As we discussed in a past blog, many families are affected by state estate and inheritance taxes even if they are exempt from federal taxes. Fortunately, the federal limit was substantially raised and now only affects those who die with an estate valued over $5.2 million. For the vast majority of individuals, this means no federal “death” tax. However, there is still something to worry about in 21 states where taxes exist for estates below the federal limit.
Four hints to help to avoid these tricky state taxes:
Move. Moving to avoid state death taxes can work. However, it only works if you truly move and give up most ties to your old state. This usually means changing your driver’s license and registration, where you vote, and recording the time you spend in the new state. It is also important to consider where the majority of your assets are, as this can be used by the state to determine where you are officially domiciled.
Credit Shelter/Bypass Trust. This type of trust can be set up upon the death of the first spouse in order to “shelter” the amount of the estate equal to the state tax exemption. The remainder exceeding the exemption can then be put into a marital Q-TIP trust that will allow no estate taxes to be paid at the time of the first spouses death. To shelter the rest of the federal exemption, you rely on a provision of the new federal law called “portability,” allowing surviving spouses to carry over the estate tax exemption of the spouse who died first and add it to their own.
Spousal Lifetime Access Trust. This type of trust works much like putting life insurance in an irrevocable life trust for your beneficiaries. Because federal law allows a $5 million dollar lifetime gift, putting property into a trust for the benefit of your spouse or children will take it out of your estate and keep it free from state and federal estate taxes.
Outright Gifts. In addition to the $5 million dollar lifetime gift allowance, each taxpayer can give any number of individuals $14,000 per year without being taxed. This $14,000 must be an “outright” gift that is available immediately. Connecticut is the only state that currently has a gift tax on these types of transfers.