The Estate Tax Planning process requires, understanding the Estate & Gift Tax system as well as the Generation Skipping Tax system, analyzing your current Gift & Estate Tax Liability, and structuring your estate in a manner that will accomplish your family planning goals with a minimum of Gift & Estate Tax liability. This process is best accomplished by coordinating the efforts or your Accountant, Tax Planning Advisor and Estate Planning Attorney.
APPLICABLE TAXES
Federal Gift & Estate Tax. Federal law imposes a tax on the transfer of property by gift, bequest or inheritance. This transfer tax is called a Gift Tax when applied to "completed" gifts during your lifetime and an Estate Tax when applied to transfers occurring by reason of death.
THE TAXABLE ESTATE
Your Taxable Estate is different than your Probate Estate. Accordingly, removing assets from your Probate Estate (by joint title, contract, or trust) does not necessarily remove assets from your Taxable Estate. Your Taxable Estate includes "all property owned at death." This can include "non spendible" assets you own or control.
Non sensible Assets Included in Your Taxable Estate
TAX CREDITS, DEDUCTIONS AND EXCLUSIONS
Your Executor is responsible for preparing your Federal Gift & Estate Tax Return during the settlement of your estate. The return will report the gross value of your estate plus the total gifts you have transferred during your lifetime. The computation of your Federal Gift & Estate tax liability will take into consideration any credits, deductions and exclusions applicable.
Gift & Estate Tax Credit. Every taxpayer is given a tax "credit" of $202,050. This tax credit shields a portion of your estate (called the "Applicable Exclusion Amount") from Federal Gift & Estate Tax. The 2001 Tax Relief Act passed in June 2002 will be increasing the applicable exclusion from Federal estate Tax until the year 2009, and in 2010 there will be no estate tax. However, due to a technical provision called the "sunset clause", this law may b repealed and it is most likely that the Applicable Federal Exclusion from Federal Estate Taxation after 2010 will revert to 1 million dollars per person. So keep an eye on how Congress address this issue and contact your Estate Planning Consultant as appropriate.
Unlimited Marital Deduction. Married individuals can use the Unlimited Marital Deduction to postpone payment of estate taxes until the death of the second spouse. You can pass an unlimited amount of your estate to your spouse, Gift Tax free during your lifetime, or Estate Tax free at your death. However, using the Marital Deduction may result in subjecting your surviving spouse's estate to unnecessary Federal Gift & Estate Tax liability when the estate is transferred to the next generation. Keep in mind that the Unlimited Marital Deduction is only available to citizens. Non citizens can take care of the deferral of estate taxes due on a decedents by creating a Qualified Domestic Trust which would be considered in detail the your estate planning professional.
Charitable Deduction. There is a Federal Gift & Estate Tax deduction and Income Tax deduction for all transfers to qualified charitable institutions. You can benefit the charity of your choice without Gift & Estate Tax consequences and still receive a current-year charitable deduction from income taxes.
Annual Exclusion. The IRS has taken the position that gifts under $11,000 are "Diminimis" and therefore excluded from Gift & Estate Tax. Accordingly, the Annual Gift Tax Exclusion allows an individual to gift up to $11,000 a year to an unlimited number of individuals without incurring Federal Gift Taxes and is adjusted by inflation. Married couples can gift two Annual Exclusion gifts to each donee. Gifting assets is an easy and efficient way to reduce your Taxable Estate during your lifetime, while providing a direct benefit to chosen recipients without depleting your Applicable Exclusion Amount.
STRATEGIES THAT MINIMIZING FEDERAL GIFT & ESTATE TAX
Tax Planning is an important aspect of Estate Planning. Careful consideration must be given to coordinating your individual goals with the available tax credits, deductions, and exclusions that will minimize your tax liability. After evaluating tax-planning strategies with your Estate Attorney, you will be able to determine what is best for you. Your Estate Attorney will then be able to draft documents that will provide your Executors and Trustees with specific tax-planning instructions. The following will provide a limited summary of some standard techniques that make use of the Gift & Estate Tax credits, deductions, and exclusions to minimize Federal Gift & Estate tax liability.
Lifetime Gifts. You can currently give away up to $10,000 each year, to an unlimited number of donees (Annual Exclusion). In addition, you can give an unlimited amount for tuition and medical expenses if you make the gifts directly to the educational organization or health care provider. Lifetime Gifts can be an effective method of reducing the size of your Taxable Estate while preserving your Applicable Exclusion Amount for testamentary transfers. It is important to seek advise from your Estate Attorney in determining which assets should be transferred to provide the greatest tax benefit, consistent with your overall Estate Planning goals.
The Bypass Trust. A Bypass Trust (A/B Trust or Tax Credit Trust) is designed to coordinate the Unlimited Marital Deduction with the Applicable Exclusion Amount. Essentially, upon the death of one spouse, property equal to the Applicable Exclusion Amount is held in a special Support Trust for the benefit of the survivor. This trust can be structured to provide the surviving spouse with access to the trust income for any reason and access to the principle for health, education and maintenance. At the surviving spouse's death, the assets in the Bypass Trust and the second spouse's Applicable Exclusion Amount pass to beneficiaries free from Federal Gift and Estate Tax.
Charitable Remainder Trust ("CRT"). The CRT is one of the most commonly used forms of charitable tax planning. The technique offers a way to convert highly appreciated assets (e.g., real estate or stock) into lifetime income without having to pay Capital Gain tax on the sale of the property or Estate Tax at death. The asset is placed into an irrevocable trust, naming one or more charities as beneficiaries. The trustee then sells the assets at full market value, pays no taxes and reinvests the proceeds. The trust pays the grantor a predetermined amount (calculated annually) during his or her life. Upon death, the remainder goes to the charity.
Family Limited Partnership ("FLP"). A FLP is a way you can use your Annual Exclusion to remove assets and any future appreciation on them from your taxable estate without using your Applicable Exclusion Amount or giving up control of the assets. When you set up a FLP with your chosen heirs, you transfer your assets into the partnership in exchange for shares of limited partnership. Acting as the General Partner, you gift your Annual Exclusion amount in the form of limited partnership shares to your chosen heirs, removing the value of these assets from your estate. As a General Partner, you have full control – you determine how the assets are managed, when income is distributed, and how the partnership is run. Over time you will transfer a majority of your Limited Partnership interest to your chosen heirs. Additionally, because there is no practical market for a minority interest in a FLP, the value of the FLP is highly discounted. As a result, you are able to transfer these assets to your children, removing the from your taxable estate, at a discounted value, further minimizing Federal Gift & Estate Tax liability.
Qualified Personal Residence Trust ("QPERT"). A QPERT lets transfer your home out of your Taxable Estate and remain living in the home for a period of years. The IRS has determined that the value of the gift, for purposes of Federal Gift & Estate Tax, is considered the present value of the future gift. Accordingly, subsequent appreciation is not subject to Gift & Estate Taxation.
Grantor Retained Interest Trusts. A Grantor Retained Interest Trusts is an Irrevocable Trusts that is often used to transfer highly appreciated real estate, jewelry or antiques to beneficiaries at a discounted value for Gift & Estate Tax purposes. These Trusts enable you to remove assets from your Taxable Estate while retaining an interest in them, usually for a specified period of time. The value of the interest retained is determined by an actuary computation. Subsequent appreciation is not subject to inclusion in your Taxable Estate, further minimizing your Federal Gift & Estate tax liability. There are several types of Grantor Retained Interest Trusts.