As many of you know, the new Democratic Governor of New Jersey, Phil Murphy, was engaged in a recent budget showdown with members of his own party. A last minute government shutdown was avoided, however, as the legislature and the Governor came to terms on a variety of tax increases and spending priorities. For more specifics, NJ.com has a good article here.
From the perspective of estate planning attorneys, what is noteworthy is that there was never any mention of bringing the New Jersey estate tax back. One of the concerns with many lawyers was whether, with a new Governor, the estate tax repeal would be lifted. This does not appear to be the case any time soon, so it looks as if we should continue to plan as if New Jersey will not have a state estate tax, at least for the time being.
Remember, New Jersey still does have an inheritance tax though.
As a reminder, this permanent change means people who have older Wills and Trusts should bring them in for a review. It is possible that the tax formulas are outdated and that there are new planning opportunities to simply your documents or minimize capital gains taxes upon your death.
Showing posts with label NJ Estate Tax. Show all posts
Showing posts with label NJ Estate Tax. Show all posts
Monday, July 2, 2018
Wednesday, November 29, 2017
Benefit of a Life Insurance Trust after the Repeal of NJ Estate Tax
As we get closer to the repeal of the New Jersey Estate Tax on January 1, 2018, it is important to remember that New Jersey has NOT gotten rid of its inheritance tax. Accordingly, if you wish to leave money to brothers, sisters, nieces, nephews, friends or a significant other (besides a spouse) and if you have life insurance, you should explore whether a trust is a good option.
Here's generally how the NJ Inheritance Tax works. There is no inheritance tax on money going to charities or Class A Beneficiaries. Class A Beneficiaries include:
New Jersey excludes a number of items from the inheritance tax. Specifically, the major items are excluded from the NJ Inheritance Tax are:
As you can see, when it comes to life insurance, if you ultimately want money going to brothers, sisters, nieces, nephews, friends or a significant other, you don't want to name your estate as the beneficiary (even if it filters through a Will) because it results in a NJ inheritance tax.
Now, the easy and obvious solution in most cases is that you can simply fill out a beneficiary designation form for the life insurance policy and name the people that you want, and then the death payout will be excluded from the NJ Inheritance Tax. However, many people want to create more complex arrangements. Here are some situations in which it is likely worth the time and expense to set up a trust:
Remember, in many of the scenarios above, you can simply create a Will that sets up a trust, but if you name the estate as the beneficiary, it causes the inheritance tax. If you set up the trust before you die, and name the trust, it won't cause an inheritance tax. It is also very important to realize that if you are only worried about avoiding the NJ inheritance tax, it does NOT have to be a traditional irrevocable life insurance trust. This means that if you even have a traditional revocable trust and name that as the beneficiary of your policy, it avoids the NJ inheritance tax.
Here's generally how the NJ Inheritance Tax works. There is no inheritance tax on money going to charities or Class A Beneficiaries. Class A Beneficiaries include:
- A spouse (or civil union partner or a registered domestic partner);
- Lineal ascendants (parents, grandparents, etc.);
- Lineal descendants (children, grandchildren, great-grandchildren, etc.) and
- Step-children (but not step-grandchildren)
New Jersey excludes a number of items from the inheritance tax. Specifically, the major items are excluded from the NJ Inheritance Tax are:
- Real estate or real property owned outside of NJ (Note that if you own a co-op, you technically do not own real estate, you own stock, which is intangible asset that is subject to the NJ inheritance tax.);
- Money recovered under the NJ Death Act (as compensation for wrongful death); and
- Life insurance that is payable to anyone except to a person's estate.
As you can see, when it comes to life insurance, if you ultimately want money going to brothers, sisters, nieces, nephews, friends or a significant other, you don't want to name your estate as the beneficiary (even if it filters through a Will) because it results in a NJ inheritance tax.
Now, the easy and obvious solution in most cases is that you can simply fill out a beneficiary designation form for the life insurance policy and name the people that you want, and then the death payout will be excluded from the NJ Inheritance Tax. However, many people want to create more complex arrangements. Here are some situations in which it is likely worth the time and expense to set up a trust:
- If you want to set money aside for the benefit of an elderly parent or special needs relative, but upon their death, want the balance to go to other people.
