TAX TALK: Plan for Income Taxes as Part of Your Estate Plan

With the current 2020 federal estate tax exemption amount being $11.58 million, a lot less people are needing to plan around this tax while mapping out their estate plan, and more planning can be focused on saving income taxes for family and heirs. Saving income and transfer taxes has always been part of the goal of estate planning, and this was more challenging to do when both the estate and gift tax exemption level was lower.

Below are some strategies to keep in mind:

Plan gifts that use the annual gift tax exclusion. When you make transfers using the gift tax annual exclusion during life, the transferred assets as well as post-transfer appreciation generated by those assets are removed from your estate.

Because the current estate exemption amount is as large as it is, estate tax savings might not be an issue for you to need to worry about. Also, making an annual exclusion transfer of appreciated property could lead to an income tax cost as the recipient receives the donor’s basis upon transfer. This recipient might end up facing income tax on the sale of the gifted property in the form of capital gains tax.

Maybe you want to give gifts to help a relative buy a house or start a new business. However, a donor shouldn’t gift appreciated property as capital gain could be realized on a future sale by the recipient. Under the current law, if the appreciated property is held until the donor’s death, the heir will get a step-up in basis, wiping out the capital gain tax on any pre-death appreciation.

Take spouses’ estates into account. Previously, it was common for spouses to use complicated strategies to equalize their estates so both could take advantage of the estate tax exemption amount, such as creating a two-trust plan. The ability to apply the decedent’s unused exclusion amount to the surviving spouse’s transfers during life and at death, called “portability,” became effective for estates of decedents dying after 2010. The portability election allows married couples more flexibility regarding how they decide to use their exclusion amounts.

Be aware that some estate exclusion or valuation discount strategies to avoid inclusion of property in an estate may no longer be worth pursuing. It may be more advantageous to have property included in the estate or not qualify for valuation discounts so that it receives a step-up in basis. The special use valuation, for example, may not save enough or save any estate tax and might not justify giving up the step-up in basis that would occur for the property otherwise.

For assistance creating or updating your estate plan, contact us at Wilson and Wilson Estate Planning and Elder Law, LLC at 708 482 7090 for our main office in LaGrange, Illinois or at 847 656 8958 for our Northbrook, Illinois office.