide estate tax efficiency. These would include generation-skipping trusts, qualified personal residence trusts, grantor retained annuity trusts, and a number of others.
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