- If you want to have a complex formula for who gets your assets. (For example: If Person A and B are alive, they get 30% each and person C gets 40%, but if A or B is not alive, then person C gets their share.)
- If you don't want to let the beneficiary of your policy have immediate access to the money upon your death. Let's say you want to leave money to a niece or nephew, but they are a minor, so you want them to have money for college, but not play money until later in life. A trust is especially good here if you don't trust your sibling to manage the money.
- If you have multiple policies and many beneficiaries, you may not want to update all the policies every time you change your mind regarding who the beneficiaries should be. If you name the trust as beneficiary, you can just change the trust and you won't need to redo beneficiary designation forms at multiple institutions.
- If you want to name certain people as beneficiaries, but you don't want them to know. (Keep in mind that some insurance companies ask for Social Security Numbers of the beneficiaries and you may not want to ask people for that, or they may want to know why. With a trust, you don't even need to have that conversation.)
- In divorce settings. Let's say you are obligated to pay life insurance to a ex-spouse, for a certain period of time, or based upon a formula. You can name the trust as the beneficiary, and put the formula in the trust. The alternative is revising your policy each year.
Remember, in many of the scenarios above, you can simply create a Will that sets up a trust, but if you name the estate as the beneficiary, it causes the inheritance tax. If you set up the trust before you die, and name the trust, it won't cause an inheritance tax. It is also very important to realize that if you are only worried about avoiding the NJ inheritance tax, it does NOT have to be a traditional irrevocable life insurance trust. This means that if you even have a traditional revocable trust and name that as the beneficiary of your policy, it avoids the NJ inheritance tax.
Monday, October 24, 2016
NJ Estate Tax Repeal: How Does This Affect You?
It's official. According to NJ.com, Governor Christopher Christie has signed a a bill to repeal the New Jersey Estate Tax. The new law is part of a larger package deal that increases the gas tax, reduces the sales tax slightly, gives the working poor a larger tax credit, gives a tax cut on retirement income and gives a tax exemption for veterans who have been honorably discharged.
Under prior New Jersey law, a person may leave an unlimited amount to a spouse or charity. However, any money going to anyone else above $675,000 (the "exemption amount") is subject to an estate tax. This rule will remain in effect for the rest of 2016.
For calendar year 2017, the estate tax exemption amount for NJ will increase to $2,000,000. The tax rate will generally start at about 7.2% and go up to 16% on estates over $10,000,000.
There will be a full repeal of the NJ Estate Tax starting January 1, 2018.
We have confirmed that New Jersey will NOT be repealing its inheritance tax. Accordingly, money that is left to a non-class A beneficiary will still be subject to a tax. In other words, there will still be a tax if you leave money to anyone other than a spouse, your descendants, your ancestors or a charity upon your death.
So the big question for many might be how does this affect you. I will break this down into 5 categories:
1) People who have prepared existing estate planning documents;
2) People with assets between $675,000 to $5,450,000 (for individuals) and married couples with assets less than $10,900,000;
3) Married couples with assets in excess of $10,900,000;
4) Snowbirds;
5) Widows and widowers who are the beneficiary of a credit shelter trust; and
6) People who wish to consider Medicaid planning.
1) For people who have already prepared their estate plans, most likely this will not adversely affect your plans. However, the modification of the tax law likely gives you the opportunity to simplify your documents. In particular, it is common practice in New Jersey to create a trust for a surviving spouse (often referred to as a Family Trust, Bypass Trust, Credit Shelter Trust or A-B Trust) to double the $675,000 exemption among spouses.
There still may be other reasons to have a trust for a surviving spouse (such as in second marriage situations), but starting 2018, doubling the NJ exemption amount will no longer be necessary.
2) For New Jersey domiciliaries who have assets above $675,000 (the NJ estate tax exemption limit in 2016) and below the federal estate tax exemption limit ($5,450,000 for individuals and $10,900,000 for married couples in 2016), it was a common part of estate planning for a person to make deathbed gifts to minimize the NJ estate tax liability. Once the NJ estate tax gets repealed, it will generally be much more beneficial for a person to keep all of their assets until their death rather making substantial gifts during lifetime.
