It is not unusual for a client to contact me and ask to review their estate plan. This may be precipitated by a recent diagnosis or simply by the passage of time. I have a checklist that I use when reviewing an estate plan if they have a taxable estate. Under Federal Law, a taxable estate in 2016 is any estate over $5.45 million and in New York State, any estate over $4,187,500.
1. The annual gift tax exclusion is $14,000 which means the client can make annual gifts of $14,000 to any individual. The gift must be completed before the donor dies, therefore the check must not only be delivered but also cashed before the donor’s death. High basis assets such as cash are excellent lifetime gifts. The donee takes the tax basis of the lifetime gifted asset but assets in the estate receive a “step-up” in basis, therefore, it is best to leave the highly appreciated real estate or Apple stock in the estate.
2. The client could also pay any medical or educational expenses for any individual. The payments must be made directly to the institution or the medical provider. The College or University will even allow the tuition to be prepaid for the entire four years. The payment must be irrevocable and made to a qualified educational organization.
3. It may also be prudent to make taxable gifts before the client dies if the estate exceeds the federal gift tax exemption amount. While the gift tax on lifetime gifts is 40% and the estate tax is also 40%, a gift during life is tax exclusive while the estate tax is tax on the entire estate and is therefore tax inclusive. For example: If a parent gives a child $1,000,000 as a lifetime gift, using the 40% federal marginal tax rate, the gift tax would be $400,000. ($1,000,000 times 40%). The child receives $1,000,000 and the parent pays gift tax of $400,000. It costs $400,000 to gift $1,000,000. If the parent does not make the lifetime gift, the estate tax on the $1,000,000 gift would be $666,667 even though the rate is the same-40%. It costs $266,667 more to make the same gift because the entire estate is taxed before the $1,000,000 goes to the child. ($1,666,667 times 40% is $666,667 taxes and $1,000,000 bequest). If the gift is made within 3 years of death, it comes back into the estate for estate tax purposes.
4. The three year rule is important with respect to New York State estate taxes as well. Any gifts made more than three years before the decedent’s death will not be included in the estate and will not reduce the New York State exemption amount available at death. So, for example, if a client had a $5,187,500 estate in 2013 and gifts $1,000,000 to his beneficiary more than three years before his death, the $1,000,000 gift would not reduce his New York State exemption of $4,187,500.
5. New York also has a “cliff”. What this means is if a decedent’s estate exceeds the exemption by more than 5%, then the estate does not benefit from the exemption and the entire estate would be subject to New York State estate tax. The strategy would be to reduce the estate below that cliff so that the entire estate would not be subject to New York State estate tax. For example if Mom dies on April 30, 2016 with a taxable estate of $4.3 million dollars, the New York State estate tax would be $216,959. If she made a lifetime charitable gift of $112,500, the estate would have been reduced to $4,187,500 and the estate would save $216,959 in estate tax.
6. In situations where the client has done sophisticated estate planning such as sales to defective grantor trusts, I advise the client to pay off the note prior to death. This makes the estate simpler and may avoid challenges by the IRS claiming that the sale and promissory note transaction was a transfer with a retained interest. Better to pay off the loan and avoid the challenge.
7. Of course, whether there is a taxable estate or not, I always ask clients to review the named fiduciaries in the estate and make sure that they have chosen the best people for the job. Circumstances may have changed and it does not hurt to revisit their choices.
8. If the clients have revocable trusts, this is also a good time to make sure that the assets have been transferred to the trust and all retirement funds have named beneficiaries. Clients should make sure that they have copies of all beneficiary forms as the onus will be on the beneficiary to prove that they are a named designated beneficiary if the designation is somehow lost.
9. It will be prudent for clients to review their documents every three to five years or if there is a change in circumstances that may impact their situation.