Estate Tax

WHAT IS ESTATE TAX?

In the United States, there is a federal estate tax (sometimes called a death tax), which is imposed at a person’s death on the transfer of assets. When an estate’s value at the time of death exceeds a limit set by law, which changes regularly, the amount over that threshold is subject to a tax.

An estate tax is typically assessed by the federal government but may also be assessed by a handful of states depending on where the decedent resided at the time of his or her death. Twelve states and the District of Columbia collect a local estate tax. California does not impose a local estate tax, and this article focuses on the federal estate tax.

WHAT ARE THE ESTATE TAX RATES?

Currently, the Internal Revenue Service (“IRS”) requires estates with combined gross assets and prior taxable gifts exceeding $12.92 million to file a federal estate tax return and pay an estate tax of up to 40% on the excess. Thus, $12.92 million is the applicable exclusion amount because this amount is excluded from estate taxes when passing to a non-spouse beneficiary at death – and again, the exclusion amount changes regularly.

To illustrate the impact of the exclusion, consider an estate worth $15 million. The current applicable exclusion amount would apply the federal estate tax to $2.08 million ($15,000,000.00 – $12,920,000.00 = $2,080,000.00); at 40%, this would equate to an $832,000.00 estate tax.

It is worth noting that when the Tax Cuts and Jobs Act expires at the end of 2025, and if Congress takes no further action, deaths occurring in 2026 will likely be subject to an exclusion amount of around half of what it is today – somewhere close to 6 million dollars. An unintended consequence stemming from more recent increases in the estate tax exclusion amount is that many revocable trusts we see are what some would call over-engineered and, as a result, no longer require some of the more costly administration methods following the death of a loved one. A historical schedule of estate tax exemption amounts by year, along with the top estate tax rates by year, is available to review here.

For business and real estate owners, the estate tax is of particular concern because most individuals do not want their families to sell land or the family business to write a check to the IRS.

 

HOW IS THE ESTATE TAX CALCULATED?

The estate tax is calculated on the value of all assets owned at the time of death, minus loans (such as a mortgage), and not including property passed to a surviving spouse or charity. Gifts less than the annual gift exclusion are also not included, which we will cover in a future article.

An unlimited marital deduction exists for married couples where the estate tax does not apply to assets transferred to a surviving spouse. However, the surviving spouse’s beneficiaries, typically children and grandchildren, may be subject to the estate tax if the estate exceeds the applicable exclusion amount at the time of the surviving spouse’s death.

 

In other words, the unlimited marital deduction does not eliminate the estate tax; it simply defers the possibility of an estate tax until the death of a surviving spouse.

 

The estate tax is paid directly from a deceased individual’s estate before distributing money to heirs. No tax is owed by the heirs when they receive property – that is an inheritance tax and is assessed by the state where the inheritor resides, regardless of where the decedent lived at the time of death. California does not have an inheritance tax for its residents.

 

HOW TO REDUCE ESTATE TAX DUE AT DEATH?

The goal of reducing estate tax liability at death is to reduce the estate’s value. There are many techniques to creatively find ways to reduce the value of an estate from annual gifting coupled with discounts, split trusts, and irrevocable trusts – some of which include very complex planning and tax techniques and charitable transfers.

 

IN SUMMARY:

This article serves as a brief overview of the federal estate tax. An estate tax due at death results from a complex set of circumstances. It can often be reduced and sometimes eliminated by having a comprehensive estate plan in place that contemplates net worth, types of assets, and anticipated growth. Kirk & Simas attorneys are here to help central coast families, businesses, and real estate owners protect generational wealth and family legacy assets.

 

To discuss your situation in greater detail, please call us at (805) 934-4600 to schedule an appointment today.