Until 2018, deathbed gifting can be very tax efficient because New Jersey has an estate tax but it does not have a gift tax. Accordingly, there is the opportunity to substantially minimize the estate tax. The problem however, is that many people make the mistake of gifting substantially appreciated assets such as stock or real estate. You often want to keep appreciated assets until death to obtain a step-up in basis.
So before you make a gift, you would need to weigh the potential NJ estate tax consequence of keeping an asset versus the potential capital gains tax if an asset is sold after the gift is made.
Now with the repeal of the NJ estate tax, unless a person is likely to die prior to 2018, you don't need to worry about making the calculation as to whether the NJ estate tax or the capital gains tax will be higher. It will almost always be better to keep the asset.
3) For married couples with assets in excess of the federal estate tax exemption amount, I have read a number of studies that indicate that a couple can usually transfer wealth in a more tax efficient manner by establishing a credit shelter trust for the surviving spouse rather than relying on portability.
There are few reasons why wealthier clients may want to continue to use traditional credit shelter trust planning. The first is that while the estate tax exemption is portable, the generation skipping transfer tax (GST Tax) is NOT portable to a surviving spouse. Many wealthy clients often wish to make sure the money goes not just to their children, but also to more remote descendants.
Another benefit to traditional credit shelter trust planning is that it acts as freeze for the assets inside the trust. Specifically, let's assume that we have a married couple with exactly $10,900,000. If we put half of those assets in trust on the first to die, then regardless of how much that goes up or down, it passes tax free on the surviving spouse's death. So if the value of the trust goes up at faster rate than the inflation adjustment on the exemption amount, the beneficiaries are basically saving about $0.23 on the dollar because the estate tax is a 40% tax and the capital gains on the appreciation is only taxed at 23%.
While none of this planning will be different after the NJ Estate gets repealed compared to now, it makes the planning much easier to justify because right now we have a dilemma as to "HOW MUCH" we fund the credit shelter trust with. To avoid any tax on the first to die, a credit shelter trust can only be funded with $675,000. For some, this hardly makes it worth setting up. However, as the estate tax in NJ goes away, we no longer have this concern.
4) For snowbirds and other people who wish to avoid a "death tax", very simply, starting 2018 the tax incentive to move will be dramatically reduced. Back in 2009, I wrote a post discussing the tax benefit of relocating to Florida. Once the NJ estate tax gets repealed, for many it will make little difference from a tax perspective where their domicile is.
That being said, there are still significant differences between being domiciled in New Jersey vs. Florida. After all, if you own real estate in both places, you still will need to pay property tax in both locations. The biggest differences that people should be aware of are:
5) If you have a husband or wife who passed away leaving money to you in trust, come 2018 it may be beneficial to consider options for terminating the trust. Imagine a scenario where husband dies in in 2004 leaving $675,000 in a credit shelter trust (often called a Family Trust or Bypass Trust) for his surviving spouse. It is likely that these assets in trust have appreciated to over $1,000,000. If these assets stay in trust until the surviving spouse's death, it will not receive another step-up in basis. However, if the trust is terminated and assets are distributed to the surviving spouse after 2018, it could be very beneficial from a tax perspective.
There are many caveats to this plan. First, you would not want to terminate the trust if the first spouse to die wanted to protect the money in trust for his/her surviving children - so you would not want to terminate the trust in second marriage situations. Second, you may not want to terminate the trust if the surviving spouse has substantial assets or debts. It may also not be beneficial to terminate a trust if the value of the trust assets have gone down in value.
Nevertheless, it would be advisable to consider terminating a trust to make life easier for the surviving spouse and avoid the hassle of having to file an extra income tax return for the trust.
Please note that a trust can only be terminated if the trust allows it, so you should have the trust looked at to see if the document allows the trust to be terminated. If the trust does not allow for termination, consider whether it should be modified under the New Jersey Uniform Trust Act.
6) While I don't do Medicaid planning, I do engage in tax planning, and tax planning just got much easier. The problem with Medicaid planning is that there is so much bad information out in the public sphere.
