Give More To Your Heirs, Not the Government

I don’t know anyone that prefers to pay taxes if there are legal, relatively easy ways to avoid higher taxes. For several years, the number of people subject to Federal and State Estate Taxes, or those taxes due upon death, have decreased substantially.

Since 1997, the estate tax exemption has been increasing with the tax rates dropping. This means that estate tax planning has not been a factor for many people. Looking ahead, there are a few things to look out for, and, depending on your current and projected estate size, you may want to begin taking steps here in 2020.

Let’s start with some quick definitions:

• Estate Tax Exemption – the estate tax exemption is the amount that your total estate (all assets minus liabilities) that is exempt from being taxed. The current estate tax exemption is $11,800,000 per individual for 2020, meaning any estates under $11,800,000 per individual will have zero Federal estate tax.

  • Note: While most states have eliminated estate taxes and/or have the same exemption amounts as the Federal numbers, the state of Illinois has an exemption amount of just $4,000,000 per individual, which adds some complexity to estate tax planning for Illinois residents.

• Estate Tax – the tax rate for estates over $11,800,000 is 40% of the excess.

• Annual Git Tax Exclusion – this is the amount of money that an individual can gift to another individual without “eating into” their estate and gift tax exclusion amount. For 2020, each individual can give $15,000 to another without affecting their estate plan. As an example, if a couple wanted to give the maximum to their three adult children, both husband and wife could give $15,000 to each, so that each adult child received $30,000.

  • Note: Spouses have an unlimited amount of transfers to each other in their lifetimes

• 2025 Sunset – Under current tax laws, the estate tax exemption will drop to $5,490,000 per individual in 2025. There has been much talk from Democrats of decreasing the exemption amount quickly, maybe moving the “sunset” forward to 2021 or 2022. This potential change could create urgent planning opportunities (see SLAT example below)

Now that we have some definitions, here are just some ways to give money without transfer taxes being due.

Use Annual Gift Tax Exclusion: $15,000

As mentioned in the definitions, everyone can use their Annual Gift Tax Exclusion amount to transfer money without paying any taxes. Regardless of the size of your estate, if you are concerned about the potential taxes that could be due upon your death, the easiest way to get money out of your estate is to maximize your Annual Gift Tax Exclusion amount, currently at $15,000.

USE AN IRREVOCABLE LIFE INSURANCE TRUST (ILIT)

If you expect to owe money upon your death, either at the Federal or State level, you can purchase life insurance to pay the taxes for you. In simple terms, if you may owe $1,000,000 in taxes upon your death, you can purchase a $1,000,000 life insurance policy, which will be used to pay the taxes, therefore passing the whole balance of your estate to your heirs without being reduced by taxes. There are a lot of nuances with this approach, but it can be very useful to hedge against estate taxes.

SPOUSAL LIFETIME ACCESS TRUST (SLAT)

This is my favorite strategy for many estates between $5 million and $23 million. A SLAT allows for flexible planning that has one spouse use their Estate & Gift Tax Exemption while still providing benefits to the other spouse and children and/or grandchildren. The idea is to use up your estate and gift tax exemption now while it is at higher levels, which will shield you from future drops in the exemption amount. Recent IRS regulations confirm that if you use your exemption amount now and then, when you pass away, if the exemption amount has lowered, there is No Clawback for exemption changes.

Here’s where this really comes into play in 2020. There are many politicians that have proposed various ways to bring more assets into play for estate taxes, including lowering exemption amounts right away or increasing estate tax rates. Depending on the outcome of the election, those looking at the SLAT strategy may need to be prepared to move quickly, possibly even before the end of 2020, to fully take advantage at the historically high exemption amounts.

Estate planning can become very complicated, especially when coordinating federal and state changes. If this applies to you (your estate is $5 million or more) and your “comprehensive” financial planner has not proactively discussed this with you, it may be time to look for a new planner. Feel free to reach out and we can coordinate with your attorney to get things in place when needed.

Illuminate Wealth Management does not provide tax, accounting or legal advice and information presented about tax considerations is for informational purposes only and not intended as tax advice. Please consult or legal or tax advisor(s).