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Estate Tax FAQS

Will my estate be subject to death taxes?

The happy answer is that for most people in Utah (and elsewhere), given the current state of federal tax law, they do not need to be concerned about death taxes, also known as estate taxes. This is because Utah does not currently have a state estate tax and the applicable federal exclusion amount for the calendar year 2015 is $5,430,000 per person (that number is adjusted for inflation on an annual basis). Further, with the edition of “portability”, a husband and wife are currently able to combine their applicable exclusion amounts and pass on assets worth a total of $10,860,000 to their intended beneficiaries without having to worry about the application of federal estate tax. To clarify, portability is the mechanism whereby a surviving spouse can utilize the unused portion of the deceased spouse’s applicable exclusion amount, but it is VERY important to remember that this portability feature is NOT automatic and must be claimed through a timely-filed tax election.

So again, for most people who reside in Utah, death taxes are not a concern. Even so, please remember that Congress could change the law tomorrow and revert the applicable exclusion amount back to a number that is much lower, the result of which would again bring back federal estate taxes as a relevant consideration for most individuals. For example, when I graduated from law school in 2001, that same “applicable exclusion amount” was $600,000 and since that threshold is applied towards ALL assets in the name of a decedent, estate tax was very real and very much of a concern for middle class people back in 2001. Again, even though it seems unlikely to happen in the near future (at least as long as we have a Republican Congress), Congress could in fact change the applicable exclusion amount tomorrow and make estate taxes again very relevant for almost all people. This is one of the many reasons why it makes sense to have your estate plan checked and updated on a regular basis. Tax laws and other laws relevant to your estate plan are always changing.

Please also note that even though federal estate tax is not a relevant concern today for most people in Utah, income taxes, specifically capital gains taxes are VERY much a concern for just about everyone and unfortunately so much of the “planning” or lack thereof that is done these days is ignorant of the very real capital gains tax issues. This is a mistake.

Want to learn more, including how you can factor in and plan for minimizing applicable capital gains taxes? We can help. Please contact us for a consultation.

What is my taxable estate?

Your taxable estate is the aggregate of all of your assets including your home, other real estate, business interests, your share of joint accounts, retirement accounts, and life insurance policies minus liabilities and deductions such as funeral expenses paid out of the estate, debts owed by you at the time of death, bequests to charities and value of the assets passed on to your U.S. citizen spouse. The taxes imposed on the taxable portion of the estate are then paid out of the estate itself before distribution to your beneficiaries.

While it is true that for most people in Utah (and elsewhere) their taxable estate is currently below the amount that require the payment of federal estate taxes upon their death, please remember the very important truth that Congress could chose to drastically change any and all applicable tax laws at any time. Therefore, while federal estate tax and taxable estates are not something that should worry most people at this time–that could change. You should work with a competent estate planning attorney who keeps his/her eye on the status of applicable tax laws so that if there are changes in law that could effect you and/or your property, you are given sound and updated legal advice regarding your options and recommended action in these types of situations.

What is the unlimited marital deduction?

The federal government permits a married individual to transfer an unlimited amount of assets either by gift or bequest, to his or her spouse without the imposition of any federal gift or estate taxes. In effect, the unlimited marital deduction allows married couples to delay the payment of estate taxes at the passing of the first spouse because at the death of the surviving spouse, all assets in the estate over the applicable exclusion amount ($5,430,000 for the year 2015, adjusted each year for inflation) will be included in the survivor’s taxable estate. It is important to keep in mind that the unlimited marital deduction is only available to surviving spouses who are United States citizens.

If you are married to a person who is not a U.S. citizen, you still have options, but you must work with an experienced estate planning attorney to explore and properly implement such options.

What is a Credit Shelter or A/B Trust and how does it work?

A Credit Shelter Trust, also known as a Bypass or A/B Trust was originally designed primarily to eliminate or reduce federal estate taxes and has for years typically been used by a married couple whose estate exceeds the amount exempt from federal estate tax.

Because of the Unlimited Marital Deduction, a married person may leave an unlimited amount of assets to his or her spouse, free of federal estate taxes and without using up any of his or her estate tax exemption. However, for individuals with substantial assets, the Unlimited Marital Deduction does not eliminate estate taxes, but simply works to delay them. This is because when the second spouse dies with an estate worth more than the exemption amount, his or her estate may be subject to estate tax on the amount exceeding the exemption. Meanwhile, the first spouse’s estate tax credit was unused and, in effect, wasted. This could be avoided by ensuring that after the passing of the first spouse, an estate tax return is filed even if no taxes are due. The purpose of a Credit Shelter Trust is to ensure preservation of both spouses’ exemptions. Upon the death of the first spouse, the Credit Shelter Trust establishes a separate, irrevocable trust with the deceased spouse’s share of the trust’s assets. The surviving spouse is the beneficiary of this trust, with the children as beneficiaries of the remaining interest. This irrevocable trust is funded to the extent of the first spouse’s exemption. Thus, the amount in the irrevocable trust is not subject to estate taxes on the death of the first spouse, and the trust takes full advantage of the first spouse’s estate tax credit. Special language in the trust provides limited control of the trust assets to the surviving spouse which prevents the assets in that trust from becoming subject to federal estate taxation, even if the value of the trust goes on to exceed the exemption amount by the time the surviving spouse dies.

Given the current state of the applicable tax laws, very few residents of Utah (or other states) have the present need for a Credit Shelter trust, at least with regard to its traditional purpose of avoiding or reducing estate taxes. However, such A/B trusts are still used widely these days for many other important and valuable reasons, including asset protection. If you have a trust that is more than 2 or 3 years old, chances are you have a Credit Shelter trust. If your trust is more than 2 or 3 years old, it is also highly likely that it is outdated, at least in part. While avoidance of estate taxes was previously the main objective in trust design (when tax laws were different), minimization of income tax, related step-up in tax basis and asset protection are all much more common needs and objectives in today’s estate planning. Your trust may still be in fairly good working order, but may require updates and enhancements to permit such trust to provide you, your family and your assets with the protections and benefits you desire in the context of current laws.

What is an Irrevocable Life Insurance Trust and how does it work?

An Irrevocable Life Insurance Trust, also called an ILIT, is a common estate planning tool that is often used for “advanced” estate planning. In other words, ILITs are often used in situations where there is a taxable estate and therefore a need to reduce the overall size and value of such estate so as to legally and properly minimize and sometimes altogether avoid estate taxes. Be VERY cautious about trying to establish and maintain an Irrevocable Life Insurance Trust through “self-help” or other “less expensive” methods. If an ILIT is warranted, it is likely a situation where many thousands of dollars of potential estate tax liability are at issue. In order for an ILIT to perform its desired objective, there are very strict tax laws and rules that must be met and complied with, both when establishing such an irrevocable trust and as such trust is maintained over time, including when assets are put into and taken from such trust. As a broad and general rule, irrevocable trusts are normally more complex in the establishment and ongoing operation, compared to revocable trusts.

Updated February 27, 2016