Estate tax (United States)
Encyclopedia : E : ES : EST : Estate tax (United States)
Estate tax is a form of tax imposed in the United States upon the transfer of the property of the estate of a deceased person that is left to a living person or organization.
Although the federal government levels an estate tax, some states do as well, with the state version called either an estate tax or an inheritance tax. A 2000 political campaign by the Republican Party attempted to label the tax at all levels the death tax, although this is misleading as the tax only applies to the estates of the very wealthy (see loaded term).
Supporters of the estate tax argue that estate tax is only to control the transfer of wealth, though it only is implemented upon the death of the estate owner. Opponents argue that the tax is applied to the full estate, and not merely the amount transferred, which arguably increases the effective transfer tax rate. The tax is imposed only on the "taxable estate", which is generally less than the value of the full estate.
If an asset is left to a spouse or a charitable organization, the tax usually does not apply. The tax is also imposed on other transfers of property made as an incident of the death of the owner, such as a transfer of property from an intestate estate or trust, or the payment of certain life insurance benefits or financial account sums to beneficiaries.
Estate and/or inheritance taxes may be imposed at both the national (Federal) level and the state level.
- 1 Federal estate tax
- 1.1 The \"gross estate\"
- 1.2 Deductions, the taxable estate, and the tentative tax
- 1.3 Unified credit, the exemption equivalent, and the tax
- 1.4 Requirements for filing return and paying tax
- 1.5 Exemptions and tax rates
- 1.6 Throw momma from the train, 2010 the year of no tax
- 2 Inheritance tax at the state level
- 3 Tax Avoidance
- 4 Debate
- 5 Related taxes
- 6 Further reading
- 7 External links
Federal estate tax
The Federal estate tax is imposed "on the transfer of the taxable estate of every decedent who is a citizen or resident of the United States." See #redirect [[Template:UnitedStatesCode]].The \"gross estate\"
The "gross estate" for Federal estate tax purposes often includes more property than that included in the "probate estate" under the property laws of the state in which the decedent lived at the time of death. The starting point for the calculation of the estate tax is the value of the "gross estate" defined at #redirect [[Template:UnitedStatesCode]] and #redirect [[Template:UnitedStatesCode]], as modified by certain other statutory provisions. The gross estate (before the modifications) may be considered to be the value of all the property interests of the decedent at the time of death. To these interests are added the following property interests generally not owned by the decedent at the time of death:
- the value of property to the extent of an interest held by the surviving spouse as a "dower or courtesy" (see #redirect [[Template:UnitedStatesCode]]);
- the value of certain items of property in which the decedent had, at any time, made a transfer during the three years immediately preceding the date of death (i.e., even if the property was no longer owned by the decedent on the date of death), other than certain gifts, and other than property sold for full value (see #redirect [[Template:UnitedStatesCode]]);
- the value of certain property transferred by the decedent before death for which the decedent retained a "life estate," or retained certain "powers" (see #redirect [[Template:UnitedStatesCode]]);
- the value of certain property in which the recipient could, through ownership, have possession or enjoyment only by surviving the decedent (see #redirect [[Template:UnitedStatesCode]]);
- the value of certain property in which the decedent retained a "reversionary interest," the value of which exceeded five percent of the value of the property (see #redirect [[Template:UnitedStatesCode]]);
- the value of certain property transferred by the debtor before death where the transfer was revocable (see #redirect [[Template:UnitedStatesCode]]);
- the value of certain annuities (see #redirect [[Template:UnitedStatesCode]]);
- the value of certain jointly owned property (see #redirect [[Template:UnitedStatesCode]]);
- the value of certain "powers of appointment" (see #redirect [[Template:UnitedStatesCode]]);
- the amount of proceeds of certain life insurance policies (see #redirect [[Template:UnitedStatesCode]]).
As noted above, life insurance benefits may be included in the gross estate (even though the proceeds arguably were not "owned" by the decedent and were never received by the decedent). Life insurance proceeds are generally included in the gross estate if the benefits are payable to the estate, or if the decedent was the owner of the life insurance policy or had any "incidents of ownership" over the life insurance policy (such as the power to change the beneficiary designation). Similarly, bank accounts or other financial instruments which are "payable on death" or "transfer on death" are usually included in the taxable estate, even though such assets are not subject to the probate process under state law.
