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Estate Tax Planning

What is an Estate Tax?

At a person’s passing, the assets that he or she owned at the time of death become subject to a federal and state tax that is referred to as an estate tax. Some states charge a second tier of taxation on assets passing at death, and that tax is referred to as an inheritance or succession tax. Rhode Island and Massachusetts assess only an estate tax.

How Does the Estate Tax Work?

The estate tax is assessed on the total value of assets owned by the decedent at the time he or she passed away. The “value” of these assets is essentially what they are worth to a buyer in the open market. For instance, if the decedent left a house as one of his or her assets, the true “value” of this item would be what someone wishing to buy the home would reasonably pay for it.

This fair market value of assets is what all states and the Internal Revenue Service use to determine the value of a person’s assets at death. While this is a simplistic explanation of the process of valuation, a more complex asset (for example, a closely-held business) requires more analysis when determining its value.

Once a value is assigned to each of the decedent’s assets, including life insurance proceeds, those values are added together and the total of the assets, less all debts the decedent owed at his or her passing and the expenses associated with settling the estate, is the sum upon which the estate tax is levied. This amount is usually referred to as the “taxable estate.”

Estate Tax Exemption Amounts

A. Rhode Island: If a person’s taxable estate totals less than $859,350* there is no estate tax to be paid. If the taxable estate exceeds $859,350 the estate tax is assessed on all assets of the decedent. The $859,350 exemption amount is not applicable once the person’s taxable estate exceeds the exemption amount. (This style of taxation is the same in Massachusetts; however, the exemption amount in Massachusetts is $1,000,000. The estate tax is also assessed on all assets of the decedent if the taxable estate exceeds the $1,000,000 exemption amount.

* The Rhode Island estate tax exemption amount was raised to $850,000 effective for those persons dying after January 1, 2010, which amount is subject to increase each year to allow for inflation. $859,350 is the exemption amount for decedent’s dying on or after January 1, 2011.

B. Federal: Under the current estate tax law, a deceased person’s taxable estate having a total value of not more than $5,000,000 will not be subject to federal estate taxes. Should a deceased person’s taxable estate exceed $5,000,000, the estate tax will only be calculated based upon the excess sum over $5,000,000. The exemption remains applicable.

At the present time, the $5,000,000 estate tax exemption amount is slated to expire on December 31, 2012. At this time, it is unclear whether Congress will extend or change that exemption amount. Given our current national budgetary issues, it does not appear likely that the exemption amount would be increased at that time.

Estate Tax Planning Techniques

The above-noted exemption amounts are available to each resident of Rhode Island and each United States citizen. A married couple with the proper estate plan, can effectively transfer double the exemption amounts to their beneficiaries. Therefore, married persons are able to transfer $10,000,000 free of federal estate taxes if they properly plan their estates and preserve the first-to-die spouse’s unused federal estate exemption amount. Under the present federal estate tax structure, if one spouse passes away without having fully utilized their estate tax exemption amount, then, with planning, the surviving spouse can utilize that predeceased spouse’s unused exemption amount along with his or her own estate tax exemption amount.

As an example, if a married couple has assets valued at $10,000,000 and, upon the first spouse’s death, only $2,000,000 of the estate tax exemption amount was used, then the surviving spouse can use the predeceased spouse’s unused exemption amount of $3,000,000, plus his or her own $5,000,000 exemption amount to transfer $8,000,000 at the death of the second-to-die spouse. The total amount available to be transferred free of federal estate taxes for a married couple totals $10,000,000.

With a proper estate plan, married persons who are Rhode Island residents are able to transfer $1,718,700 free of estate tax and Massachusetts residents are able to transfer $2,000,000.

Our attorneys utilize traditional estate tax planning trusts, along with a variety of other estate tax planning techniques to assist individuals in developing an estate plan to help reduce or, in some cases, eliminate estate taxes.