Whether you are a new tax filer or a seasoned pro, it’s essential to know how estate taxes work and who is liable to pay them. This article will cover who pays, how much they pay, and what exemptions and tax credits apply.
Federal
In 2013, 2,667 people died, and their estates generated $14 billion in federal and state estate taxes. However, only 0.06 percent of deaths triggered a federal estate tax. The percentage was lower than in 2000 when the estate tax applied to 2.16 percent of estates.
The federal estate tax is a tax that is assessed on estates that have assets over $10 million. Estate tax rates vary from state to state. Some states like the estate tax in California have lower taxes than the federal tax, while others have higher taxes.
The Tax Cuts and Jobs Act doubled the federal estate tax exemption to $11.2 million for individuals and $22.4 million for married couples. The new federal estate tax law will remain in place until 2021.
The estate tax was imposed to curb the disproportionate concentration of wealth in America. The top 1 percent of Americans held 42 percent of the nation’s wealth in 2012. However, wealth inequality has been widening at an alarming rate.
The estate tax is a small step towards leveling the playing field. However, it is a good idea to consult a qualified professional for the best action.
State
Historically, state estate taxes have been an important tool to help state governments fund vital public investments and support strong, healthy communities. However, as wealth and income have become more concentrated in the hands of a small number of people, states have been forced to scale back these taxes.
While some states have eliminated their estate taxes, others have scaled back the thresholds. Some states still impose taxes on estates, but they only tax a portion of the real estate, which can make estate tax planning more practical.
State estate taxes are calculated on an estate’s value, not the property’s original price. This makes it possible for a relatively modest estate to be taxed if it has a fair market value below the threshold.
Several states allow the executor of an estate to list the beneficiaries of a legacy and withhold a portion of the tax owed by the heirs of an estate who are not residents of the state. These exemptions can minimize tax avoidance and help ensure that substantial wealth is passed down to the next generation.
Exemptions
Married couples can shelter about $24 million of assets from federal estate taxes. However, this amount is subject to inflation. Therefore, couples should consider establishing a Revocable Living Trust to use both spouses’ estate tax exemptions.
In addition, a surviving spouse is also allowed to shelter $8,400,000 from gift and estate taxes. However, if the first spouse dies with an estate of more than $3,000,000, their estate tax exemption will be lost.
Portability is a relatively new federal estate tax law provision. It was created to ease the burden on married couples. It allows the first spouse’s estate tax exemption to be used by a surviving spouse. This allows married couples to divide assets evenly, reducing the estate tax.
Portability can also be used to shelter income taxes. Specifically, it limits the percentage of EAV increase that households with incomes less than $75,000 can take advantage of. In other words, households with incomes less than $75,000 can only take 7% of the EAV to increase each year.
Portability was created to solve the problem of not maximizing the federal estate tax exemption. It has since become a complicated tax planning strategy. However, it still offers substantial savings.
Inheritance Tax
Depending on the circumstances of the death, an inheritance tax may be applied to property left by the decedent. In most cases, inheritance taxes are not imposed on property passed to a child, sibling, or grandparent. However, ensuring you have enough to pay the estate tax is essential.
In some countries, an inheritance tax is imposed on all property, including real estate. Germany’s tax is based on the property’s value when the person dies. It ranges from 7% to 50%.
In the United States, an inheritance tax may be applied to property that passes under the intestacy law. It may also be assessed on property that passes through a trust administration. Property may include real estate, securities, or trusts.
If the estate is worth less than US$3.5 million, the estate is not subject to federal estate tax. The value of the estate can be calculated based on the fair value of the property at the time of the person’s death. If the estate is over US$3.5 million, the estate must pay federal estate tax.
Survivor Spouses
Survivor spouses pay estate taxes but do not have to pay the total amount. The amount depends on how much the deceased spouse owned. The surviving spouse can use the deceased spouse’s exemption to reduce the tax.
Having adequate life insurance is a good idea for surviving spouses. It can provide income to cover their expenses if they can afford an annuity. They may also be eligible for a marital deduction.
Combined estates can be considerable and may surpass the deceased spouse’s exemption. This could put the surviving spouse at risk of paying estate taxes.
Survivor spouses can also take advantage of the “portability rule.” This rule allows the surviving spouse to use the deceased spouse’s unused estate tax exemption. This is called the “DSUE” and is not indexed for inflation. This means the surviving spouse can receive an exemption of up to $23.4 million.
