Fairport’s Five Reasons to Update Your Estate Plan

Estate Planning Changes its Stripes

To state the obvious, estate planners had always focused on reducing or eliminating estate tax. Now the focus may need to shift to reducing capital gain and income tax, as well as unwarranted complexity.

Under the new law, the unified estate tax exemption is now $5.25 million, indexed for inflation. This means every U.S. person can own up to $5.25 million at the time they die and pay no estate tax. The estate tax rate, which is now 40%, only applies if your taxable estate exceeds that amount. And if you are married, you get two exemptions for a total of $10,500,000.

For most people (99% of us) the federal estate tax will no longer be an issue. Most estates are below $5.25 million and certainly way below $10.5 million for married couples. Contrast this to a little over ten years ago when the estate tax exclusion amount was $675,000.

Additionally, Ohio has eliminated its estate tax effective January 1, 2013 that had previously taxed estates over $338,000 which in itself warranted some estate planning. If you are domiciled in a state that still has an estate tax you need to consider its ramifications on your estate plan.

What to do now…If you have a will or a living trust, you should check to see if it includes a bypass trust (also referred as A-B trust, credit shelter trust or exemption trust). In the past, these trusts were recommended for married couples. This strategy comprises of setting aside the deceased spouse’s share of the estate into a bypass trust so that when the surviving spouse dies, only his/her half of the estate would remain subject to the estate tax.

This was necessary to utilize the first spouse’s exemption amount or else it would go unutilized and be wasted. In addition to the increased exemption, the new law made permanent the concept of “portability”. The surviving spouse can treat the unused deceased spouse’s estate tax exemption as their own, rendering the establishment of a bypass trust for estate tax purposes unnecessary. (Caveat: There may be some non-tax reasons to have such a bypass trust funded depending on your personal situation, for example, a blended family).

Potential negative impacts to having an irrevocable bypass trust funded:

– Inadvertently locking up too much money in the bypass trust due to the increased exemption.

– Higher overall income tax on undistributed trust income as the highest tax rates (39.5%) kick in at around $12,000 of trust taxable income.

– 3.8% Medicare investment income surtax likewise comes into play at the lower $12,000 level.

– No tax “step-up” at the surviving spouse’s death since assets in the bypass trust would not be includable in his/her estate. This may result in your heirs incurring significant capital gains unnecessarily.

– Expenses and complexity resulting from having assets in an irrevocable trust.

A simple amendment to your current estate plan might be all that is required to alter the amount of assets automatically going into the bypass trust on the first spouse’s death. It is recommended that you should thoroughly review the pros and cons of having a bypass trust with your family’s estate tax attorney based on your own set of circumstances. There may be non-tax benefits that outweigh some of the negatives noted above.

What to do periodically...It is a good idea to review your estate plan every few years or when there are significant estate tax law changes (like we had earlier this year!). You should consider updating them if you’ve experienced any major life changes, including:

1) Marital Status (Marriage, Divorce);

2) Children (Birth or adoption of a child or child turning 18 or 21);

3) Death of anyone named in the document;

4) Moving to a new state;

5) Large increases (or decreases) in the value of your estate.

After spending time with family over the holidays, take the New Year as a great opportunity to review your estate planning documents. Please contact a member of your Fairport team if you have any questions or you would like to discuss this matter in more detail.

This article is for informational purposes only and should not be relied upon as financial planning/tax advice.