The federal estate tax is an issue for people who have been able to accumulate a significant store of wealth. There is a marital deduction that allows you to transfer unlimited assets to your spouse tax-free as long as you and your spouse are American citizens, but transfers to others could be subject to this death tax and its 40 percent top rate.
When you hear about the existence of the estate tax, you would logically consider lifetime gift giving as a way to sidestep the tax. The estate tax was enacted in 1916, and for a few years after its original enactment, people did give gifts while they were living to avoid the estate tax. However, in 1924, a gift tax was enacted to close this loophole. It was repealed a couple of years later, but it came back for good in 1932.
The gift tax was unified with the estate tax in the 1970s, and there is a unified gift and estate tax exclusion. This credit or exclusion is the amount that you can transfer before federal transfer taxes would be applicable. This post is being written late in 2015, and for the rest of this year, the unified exclusion is $5.43 million. Next year an inflation adjustment will be added to bring the figure up to $5.45 million.
Estate Tax Efficiency
If your estate is going to be exposed to taxation, you have to implement tax efficiency strategies, and one tool that can be useful is the qualified personal residence trust. To implement this strategy, you convey your home into the trust, and you name a beneficiary who will assume ownership of the home after the term expires.
You decide on the duration of the trust term, which is often called the retained income period. There is no disruption of your life, because you continue to live in the home as usual during this interim.
When you fund the trust with your property, you are removing it from your estate for tax purposes. However, on the other side of the coin, you will be giving a taxable gift to the beneficiary when the property transfer takes place.
Getting back to the retained income period, let’s say that you set a 15 year term. If you tried to sell the home to an objective buyer under the stipulation that he or she could not assume ownership of the home for 15 years, the buyer would not pay full fair market value.
The tax man takes this into account when the taxable value of the gift is being calculated. As a result, the taxable value will be significantly less than the true value of the home, so the transfer will ultimately take place at a tax discount.
Wealth Preservation Consultation
A qualified personal residence trust is one of the possibilities, but there are other ways to mitigate your exposure to the estate tax. If you would like to explore your options, contact us through this page to set up a case evaluation: Essex Junction VT Estate Planning Attorneys.
Stephen Unsworth
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