Some individuals are blessed with financial success. Unfortunately, not all of them take the steps necessary to protect their wealth so it can be effectively distributed to the people (e.g. children and grandchildren) or organizations (e.g. charities) they care about.
People of wealth can take some practical steps now to ensure that your wishes are carried out in the future.
Under current tax code, the Internal Revenue Service defines the "applicable credit" as the tax-free amount that each individual can pass on to any other person without federal estate (a.k.a. "death") taxes (see chart). Unfortunately, the Wisconsin tax code caps the amount of wealth that can be transferred without state estate taxes at $675,000.
Each individual can, with the appropriate planning, protect from federal estate taxation up to $1.5 million of assets. A couple can transfer up to $3 million in 2005.
While these numbers may seem high, many individuals who don’t see themselves as rich may actually have estates of this value. Remember, that you must include the value of your home, death benefit from life insurance, business values and retirement plans.
So, what can be done to help minimize state and federal estate taxes? First, you need to identify your needs, goals and objectives. Once you identify what you want to happen with your estate, you can begin to develop the best way to achieve it.
You can, for example, make annual and lifetime gifts. Perhaps your great aunt gave you a $10,000 gift when you bought your first home (unfortunately mine didn’t). If so, she was using the annual gift exclusion which allows each individual to give to any other person up to $11,000 per year. A couple can, therefore, give $22,000 to each of their children with no adverse tax consequences. Should you have additional financial means, you can give up to $1 million to other individuals (or trusts) during your lifetime without gift tax exposure. This exemption is in addition to your $11,000 annual gifts.
But what if you want to reduce your taxable estate, but aren’t comfortable making an irrevocable gift? This is of particular concern when you would like to help finance a young grandchild’s future education, but you aren’t certain that you won’t need the money yourself, or that the grandchild will follow the college path that you have envisioned. A potential solution is to establish a 529 college savings plan. By doing so, you can use accelerated gifting of up to $55,000 ($110,000 per married couple) to each beneficiary. Specific restrictions and tax consequences of nonqualified withdrawals apply.
If your grandchildren are already incurring education expenses, you can pay for these costs directly to the institution. These tuition costs do not count against the $11,000 annual gift limitation.
If someone you care about has significant medical expenses, these too can be paid directly to the medical care provider without counting toward the $11,000 gift.
If you have a family business in which some of your children are involved, you have additional considerations that need to be made relative to estate equalization. There are some opportunities, however, in which you may have to leverage your annual and lifetime gifts through discount valuations of company stock. (This technique can also apply to real estate holdings.)
Charitable giving may also be a part of your tax minimization strategy. You can make current gifts (appreciated securities are often an excellent gift), name a charity in your will or establish a trust for the benefit of your favorite charity or charities.
Contributions made to charity are not subject to estate taxes either during your lifetime or at death. Certain arrangements, however, can provide for current income tax benefits that may enable you to leave more to your loved ones.
Life insurance often plays a role in a well-designed estate strategy, particularly when held inside an irrevocable trust. In addition to the obvious benefits of income replacement, education funding and debt payment, life insurance can also facilitate a family’s desire to maintain the family business and provide for estate equalization.
Remember, all of the great strategies in the world are of no benefit to you unless you take action. Even if you already have a plan in place, take a few minutes to review your plan to make sure it still meets your desires. In particular, if you haven’t reviewed your financial and estate plan in the past two to three years, an assessment is certainly in order. Take the next step.
Estate Tax
Tax year Applicable credit
(tax-free amount)
2004 $1.5 million
2005 $1.5 million
2006 $2 million
2007 $2 million
2008 $2 million
2009 $3.5 million
2010 repealed
Brion S. Collins is the president of Oconomowoc-based Integrated Financial Solutions.
April 1, 2005, Small Business Times, Milwaukee, WI