I frequently get clients with millions of dollars who want to do Medicaid planning. They don't realize that to do this type of planning, they actually need to give away most of their assets. This might work well with someone who has a few hundred thousand dollars. However, the more money you have, the less sense it usually makes to do this type of planning.
For example, if you have a $500,000 IRA, stock with a basis of $100,000 and worth $400,000, and a house with a basis of $50,000 and now worth $600,000, let's talk about the tax impact of most Medicaid planning. In order to "give away" everything to qualify for Medicaid (a total of $1.5M here), the person would have to withdraw their entire IRA, causing a federal and state income tax of over $175,000. Additionally, the transfer of the stock and real estate now would be subject to a built in capital gains of $850,000, resulting in about another $175,000 in capital gains taxes when sold.
All told, this planning will likely cause about $350,000 in taxes. This does not even factor in the planning fees and the loss of opportunity to grow the IRA in a tax deferred form. At $10,000/month in a nursing home, that is about 3 years in a nursing home. According to the non-profit Life Happens, the average stay in a nursing home is almost 2 and half years and about 70% of the population winds up spending some time in a nursing home. A $350,000 tax could have paid for 3 years of nursing care home... and in a non-Medicaid facility.
Prior to the change in the estate tax law, an argument could be made that the increase in income taxes was somewhat offset by a decrease in estate taxes. Until the end of 2016, with an estate of $1.5 million, there was the potential estate tax of over $60,000. Repeal of the estate tax obviously changes the equation. Under the new tax law, it is generally more prudent to keep assets in your name rather than giving them away ahead of time. So while Medicaid planning can certainly be appropriate for some, the larger your estate, the less financial sense it makes to engage in this type of planning.
Under prior New Jersey law, a person may leave an unlimited amount to a spouse or charity. However, any money going to anyone else above $675,000 (the "exemption amount") is subject to an estate tax. This rule will remain in effect for the rest of 2016.
For calendar year 2017, the estate tax exemption amount for NJ will increase to $2,000,000. The tax rate will generally start at about 7.2% and go up to 16% on estates over $10,000,000.
There will be a full repeal of the NJ Estate Tax starting January 1, 2018.
We have confirmed that New Jersey will NOT be repealing its inheritance tax. Accordingly, money that is left to a non-class A beneficiary will still be subject to a tax. In other words, there will still be a tax if you leave money to anyone other than a spouse, your descendants, your ancestors or a charity upon your death.
So the big question for many might be how does this affect you. I will break this down into 5 categories:
1) People who have prepared existing estate planning documents;
2) People with assets between $675,000 to $5,450,000 (for individuals) and married couples with assets less than $10,900,000;
3) Married couples with assets in excess of $10,900,000;
4) Snowbirds;
5) Widows and widowers who are the beneficiary of a credit shelter trust; and
6) People who wish to consider Medicaid planning.
1) For people who have already prepared their estate plans, most likely this will not adversely affect your plans. However, the modification of the tax law likely gives you the opportunity to simplify your documents. In particular, it is common practice in New Jersey to create a trust for a surviving spouse (often referred to as a Family Trust, Bypass Trust, Credit Shelter Trust or A-B Trust) to double the $675,000 exemption among spouses.
There still may be other reasons to have a trust for a surviving spouse (such as in second marriage situations), but starting 2018, doubling the NJ exemption amount will no longer be necessary.
2) For New Jersey domiciliaries who have assets above $675,000 (the NJ estate tax exemption limit in 2016) and below the federal estate tax exemption limit ($5,450,000 for individuals and $10,900,000 for married couples in 2016), it was a common part of estate planning for a person to make deathbed gifts to minimize the NJ estate tax liability. Once the NJ estate tax gets repealed, it will generally be much more beneficial for a person to keep all of their assets until their death rather making substantial gifts during lifetime.
Until 2018, deathbed gifting can be very tax efficient because New Jersey has an estate tax but it does not have a gift tax. Accordingly, there is the opportunity to substantially minimize the estate tax. The problem however, is that many people make the mistake of gifting substantially appreciated assets such as stock or real estate. You often want to keep appreciated assets until death to obtain a step-up in basis.
