You worked hard your entire life to provide your loved ones and yourself with financial security. The last thing you want is the government to take any of your estate. Yet, if you do not plan ahead and investigate ways to avoid federal gift and estate taxes, you could face serious consequences. As much as forty percent of your estate and gifts to your friends and family could be lost. But fear not!
There are ways to minimize or negate these taxes, including the lifetime exemption, marital deduction, and annual exclusions. A well drafted estate plan may be the key to keeping federal gift and estate taxes from derailing your estate plans. To do so, start by asking yourself a few key questions.
How Much Is Your Estate Worth & How High Are the Estate Taxes?
The first step to take if you want to protect your estate is to determine how much money it is worth. Take into account everything you intend to leave behind including your house, 401(k), cars, furniture, and anything else of value. Everything that you intend to leave or gift to your friends and family must be valued according to its fair market value. The fair market value of your property is the price at which an asset would sell when there is a willing and knowledgeable buyer.
Let’s break this down by looking at an example. Say you leave a car to your son in your Last Will and Testament. The Kelley Blue Book value on the car is $40,000. Approximately that amount is counted toward your lifetime exemption limit (discussed in the next section).
Now let’s say in a similar scenario that you “sold” the same car to your son for $10,000. The remaining $30,000 of the car’s worth would be consequently counted toward your lifetime limit. This is because the IRS is not going to let you use a below market “sale” to establish fair market value. Establishing the value of your estate early on in the planning process will be a valuable tool for you in determining how to handle your Will.
What Is the Lifetime Exemption?
You may be familiar with the fact that the federal government taxes your estate and gifts made during your lifetime. However, did you know that it’s at a rate of 40 percent? That is a huge amount of your hard earned money that can be lost to taxes! The best relief you will find from this tax is the lifetime gift and estate exemption limit. This lifetime exemption entitles you to leave behind up to $11.4 million (as of 2019) before any tax is taken out.
To understand how this works, let’s look at another example. Although the actual calculations are a little more complicated, this might give you a general idea. You have an estate valued at $15.4 million. The first $11.4 million will not be taxed at all, while the remaining $4 million will be taxed at 40 percent. Consequently, this would leave behind just $2.4 million. However, you only lost $1.6 million of your $15.4 million dollar estate! Keep in mind that the lifetime exemption limit is adjusted yearly for inflation.
The lifetime exemption limit is an invaluable asset for every taxpayer when preparing their estate plan. However, some individuals may need to employ other strategies to provide further protection for their estate. An annual gift tax exclusion is one of these strategies. You might be asking yourself, what is that? Glad you asked!
What Is the Annual Gift Tax Exclusion?
The annual gift tax exclusion allows you to make tax-free yearly gifts to beneficiaries. You can gift as much as $5,000 to a beneficiary once every year without it being taxed. Gifts can be made to as many beneficiaries as you want every year, up to the $5,000 limit per beneficiary. So for instance, you can gift $5,000 a year to thirty family members and ten friends for a total of $700,000 in tax free gifts every year.
Moreover, gifts made using the annual gift tax exclusion do not count toward your lifetime exemption limit. With enough advance planning, a huge portion of your estate can be safely gifted without ever being taxed using the annual gift tax exclusion.
Are Gifts to a Spouse Taxed?
One “fallback” strategy people frequently rely on is the “unlimited marital deduction.” This allows you to leave your spouse an unlimited amount of assets tax-free. Theoretically, your entire estate could be left to your surviving spouse without the transfer triggering federal gift and estate taxes. The problem with relying on the marital deduction is that doing so often over-funds the survivor’s estate. The IRS likes this strategy. What the IRS doesn’t collect at the death of the first spouse, it will get at the death of the second spouse. Ultimately, proper planning remains the key to protecting your assets.
Confused about Estate Taxes?
If this all seems a bit confusing, don’t be too hard on yourself. Planning for federal gift and estate taxes can be complicated and challenging. That is why there are experienced attorneys to handle the matter. If you wish to protect your estate from taxes, it is likely in your best interest to hire an experienced Texas estate planning attorney. They may be able to help take care of you and your family.
If you have additional questions or concerns about how federal gift and estate taxes will impact your estate plan, contact the Texas estate planning attorneys at The Mendel Law Firm, L.P. by calling 281-759-3213 to schedule your appointment today.