Inheritance

Five Taxes your Heirs May Pay (or not) After your Death

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Most people understand that estate planning and inheritance planning involves making sure that people you trust can make decisions for you if you become incapacitated during your lifetime, and making sure your assets go where you want them to go when you die.  It should also involve identifying and planning to minimize the five different types of taxes that may be payable by your heirs after your death.

  1. Federal Estate Tax – When a United States citizen or resident passes away, the estate of the deceased person may be required to file a federal estate tax return and may have to pay a federal estate tax. The estate tax is a one-time tax that is payable after death on the value of your “estate”, which is essentially any assets you own or control at the time of your death.  A federal estate tax return is due on the nine-month anniversary of the deceased’s date of death, and any estate tax due must be paid by that time to avoid interest and penalties from accruing.

The good news for most people is that the federal estate tax exemption is $11.58 million as of January 1, 2020 ($11.4 million in 2019).  This means that if the value of the assets you own at the time of your death (your so-called “taxable estate”) is less than the exemption amount, you do not have to file a return or pay a federal estate tax.  Estate tax is also not payable on the value of assets left to your surviving spouse or to charity.  The federal estate tax exemption is adjusted annually for inflation.  On December 31, 2025, the federal tax law that gave us such a large federal exemption amount will “sunset” unless Congress takes action.  Upon sunset, the federal estate tax exemption amount will revert to the prior level, adjusted for inflation, most likely a little more than $5 million.

If your “estate” is greater than the federal estate tax exemption, speak to your estate tax planning attorney and tax advisors about planning steps you can take to reduce or eliminate any federal estate tax your estate may have to pay.  Don’t forget about trusts when it comes to estate tax –  certain type of trusts, as well as gifting strategies, including charitable giving, can be effectively reduce the estate tax payable at death.

Keep in mind that even if you do not owe federal estate tax at death, it may still be advisable for the Personal Representative of your estate (formerly known as your Executor) to file a federal estate tax return so that your surviving spouse’s estate can take advantage of your unused federal estate tax exemption.

  1. State estate tax – If you live in Massachusetts, you live in one of 18 states plus the District of Columbia that has a separate state estate or inheritance tax. If you die a Massachusetts resident, your estate must file a Massachusetts estate tax return if the value of your estate is $1 million or more.  This is a relatively low threshold.  For many residents of Massachusetts who own a home, have a retirement account of significant value, and own life insurance, this is a tax they should be aware of and plan for.

There are several bills pending in the state legislature that would raise the Massachusetts estate tax exemption amount, however none of them has succeeded to date.   Until the exemption amount is increased, as with the federal estate tax, the Massachusetts estate tax can be reduced if not eliminated with thoughtful estate tax planning with the advice of your attorney.  As with the federal estate tax, a Massachusetts estate tax return must be filed and any tax paid within nine months after death.

  1. Personal Income Tax – No matter what time of year you pass away, final state and federal income tax returns will have to be filed to report the income you earned or received during the year of your death from January 1 through the date of your death. It is important to keep good records of your income and deductions, and to keep your tax records organized, so that your heirs or others who are settling your estate will be able to provide your tax preparer with the information necessary to prepare your final personal income tax returns, and so that those returns can be filed timely to avoid penalties and interest that may accrue and be payable by your estate.

It is also important to keep your personal income tax filings up to date while you are alive.  Collecting information necessary to file the deceased’s final personal income tax returns is hard enough.  Trying to reconstruct past years’ records in order to file returns that are past due is difficult, time consuming, and can be very expensive when interest and penalties for unpaid taxes start to add up.  Keep in mind that the Personal Representative of your estate can be personally liable for any unpaid tax liabilities. This is not a legacy anyone should leave.

  1. Fiduciary Income Tax – The fiduciary income tax is a little-known income tax payable by estates and trusts on income earned during the year. For example, if you die owning 1000 shares of Exxon stock and a three-family rental property, those assets are part of your “estate” at your death. The dividend income received on the Exxon stock and the rental income paid by the tenants residing in your rental property after your death is “income” earned by your estate.  This income must be reported on a fiduciary income tax return each year your estate remains open.  If these assets are owned by a trust, income earned on trust assets is also reported on a fiduciary income tax return.

Fiduciary income tax can be very steep, considering that the tax brackets are such that estates and trusts reach the highest federal income tax bracket of 37% at only $12,750 of income.  To avoid paying unnecessary fiduciary income tax, it is best to plan with your attorney to ensure your estate will be administered efficiently, and that any trust you create is structured properly with tax savings in mind, even if assets will stay in trust for the benefit of your heirs.

  1. Income Tax on Retirement Accounts– The government kindly allows us to save money in our retirement accounts – IRAs, 401ks, 403bs – without paying federal or state income tax on the funds contributed to those accounts. The end result is that many people have large “qualified” retirement accounts on which income tax has never been paid.

The tax laws require money to be withdrawn from retirement accounts, and state and federal income tax paid, when we reach a certain age, or within a certain period of time after the account owner dies.  The SECURE Act, signed into law by President Trump just before Christmas as part of the budget bill, makes significant changes to these rules.

If you have large retirement accounts, it is important to understand the changes made to these tax rules by the SECURE Act, how much your beneficiaries will have to withdraw from these accounts and when, and to plan to minimize the income taxes payable on those distributions if possible. This is not as easy as it used to be now that the SECURE Act is law; however, there are still planning options to consider that can have a big impact on how much of those accounts may be lost to income taxes after your death.

Death and taxes (and estate tax and income tax planning!) are not most people’s favorite topic (present company excluded), however you can save your heirs a lot of money, and maximize the inheritance they receive, if you take the time to understand the taxes that are potentially payable at death and take steps to plan to minimize or eliminate these taxes before they become due.

