Estate Tax Planning in Massachusetts
Serving families throughout Lynnfield, Wakefield, Reading, Peabody, Danvers, Beverly, the Greater Boston, North Shore, and Southern New Hampshire area
Historically speaking, the federal estate and gift tax is a tax imposed by the government when someone transfers assets at death (estate tax) or during life (gift tax). In actuality, it is not a death, inheritance, or gift tax, but more accurately a transfer tax. There are three distinct aspects to federal estate taxes that comprise what is called the Unified Transfer Tax: estate taxes, gift taxes, and generation-skipping transfer taxes. Legal planning to avoid or minimize federal estate taxes is both a prudent and an important aspect of comprehensive estate planning.
The most recent federal estate tax iteration was signed into law on January 2, 2013, as part of the American Taxpayer Relief Act of 2012 (ATRA 2012). There are a few things to know about this law as it relates to your estate planning. Specifically, you should know the numbers governing transfers subject to estate, gift and generation-skipping transfer taxation.
Federal Estate Tax Exemption
The $5 million exemption signed into law on December 17, 2010, under the Tax Relief, Unemployment Insurance Authorization, and Job Creation Act of 2010 (ATRA 2010), is now permanent under ATRA 2012, as indexed for inflation. This exemption, often called a “coupon,” can be used to maximize the amount of assets transferred to loved ones. The federal estate tax exemption for 2014 was $5.34 million, 2015 was $5.43, and for 2016 is $5.45 million, thanks to inflation indexing. If proper planning is done, the law allows married couples to pass as much as $10.9 million without paying estate taxes. This is not automatic, and very specific requirements must be followed at the death of the first spouse.
Annual Gift Tax Exclusion and Lifetime Gift Tax Exemption
The ATRA 2012 continues the concept of a unified exemption that ties together the gift tax and the estate tax. This means that, to the extent you utilize your lifetime gift tax exemption while living, your federal estate tax exemption at death will be reduced accordingly. Your unified lifetime gift and estate tax exemption in 2016 is $5.45 million, as indexed for inflation up from $5.43 million in 2015. Likewise, the top tax rate is 40%. Note: Gifts made within your annual gift exclusion amount do not count against your unified lifetime gift and estate tax exemption.
The annual gift exclusion is currently $14,000 for 2016, just as it was for 2013, 2014 and 2015. Married couples can combine their annual gift exclusion amounts to make tax-exempt gifts totaling $28,000 to as many individuals as they choose each year, whether both spouses contribute equally, or if the entire gift comes from one spouse. In the latter instance, the couple must file an IRS Form 709 Gift Tax return and elect "gift-splitting" for the tax year in which such gift was made. We can guide families who wish to make gifts to the best procedures.
Generation-Skipping Transfer Tax Exemption
Although the Generation-Skipping Transfer Tax (GSTT) is somewhat complicated, it is essentially an extra transfer tax imposed by the federal government on those seeking to transfer assets in a manner designed to skip over a generation. Simply put, anytime you consider transferring assets to grandchildren, anyone two or more generations younger than yourself, or from one individual to another unrelated individual more than 37.5 years younger than yourself, a generation-skipping transfer occurs and you should consult with an estate planning professional. The amount that can escape federal estate taxation through the Generation-Skipping Transfer Tax Exemption (GSTT) is unified with the federal estate tax exemption and the lifetime gift tax exemption at $5.45 million as indexed for inflation. As with estate and gift taxes, the top tax rate is 40%.
So, what is this GSTT? Basically, it is a transfer tax on property passing from one generation to another generation that is two or more generational levels below the transferring generation. This could be, a transfer from a grandparent to a grandchild or from an individual to another unrelated individual who is more than 37.5 years younger than the transferor.
Properly done, this can transfer significant wealth between generations while minimizing tax repercussions.
The ATRA 2012, makes "permanent" a new concept in estate planning for married couples called “portability.” The law allows a surviving spouse to inherit any unused estate tax exemption of the deceased spouse even if they did not do proper estate tax planning. Unfortunately, this is not automatic and any families miss this opportunity because of the specific rules to follow for this strategy to work. Specifically, unless the surviving spouse files a timely (within nine months of death) Form 706 Estate Tax Return and complies with other requirements, the portability is unavailable.
Often, those who do no planning leave all assets held jointly to their spouse. As a result, the surviving spouse can be lulled into a false sense of security, believing all is taken care of since they inherited all the assets without probate and without any estate taxes due to their unlimited marital deduction (a deduction allowing one spouse to pass all assets to another U.S. citizen spouse without paying any estate or gift tax). If they do not take action, and no timely estate tax return is filed, the unused deceased spouse’s exemption of $5.45 million will be lost. Then, when the surviving spouse passes away, he or she will only be entitled to use the individual tax exemption of $5.45 million.
Our approach is to prepare and align assets with revocable living trusts that require the deceased spouse to use their exemption of $5.45 million, and have those assets pass to a trust in a manner that allows the surviving spouse to use and control those assets, ensure that the deceased spouse’s exemption is used, and that the assets are protected in a way that will take care of the family. Additionally, reliance on portability within blended families can result in unintentional disinheritances and other unpleasant consequences.
Even with the new portability law, there is no substitute for proper planning with an estate planning professional. If you are concerned about how your current estate and gift planning may function in light of ATRA 2012, and thereafter, then we encourage you to schedule a consultation.
Massachusetts Estate Taxes
Massachusetts has its own separate and distinct estate tax. Although the law is based on the old federal estate tax law in effect as of January 1, 2001, a separate estate tax return must be filed for all estates over $1 million, even if an estate tax is not due. A specific formula is used to minimize both Massachusetts and federal estate taxes. For married couples, every estate tax plan drafted before 2003 must be reviewed to ensure the surviving spouse is not paying an unnecessary tax due to outdated tax-savings clauses.
For any estate of $1 million and under, no estate tax is due. However, once the estate reaches $1 million, an estate tax will be due and the tax rate increases as the value of the estate increases. Even if a federal estate tax is not due given the federal exemption, there may be a significant Massachusetts estate tax due.
There is no separate Massachusetts gift tax, and there is sometimes an opportunity to make gifts to significantly reduce any Massachusetts estate tax. Before making any gifts, you should consult with an estate and income tax professional, as some of these gifts may inadvertently increase income tax liability for your loved ones after your death.