Deductions, the taxable estate, and the tentative tax
Once the value of the "gross estate" is determined, the law provides for various "deductions" (in Part IV of Subchapter A of Chapter 11 of Subtitle B of the Internal Revenue Code) in arriving at the value of the "taxable estate." Deductions include but are not limited to:
- Funeral expenses, administration expenses, and claims against the estate (see #redirect [[Template:UnitedStatesCode]]);
- Certain charitable contributions (see #redirect [[Template:UnitedStatesCode]]);
- Certain items of property left to the surviving spouse (see #redirect [[Template:UnitedStatesCode]]).
- Gift taxes already paid on retained interests of nonqualified intervivos gifts.
Unified credit, the exemption equivalent, and the tax
However, the law then provides for a lifetime credit against the tentative tax. The credit may be thought of as providing, in effect, for an "exemption equivalent" or exempted value with respect to the value of the property. For a person dying during 2005, an estate with a value less than $1,500,000 would not pay a federal estate tax and most likely would not have to file a federal estate tax return. The applicable exclusion amount increases to $2,000,000 for decedents dying in the years 2006, 2007 and 2008. The amount increases to $3,500,000 for 2009. According to the Economic Growth and Tax Relief Reconciliation Act of 2001, the federal estate tax disappears for the year 2010, but the tax returns in 2011 at the 2001 level. Note that this credit is a "unified gift/estate tax credit" that deals with both estate and gift taxes. Past gifts from the estate that were subject to gift tax must be included in a grand recalculation of the credit, the estate value, and the estate/gift tax due -- making this a nontrivial calculation. Special cases can lead to surprising tax obligations.
For taxable estates valued not greater than $10,000 the tax liability is 18% of the estate.
For taxable estates below the next threshold value of $20,000 the tax is $1,800 plus 20% of the excess over $10,000.
For taxable estates below the next threshold value of $40,000 the tax is $3,800 plus 22% of the excess over $20,000.
For taxable estates below the next threshold value of $60,000 the tax is $8,200 plus 24% of the excess over $40,000.
For taxable estates below the next threshold value of $80,000 the tax is $13,000 plus 26% of the excess over $60,000.
For taxable estates below the next threshold value of $100,000 the tax is $18,200 plus 28% of the excess over $80,000.
For taxable estates below the next threshold value of $150,000 the tax is $23,800 plus 30% of the excess over $100,000.
For taxable estates below the next threshold value of $250,000 the tax is $38,800 plus 32% of the excess over $150,000.
For taxable estates below the next threshold value of $500,000 the tax is $70,800 plus 34% of the excess over $250,000.
For taxable estates below the next threshold value of $750,000 the tax is $155,800 plus 37% of the excess over $500,000.
For taxable estates below the next threshold value of $1,000,000 the tax is $248,300 plus 39% of the excess over $750,000.
For taxable estates below the next threshold value of $1,250,000 the tax is $345,800 plus 39% of the excess over $1,000,000.
For deaths in 2002 and 2003 the applicable equivalent exclusion amount was a million dollars so that the unified credit for those years was $345,800.
Requirements for filing return and paying tax
For estates larger than the current federally exempted amount, any estate tax due is paid by the executor or other person responsible for administering the estate. That person is also responsible for filing a Form 706 return with the Internal Revenue Service. The return must contain detailed information as to the valuations of the estate assets and the exemptions claimed, to ensure that the correct amount of tax is paid.
Exemptions and tax rates
For example, assume an estate of $3.5 million in 2006. There are two beneficiaries who will each receive equal shares of the estate. The maximum allowable credit is $2 million for that year, so the taxable value is therefore $1.5 million. Since it is 2006, the tax rate on that $1.5 million is 46%, so the total taxes paid would be $690,000. Each beneficiary will receive $1,000,000 of untaxed inheritance and $405,000 from the taxable portion of their inheritance for a total of $1,405,000. This means that they would have paid (or, more precisely, the estate would have paid) a taxable rate of 19.7%.
