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Martha J. Karnopp
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Probate Law FAQ

Things You Should Know About Estate Taxes

The old adage that the only sure things in life are death and taxes holds true, and even in death, there are taxes--for now, at least.

  1. In 2001, Congress passed a law that made sweeping changes to the existing estate taxation scheme. Over the next several years, the estate tax is being phased out and as of 2010, it is eliminated! However, under this law, the estate tax is re-instated in 2011. Between now and 2011, Congress will likely make some further changes to this plan.

  2. The "probate estate" includes the property of the person dying whose titles are in the name of the person dying or his or her estate (such as houses, cars, or bank accounts that are only in the name of the person dying). The title to these probate assets has to be changed to someone other than the deceased -- this is the purpose of probate. The size of the probate estate has nothing to do with the size of the federal taxable estate. The probate estate generally is smaller than the federal taxable estate. The taxable estate includes all property owned by you or by a trust you control outright, or by a trust to which you have significant "strings attached," qualified retirement plan proceeds, and life insurance proceeds, if the policy is owned by the deceased.

  3. In 2005, persons dying may "shelter" $1,500,000 that is not subject to the federal estate tax, so if your taxable estate is less than this amount, your estate won't owe any federal estate taxes! This amount increases to $3,500,000 in 2009 (and then the estate tax is eliminated in 2010 for one year only). The exemption goes back to $1,000,000 in 2011. It is important to note that lifetime gifts made by the deceased may use up some of this shelter amount.

  4. Estates whose assets exceed the shelter amount ($1,500,000 in 2005) must pay estate tax -- the tax rate spans up to a highest rate of 49% in 2003!

  5. You may make annual lifetime gifts of $11,000 to an unlimited number of recipients. These gifts are not included in the federal taxable estate (unless they are made within three years of your death) and they do not use up any of your "shelter" amount. (For example, Bob may give $11,000 to his daughter, Lisa, in 2005, and $11,000 to his son, Tom, also in 2005, and these amounts are not deducted from the "shelter" amount.) There is a separate federal gift tax for lifetime gifts, but annual gifts of $11,000 or less are excluded, and there is a $1,000,000 exemption before gift taxes begin to accrue on lifetime gifts. (The 2001 legislation changing the estate tax exemption left the gift tax exemption at $1,000,000.)

  6. A spouse may leave his or her entire estate to the surviving spouse without the estate being subject to the federal estate tax. However, the estate will be subject to the federal estate tax upon the death of the surviving spouse.

  7. Using a trust to keep property out of the taxable estate will only work if you give up control of the trust. It must be an irrevocable trust!

  8. It is better to make lifetime gifts of property that is expected to go up in value in the future because the increase in value will escape estate taxation or delays taxation for another generation. Conversely, it is better to give property that has already significantly increased in value through a will because the person receiving the property gets a "stepped-up basis" equal to the property's value at the time of your death and if the property is sold, capital gains taxes will be the difference between the value at your death and the price obtained rather than the amount you paid for it and the price obtained. However, the rules for "stepped-up basis" were changed by the 2001 Act. If the estate tax is repealed in 2009 and not re-instated, the Act calls for a "carry-over basis," where the individual receiving the property gets a basis equal to the amount the deceased paid rather than the value of the property at death. (There are exceptions and modifications to this rule, though.)

  9. A final United States income tax return must be filed on behalf of the deceased.

  10. A federal estate tax return must be filed for every estate where the estate exceeds the applicable exclusion, or "shelter" amount ($1,000,000 in 2003).

  11. It is important to determine if your state has a state inheritance or estate tax to consider.

  12. An accountant and a tax attorney can assist you in preparing federal and state tax returns for the deceased, as well as helping you prepare the many other documents that are necessary to close out the deceased's estate.

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Copyright © 2006 by Martha J. Karnopp. All rights reserved. You may reproduce materials available at this site for your own personal use and for non-commercial distribution. All copies must include this copyright statement.