Last week, we discussed the often-overlooked topic of managing digital assets in estate planning. This week, we turn our focus to a subject that many people mistakenly believe doesn’t apply to them—estate taxes. Whether it’s federal, state, or taxes on inherited accounts, estate taxes can have a significant impact on what you leave behind for your loved ones. Let’s dive into how these taxes work and what you can do to minimize them.

The Big Picture: Estate Taxes Are Not Just for the Ultra-Wealthy

When people think of estate taxes, they often imagine them as a problem only for the super-rich. However, with rising property values and substantial retirement savings more people than ever might be affected. Even if you’re well below the federal estate tax threshold, state estate taxes or taxes on inherited retirement accounts can still take a big bite. Estate planning isn’t just for those with millions; it’s for anyone who wants to maximize what they pass on.

Federal Estate Taxes: Where Do You Stand?

As of 2024, the federal estate tax exemption is $13.61 million for individuals and $27.22 million for married couples. If your estate exceeds these amounts, any value above the threshold is subject to a 40% federal tax rate. But remember, tax laws are subject to change. It’s vital to stay informed and plan for potential changes. This is especially true for those whose estates are close to or above the exemption limits.

State Estate and Inheritance Taxes: Don’t Overlook Them

Many states have their own estate or inheritance taxes, with exemption limits that are often much lower than the federal threshold. For example, some states have exemptions as low as $1 million, and rates can be as high as 20%. Unlike federal estate taxes, state taxes can apply to much smaller estates, so knowing your state’s laws and planning accordingly is essential.

Inherited IRAs and Retirement Accounts: A Hidden Tax Trap

If you think estate taxes are only a concern for the ultra-rich, think again. Almost everyone today has some form of retirement savings, like a 401(k) or IRA. Here’s the catch: these tax-deferred accounts are subject to income taxes when inherited. The SECURE Act of 2019 changed the rules, requiring most beneficiaries to withdraw the entire balance of an inherited IRA within 10 years—potentially pushing them into a higher tax bracket. This is a tax many people don’t expect but should absolutely plan for.

Upcoming Changes to Gift and Estate Tax Exemptions

Currently, the lifetime gift and estate tax exemptions are $13.61 million per individual and $27.22 million for married couples. However, these generous exemptions are set to expire in 2025. Unless Congress acts to extend the current provisions, the exemption amounts will revert to pre-2018 levels, adjusted for inflation, which is expected to be around $6 million per individual. This change could significantly impact estate planning strategies, making it essential to review your plans now to take advantage of the current higher limits.

Strategies for Minimizing Estate Taxes

• Gifting Assets During Your Lifetime: The IRS allows you to gift up to $18,000 per year, per person, without it counting against your lifetime exemption ($13.61 million). This reduces the size of your taxable estate while providing benefits to your heirs now.
• Using Trusts Effectively: Trusts like irrevocable life insurance trusts (ILITs) or charitable remainder trusts (CRTs) can be valuable tools for reducing estate taxes. These trusts remove assets from your estate and can provide income or other benefits to your heirs, charities, or both.
• Roth Conversions: Converting traditional IRAs to Roth IRAs during your lifetime can help minimize future tax burdens for your heirs. Although you’ll pay taxes at the time of conversion, qualified withdrawals from a Roth IRA are tax-free, allowing for more tax-efficient estate planning.
• Charitable Contributions: Donations to charities can reduce your taxable estate, and for those looking to make significant gifts, charitable trusts can offer both income and estate tax benefits.
• Life Insurance: Life insurance can provide liquid assets to pay estate taxes, helping to preserve other estate assets. However, consider placing the policy in an irrevocable life insurance trust (ILIT) to keep it out of your taxable estate.
• Family Limited Partnerships (FLPs) and Limited Liability Companies (LLCs): These legal structures can provide estate tax benefits by allowing you to transfer assets to family members at a reduced value, due to discounts for lack of control and marketability.
• The Step-Up in Cost Basis: When beneficiaries inherit assets like stocks or real estate, they receive a “step-up” in cost basis. This means they inherit the asset at its current market value, reducing the capital gains tax if they sell it. Make sure to understand how this affects your estate planning strategy.

Coming Up Next Week

In our next edition, we’ll discuss Medicaid and asset protection—an essential topic for anyone concerned about preserving their estate in the face of potential long-term care needs. We’ll explore the rules, the myths, and the strategies to protect your assets while qualifying for Medicaid. Stay tuned!

Warmly,

Jeff Perry

Partner, Quest Commonwealth

Co-Host of “Safe Money Mindset” on WXYZ-TV ABC Detroit

Author of “Safe Money Mindset” – Available on Amazon or discounted HERE

👉 Watch our latest TV episodes of “Safe Money Mindset” on YouTube

Weekly Tip

Do you know how much of your estate could be subject to taxes? Review your estate plan with an expert to ensure you’re using all available strategies to minimize estate taxes. A small adjustment today could mean a huge saving for your heirs tomorrow.