Estate planning typically requires a consideration of numerous goals and objectives. One of those is often limiting an estate’s exposure to gift and estate taxes. The large and more valuable your estate the more important it is to include tax avoidance in your estate plan. A carefully crafted estate plan can reduce your estate’s tax exposure dramatically. One relatively new tool that may help you reach your tax avoidance goal is the concept of portability.
The value of all assets you own at the time of your death as well as the value of all qualifying gifts made during your lifetime are combined when you die and the total is potentially subject to gift and estate taxes. With a maximum tax rate of 40 percent, it is easy to see why avoiding gift and estate taxes is a common estate planning goal. Each taxpayer is entitled to a lifetime exemption before his or her estate incurs a gift and estate tax. The passage of the American Taxpayer Relief Act of 2013 set the lifetime exemption amount at $5 million which is adjusted annually for inflation ($5.25 million for 2013). This means that you may deduct up to the exemption limit from your estate’s value before taxes are levied. For married couples, the lifetime exemption often went unused by one spouse until the concept of portability was introduced. Often a spouse would leave his or her entire estate to the survivor using the unlimited marital deduction. This would overfund the surviving spouse’s estate and leave the deceased spouse’s lifetime exemption unused. Portability makes your lifetime exemption “portable” by allowing any unused portion to transfer to a surviving spouse.
To see why portability is such a valuable tool, let’s imagine that Bob and Mary are married and that both have estate assets of $3 million each and made lifetime gifts of $1 million each. If Bod dies and leaves his entire estate to Mary pursuant to the marital deduction she now has an estate valued at $6 million, $750,000 above the lifetime exemption. Plus, Mary made lifetime gifts of $1 million meaning she is actually $1.75 million over the exemption limit. At a 40 percent tax rate Mary estate could lose $700,000 to estate taxes. Bob, however, only used $1 million of his lifetime exemption for the gifts he made, meaning he still has $4.25 million left. Thanks to portability, Mary can use the unused $4.25 million left from Bob’s lifetime exemption, making her total exemption now $9.5 million. Mary’s estate has now escaped gift and estate taxes, saving her estate $700,000.
This tax law is fairly new and many issues are still being resolved. Taxes are just one of many factors in formulating an Estate Plan, visit our website at KH-LAW.net to obtain free information on estate planning.