Following the fiscal cliff: A clearer path for estate planning
When Congress passed the American Tax Relief Act of 2012 (ATRA) in January 2013, it halted the country’s seemingly relentless march toward the dreaded fiscal cliff. Instead of plunging into chaos, we now have relative clarity in one important area: a permanent set of estate and gift tax rules.
Anxiety about the fiscal cliff had kept many people, especially baby boomers, frozen, unwilling to take much needed estate planning steps until a new set of rules was in place. According to Forbes, a 2012 survey found that 64% of baby boomers had yet to create a living will, a set of written instructions that spell out what actions to take in case the person is no longer able to make decisions due to illness or incapacity. Others had avoided taking the necessary steps that could ensure the smooth passing of assets from one generation to another. Now, thanks to ATRA, boomers and others can act with greater certainty regarding the estate and gift tax rules.
Here are some details:
How much of an estate is tax free?
On January 11, the Internal Revenue Service announced that the unified estate and gift tax exclusion amount for deaths in 2013 would be $5.25 million, after being adjusted for inflation. The highest tax rate on taxable estates in excess of this amount is 40%. During 2012, this “basic exclusion” or tax-free amount had been $5.12 million. If ATRA was not passed, this exclusion amount would have automatically reverted to $1 million and the highest tax rate for taxable estates would have gone up to 55%.
In addition to these changes, the “portability” of this exclusion amount between spouses has been made permanent. In other words, widows and widowers can add any unused exclusion of their late spouse to their own amount, enabling the couple to plan a transfer of up to $10.5 million (based on 2013 exemption amounts)—tax-free—to their children and/or heirs. Simply be aware that the decedent’s estate executor will need to file an estate tax return within nine months of the death, so that the unused exclusion amount can be formally transferred to the surviving spouse. Of course, you should check with your tax advisor.
How much can a person gift before he/she dies?
ATRA did not change the “marital deduction,” which allows you to leave an unlimited amount of assets to your spouse; however, without more planning, you’re likely only deferring and possibly increasing the estate tax burden on the assets that are left to your beneficiaries outside of the exclusion amount.
To help reduce this tax burden before your death, the tax law also allows you give up to $14,000 a year, up from $13,000 in 2012, as a gift to an individual (or $28,000 if you’re giving as a couple). There is no limit on the number of individuals who can benefit from your generosity. So, for example, you and your spouse could give a joint cash gift of $28,000 to each of your children, each of their spouses and each of their children (your grandchildren). If you have two married children with two kids each, you could potentially gift $224,000 this year (eight individuals times $28,000) without reducing (using up) your unified gift and estate gift tax exemption amount.
Are there any caveats?
You should keep in mind that gifts in excess of this $14,000 annual per person exclusion amount will reduce your unified gift and estate tax exemption amount ($5.25 million for 2013). For example, assuming no other gifts, if you gifted $1.028 million to your child in 2014, this would reduce your unified gift and estate exemption amount to $4.25 million (from $5.25 million). This exemption amount can be used up by gifts that you make during your life time, as well as through transfers to heirs from your estate after your death.
Are there other uses for my funds which may ease the estate tax burden?
In addition to gifting to others, you may also reduce your estate tax burden by paying an unlimited amount of medical and education expenses for someone, as long as you pay the billing institutions directly for these expenses.
ATRA has provided much needed clarity around important estate planning topics.
Article is for informational purposes only. This material includes a discussion of tax-related topics. It is not intended and cannot be used by any taxpayer for the purpose of avoiding IRS penalties that may be imposed upon the taxpayer. Taxpayers should always seek and rely on the advice of their own independent tax professionals. New York Life Insurance Company, its affiliates, agents and employees, may not provide legal or tax advice to you.