Key takeaways
Currently, assets worth $13.61 million or more per individual are subject to federal estate tax. Some states also levy estate taxes. The federal estate tax exemption amount is scheduled to sunset at the end of 2025.
Estate tax is different from inheritance tax and gift tax.
Ways to reduce estate tax liability include charitable giving, setting up an irrevocable trust or establishing an irrevocable life insurance trust.
Benjamin Franklin famously noted that only two things are certain: death and taxes. An estate tax combines them both. Sometimes referred to as a “death tax,” this federal tax is levied on the transfer of assets once an individual passes away.
The estate tax exemption sunset could reduce the amount that an individual can pass on tax free. As a result, now is a good time to make plans to transfer wealth to heirs and charities.
Imagine that at death, all the assets you own or have an interest in are captured in a snapshot. Regardless of where they’re located, those assets make up your gross estate for federal estate tax purposes.
In 2024, the Internal Revenue Service (IRS) levies a federal estate tax on individuals having assets with a fair market value of $13.61 million or greater at their death. The IRS considers estate assets to be any interest in real estate, such as a home. Other examples of assets include, but are not limited to:
If the decedent’s estate plan leaves their assets to their spouse, an estate tax may not be due. An unlimited marital deduction allows an unrestricted transfer of assets between spouses. However, any assets owned by the surviving spouse at their time of death will be included in their taxable estate, including previously exempted amounts. Assets distributed to a qualified charitable organization may pass free of estate tax.
Current federal estate tax rates put in place in 2017 by the Tax Cuts and Jobs Act (TCJA) range from 18% to 40%. However, the estate tax exemption amount, currently $13.61 million per individual, is scheduled to “sunset” at the end of 2025 and revert to pre-TCJA levels, which is an estimated $7 million per individual (adjusted for inflation). The maximum federal estate tax rate will remain 40%.
The estate tax exemption sunset could reduce the amount that an individual passes on tax free. As a result, now is a good time to make plans to transfer wealth to heirs and charities.
In addition to federal estate tax, your assets may be subject to state estate tax if you reside in a state that imposes this tax. Keep in mind that your assets could be subject to state estate tax even if your estate isn’t worth the current federal estate tax filing limit of $13.61 million at the time of your death.
Currently, 12 states and the District of Columbia charge estate taxes, which are paid in addition to any federal estate tax. The exemption levels vary and can reach as high as $13.61 million. The state estate tax is generally charged based on the state an individual resides in at the time of their death. However, other factors, such as owning physical assets outside of your home state, could give rise to additional state estate tax liability.
Federal and state estate taxes are paid from the assets of your estate before the remaining assets can be distributed to your heirs. The executor or the trustee, as applicable, is responsible for filing the required federal and state estate tax returns and ensuring that all taxes are paid from the estate. After confirming no additional liabilities exist, the executor or trustee will distribute the remaining assets to the named beneficiaries.
The federal estate tax return, Form 706, is due nine months from the decedent’s date of death and can be extended an additional six months. If an estate tax payment is due, the estate tax payment should be made on or before the original filing deadline for the return unless a request for an extension to pay has been granted by the IRS.
The IRS can take up to three years to let an executor or trustee know whether they have accepted the return as filed or if they will audit the return. An audit of the estate tax return may result in additional estate taxes being assessed. It’s not uncommon for several years to have passed before the executor or trustee receives a final assessment from the IRS.
An inheritance tax is another type of death tax and is paid by the beneficiary, not the estate. It’s charged at the state level and is assessed by the state a person resides in at the time of their death. Currently, just six states levy an inheritance tax. Maryland is the only state that charges both an estate tax and an inheritance tax.
Inheritance tax is based off the relationship of the deceased to the person receiving the assets. Beneficiaries who are closer to the deceased, such as a spouse or children, tend to pay a lower tax rate than someone who's more distant, like a friend or a cousin.
Each year, individuals can make a gift up to the annual gift tax exclusion limit, without having to pay gift tax or file a federal gift tax return. The limit in 2024 is $18,000 per recipient. Amounts above this cap are considered taxable gifts and must be reported on a gift tax return, which is due the following calendar year.
Gift tax does not apply in certain circumstances, including:
High net worth individuals subject to estate taxes can take steps to minimize their tax burden. Here are options to discuss with your wealth advisor:
You can also make lifetime gifts into an intentionally defective irrevocable trust. In this situation, the individual who sets up the trust, or grantor, pays income taxes on any revenue generated by the assets, ensuring that trust assets are not used to pay taxes and enhancing the growth potential of the trust assets.
The current transfer tax exemption scheduled to sunset in 2025 could reduce the amount an individual is able to fund into an irrevocable trust free of the estate tax, so now may be an opportune time to establish a trust that transfers wealth outside of your estate. For example, setting up a Spousal Lifetime Access Trust (SLAT) could allow one spouse to gift assets to another spouse in trust, or both spouses to gift assets to each other, letting the beneficiary spouse access the assets while removing them from their taxable estate.
If your net worth is nearing or over the current estate tax threshold, either for federal or state taxes, work with a wealth advisor to help you determine which tax minimizing strategies are right for you.
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