What Does “No Estate Tax” Mean?

By John E. Crilly, CFP CFA

Managing Director
Wealth Planning Solutions US Trust

To many, November’s election came as quite a surprise. Consider the quandary that leaves for those charged with providing tax advice. It’s not easy to sound convincing when the answer is “I don’t know.”

This we do know. There are four competing and, at the same time, complementary Republican tax proposals. President Trump, Speaker Ryan, Congressman Camp, and House Ways and Means Committee Chairman Brady all seek to lower marginal income tax rates, and eliminate the 3.8% Affordable Care Act surtax on net investment income. Capital gains rates for high income taxpayers seem to converge around a 20% rate. The proposed repeal of the Estate Tax among Republicans is highly likely, with the retention of the gift tax to avoid income tax “shifting” to those in lower tax brackets. Our current tax system allows for the elimination of unrealized gains at death. Commonly referred to us “step up in basis,” the Republicans vary in terms of how inherited capital gains will be treated.

I am certain that many of you have seen on PBS the appeals for Planned Giving, a gentle euphemism for charitable giving after death. Presently, high net worth families see upwards of 50% of their net worth in excess of the federal exemption ($5,490,000 for an individual, $10,980,000 for a married couple) disbursed to federal and state tax coffers. Wealth can only be directed to heirs, government and charity. The art of estate planning is to strike a balance between those three distinct interests. Giving to one impacts the other; more gifting to heirs increases the government’s take; more gifting to charity lessens the amount to heirs and government.

Your passion for charitable giving must lead your decision as to how much and to what causes. Once established, there are choices that would hold up against the known tax reform scenarios that we face.

Retirement assets are the “low hanging fruit” of post mortem charitable planning. Unlike appreciated assets, embedded income taxes in retirement accounts do not vanish at death. We refer to this in the trade as “Income in Respect of a Decedent.” For those that have IRA’s, 401(k)’s, pension plans and annuities, a change in beneficiary designation from an heir to a charity sidesteps both estate and income taxes. It is estimated that only 25% to 30% of pre-tax retirement assets pass to our loved ones. Why not give a significant portion of retirement assets to charity, leaving other assets to your loved ones? This step is rather simple; it does not require complex legal drafting. Even if the estate tax is repealed; your family will receive a “back door” charitable deduction by not having to recognize taxable income in the future.

Old life insurance policies might still retain value, but no longer serve the owner’s original purpose. Although insurance proceeds are generally income tax free, current law subjects death benefit proceeds from policies which we own or control to the estate tax. This is an easy fix; change the beneficiary designation to a charity, and your estate will receive an estate tax charitable deduction.
The world of estate planning is full of acronyms. Absent an estate tax, Charitable Lead Trusts (CLAT’s and CLUT’s) might lose their luster. However, Charitable Remainder Trusts (CRAT’s and CRUT’s) could provide lifetime income tax benefits to the donor, with the remainder payable to charity. CRAT’s and CRUT’s can survive the lifetime of the donor, provide an annuity to heirs, and benefit causes that you had supported during your life.

Last, but certainly, not least, is a specific bequest in your will. Before you distribute the remainder of your estate, i.e. the residuary, you can provide for heirs and charity. “I hereby bequeath $1,000,000 to CaringKind” is a direct bequest that has priority over other heirs. You can also include a charity in your residuary. “I hereby distribute to CaringKind 25% of my residuary estate.” This 25% share will be part of a pool of assets that are “last in line.”

Regardless of the technique, charitable giving is about passion. Tax motivation is not the primary reason to give. Planning creates efficiency. Your charge is to communicate to advisors your desires, so that we can assist in seamless implementation.

John (Jack) E. Crilly is a managing director and senior wealth strategist at U.S. Trust, Bank of America Private Wealth Management. In this role, Jack provides wealth management services in the areas of financial planning, estate planning, insurance, risk management, and philanthropy to help clients reach their initial goals and objectives. This includes coordinating with the client’s team of advisors and by conducting periodic reviews to help clients monitor progress.

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