A lot of people may think the only reason to do an estate plan is to avoid the estate tax. But with the federal estate tax exemption at $11.4 million for an individual, up to $22.8 million for a married couple, most people will already avoid the estate tax. But there is another tax that can factor into estate planning, and for most people it is a much more significant risk than the estate tax.
That tax risk is plain old income taxes, for both yourself and your heirs. Many of the assets you own and want to pass to your heirs can have very different income tax results depending on how and when they transfer. Here are a couple of examples:
- Maybe you have significant assets in a qualified plan such as a 401k. Since you invested in that plan pre-tax, everything that comes out of that plan is taxable income to you or your heirs. Would it make sense to leave some or all of the money in that account to a trust for children or grandchildren, who may be in a lower tax bracket than you or your spouse?
- Maybe your house is worth a lot more than it was when you bought it years ago. You may be thinking of gifting the house to your children, wanting to avoid costs and complications after your death. If you sell the house yourself, in most cases you won’t pay taxes on that gain since it has been your primary residence. But if you gift the house your children will have the same cost basis as you do, and if it was not their primary residence they will owe capital gains taxes when they sell the house. If you own the house until your death your children will inherit it with a cost basis stepped up to the value on the date of your death, so if they sell they will probably not owe taxes on the gain. But you want to avoid probate and make transition easier. What are some options you would have?
There are many income tax issues that can impact estate planning for people at all asset levels. To see how these issues may impact you and what options you have, contact us,