One major part of the estate planning discussion is estate taxes. While this topic puts many clients to sleep (especially when there are more important things to think about, like “Who is going to take care of my kids!?”), an estate planning attorney should conduct a tax analysis based on the client’s current asset picture to determine potential tax liability and to propose solutions. After all, a thoughtfully structured and intentionally designed estate plan can save a family tens of thousands of dollars, ensuring that more assets pass to the next generation.
But first… should you worry about it?
The estate tax is a one-time tax that is levied against all of the assets owned by a decedent at his/her death. For Massachusetts residents, there are two levels of the estate tax that clients must be aware of: the Federal estate tax and the Massachusetts estate tax. The Federal and Massachusetts estate taxes work differently from each other, and it is important to understand both.
The Massachusetts estate tax applies to Massachusetts domiciliaries and decedents with a domicile elsewhere but who own property in Massachusetts at their death. The tax applies to estates worth $1 Million or above. (This is known as the “$1M filing threshold amount”.) This means that if a decedent dies with an estate under $1 Million, the estate does not owe taxes to the Massachusetts Department of Revenue; however, if the estate is worth $1 Million or above, then the tax applies to the full estate (inclusive of the first $1 Million).
The Massachusetts estate tax is marginal, which means it works a bit like the Federal income tax. The greater the value of the estate, the higher the tax bracket. The lowest bracket is just under 6%, and the highest bracket is about 16%. There are about a dozen brackets in total.
Married couples cannot automatically combine their $1 Million filing threshold amounts. This poses some challenges for married couples that require advanced planning and tax reduction techniques to prevent a large tax bill at the death of the surviving spouse.
Thankfully, the Federal estate tax does not apply to many people. Under the current rules, the Federal estate tax has an exemption amount of $11.7 Million in 2021 (this amount is indexed for inflation every year). This means that if a decedent passes away with an estate worth under $11.7M, then no Federal estate tax is due to the Internal Revenue Service. If they pass away with over that amount, tax is applied to only the assets exceeding the exemption amount. The Federal estate tax is also a marginal tax, and brackets range from 18% to 40% (yikes!).
Married couples can elect “portability” on the death of the first spouse, which essentially means that spouses can combine their filing threshold amounts (resulting in an exemption amount of $23.4M).
To complicate the Federal estate tax further, lifetime gifts over the annual exclusion amount ($15,000 per person per year) are tied to the Federal estate tax exemption and will eat away at it (i.e. lower it) over time.
With a change in political administration, it’s always smart to keep a lookout for changes to the Federal estate tax.
The assets countable for estate tax purposes include, but are not limited to, real estate, bank accounts, investment accounts, qualified and non-qualified retirement accounts, life insurance policies owned by the decedent, annuities, business interests, vehicles, and any property over which the decedent held a general power of appointment. For Massachusetts purposes, real estate located outside of the estate are not subject to the Massachusetts estate tax.
For Federal estate tax purposes, all assets owned by the decedent are countable regardless of jurisdiction. This includes assets held in different countries around the world.
Debts of the decedent can be applied against the assets of the estate to lower the overall value of the estate. This includes any mortgages, credit card debt, other loans, funeral expenses, and expenses of estate administration and tax preparation.
With some tax-minimization techniques, your estate planning attorney should help you structure a plan with the goals of reducing your Massachusetts estate taxes and, if necessary, the Federal estate tax. While we cannot make your tax liability disappear in all cases (we’re lawyers, not magicians!), we can work together to implement smart solutions to reduce your liability to the extent possible. Depending on your current asset picture, earning potential, and goals for the future, we can ensure that you are preserving the greatest number of assets possible to pass to the people you love the most.
If you would like to discuss your potential estate tax liability, contact us today to schedule an initial consultation!