How Charitable Contributions Can Reduce Your Estate Taxes

December 01, 2016

A few weeks ago, I wrote about whether you might have a taxable estate. If you’re unfortunate (or fortunate) enough to have an estate large enough to be subject to estate taxes, there are several ways you can reduce that liability while helping your favorite charity. Here are a couple of the most common:

Lifetime giving. If you give assets away before you die, they can reduce the total amount that you can pass on estate-tax free at death. For example, you can pass on $5.45 million (twice that as a married couple) tax-free in 2016. If you give away $1 million, your $5.45 million exemption is reduced by that $1 million to $4.45 million. Otherwise, people could easily give away their entire estate tax-free on their death bed.

There are a few exceptions to this though. One is that you can give away $14,000 per person to an unlimited number of people per year without reducing your estate tax exemption.  (You can use up to 5 years of that $14,000 exemption upfront by gifting it to a 529 education savings plan.) Another exception is for gifts made to charitable organizations. You can give an unlimited amount to charity while alive or at death without any estate or gift tax consequences.

Charitable remainder trust. A more sophisticated method is to use a type of irrevocable trust called a charitable remainder trust. In addition to reducing your estate taxes, this strategy can also reduce your income taxes and increase your after-tax investment income. That’s because you get a charitable deduction for the value of the assets donated to the trust, the trust can then sell the assets without a capital gains tax to pay you an income stream, and then the remainder is passed on to the charity estate tax-free at your death.

For example, let’s say that you have investments worth $1,000,000 that you originally purchased for $500,000. If you sold those investments and paid a 15% capital gains tax, you’d end up with $425,000 after-tax. If you earned  a 4% income from that, you’d have $17,000 of investment income.

On the other hand, if you donated the $1,000,000 of assets to a charitable remainder trust, you’d get a deduction of the $1,000,000 donation from your income taxes. At the 35% tax bracket, that would be worth $350k in tax savings (plus $38k from the net investment surtax). In addition, the trust can sell the investments without a capital gains tax and pay you a 4% income from the full $1,000,000 which would be about $40,000 per year or $23,000 more annual income than you would otherwise be getting after the capital gains tax.

The big downside is that you wouldn’t be able to pass the remainder on to your heirs. However, you can replace that inheritance by purchasing life insurance inside an irrevocable life insurance trust. Since the trust is irrevocable, the life insurance proceeds would not be part of your taxable estate.

Of course, there are other strategies to reduce your estate taxes so if you have a taxable estate, you’ll want to speak to a qualified estate planning attorney to understand all of your options. The main point is that you can do well for yourself by doing well for others. Now if only I had a taxable estate to worry about…

 

 

Do You Have a Taxable Estate?

November 10, 2016

To keep pace with inflation, the IRS recently announced a higher estate tax exemption for next year of $5.49 million. For most people, this estate tax exemption means they don’t have to worry about the estate tax because it only applies to the value of estates above that amount. However, there are several main reasons why your estate may be more likely to be taxable than you think:

The estate tax applies to non-financial assets too. It’s easy to see the value of your retirement, investment, and bank accounts, but don’t forget any real estate or business interests you may have. The IRS may also value them higher than you expect.

The tax is on your gross estate. If you own a $1.5 million home with a $1 million mortgage,  you may think only your $500k of equity is part of your estate, but the entire $1.5 million is actually included. The same is true for any other property you have with secured debt.

Your estate includes life insurance proceeds. Even though you don’t see a dime of it, life insurance death benefits are included in your estate. This alone could be several million dollars for many people.

Your state may have a lower estate tax exemption. In addition to the federal estate tax, a handful of states impose their own estate tax with rates as high as 20% (Washington) and their exemptions are often lower than the federal one. For example, New Jersey’s state estate tax exemption is only $675k.

The estate tax will likely change. The tax code is constantly changing and the estate tax is no different. Depending on the outcome of future elections, we could see a higher estate tax or even no estate tax at all. Given the rising national debt and the fact that taxing upper-income people is one of the few deficit-reducing policy proposals that polls well, the former may be more likely.

Chances are, you still won’t have to worry about paying the estate tax even with all these caveats. However, if it turns out that you do have a taxable estate, you’ll want to speak with an estate planning attorney about what options you have to minimize the tax burden on your heirs. It’s a good problem to have but a problem nonetheless and one you’ll want to know about before it’s too late.

 

Lessons From a Tragedy

August 28, 2014

If you’re like me, you were shocked and horrified when you found out about Robin Williams’ death. I can’t tell you how many interviews I listened to and movie clips I watched of him in the days after the horrible news. Buried in all that media coverage, I also saw this article pointing out that unlike so many other celebrities with untimely ends, at least Williams spared his family additional stress and grief by taking care of his estate planning with a revocable trust. Continue reading “Lessons From a Tragedy”

One of the Biggest Challenges Facing Financial Planners

February 01, 2012

One of the biggest challenges I face in my line of work is deciding when to explain things in more detailed technical terms and when to explain them in more understandable  “practical” terms.  For example, when discussing the income limits for traditional and Roth IRA contributions, most financial professionals will tell you the limits are based on your adjusted gross income (AGI) when technically they are based on your modified adjusted gross income (MAGI).  In many cases, such as this one, the difference between the practical and the technical may be so small that it’s just easier to speak in practical terms. The problem is that if you don’t know the technical stuff, it’s easy to make a financial mistake. Continue reading “One of the Biggest Challenges Facing Financial Planners”