The U.S. federal estate tax laws impose taxes on the transfer of the estate of a deceased person. As of 2022, estates valued at $12,060,000 or less are exempt from paying (up from $11.7 million in 2021), which is more than three times the 2009 exemption level of $3.5 million.
While this means the majority of Americans owe no estate tax, they may still owe an inheritance tax. This is payable by the beneficiary who receives property from the estate, and is based on only the value of those particular assets. The beneficiary is responsible for paying this tax, although some people include provisions in their wills to have the estate take care of this burden for them.
For those with estates that are still taxable at the state and/or federal level, the following options may help reduce their overall liability:
Spending assets is a surefire way to reduce the value of an estate and reduce estate tax liability. However, this solution only makes sense for those with enough wealth to ensure they don't run out of money to sustain themselves for the remainder of their lives.
This is an ideal option for those comfortable with the idea of giving away part of their estate while they're still alive. However, this approach may not sit well with individuals who fear running out of money during their lifetime. Once you've committed to giving your cash away, however, it may be difficult to reclaim a benefit from it.
Gifts given during a person's lifetime eat away at the hefty estate exemptions. This means that the tax-free limit on your estate assets will be lower when you pass away. However, there is a caveat. As of 2022, you can give away up to $16,000 without reducing the estate exemption (up from $15,000 in 2021). As a result, giving away gifts of $16,000 or less per year is a great way to reduce the value of your estate without reducing your estate exemption.
Create a Foundational Estate Plan
For married couples, basic AB Trusts or ABC Trusts can reduce or even eliminate both federal and state estate taxes assessed against their estates, although the rise in exemption level and portability of exemptions make them less necessary. In 2011, the federal estate tax exemption was made "portable" between married couples, which allows a surviving spouse to use a deceased spouse’s unused estate tax exclusion.
When the federal estate tax exemption was made "portable" between married couples, it included same-sex married couples. This means if a spouse dies and their federal estate tax exemption isn't entirely needed to avoid estate taxes, the unused portion can be added to the surviving spouse's exemption. This essentially lets married couples in 2022 pass on more than $24 million ($12-plus million each), free from federal estate taxes. So, if you're in a committed relationship but not legally married, consider tying the knot, as a way to minimize estate taxes.
Use Advanced Estate Planning Techniques.
Many advanced methods of reducing state taxes let you maintain an income stream for life.
- A Family Limited Liability Company offers both estate tax reduction and asset protection.
- Married couples can take advantage of annual exclusion gifts and their lifetime gift tax exemptions by creating Spousal Lifetime Access Trusts, or "SLATs," for the benefit of one another.
- Creating a charitable trust, such as a Charitable Remainder Trust, gives you a charitable income tax deduction when the trust is funded, and it gives your estate a charitable estate tax deduction after you die.
- A Qualified Personal Residence Trust lets you live in your home for a period of years, then the home will pass to your heirs at a reduced value, for estate and gift tax purposes, after the period ends.
Move to a New State
The following U.S. states, as well as the District of Columbia, collect state estate taxes and/or an inheritance tax: Connecticut, Hawaii, Illinois, Iowa, Kentucky, Maine, Maryland, Massachusetts, Minnesota, Nebraska, New Jersey, New York, Oregon, Pennsylvania, Rhode Island, Vermont, and Washington.
Since tax regulations, at both the federal and the state level, are subject to change from year to year, be sure to consult your specific state for estate taxes that may apply to you.
Those who are concerned with paying an estate and/or inheritance tax may want to relocate to other states. While this may seem like an extreme measure, it could allow thousands of dollars in death taxes to stay in the family, instead of going to the government.