Who Pays Estate Taxes?

When a person dies, their assets could be taxed before passing onto the next generation. It all depends on the size of their taxable estate.

Be aware that most estates are too small to be taxed. As of 2021, the federal estate tax only applies to individual taxable estates worth over $11.70 million, or $23.4 million for a married couple. In addition to the federal estate tax, several states have their own estate or inheritance tax. This is not the case in Florida, where neither estate taxes nor inheritance taxes exist.

As a result, it’s relatively uncommon for estates and inheritances to be taxed. Still, it’s wise to learn about the taxes associated with passing on an estate, especially if you’re a high-wealth individual.

What to Know About Estate Taxes

As of the writing of this blog, many federal estate tax changes are being contemplated in the House of Representatives. For tax year 2021, the IRS requires estates exceeding $11.70 million to file a federal estate tax return and pay the associated estate tax. Because this number is so high, the top 10 percent of the country’s income earners pay more than 90 percent of all estate taxes. If you think the estate you’re inheriting this year will be taxed, here’s what you need to know:

• Estate taxes are assessed based on the estate’s fair market value, not what the deceased originally paid for the assets. While this means any asset appreciation will be taxed, it also protects you from being taxed on peak values that have since dropped.
• Any assets bequeathed to a surviving spouse do not contribute to the estate’s total value and aren’t subject to estate taxes. However, when the surviving spouse passes away, the beneficiaries may then be taxed.
• Any deductions from the estate are not included in the estate’s total value. This includes charitable contributions and debts or fees that come with managing the estate.
• Heirs may decline their inheritance by filling out an inheritance or estate waiver. If this happens, the beneficiary or heir declining his or her inheritance will be treated as having predeceased the decedent. Waiving an inheritance might make sense to avoid paying taxes, maintaining an inherited house, or risking having the property seized if the heir has filed for bankruptcy.
• Taxes are assessed only on the portion of the estate that exceeds the $11.70 million threshold. In theory, the estate is taxed at 40 percent. But in practice, skilled estate planners can use advanced techniques to pare down the taxation rate to well below this level.

How to Reduce Estate Taxes

Here are some estate planning strategies to help ease the tax burden on the next generation:

• Take advantage of the annual gift tax exemption. You can give someone up to $15,000 per year without having to pay gift taxes on the money. If you’re married, you and your spouse can combine your exemptions, bringing the total to $30,000. With enough foresight, you can begin lowering the value of your estate while still keeping your wealth in the family.
• Make gifts to irrevocable trusts. Certain types of trusts isolate assets from the rest of your estate, preventing them from being subject to estate taxes when you pass away.
• Consider your life insurance policy. While life insurance proceeds are income-tax-free, they are considered part of your taxable estate. This could push you over the $11.70 million limit. To avoid this, you may want to set up an irrevocable life insurance trust to hold the proceeds of your life insurance policy outside of your estate. Life insurance owned by an irrevocable life insurance trust is a tool frequently used to create the liquidity required to pay any estate taxes so that illiquid assets in the estate do not have to be sold.

Begin Estate Planning Today

Traditionally, family wealth is taxed at the end of every generation. But with skillful estate planning, you can reduce your tax liability and pass more of your estate onto the people you care about most. Contact our office at (239) 352-4111 to schedule a no-cost consultation for an assessment of how estate taxes could affect you. We have over 30 years of experience serving families in Naples and Fort Myers, FL.