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Should estate planning also consider income tax consequences?

On Behalf of | May 15, 2015 | Estate Tax

According to recent data, less than one percent of estates — around 0.14 percent — owed federal estate tax in 2014. That figure may reflect the high federal estate tax exemption, set at $5.43 million for 2015.

Does this data indicate that taxes are no longer a concern of estate planners? Our law firm focuses on wills and trusts, and we would answer that question in the negative, for several reasons. First, there is no guarantee that the federal exemption will remain at its current level. In addition, many states set lower state exemption amounts. Perhaps most importantly, estate planning should also consider the potential impact of liabilities other than estate taxes, such as income tax obligations upon heirs. In that regard, trusts that earn over $12,150 of taxable income are usually in the highest tax bracket.

If the earnings in trusts might be subject to income tax, does it make sense to transfer assets to a trust or other entity structure? Possibly, since doing so might reduce the value of the estate. For example, income-producing assets like securities or even real estate can be transferred to a grantor retained annuity trust or grantor retained unitrust. The distinction depends on whether the income amount is set or fluctuating. In both trust types, however, the transfer is generally only for a set amount of time. After a certain number of years, the trust will end and the asset will transfer to the named beneficiaries. Since income has been paid in the intervening time, the value of the asset has presumably been reduced, potentially reducing the tax implications.

One additional consideration is basis. Inherited assets usually take the fair market value of the asset at the time of the decedent’s death as their basis. That’s also referred to as a step-up in basis. In the case of a trust, however, the basis may be preserved at the value the original owner purchased it. Our law firm focuses on estate planning and can walk you through these options and tax considerations.

Source: Consumer Reports, “6 costly estate-planning minefields, and how to avoid them,” April 14, 2015


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