If you have a high value estate, you need to be concerned about the impact taxes will have on that estate after you are gone. Married couples often make the mistake of relying heavily – or even entirely – on the marital deduction when it comes to tax avoidance. A Nashua area estate planning attorney at DeBruyckere Law Offices discusses why you need to be careful relying on the marital deduction.
Federal Gift and Estate Taxes
All estates are potentially subject to federal gift and estate taxes. The tax is levied on the combined total of the value of all qualifying gifts made during a decedent’s lifetime and the value of all estate assets owned at the time of death. Although the federal gift and estate tax rate was once subject to change on a yearly basis, the American Taxpayer Relief Act of 2012 (ATRA) permanently set the tax rate at 40 percent. Without any additional deductions or considerations, that means you could lose almost half your estate to Uncle Sam.
The good news is that every taxpayer is also entitled to make use of the lifetime exemption which is essentially a deduction taken prior to calculating the tax. Like the tax rate, the lifetime exemption limit was also subject to change – and did change – on a regular basis prior to the passage of ATRA. In 2012, ATRA set the lifetime exemption limit at $5 million, to be adjusted annually for inflation. President Trump, however, signed tax legislation into law that changed the lifetime exemption amount for 2018 and for several years thereafter. Under the new law, the exemption amounts increased to $12.06 million for individuals and $24.12 million for married couples for 2022. These exemption amounts are scheduled to increase with inflation each year until 2025. On January 1, 2026, the exemption amounts are scheduled to revert to the 2017 levels, adjusted for inflation.
How Does the Marital Deduction Work?
Gifts to a spouse, made during your lifetime or after death, are always exempt from the gift and estate tax. Consequently, if you are married at the time of your death, any assets gifted to your spouse at that time are tax-exempt as far as the gift and estate tax is concerned. Moreover, there is no limit to the marital deduction. While this sounds like the solution to all your tax problems, relying heavily on the marital deduction often results in over-funding a surviving spouse’s estate. In reality, using the marital deduction may only delay the payment of federal gift and estate taxes instead of actually avoiding them. For example, if your spouse passed away and left an estate valued at $20 million. Even with the increased lifetime exemption amount for 2020, over $8 million would be subject to estate taxes. Those assets could be gifted to you tax-free; however, your taxable estate would be increased by over $8 million. If the assets you already own were of equal value to those your spouse owned, your $20 million estate is now worth over $28 million. While you are also entitled to make use of the lifetime exemption, your estate would still owe federal gift and estate taxes on over $16 million. At a tax rate of 40 percent, your estate would hand over more than $6 million to Uncle Same that could have been handed down to loved ones instead.
The marital deduction is a useful tool when proper estate planning was not done prior to the decedent’s death; however, it is usually not the best way to avoid taxes. Instead, incorporating tax avoidance strategies into your estate plan long before your death can result in handing down a bog larger and more valuable estate to your loved ones.
Contact a Nashua Area Estate Planning Attorney
For more information, please join us for an upcoming FREE seminar. If you have additional questions or concerns about gift and estate taxes, or about incorporating tax avoidance strategies into your estate plan, contact a Nashua area estate planning attorney at DeBruyckere Law Offices by calling (603) 894-4141 or (978) 969-0331 to schedule an appointment.
The yearly exclusion lets each taxpayer make gifts valued at up to $15,000 (as of 2020)to an unlimited number of recipients tax-free.
A handful of states also impose a state-level gift and estate tax; however, New Hampshire is not one of them.
A few states also impose an inheritance tax. Where gift and estate taxes are paid by the estate before assets are passed down to beneficiaries, an inheritance tax is paid by the beneficiary after assets are passed down. New Hampshire does not collect inheritance taxes.