As shown, the 2001 tax act will repeal the estate tax for one year -- 2010 -- and then bring it back in 2011 with the $1,000,000 exclusion amount we had in 2002. However, the top tax rate drop from 55% to 45% during the 2002-2009 period does stay at the 45% level.
| Year |
Exclusion |
Max/Top |
||||
| 2002 | $1 million | 55% | ||||
| 2003 | $1 million | 49% | ||||
| 2004 | $1.5 million | 48% | ||||
| 2005 | $1.5 million | 47% | ||||
| 2006 | $2 million | 46% | ||||
| 2007 | $2 million | 45% | ||||
| 2008 | $2 million | 45% | ||||
| 2009 | $3.5 million | 45% | ||||
| 2010 | repealed | 0% | ||||
| 2011 | $1 million | 55% | ||||
Throw momma from the train, 2010 the year of no tax
Ghoulish comments have been made about the incentive for evil men to kill old or hospitalized sick people in the 2010 year befoe the estate tax reappears in 2011. This ignores two things. First, this disgusting talk itself would probably spur Congress into removing this one year treatment by either permanently raising the exemption in lieu of repeal or replacing the estate tax permanently with a pre-death recognition of very long term gains on highly appreciated assets, especially publicly traded stock. Secondly, with repeal taxpayers would lose stepped-up basis the US tax law rule that the tax basis of an asset becomes the date of death value (subject to some modifications).Inheritance tax at the state level
Many U.S. states also impose their own estate or inheritance taxes (see Ohio estate tax for an example). Some states "piggyback" on the federal estate tax law in regard to estates subject to tax (i.e., if the estate is exempt from federal taxation, it is also exempt from state taxation). Some states' estate taxes, however, operate independently of federal law, so it is possible for an estate to be subject to state tax while exempt from federal tax.
Tax Avoidance
Estate tax rates and complexity have driven a vast array of support services to assist clients with a perceived eligibility for the estate tax to develop tax avoidance technniques. Many insurance companies, maintain a network of life insurance agents, all providing financial planning services, guided to avoid paying estate taxes. Brokerage and financial planning firms also use estate planning, including estate tax avoidance, as a marketing technique. Many law firms also specialize in estate planning, tax avoidance, and minimization of estate taxes.Debate
The propriety of the estate tax has been debated extensively.
Arguments against
One argument against the estate tax is that the tax is a disincentive to invest for an individual whose estate's value is about to surpass the exemption equivalent amount. Individuals owning farms or small businesses may simply stop investing in those taxable enterprises, preferring to shift their resources to tax avoidance schemes within insurance policies, gift transfers, and tax free investments, rather than investing in the farms and businesses that built the individual's wealth. Under this argument, the estate tax effectively limits the value of a small business and creates incentives to abandon profitable enterprise in favor of politically popular causes.Moreover, not all taxpayers have equal access to (or trust in) such estate planning services; an aging farm or business owner (perhaps a Depression survivor) might not understand the consequences of leaving inheritance issues to surviving family members, or even of intestacy. A policy that creates an uneven tax burden, even when due to ignorance or inaction, can raise the appearance of unfairness.
Opponents also argue that the Federal estate tax rate is effectively higher as a percentage of the amount actually transferred to heirs. For example, an estate worth $3.5 million paid $940,000 federal estate tax in order to transfer $1,280,000 to each heir, suggesting an effective transfer tax rate of 36.7%. Similarly, at the limit, the top federal tax rate of 50% on the estate value would imply a transfer tax rate of 100% of the amount transferred to heirs. (For non-cash assets such as real estate or securities, market fluctuations after death can lead to tax/asset mismatches and a higher effective rate of taxation for heirs; this affected some estates valued during the economic downturn in 2001-2002.) The high effective transfer tax rate has prompted many wealthy benefactors to make sizable gifts during their lifetime, paying a gift tax on the amount transferred, rather than allow the whole amount to be taxed at the estate level.
Some argue that the estate tax creates a potential for double and triple taxation, that is, taxation on assets which have already been taxed. Double taxation occurs on earned income, and by imposing capital gains tax on the returns after earned income is reinvested in new ventures, stocks, bonds,and savings. However, the capital gains on those reinvested proceeds have never been taxed in the first place, because the income tax system does not recognize income until the asset (here a share of stock) is sold or transferred. Without the estate tax, the alternative is to treat the transfer of ownership of the stock at death as a sale and impose the capital gains tax then. Then, the estate tax would not be seen as an additional tax, but the first tax upon the unrealized capital gains.