Estate Planning: It's a Fact of Life
Some people think estate planning is only necessary for those select individuals who appear in Lifestyles of the Rich and Famous. Unfortunately, this misconception could be costly to your heirs. If your estate is worth more than the IRS exemption equivalent, estate taxes will be due. And, if your estate is worth substantially more, estate taxes can claim as much as 60% of your estate's value. If you own assets, there's a good change you'll need to plan for their future disposition.
Do you need to worry about estate taxes? All too often, people underestimate the value of their estate. Did you know that your estate includes your home, cash, investments, pension benefits, and personal property? It can also include trusts, certain life insurance proceeds, and any other assets you and your spouse may own jointly or as community property. The fact is, you are generally worth more than you think. Fortunately, there are a number of strategies designed to minimize the impact of estate taxes. The following sections will illustrate some of the most fundamental estate planning techniques.
Unlimited Marital Deduction
The unlimited marital deduction is one of the most powerful tools available. The Internal Revenue Code allows an unlimited amount of property to be transferred to the surviving spouse, who is a U.S. citizen, tax free when the first spouse dies. Therefore, if you are willing to pass all of your assets to your surviving spouse, there will be no federal estate tax exposure at that time.
This is an effective strategy but it is not a complete solution to your estate planning needs. Yes, a surviving spouse will receive the assets estate tax free, but when he or she dies, the entire estate will be subject to estate taxes. Using the unlimited marital deduction does not eliminate estate taxes, it merely defers them — leaving your heirs, in most cases your children, with the responsibility of paying the estate tax bill. (Different rules apply to resident alien surviving spouses.)
Exemption Equivalent
The unified estate and gift tax credit allows you to give away up to your exemption equivalent while you are alive to anyone you want, whenever you want, gift tax-free. If married, you and your spouse can combine your credits. By gifting money or property while alive, the income and appreciation on the gifted assets are not part of your estate when you die and are not subject to federal estate taxes.
Major changes were made to the estate & gift tax exemption amounts through the passage of HR 1836 in 2001. The allowable exemption will steadily increase through 2009 and then in 2010, the estate tax is repealed. Beginning in 2011, estate tax law reverts back to present law as if HR 1836 had never been enacted. The exemption amounts for 2001-2010 are as follows:
| 2001 | $675,000 |
| 2002-03 | $1,000,000 |
| 2004-05 | $1,500,000 |
| 2006-08 | $2,000,000 |
| 2009 | $3,500,000 |
| 2010 | Repealed |
Tax-Effective Will
A tax-effective will utilizes a combination of the unlimited marital deduction and the unified tax credit to reduce your estate tax exposure.
Here's how it works: you and your spouse establish a special account that allows the first-to-die spouse the right to leave assets up to the then current exemption equivalent to heirs. This special account is a credit bypass trust. The estate tax attributed to this trust is offset by the unified credit. If properly structured, any remaining estate balance should qualify for the unlimited marital deduction. The surviving spouse can be an income beneficiary of the credit bypass trust, and have the right to income from the trust for life. At the death of the second spouse, the assets in the trust ca pass to your beneficiaries without being subject to estate taxes in the second spouse's estate. In addition, any appreciation of the assets in the trust will pass to your heirs tax-free.
Irrevocable Life Insurance Trust
There are basically two life insurance categories: single life and second-to-die. Single life insurance pays a life insurance benefit after an insured dies. Second-to-life insures two individuals with one insurance policy and pays a life insurance benefit after the death of the last surviving insured.
Life insurance can be a cost-effective funding vehicle for an estate plan. Your heirs may use the life insurance proceeds to pay the estate tax bill, so the estate's assets will not be depleted. However, if you* own a life insurance policy at death, the proceeds will be included in your gross estate. To avoid this, you need to make sure you do not own the policy when you die. Also, be sure your estate is not the beneficiary of your life insurance proceeds.
Instead, you could use an irrevocable life insurance trust. You would gift cash to the trust so the trust could make the necessary premium payments. The trust applies for, owns the policy, and pays the premiums, At death*, the insurance proceeds pass into the trust and escape estate taxes. If properly structured, the trust can also provide benefits to a surviving spouse and/or any other beneficiaries.
If you were to transfer an existing life insurance policy to an irrevocable life insurance trust, you* must live at least three years from the date of transfer or the value of existing policy proceeds will be brought back into your estate. To avoid this "three-year rule", you must have an irrevocable trust or other third-party owner apply for and purchase a new policy on your life. *For second-to-die policies, refers to last surviving insured.
Annual Exclusion Gifts
By gifting a portion of money and property while alive, you may dramatically reduce the size of your taxable estate. The federal Annual Exclusion Gift Law permits you to give $11,000 each year to as many individuals as you desire. Most people choose to give such gifts to their children and grandchildren. If married, you and your spouse can give away up to $22,000 per recipient annually. Your gifts are income tax-free to your recipients and each gift may decrease the amount your heirs will have to pay in estate taxes.
Charles Geraci as a Valuable Member of Your Estate Planning Team
As you can see, estate planning is a little like surgery. No one can expect you to understand it all, much less perform the operation yourself. But, wouldn't you rather plan today than have your heirs lose up to 60 cents on the dollar later?
Mr. Geraci can evaluate your specific needs and suggest estate conservation solutions with the recommendations of other team members, such as your attorney and accountant.