So before you make a gift, you would need to weigh the potential NJ estate tax consequence of keeping an asset versus the potential capital gains tax if an asset is sold after the gift is made.
Now with the repeal of the NJ estate tax, unless a person is likely to die prior to 2018, you don't need to worry about making the calculation as to whether the NJ estate tax or the capital gains tax will be higher. It will almost always be better to keep the asset.
3) For married couples with assets in excess of the federal estate tax exemption amount, I have read a number of studies that indicate that a couple can usually transfer wealth in a more tax efficient manner by establishing a credit shelter trust for the surviving spouse rather than relying on portability.
There are few reasons why wealthier clients may want to continue to use traditional credit shelter trust planning. The first is that while the estate tax exemption is portable, the generation skipping transfer tax (GST Tax) is NOT portable to a surviving spouse. Many wealthy clients often wish to make sure the money goes not just to their children, but also to more remote descendants.
Another benefit to traditional credit shelter trust planning is that it acts as freeze for the assets inside the trust. Specifically, let's assume that we have a married couple with exactly $10,900,000. If we put half of those assets in trust on the first to die, then regardless of how much that goes up or down, it passes tax free on the surviving spouse's death. So if the value of the trust goes up at faster rate than the inflation adjustment on the exemption amount, the beneficiaries are basically saving about $0.23 on the dollar because the estate tax is a 40% tax and the capital gains on the appreciation is only taxed at 23%.
While none of this planning will be different after the NJ Estate gets repealed compared to now, it makes the planning much easier to justify because right now we have a dilemma as to "HOW MUCH" we fund the credit shelter trust with. To avoid any tax on the first to die, a credit shelter trust can only be funded with $675,000. For some, this hardly makes it worth setting up. However, as the estate tax in NJ goes away, we no longer have this concern.
4) For snowbirds and other people who wish to avoid a "death tax", very simply, starting 2018 the tax incentive to move will be dramatically reduced. Back in 2009, I wrote a post discussing the tax benefit of relocating to Florida. Once the NJ estate tax gets repealed, for many it will make little difference from a tax perspective where their domicile is.
That being said, there are still significant differences between being domiciled in New Jersey vs. Florida. After all, if you own real estate in both places, you still will need to pay property tax in both locations. The biggest differences that people should be aware of are:
- Florida does not have a state income tax, whereas NJ does. (Note NJ will start exempting a substantial portion of retirement income from the state income tax);
- Florida property has homestead protection only if you are a domiciliary of Florida. This can provide asset protection and it usually stops the property tax from increasing; and
- NJ is keeping its inheritance tax. So if you plan to leave your assets to nieces, nephews, friends or other non-class A beneficiaries, there could be a substantial tax savings upon your death.
5) If you have a husband or wife who passed away leaving money to you in trust, come 2018 it may be beneficial to consider options for terminating the trust. Imagine a scenario where husband dies in in 2004 leaving $675,000 in a credit shelter trust (often called a Family Trust or Bypass Trust) for his surviving spouse. It is likely that these assets in trust have appreciated to over $1,000,000. If these assets stay in trust until the surviving spouse's death, it will not receive another step-up in basis. However, if the trust is terminated and assets are distributed to the surviving spouse after 2018, it could be very beneficial from a tax perspective.
There are many caveats to this plan. First, you would not want to terminate the trust if the first spouse to die wanted to protect the money in trust for his/her surviving children - so you would not want to terminate the trust in second marriage situations. Second, you may not want to terminate the trust if the surviving spouse has substantial assets or debts. It may also not be beneficial to terminate a trust if the value of the trust assets have gone down in value.
Nevertheless, it would be advisable to consider terminating a trust to make life easier for the surviving spouse and avoid the hassle of having to file an extra income tax return for the trust.
Please note that a trust can only be terminated if the trust allows it, so you should have the trust looked at to see if the document allows the trust to be terminated. If the trust does not allow for termination, consider whether it should be modified under the New Jersey Uniform Trust Act.
6) While I don't do Medicaid planning, I do engage in tax planning, and tax planning just got much easier. The problem with Medicaid planning is that there is so much bad information out in the public sphere.
