Has it been a while since you reviewed your estate planning documents? If it has, it may be time to do so—particularly to understand any new estate tax implications.
“I always recommend reviewing your estate planning documents every five years, or sooner if there are estate tax law changes or life events occur such as having a child or changing state residency,” says Deborah Lauer, Planning and Life Events Specialist at Wells Fargo Advisors. Here, Lauer shares her perspective on what steps you should consider next.
Review with your advisors what you can transfer tax-free
The federal gift, estate, and generation-skipping transfer (GST) exclusion is the amount you can transfer tax-free. It’s $11.58 million per individual in 2020, with annual increases to match inflation. This amount means that a large percentage of heirs will not owe any federal estate tax on what they inherit.
It’s important to note, however, that the change may not be permanent. The exclusion levels could return to what they were in 2017 (indexed for inflation) in 2026.
Lauer says it’s also worth keeping in mind that approximately one-third of states still collect estate taxes with significantly lower exclusion limits. “Do not assume if you’re below the federal exclusion limit, you don’t have tax planning to do,” Lauer says.
Consider estimating your estate tax exposure with an attorney
Lauer says you may want to consult with an attorney regarding your estate plan to discuss:
- Lifetime gifting. To reduce potential estate taxes, you can gift assets while you’re alive. (Please review gifting rules with your tax advisors.) There is an important difference between receiving a lifetime gift versus inheriting assets. With an inheritance, your beneficiaries receive the non-retirement assets with a “stepped-up” cost basis. This means the cost basis is often at or near the asset’s fair market value, limiting capital gain tax exposure if the beneficiaries sell the assets at that time. With a lifetime gift, the recipients receive the asset with the donor’s existing cost basis. Lifetime gifting could potentially reduce the gifting benefit to your recipients as they will pay capital gain taxes on appreciated assets when sold. Gifts of cash or high cost basis assets may be worth considering in your gifting program. Your tax advisor can help you review these options and the gifting rules to help you determine what approach makes sense for you. If you’re no longer subject to federal estate taxes because of the current exclusion limit, gifting may be less urgent, but implementing a gifting strategy that fits your overall financial plan still allows you to see your family enjoy the gifts during your lifetime.
- Trust structures. If you have trust planning in place to benefit the surviving spouse after the first death occurs, e.g. credit shelter trust and/or Qualified Terminable Interest Property (QTIP) marital trust, review this planning with your attorney to determine if it is still needed with the higher estate tax exclusion, along with your planning goals. Both provide for the surviving spouse, but a QTIP marital trust could reduce capital gain taxes for beneficiaries because the cost-basis resets at the surviving spouse’s death, as the value of this trust is included in the taxable estate. The assets in a credit shelter trust do not receive a “step-up” in cost basis at the second spouse’s death, but they are excluded from the taxable estate.
“The possible opportunities are specific to the individual,” Lauer says. “The overall goal is to make sure the planning you’ve done is still appropriate for your estate size and family’s needs.”
Take a holistic view of your estate plan
Lauer says you should consider reviewing your estate plan beyond a tax liability perspective. That should involve a team approach including discussions with your estate planning attorney, accountant, and financial advisor, she says.
A good first step is to work with your financial advisor to update or create your net worth statement, including identifying all assets and liabilities. Then add the death benefit of life insurance policies you own, because they are included in your taxable estate as well. Pair that with a list of beneficiaries for the policies and your retirement assets, e.g., IRA, 401(k), or annuities. Review this information, along with any existing estate planning documents with your attorney and accountant to make sure your plan fits your goals, maximizes the benefits to those you care about, and minimizes taxes.
“Keep your plan updated,” Lauer says. “Review it every five years or sooner if a life event happens: a new child, a divorce, a change of state residency, a change in your net worth, or any significant life change. That includes any changes to the tax law, to ensure your plan continues to fit your needs.
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