Not only is it true that death and taxes are the only certainties in life, but one’s death can come with significant tax liabilities. The key to minimizing these so-called “death taxes” is to put tax-efficient estate plans into place while you are alive.
The term “death tax” refers to money the federal government and some individual states impose on the value of an individual’s estate at the time of their death. This includes both estate tax and inheritance tax.
In 2023, the federal estate tax applies to the cash, stock, tangible property and other assets valued at more than $12.92 million a decedent transfers at death to anyone other than their spouse. For married couples filing joint tax returns, the amount that can be excluded from federal estate tax is $25.84 million. Due to these generous exemptions, only a small handful of uber-wealthy people must concern themselves with the federal estate tax. However, the exemption is set to be cut in half in 2026, exposing a wider range of high-net-worth families to this tax.
On the local level, 12 states and the District of Colombia impose an estate tax below the federal exclusion amount on assets transferred at death. Six states levy an inheritance tax on beneficiaries who receive property from a decedent’s estate, and only one state imposes both estate and inheritance taxes on its residents. Depending on the state where you reside, asset transfers to spouses and children may be exempt from estate and inheritance taxes. Typically, estates may subtract these amounts from the total value of a decedent’s estate for federal estate tax purposes.
Tips for Reducing Estate Tax Exposure
Thankfully, you can implement some tried-and-true strategies during life to reduce exposure to federal and state death taxes in the future. The following are just three options to consider.
You may reduce the size of your taxable estate by making annual gifts below the federal gift-tax exclusion, which, for 2023, is $17,000 for individuals or $34,000 for married taxpayers filing joint income tax returns. Under the law, you may make these gifts tax-free to as many people as you wish each year, provided the amount of the gifts is below the federal exemption. Therefore, you may gift $17,000 to each of your five grandchildren gift-tax-free in 2023. You may also make an unlimited number of annual tax-free gifts of any amount to a U.S. citizen spouse or a nonprofit charity, for which you may also qualify for a charitable tax deduction. Similarly, there is no limit to the amount of tuition or medical expenses you can pay each year gift-tax-free directly to a school or healthcare provider on behalf of another person.
Another option to reduce your exposure to federal estate tax is to transfer assets out of your taxable estate and into a grantor trust you create for your named beneficiaries. Under the law, you, as the grantor, are treated as the owner of the trust asset for income tax purposes, meaning that you are responsible for reporting and paying tax on the income generated by the trust. This is a good thing when you consider that you pay the trust’s income tax liabilities with non-trust assets, which, in turn, further reduces the size of your taxable estate. In addition, the law treats transactions between you and the trust as disregarded for income tax purposes, meaning that you can sell assets to the trust and allow them to appreciate outside your taxable estate free of capital gain taxes.
Finally, one of the more generous things you can do to reduce your exposure to estate tax while helping to support charities that matter most to you is to make an irrevocable transfer of your estate assets to a donor-advised fund (DAF). Depending on the assets transferred, you may qualify for an immediate income-tax deduction of 30 percent or 60 percent of your adjusted gross income. Moreover, because the DAF is a 501(c)(3) nonprofit organization, all assets transferred into it escape estate taxes. This strategy also enables you to avoid capital gains tax on sales of appreciated assets and income tax on required distributions from assets transferred from retirement accounts, such as IRAs or 401(k)s.
About the Author: Ryan Whiteman is a financial planner with Provenance Wealth Advisors (PWA), an Independent Registered Investment Advisor affiliated with Berkowitz Pollack Brant Advisors + CPAs and a registered representative with PWA Securities, LLC. He can be reached at the firm’s Miami office at (305) 379-8888 or email@example.com.
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Ryan Whiteman is a registered representative of and offers securities through PWA Securities, LLC, Member FINRA/SIPC.
This material is being provided for information purposes only and is not a complete description, nor is it a recommendation. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. There is no guarantee that these statements, opinions or forecasts provided herein will prove to be correct.
Any opinions are those of the advisors of PWA and not necessarily those of PWA Securities, LLC. While we are familiar with the tax provisions of the issues presented herein, as Financial Advisors of PWAS, we are not qualified to render advice on tax or legal matters. You should discuss any tax or legal matters with the appropriate professional. Prior to making any investment decision, please consult with your financial advisor about your individual situation.
UPDATED on October 2, 2023