Maria Baler, Esq. is an estate planning and elder law attorney and partner at Samuel, Sayward & Baler LLC, a law firm based in Dedham. She is also a former director of the Massachusetts Chapter of the National Academy of Elder Law Attorneys (MassNAELA), and currently serves on the Board of Directors of the Massachusetts Forum of Estate Planning Attorneys. For more information, visit www.ssbllc.com or call (781) 461-1020. This article is not intended to provide legal advice or create or imply an attorney-client relationship. No information contained herein is a substitute for a personal consultation with an attorney.

January, 2020

© 2020 Samuel, Sayward & Baler LLC

Two Recent Cases in Massachusetts Highlight the Perils of Failing to Plan when it comes to Estate Planning. 

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There’s a popular saying attributed to Benjamin Franklin that goes, “Failing to plan is planning to fail”.  The truth of this adage is well illustrated by two recent Massachusetts cases that highlight some of the unfortunate consequences of poor Estate Planning. In the first case, a man (Raymond) who married for the second time late in life failed to properly take the trust and estate planning steps to ensure that his wishes for the disposition of his property between his second wife (Susan) and his four children from a prior marriage were achieved.  The result of Raymond’s failure to plan was contentious (and no doubt expensive) ligation between Susan and the four children after his death.  The issue in the case of  Ciani v. McGrath arose out of a Massachusetts law that effectively prevents someone from disinheriting his or her spouse if that spouse does not want to be disinherited.  Because Raymond failed to properly plan, this law gave Susan the ability to force a sale of Raymond’s real estate when he passed away and to take one-third of the sale proceeds for herself.  It did not matter that Raymond had owned the property for many years before his marriage to Susan (he bought it with his first, late wife) or that Susan and Raymond had only been married for two years when Raymond passed away. This result could have been avoided if Raymond and Susan had entered into a prenuptial agreement before their marriage in which they had agreed upon the disposition of their assets at death.  Even without a prenuptial agreement, Raymond could have avoided this result by, for example, leaving assets in trust for Susan during her lifetime.  A properly planned Trust can avoid these type of issues. The Trust could have provided that upon Susan’s death, the Trust assets would be distributed to Raymond’s children.  Instead, Raymond’s intentions for the distribution of his estate were not carried out (if you assume his Will represented his wishes) and his family was left with an acrimonious lawsuit.  One-third of the property that Raymond intended pass to his children will instead be distributed to Susan, and to her beneficiaries at her death. The second situation is even sadder.  When Richlene married Noel Aimes she already had a daughter, Marcelle.  In 1980, Richlene and Noel bought a house together in Somerville for $23,000 where they lived with Marcelle and other of Richlene’s family members until Richlene, then Noel died. Noel never had children of his own.  When Richlene died, Noel became the sole owner of the home since they took title to the property as husband and wife, tenants by the entirety.  When Noel died two years later without a Will, the Somerville property, now worth $1 million, passed to his heirs-at-law as determined under the Massachusetts intestate statute which does not recognize step-children as heirs. As such, Marcelle, who has lived in the property for almost 30 years, has no legal right to ownership or occupancy. Instead title to the house passes to Noel’s nieces and nephews with whom he apparently had no relationship.  Had Noel made a Will or added Marcelle’s name to the title of the property, the property would have passed in accordance with what everyone believes would have been Noels’ wishes – to Marcelle. Here’s another pearl of wisdom from our pal Ben, “Well done is better than well said.”   Plan now to speak with an attorney for wills and trusts to make sure your family isn’t sorry later.

Ask SSB

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Q:       My mom passed away a few months ago.  She had a will that leaves everything to me and my sister equally.  That means we don’t have to go through probate, right?

A:        I wish I could get a hold of the person who started this tale: “If you have a will, you do not need to go through probate.”  This is one of the most common misconceptions among our clients.  I am happy to dispel this rumor once and for all!

The concept of ‘going through probate’ actually has nothing at all to do with whether or not you have a will.  A will is simply a document that outlines who you would like to receive your assets when you pass away.  A will states who you would like to serve as your personal representative (formerly known as executor), whether you have specific instructions about the distribution of certain assets and if you have minor children, who you would like to serve as guardian for those children.  If you do not have a will, the Commonwealth of Massachusetts has one for you.  This is called the intestacy statute.  However, you may not agree with what the intestacy statute says—sometimes its terms are surprising.  Having a will overrides the intestacy law and allows you to state clearly what your wishes are once you pass away.  It can also make the probate process run more smoothly as it allows you to make certain elections in the document (such as a waiver of surety on a bond or license to sell real estate) which can often expedite the whole process.

The answer to your question lies not in the having or not having of a will but rather what assets a will controls and what processes you have to go through to gain access to certain assets when a person passes away.  This is where probate comes in.  A will only has control over probate assets—these are assets that are held in the deceased person’s sole name with no joint owners and no named beneficiaries.  Most IRAs, 401Ks, life insurance policies and investment accounts give the owner the ability to name a beneficiary.  This beneficiary designation takes priority over the terms of the will with respect to that particular asset.  Even better, the beneficiary often has immediate access to the asset upon providing a death certificate.  Likewise, assets titled in the name of a trust are non-probate assets which pass according to the terms of the trust and not the decedent’s will.  Therefore, these assets are not subject to the probate process either.

So, the act of going through probate is only required if the deceased person has probate assets (remember—assets with no joint owner, named beneficiary and not held in a trust).  The will is the roadmap that determines how the probate process will play out but having a will, in and of itself, does not avoid probate.  There you go—this myth is BUSTED!

Wills • Trusts • Elder Law • Long-Term Care Planning • Estates

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