Life Insurance Estate Tax

Initially, when Congress allowed the 2010 tax lapse on estate taxes it sounded like an advantage to the children of ailing wealthy parents.  However, this resulted to unintended consequences, like owing taxes on the  inheritance they will receive.  Furthermore, most trusts and wills were written based on the assumption that an estate tax exists.  This situation is unfavorable to the existing spouse because he or she might not get anything from the estate.

Up until 2008, the amount a person can leave to their heirs without being charged with federal estate tax is $2 million. There has been an adjustment in 2009, now the limit is up to $3.5 million.  It might sound like a huge amount but homes, retirement accounts and death benefits a working couple may easily fit in this category.  When this occurs, the government takes 45 cents for every dollar that is over $3.5 million that you leave as inheritance.

Here is some basic information that everyone needs to know about regarding federal estate taxes.  The generation-skipping transfer tax and estate tax were revoked late 2009.  Both of the aforementioned taxes will make a come back in 2011 with similar rates from 10 years back, which are considered poor.  The gift tax still exists, if a citizen decides to give more than $1million while he or she still lives. The tax rate was decreased from 45% down to 35%.  Today, heirs must use the original price of the asset for computing tax liabilities, instead of an asset’s value upon death of the owner.  This “cost basis” change could be difficult, most of all, costly to the inheritors.

Many citizens expect Congress to return the taxes retroactively using the system in 2009 which has a $3.5 million exemption from the estate and also the generation-skipping transfer taxes together with the gift tax of 45%.

The due date for federal estate taxes are payable nine months after the death of a loved one. IRS will not accept real estate or property, jewelry or stock certificates. The best situation when there is enough cash in the bank account of the departed which can be used for taxes.  This can include publicly traded bonds or stocks because they are easy to liquidate.

A life insurance policy that is billed to a Revocable Living Trust can be collected in a trouble-free manner and be used for payments. Remember that when an insurance policy names an individual beneficiary, that person is not obliged to submit any of the proceeds to pay taxes.  However, if the IRS has no other source to collect from, they might turn to the beneficiary for the proceeds of the insurance.

Many lawyers advise their clients not to include their life insurance policies in the estate if it might exceed $3.5 million.  One way of avoiding the estate tax is to not own the insurance plan.  Instead of the insured party being the owner of the policy, it should be the beneficiary. The beneficiaries, like the children or the spouse, should be the ones to pay for the premium.  If they cannot afford to do so, open an unrestricted bank account in the beneficiary’s name where premium payments can be deducted from.