Smart estate planning to reduce estate tax

Federal and state estate and inheritance tax can consume a significant portion of your estate after your death. The good news is that with an experienced attorney and proper estate planning, you can find ways to lower these types of taxes and help increase your financial legacy.  

Estate Taxes: The Basics 

It is essential to note that inheritance tax and estate tax are not the same, though both should be considered in estate planning. The main difference is that estate tax is paid out of the deceased’s estate while inheritance taxes are paid out of the beneficiary’s pocket. There is a federal estate tax, but not a federal inheritance tax. Depending on your estate value and in which state you reside, it is possible that one, both, or neither could be a factor when someone dies. 

After someone’s death, federal estate taxes start at 18 and top out at 40 percent for estates valued at $1 million or more over the estate tax exemption. Federal estate taxes only apply to individuals with estates valued at over $11.7 million (the current estate tax exemption amount), or $23.4 million for married couples in 2021. Assets that spouses inherit are not subject to federal estate tax. Colorado does not have any state-specific estate or inheritance taxes, although other states do. Tax rates are different from one state to the next and apply at much lower values than the federal exemption.  

Strategies for Reducing Tax Liability  

There are several strategies available that can help reduce estate and inheritance tax liability. Rather than simply accepting that your estate could be taxed and your beneficiaries might owe an inheritance tax in some states, you can consider taking a more proactive approach using the following strategies.  

Gifting 

You have the option of giving away your assets while you are still alive. This applies to more than tangible assets; you can give away other assets such as stocks. For 2021 the annual gift tax exclusion is $15,000 for individuals or $30,000 for a married couple filing a joint return to any person in a calendar year without having to file a federal gift tax return. If your gift remains within these limits, it does not count toward your lifetime exemption amount. There is no limit to the number of people you can give gifts to within one year; you could give the full amount to as many individuals as you wish.  

Charitable Donations 

You can also reduce or bypass the estate tax by transferring part of your wealth to a charity through a trust. Two types of charitable trusts are available: charitable lead trusts (CLTs) and charitable remainder trusts (CRTs). 

With a CLT, some of the assets in your trust will get passed on to a tax-exempt charity. You can decrease the value of your estate and get an extra tax break by donating to charity. Upon your death or after a set time period, whatever is left in the trust will go to your beneficiaries. 

Alternatively, you can use a CRT to transfer stock or other appreciating assets to an irrevocable trust. Throughout your lifetime, you can make money through that asset. When you die, your investment income will be donated to charity. In the process, you have the benefit of avoiding the capital gains tax and lowering your estate tax burden. You will also receive a tax deduction. 

Set Up a Trust 

A trust lets you give assets to beneficiaries after your death without having to go through probate court. Unlike wills, trusts generally avoid state probate requirements and its expenses. This way, your beneficiaries are not on the hook for the added cost of probate court.  A revocable trust allows you to move your assets in or out of your trust during your lifetime as necessary. On the other hand, an irrevocable trust generally moves the assets outside of your estate for the benefit of a beneficiary and therefore does not provide you the ability to move those assets in or out before your death. The appreciation of such assets is therefore not included in your estate value when you die. After death, the property remains in the trust and is managed according to the trust document, including the option of being distributed to the designated beneficiaries of the trust.  

Your Estate Plan 

If you do not already have an estate plan, now is the time to draft one. Estate tax law is regularly changing as the exemption amounts are increased or decreased, or the applicable tax is modified. The current administration has proposed various significant changes to the estate tax laws. Begin the process by hiring an estate planning attorney and taking an inventory of your assets, both tangible and intangible. Your attorney can evaluate your assets and explain your options. 

Any time something changes within your family, such as a divorce, the death of a spouse, or the birth of a new grandchild, review your estate plan. It is crucial to ensure your estate reflects your wishes, especially after any of these changes. 

As estate and tax laws, as well as your desires, might shift, it is imperative to review your estate plan regularly. You want to ensure that you take advantage of all the possible ways to reduce estate and inheritance taxes. 

Hire an Estate Planning Attorney 

Estate planning and tax laws are both complex and ever-changing. Even still, you want to do everything you can to make your passing easier on your family and beneficiaries. It is recommended to work with an experienced estate planning attorney to find the best options for your situation. They can make sure you have all your bases covered and that your estate plan is drafted with current tax regulations in mind. If you need to make changes to your estate plan, they can also assist you with making the changes legally acceptable.

Doug Griess and John Snow of Hackstaff & Snow, LLC, are top Denver business attorneys with expertise spanning various industries. Specializing in business law, litigation, intellectual property, tax law, and dispute resolution, John Snow and Doug Griess offer an in-depth understanding and knowledge of general corporate rules and regulations and are a trusted resource for business owners throughout Colorado.