For most people, thinking about estate taxes conjures up images of the ultra-rich. Yet even with provisions that permanently set the level at which estate taxes kick in at a fairly high amount, you should still know how the tax can affect you. Let's take a look at four key provisions of the estate tax for 2014 that could help you avoid a big mistake that could hurt your family's financial future for generations to come.
1. Higher exclusions will apply to the estate tax in 2014.
Early this year, lawmakers agreed to set the level at which estate taxes kick in at $5.25 million, avoiding expiring provisions that would have sent the exclusion down to just over $1 million. But one of the biggest improvements in the estate-tax laws is that the exclusion amount was set to adjust with inflation. As a result, the estate tax in 2014 won't apply for estates under $5.34 million.
Because the exclusion amount is unified between the estate tax and the associated gift tax, you don't have to wait until death to take advantage of higher exclusion amounts. You can make tax-free lifetime transfers as well, with the amount of any gift exceeding $14,000 counting against the $5.34 million amount.
IRS Building. Image source: Wikimedia Commons.
2. What's included can surprise you.
Unfortunately, figuring out which of your assets is subject to estate tax isn't as simple as adding up all the balances on your various accounts and getting valuation appraisals on your property. In some cases, you also have to take into account money that isn't even yours yet.
The biggest surprise for many people is that life insurance proceeds are often includible in taxable estates even if the benefits go directly to beneficiaries rather than passing through the estate's probate proceedings. Often, you can avoid that result by setting up life-insurance trusts, which insurance companies from industry giants MetLife (MET -2.28%) and Prudential (PRU -0.90%) down to even relatively small players can usually help you with. Still, trusts come with their own complications, making it necessary to weigh the pros and cons to decide whether they're right for you.
3. It's easier for married couples to preserve their full estate tax benefits.
Another benefit from recent tax legislation is that couples no longer have to worry about losing part of their joint exclusion amount in the event of their untimely death. Each member of a couple is entitled to the $5.34 million exclusion, but in the past, estate planners used to have to take extraordinary measures to preserve the exclusion of the first spouse to die.
Now, with so-called portability provisions, it's easier for surviving spouses to preserve such exclusions for later use simply by filing an estate tax return at the death of the first spouse. That enables the surviving spouse to double the exclusion amount without necessarily having to use complicated trusts or other techniques, even though such tactics can still produce favorable results in many cases.
4. State limits for estate tax in 2014 can differ markedly from federal limits.
Many people don't realize that the estate tax isn't just a federal concept. Many states also charge estate taxes, and some of them have much lower limits at which their taxes apply. New Jersey has the lowest estate-tax limit at just $675,000, but several other jurisdictions, including New York, Rhode Island, Massachusetts, Maryland, Minnesota, and Washington, D.C., have limits of $1 million or less. That makes it essential to plan for a potential state-level estate tax beyond even if you fall well below the federal limit for estate tax in 2014.
The estate tax in 2014 won't affect as many people as it once did, but it's still complicated enough to pay close attention to. Being smart about your potential estate tax liability could help you find ways to make sure it never affects you and your family.
