Tag Archives: estate taxes

Does your asset ownership work with your estate plan?

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Too often, we find clients have not matched their asset ownership and beneficiary designations to their estate plan documents or not updated those documents for changes in circumstances.  This can cause problems, like having to file with the probate court at death, having the wrong person in a key role or even paying unnecessary estate taxes. 

Here is an example on an ownership error:  the couple owns most assets jointly.  This means that their revocable trusts are never funded so they will fail to use the available estate tax credits at the first death, and they will probably pay more estate taxes at the second death than they could have.  Having assets pass to a spouse may simplify their life but that may cost their children more in estate taxes. 

Another example would be owning assets individually rather than in a revocable trust.  This means the personal representative must file with the probate court to transfer assets.  If all assets were owned by the trust instead, the time and expense of a probate court filing would be avoided, and survivors would have the benefit of the assets in the trust immediately.  An alternative would be placing transfer on death or TOD instructions on bank and investment accounts, much as one provides beneficiary designations on IRAs.  

Finally, if your relationships with the people named in your will and trust have changed, not updating could mean the wrong people are involved in your estate when you die, leaving a mess for your survivors.  

As we mentioned in a prior e-mail, Massachusetts changed the estate tax law last year, so we now have a true exemption of $2 million.  This may tilt your approach more toward planning to avoid capital gains rather than estate taxes.  Regardless, please be sure that your asset ownership and designations work with your documents. 

Let me know if you want to discuss anything. 

Thank you and be well.

Steven

Should your estate plan try to avoid income taxes rather than avoid estate taxes?

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With the federal gift and estate tax exemption nearing $13 million, a married couple can have close to $26 million in their estates before any federal estate tax would be due.  That leaves only a small percentage of people in the US who actually need estate plans focused on avoiding estate taxes.  Those who are comfortably below the threshold can instead focus their plans on reducing income taxes.

Estates get a step up in basis at death, so that assets do not pay both estate and income taxes.  For example, the house owned by a couple often has a low basis, so taxes will be due on sale.  When they die, they get a step up in basis, eliminating that gain and the corresponding income tax that would be due at death. 

To illustrate, here’s an example:  a married couple own a house worth $2 million for which they paid $500,000, they have $2 million in retirement accounts and $5 million in broker accounts.  Their combined estate of $9 million is well below the federal exemption of nearly $13 million per person, so no federal estate taxes will be due.  They have $1.5 million of gain if they sell the house, of which $1 million would be taxed after applying the $500,000 exclusion on the sale of a principal residence. 

If they have the standard estate plan, they will have revocable trusts that use the state and federal estate tax credits at both the first and second deaths.  If proper elections are made, no estate taxes will be due at the first death and no federal estate taxes at the second death.  They will also get the step up in basis. 

But what if one spouse dies many years later?  The half with the step up at the earlier death could now be subject to taxes on gain when the heirs direct the estate or trusts to sell.  If the house is then worth $4 million, the half in the trust of the first to die has new gain of $1 million on which income taxes will be due. 

If instead of having half the house counted at the first death, what if it is treated as passing to the survivor?  Then there is a full step up at the second death, with no gain.  And they have not traded capital gains for estate taxes.  While assets are counted in the second estate, rather than using the exemption at the first death, the first estate can make proper use of the deceased spouse’s unused exemption or “DSUE.”  Since 2012, federal law allows any portion of the gift and estate tax credit not used in the first estate tax filing to be carried to the second spouse’s death or “ported,” if the proper election is made.  This “portability election” for the DSUE is made on the estate tax return. 

But what happens when the federal credit drops back down in 2026 to the old amount as scheduled, which, after adjusting for inflation, is expected to be around $7 million?  The estates for the couple in our example still avoid federal estate taxes, using the DSUE of up to $7 million from the first death and the $7 million credit at the second death.  

Planning for state estate taxes may be necessary (for Massachusetts residents, the trusts can be used to shelter $1 million, the maximum credit).  And you may want to use trusts to control who gets access to the estates and when.  Also, you may need to plan for the generation skipping transfer tax or “GST” tax, which requires use of trusts and proper elections at death. 

If your net worth is enough to need estate planning but you do not expect to owe federal estate taxes, then your plan can address avoiding capital gains and use the DSUE to ensure that estate taxes are still avoided.  

  • Note that Massachusetts increased the estate the exemption from $1 million to $2 million as of January 1, 2023.  This may affect your planning. 

Let me know if you would like to discuss this.

Steven