Who is the Heir to Your Estate?

By Robert Fragasso, Board Chair

Your state government is likely one of your estate’s heirs. It may be that the federal government is also. They tax estates at death. The state government, and we will use Pennsylvania as our example, taxes your net estate after final expenses and after charitable contributions along the following scale.

· No tax when left to your spouse. But he or she is liable for the tax upon death.

· The tax is 4.5% to lineal descendants, meaning parents and children.

· 12% when assets are left to siblings or others.

And that is levied on all assets, both liquid and non-liquid to include house, auto, business assets, and personal possessions. Insurance proceeds are not counted in your total assets for PA tax purposes.

4.5&! 12%! That is just the state government, and most all of us are eligible for those taxes at death.

The federal government is far worse. The good news is that you don’t begin to pay that tax until your estate is over $13,99 million. That exempts many, but remember that the value of your business is included in that asset calculation. So, if you own, for example, a successful small business it may get you over that threshold along with the proceeds of life insurance because the IRS does include that. The tax above the exempt threshold is 40%. Yes, 40%.

Consider how your estate may crash through that threshold by virtue of your business ownership and yet your estate may not have enough liquid assets to cover the assessed estate tax. With the tax due within nine months after death, that may not be enough time to accomplish a favorable sale of the business, and the estate will have to borrow to pay the tax.

Are you depressed yet? Wait, it gets worse. The law that allows for the $13.99 million initial exemption before the tax kicks in “sunsets” or expires on December 31st of this year. Unless extended by Congress the exemption drops by half to about $7 million. Again, the tax starts above that number at 40%. Now you are depressed.

Don’t jump yet, as there are actions you can take to counter this problem. Foremost among them is gifting either during your lifetime to family or charities or at death to charities. Those amounts are then not part of your estate. You can also own life insurance outside of your estate in a trust created by you with family and charities being the beneficiaries.

This action is applicable for both the state and the federal tax. If you die leaving a dollar, as a simple illustration, that is in tax territory it is taxed 4.5 – 12 % by Pennsylvania (and that applies to most of us), thus you are leaving only 88 or 95.5 cents to your children. Or if you are leaving $7 million or more (think successful professional or business owner), you are leaving only 60 cents of that dollar to your family.

That makes a strong case for gifting during your lifetime or at death. If you do, you are giving 100 cents of that dollar to your desired charities and if done during your lifetime you get the added benefit of seeing the good your gift is doing.

There are many ways to give and save taxes, and we’ll look at three as examples.

First, gift appreciated assets instead of cash. That not only gains the eventual estate tax benefit, but it also avoids paying capital gains tax on the appreciated asset.

Second, for those over the age where you must start drawing from your IRA over a government-published schedule of years, you can give directly from that IRA or IRA rollover account to your charity. Any amount so gifted if under the yearly limit of $108,000 is not included in your taxable income that year. So, whether you itemize deductions or not, that withdrawn amount is not taxed to you, and it isn’t taxed to the charity. One hundred cents of those dollars go where you wish them to be.

Second, for those qualifying for federal estate tax at a 40% rate, you can gift outright now or at your death to your favorite charity and the gifted amount does not qualify for the tax. This becomes especially productive when you gift appreciated assets like stocks or real estate to charity. You get tax-saving benefits on the full amount, and you avoid paying capital gains tax on the appreciated assets. There are methods for deriving lifetime income from gifted assets and that require working with your attorney, tax accountant and financial advisor to arrange it. But that is routine when you have high assets and the appropriate need for current income.

Human nature puts off thinking and acting. But we don’t know our life’s timetable and the cost of procrastination can be high. Please speak with Lynette Vybiral, our Senior Director of Major Gifts & Strategic Philanthropy at Animal Friends, at lvybiral@ThinkingOutsideTheCage.org or by phone at 412.847.7039. She will be happy to guide you through the process. We are ready to work with you, and your professional advisors, where appropriate, to make the arrangements stress-free and to help preserve your estate for the people and charities you care about. And when it is completed, you will have the satisfaction of knowing that you did something good and left a legacy.

Disclaimer: This article is not meant to provide tax or legal advice. It is intended to provoke productive thought and interaction with appropriate advisors.