It’s estimated that 99.9% of Americans won’t face federal estate tax, thanks to the $5 million exemption.  There are 22 states with a state inheritance or estate tax: CT, DE, DC, IL, IN, HI, IA, KY, ME, MD, MA, MN, NE, NJ, NY, NC, OH, OR, PA, RI, TN, VT, WA.  (Ohio’s estate tax is repealed for persons dying after 2012.)

States generally apply inheritance and estate taxes to the in-state real estate and tangible personal property of their residents and to intangible personal property (stocks and bonds, for example) wherever located. A state’s death tax typically applies to nonresidents’ real estate and tangible personal property located within the state, which can present planning challenges for individuals who own vacation homes and other assets outside their home states. Marital deductions or exemptions are usually allowed for transfers to surviving spouses, and every state provides charitable deductions or exemptions for bequests to qualified organizations, which can create tax savings for an estate.

Donors who are eligible to make qualified charitable distributions from their individual retirement accounts (IRA owners age 70½ and older) should know that these gifts come with a bonus:  To the extent contributions satisfy IRA required minimum distributions, they reduce not only taxable income, but also adjusted gross income, which may create further tax savings.  AGI is the yardstick by which the IRS applies a number of unfortunate tax consequences.  A high AGI can:

• expose more of a donor’s Social Security benefits to taxation;
• affect eligibility for the savings bonds interest exclusion;
• reduce or eliminate eligibility to make contributions to a Roth IRA;
• cause loss of an exemption from rules disallowing passive activity losses and credits;
• result in higher state income taxes in some states.

A high AGI can also limit how much taxpayers can deduct for certain expenses: 

• miscellaneous itemized deductions are allowed only to the extent they exceed 2% of AGI;
• casualty losses can be written off only in the amount exceeding 10% of AGI;
• only the excess of medical and dental expenses above 7.5% of AGI may be deducted.

Additionally, a high AGI (or in some cases, “modified AGI”) can reduce or eliminate a variety of tax credits, such as the child tax credit and adoption credit.  Strategies for reducing AGI are exceedingly scarce, so direct IRA gifts arguably may be the best avenue a donor has for satisfying charitable commitments.  And if restrictions on the income tax charitable deduction are enacted by Congress, donors who qualify for IRA giving will enjoy a unique advantage over other contributors – assuming the IRA gift opportunity is continued in future years.

We are sometimes asked whether retirees can “roll over” funds from qualified retirement accounts or IRAs into a charitable gift annuity or other “life income” gift plan – free of taxes.  Unfortunately, the answer is no, but you can put required retirement distributions into such a gift arrangement and receive a substantial deduction plus income for life. 

Example:  Suppose Robert is required to take a $30,000 minimum distribution this year from his company's retirement plan.  He will face tax on the full amount.  Suppose, however, that Robert uses his distribution to fund a charitable gift annuity that will pay him and his wife $1,800 (6%) for the rest of their lives.  If they are both 78, Robert can deduct about $10,000 of the $30,000 they transfer for their lifetime annuity.  The deduction will reduce the couple’s income taxes, and nearly 80% of their annual payments will be tax free during their joint life expectancy.

Most Americans won’t have to worry about federal estate taxes, assuming that the $5 million exemption recently passed by Congress is not reduced in the future.  But other challenges can affect a person’s beneficiaries, including probate costs.  Probate is the word used to describe the administration of a decedent’s estate, which can be a long, complex and sometimes expensive procedure.  There are steps you can take, however, to keep probate short and cheap:

1. Make a will, and keep it up to date.  Consider relieving your executor of the necessity of posting bond, and ask if the person you name is willing to serve without fee.  Delays and expense can also be avoided if your attorney drafts a will that equips your executor with important powers – such as the ability to sell estate assets or make certain elections – so that hearings to seek court approvals won’t be needed.
    
2. Ask your adviser if it is feasible to reduce your probate estate so as to qualify for “small estate” treatment that will shorten probate or avoid it completely.  If your probate estate is small enough, beneficiaries may simply present signed affidavits to receive certain assets, depending on state law.
   
   
3. Consider establishing a revocable living trust that will transfer trust assets to your beneficiaries outside the probate system.  If you do set up a revocable living trust, be sure to change the title to your assets – real estate, investments, personal property, etc. – into the name of the trust.  As you acquire new assets, ensure that the trust takes title, not you personally.
   
   
4. Investigate other non-probate transfer arrangements such as P.O.D. accounts (most savings and checking arrangements, including CDs), T.O.D. accounts for securities held with a broker, life insurance, joint ownership with right of survival, community property with right of survivorship (community property states only), and lifetime gifts in lieu of bequests.

Where practical, it can be satisfying to make lifetime gifts to your beneficiaries, rather than leave them assets at death.  Note:  People who “accelerate” bequests for our benefit additionally can enjoy income tax savings and the pleasure of seeing their generosity at work right now.  Keep in mind that you can make gifts and keep lifetime payments for yourself or someone else, through a charitable remainder trust or gift annuity – with excellent tax results.  Call us at 800-843-8114 if you would like to learn more about these opportunities. Please ask to speak with someone in our Office of Gift Planning.