Federal estate taxes are very high. How high you ask? A whopping 40 percent high. This means that if the value of your estate is above the federal exemption, the federal government will claim 40 percent of what is in excess. That’s 40 percent of your estate taken away from your spouse, children, grandchildren and other relatives. Thankfully, with the tax saving planning, you can reduce your federal estate tax liability considerably.
Which estates qualify to pay federal estate tax?
Estates whose value is above the federal exemption owe estate tax. The federal exemption currently stands at $5.45 million. If an estate’s value is higher than $5.45 million, then what is above the exemption will be taxed at 40 percent.
If Bob’s net estate in California is worth $7 million, the first $5.45 million will be exempt from federal estate tax. However, the amount in excess of the exemption, $1.55 million, will owe 40 percent in estate tax. That’s $620,000 in taxes!
If Bob wanted to reduce his estate tax liability, estate planning would help him to just that. Here are the top three ways to reduce estate tax in 2017.
- Split Estates To Take Advantage Of The Federal Tax Exemption
Married couples with estates in excess of the exemption amount can create living trusts splitting their estates into two so that each estate qualifies for an exemption.
For example, Jim’s estate is worth $6 million. So is his wife, Mary’s estate. If both combined their estates in a single trust, only $5.45 million out of the total $12 million will be tax-free. However, if they split their estates in two different trusts, each $6 million estate will qualify for a $5.45 million exemption, meaning only $550,000 from each estate will be taxed.
- Tax Exempt Gifts
Persons with substantially large estates can reduce their estates through tax-exempt gifts. For example, gifts made to a spouse are tax-free. Therefore, a person whose estate is valued considerably higher than the spouse’s estate can give a gift to the spouse, reducing his/her own estate.
Tax-free gifts can be made to people other than spouses. Currently, federal tax exemptions allow persons to give up to $14,000 ($28,000 for married couples) to as many people as possible in a year. Amounts in excess of $14,000 will be taxed.
Jim and Mary can gift their children and grandchildren up to $28,000 each every year tax-free. This is a good way of reducing their tax burden because eventually, their children and grandchildren will still inherit their estate.
Gifts to charities as well as gifts to pay medical expenses or tuition are entirely tax-free.
- Remove Assets From Estate
Here’s how:
- Qualified Personal Residence Trust (QPRT). This trust essentially removes a home from a person’s estate. He/she can continue living there though. The home is transferred to a QPRT for a given time; say 10 years, after which it is transferred to the appointed trustees (children or grandchildren). However, is a person dies before the term of the QPRT, the home will be added to his/her estate.
- Grantor Annuity Trusts (GRAT)
Similar to QPRTs only that these transfer income-generating assets such as stocks and company shares to a trust. The income generated from these assets continues to go to the estate’s owner for the term of the trust. After the term ends the assets are transferred to trustees.
- Limited liability companies (LLC) or family limited partnerships (FLP)
A person can establish either and hand over assets to it. The person will retain control either as a manager in the LLC or a general partner in the FLP. Ownership interests can then be distributed to children or grandchildren. The interests cannot be sold without the manager’s approval.
There are numerous other ways to reduce estate tax. Contact one of our attorneys at Horizon Estate Tax to determine an appropriate plan for you.