None of us enjoys paying taxes. As a Grand Rapids estate planning attorney, I love helping my clients eliminate or minimize their estate taxes. Yes, there are estate taxes to be paid to Uncle Sam by some. But, due to recent changes in the tax code, more than likely you are not one of them. Now that’s good news! Here is how it works:
Let’s look at taxes related to the following:
Living Trust
Irrevocable Life Insurance Trust
Gift Tax
Death (Estate) Tax
Irrevocable Trust “springing” out of your Living Trust after Death
Your living trust is not a separate legal entity for income tax purposes. So, it does not pay income taxes. Instead, its income and deductible expenses are attributable to its “grantors” (another legalese term meaning the people who created the trust) – which is typically you and your spouse (if you are married). So, its income and expenses will be included in your income tax return.
Your ILIT is a separate legal entity for income tax purposes. So, it is subject to income taxes. But, typically there is no income. Why? The only transactions are:
Cash received from you in the amount of the premiums on the life insurance policy it owns
Cash disbursed to pay the premiums on the insurance policy it owns
Since these are the same amount, there is no income. An income tax return is not necessary if there is zero income. If there is income, the current tax rates are listed below in the last section.
Exemption: Currently, you can give away $14,000 per year per spouse per person (that’s $28,000 per couple) to as many people as you would like tax free. In other words, these gifts are forever not taxable. This is called the “annual gift tax exclusion”. Qualifying gifts for political contributions, education, and medical expenses are also exempt. And gifts to non-profits are also not taxable.
Exclusion Amount: The lifetime Exclusion Amount is a threshold for estate taxes. It is calculated by adding: (a) your estate value (at the time of your death); and (b) the value of your gifts (at the time they were given) that exceeded the annual gift tax exclusion. For 2016, if the sum of these is less than the current $5.45 million Exclusion Amount, then there is no estate tax. A husband and wife both get the $5.45 million Exclusion Amount so the couple’s total exclusion amount is $10.9 million.
Delayed Taxation. Gifts in excess of the annual gift tax exclusion are not immediately taxable. However, you must file IRS Form 709 to report the excess gift amounts. As stated above, any gift exceeding the annual gift tax exclusion (which is not exempt from the gift tax) is applied against the lifetime Exclusion Amount.
If you would like to develop a giving strategy, as an experienced Grand Rapids estate planning lawyer, I can help.
The Estate Tax is calculated based upon the sum of: (a) your estate value (at the time of your death); and (b) the value of your gifts (at the time they were given) that exceeded the annual gift tax exclusion. For 2016, if the sum of these is less than the $5.45 million Exclusion Amount, then there is no estate tax. A husband and wife both get the $5.45 million Exclusion Amount so the couple’s total is $10.9 million. Thus, if your gross estate value does not exceed these amounts, there is no tax due.
An IRS Estate Tax return (Form 706) is not required if your estate and excess gift amount does not exceed the Exclusion Amount. But, for married couples, after the first spouse dies, the surviving spouse should file Form 706 so that the surviving spouse can carry over any of the Exclusion Amount not used by the deceased spouse. This is called “portability”. For example, if the first spouse to die had a taxable estate of $1.2 million, by filing Form 706, the surviving spouse’s Exclusion Amount would increase from $5.45 million to $9.7 million. How? The deceased spouse’s unused Exclusion Amount of $4.25 million (which is the deceased spouse’s $5.45 million Exclusion Amount less his/her $1.2 million estate value) is added to the surviving spouse’s Exclusion Amount of $5.45 million – which results in $9.7 million Exclusion Amount for the surviving spouse.
The Estate Tax rate is a flat 40% of the estate’s taxable amount.
There are no Michigan estate taxes.
Upon your death, your living trust provisions will likely create irrevocable trusts and fund them with your estate assets. These trusts are used to avoid future estate taxes. All irrevocable trusts are taxable entities. So, your irrevocable trusts will be subject to income taxes. The current tax rates are:
Ordinary Income | Ordinary Income Tax Rate | Capital Gains Tax Rate | Medicare Surtax |
|---|---|---|---|
under $2,550 | 15.0% | 20.0% | |
$2,551 to $5,950 | 25.0% | 20.0% | |
$5,951 to $9,050 | 28.0% | 20.0% | |
$9,051 to $12,400 | 33.0% | 20.0% | |
over $12,400 | 39.6% | 20.0% | 3.8% |
However, only the income and capital gains that are not distributed to the trust beneficiaries are subject to these taxes. Why? Because the income and capital gains distributed to trust beneficiaries “flow through” to the beneficiaries’ who must include it on their income tax returns.
It's always a good idea to have an estate plan in place. As an experienced estate planning lawyer, I can help.