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Estate tax savings beyond exemptions

You’ve used up your lifetime Federal gift and estate tax exemption. Now what?

Taxation will likely outlive all of us. Governments will continue imposing taxes on citizens throughout their lives and often on their estates after they are gone.

Although some taxes may prove inevitable, there is often more you can do to alleviate your tax burden than you may realize. Estate taxes are no exception. With proactive planning, you can reduce the amount your beneficiaries will owe when your estate transfers to them while increasing the lifetime value of what you give them.

The power of a giving mindset

Giving embodies one of the most effective tax-reduction strategies. Millions of Americans use giving to reduce their taxable estates and to support the people and causes important to them. You’ve not only embraced this practice, but you may have also used your available Federal gift tax exemption to its fullest. Your generosity may have reached or exceeded your lifetime Federal gift and estate tax exemption amount.

So now what?

After you have made gifts using your entire Federal gift tax exemption, the assets remaining in your estate at the time of your death may be subject to Federal and state estate tax. Your estate could trigger Federal and state estate taxes of 40% or more of its value when transferred to your beneficiaries upon your passing. Specifically, under current law, your estate may owe estate tax equal to 40% of your estate’s overall value, and your estate may owe an additional state estate tax depending on the state’s estate tax laws at the time of death.1

If you’ve fully utilized your current lifetime Federal estate and gift tax exemption, and have additional wealth transfer objectives, a careful consideration of your wealth transfer plans may be warranted.

However, you likely have more giving options to lower estate taxes than you may realize. Did you know giving away more of your estate early and consistently can increase its value to your beneficiaries and reduce their estate tax bill?

Now is a great time to review your estate plan because the earlier you start deploying a proactive tax strategy, the more chances you will have to increase the benefits your beneficiaries receive while ultimately reducing final estate taxes.

Let’s consider different giving practices and their potential impact on estate taxes.

Why you should make annual exclusion gifts a habit

Even if you have fully utilized your lifetime Federal gift tax exemption, you can still make annual gifts in an amount set by the Internal Revenue Service to as many individuals as you choose and these annual gifts are not subject to Federal gift tax. You can share your wealth with children, grandchildren and other loved ones every year. Regular annual exclusion gifts enable you to regularly reduce your estate’s taxable value while making tax-free investments in your loved ones’ futures.

If you’re not comfortable consistently giving the full amount to an individual, you can contribute it to a trust instead. Federal gift and estate law allows you to make annual exclusion gifts to trusts, such as irrevocable life insurance trusts (“ILITs”) and spousal lifetime access trusts (“SLATs”). Make sure the trusts you select have been properly structured to receive annual exclusion gifts. Your client team can help you identify appropriate trusts.

How to invest in the rising generation and reduce estate taxes

You can also pay for your beneficiaries’ education from elementary school through graduate, medical, or law school without incurring a Federal tax bill. Financial contributions for an individual’s education are not counted toward the donor’s Federal gift tax exemption and do not incur gift tax so long as payments are made directly to the institution. Your ability to support future scholars is unlimited. There are no current restrictions on the number or amount of tax-free educational contributions you can make. 

Help people with healthcare bills

Helping people with medical bills offers another excellent way to lower your estate’s taxable value under Federal gift and estate tax law and embrace your values. You are permitted to pay healthcare expenses for anyone without incurring Federal gift taxes as long as you pay the healthcare provider directly.

Identifying the lesser of two taxes: Gift or estate tax

You may be unable to avoid Federal estate taxes altogether and may have to choose timing tax payments to best support your goals. If you have surpassed the lifetime Federal gift tax exemption limit, any future gifts in excess of the annual exclusion to a non-charitable recipient will be subject to a 40% Federal gift tax on the fair market value of the gift that you will be responsible for.

Although the 40% Federal gift tax resembles the percentage your beneficiaries would owe in Federal estate taxes, the Federal government calculates gifts and estate taxes differently, so the amount you would owe on a lifetime gift could be significantly lower. The Federal government calculates Federal estate taxes based on the estate’s entire value at the time of transfer, including the assets used to cover the taxes. However, Federal gift tax calculations do not include the amount that would pay the taxes.

Therefore, giving assets away now rather than bequeathing them in the estate later could potentially save your beneficiaries more than 11% in taxes. Their savings would grow if your state charges additional estate taxes but does not impose a gift tax.2 Please consult financial planning and tax professionals when considering these options.

Some final thoughts

Gifting strategies can provide a valuable way to reduce Federal gift and estate taxes. Even taxable gifts can offer significant savings over potential Federal estate taxes through lower effective tax rates. Giving also enables recipients to use your gift to invest in the rising generation and grow their wealth long before they would inherit your estate.

Talk to your client team to learn more and explore your options for realizing your wealth transfer and legacy goals.

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