What are the key items for consideration in estate planning these days? For many years, federal estate tax exemption levels drove estate planning decisions. Avoiding or minimizing the federal estate tax led to tax planning trusts and other techniques. Now, with the federal estate tax exemption amount set at $5.43 million per person in 2015, for combined lifetime and death transfers, and $10.86 million for married couples, the federal estate tax is less of a concern. In all the New England States, except New Hampshire, however, there are state estate taxes to consider. Those state estate taxes continue to drive estate planning techniques in all the New England states, except New Hampshire. For Granite Staters who own no real estate outside New Hampshire, often other considerations are becoming more important for the financial side of estate planning. Considerations of income tax, specifically capital gains taxes, are becoming more prominent.
For many years, wealthy individuals used annual exclusion gifting to reduce their taxable estate. Gifts of up to $14,000.00 can still be made to any number of individuals, without requiring the filing of a gift tax return. For any gifts during the year to a single individual over that annual exclusion amount, a gift tax return must be filed, but no taxes are owed until the donor has exceeded the combined estate and gift tax exemption amount of $5.43 million. Even with many years of gifts, it is unlikely that most individuals will come close to that amount.
By contrast, assets transferred at death, not during the donor’s lifetime, provide an additional gift to the recipient: a basis “stepped up” to the date of death value of the asset. This can be particularly important for real estate or stocks held for long periods of time that have appreciated. With the step up in basis for transfers at death, the recipient never has to pay capital gain taxes on the gain that accrued between when the asset was acquired by the donor and when it was gifted at death. Gifts transferred during lifetime, on the other hand, carry with them the donor’s basis in the asset. For example, if a lakefront cottage or camp was purchased in 1965 for $25,000 and by 2015 is worth a great deal more than that, that increase in value will never be taxed if the property is transferred at death. If transferred to children during the owner’s lifetime, the children would pay a hefty capital gains tax when they eventually sell it. Because the estate tax exemption levels are as high as they are, many parents and grandparents may choose to hold onto assets longer and transfer them at death, in order to give the recipients the step up in basis.
There are often good reasons to make gifts during lifetime, beyond the tax consequences. These can include assisting a child or grandchild with college or a home purchase or to start up a business. Gifts should still be given for the “right” reasons, even if that will mean the recipient takes the donor’s basis in the gift.
Another consideration with the increase in the federal estate tax exemption amount is reviewing estate planning or “living” trusts to understand how they operate with the new, higher exemption amount. Folks in their later years who may have had trusts created when the exemption amount was much lower, likely have trusts with a traditional tax planning structure to prevent the assets owned by the first member of a couple to die from being included in the estate of the second spouse to die, to minimize estate taxes as much as possible. The use of these so-called “credit shelter trusts” was very beneficial for tax reasons in the past, but, unless the members of the couple each own close to the estate tax exemption amounts, this tax planning is no longer needed. These trusts may have unforeseen consequences if a residence, for example, is in the trust of the first member of the couple to die and the surviving spouse lives in it for many years, during which time it appreciates in value. When the second member of the couple dies and passes the home to heirs, there is no additional step up in basis at that time, because the home was not under the control of the surviving spouse; it was in the “credit shelter trust.” The credit shelter trust can also lead to frustration for the surviving spouse who, because of the tax planning in the trust, cannot control the assets of the couple after the first spouse has died. It may have made sense for tax purposes in the past, but, with the increased estate tax exemption, that lack of control over the assets of the first to die is often unnecessary.
Just as with gifts, there are still very good reasons to have trusts, which include the ability to manage control of assets after the grantors who set up the trust are gone. The primary purpose for which many New Hampshire residents create estate planning trusts is to avoid probate. If all assets are transferred into the trust during lifetime, then those assets will pass without going through probate after the grantors’ death. For this reason, we still recommend trusts to many of our clients.
Planning and keeping in mind the tax consequences of one’s choices is as important now as it ever was. The calculus may vary, due to changes in the tax laws. As always, we recommend estate plans that are well tailored to suit the needs of our clients. At Donahue, Tucker, Ciandella, PLLC, we are ready to assist clients with a full range of estate planning needs, including reviewing existing documents and explaining how they will work with the new, $5.43 million federal estate tax exemption.