I frequently get clients with millions of dollars who want to do Medicaid planning. They don't realize that to do this type of planning, they actually need to give away most of their assets. This might work well with someone who has a few hundred thousand dollars. However, the more money you have, the less sense it usually makes to do this type of planning.
For example, if you have a $500,000 IRA, stock with a basis of $100,000 and worth $400,000, and a house with a basis of $50,000 and now worth $600,000, let's talk about the tax impact of most Medicaid planning. In order to "give away" everything to qualify for Medicaid (a total of $1.5M here), the person would have to withdraw their entire IRA, causing a federal and state income tax of over $175,000. Additionally, the transfer of the stock and real estate now would be subject to a built in capital gains of $850,000, resulting in about another $175,000 in capital gains taxes when sold.
All told, this planning will likely cause about $350,000 in taxes. This does not even factor in the planning fees and the loss of opportunity to grow the IRA in a tax deferred form. At $10,000/month in a nursing home, that is about 3 years in a nursing home. According to the non-profit Life Happens, the average stay in a nursing home is almost 2 and half years and about 70% of the population winds up spending some time in a nursing home. A $350,000 tax could have paid for 3 years of nursing care home... and in a non-Medicaid facility.
Prior to the change in the estate tax law, an argument could be made that the increase in income taxes was somewhat offset by a decrease in estate taxes. Until the end of 2016, with an estate of $1.5 million, there was the potential estate tax of over $60,000. Repeal of the estate tax obviously changes the equation. Under the new tax law, it is generally more prudent to keep assets in your name rather than giving them away ahead of time. So while Medicaid planning can certainly be appropriate for some, the larger your estate, the less financial sense it makes to engage in this type of planning.
Friday, October 7, 2016
The NJ Estate Tax is Repealed! Almost.
According to NJ.com, effective October 7, 2016, the New Jersey Legislature has approved a bill that will repeal the New Jersey estate tax. We are only awaiting the signature of Governor Christopher Christie before the law is enacted, and rumor is that he has promised to sign the bill.
Under current New Jersey law, a person may leave an unlimited amount to a spouse or charity. However, any money going to anyone else above $675,000 is going to be subject to an estate tax. This rule will remain in effect for the rest of 2016. This is known as the exemption amount.
For calendar year 2017, the exemption amount for NJ will increase to $2,000,000. The tax rate will generally start at about 7.2% and go up to 16% on estates over $10,000,000.
There will be a full repeal of the estate tax starting January 1, 2018.
The new law is part of a larger package deal that increases the gas tax, reduces the sales tax slightly, gives the working poor a larger tax credit, gives a tax cut on retirement income and gives a tax exemption for veterans who have been honorably discharged.
We have confirmed that New Jersey will NOT be repealing its inheritance tax. Accordingly, money that is left to a non-class A beneficiary will be subject to a tax still. In other words, there will still be a tax if you leave money to anyone other than a spouse, your descendants, your ancestors or a charity.
Under current New Jersey law, a person may leave an unlimited amount to a spouse or charity. However, any money going to anyone else above $675,000 is going to be subject to an estate tax. This rule will remain in effect for the rest of 2016. This is known as the exemption amount.
For calendar year 2017, the exemption amount for NJ will increase to $2,000,000. The tax rate will generally start at about 7.2% and go up to 16% on estates over $10,000,000.
There will be a full repeal of the estate tax starting January 1, 2018.
The new law is part of a larger package deal that increases the gas tax, reduces the sales tax slightly, gives the working poor a larger tax credit, gives a tax cut on retirement income and gives a tax exemption for veterans who have been honorably discharged.
We have confirmed that New Jersey will NOT be repealing its inheritance tax. Accordingly, money that is left to a non-class A beneficiary will be subject to a tax still. In other words, there will still be a tax if you leave money to anyone other than a spouse, your descendants, your ancestors or a charity.
Sunday, June 12, 2016
Is NJ finally going to repeal the Estate Tax and the Inheritance Tax?
I tend not to get too excited about any legislation until it is actually signed, but there is a fair amount of rumbling from both Republicans and Democrats about repealing the NJ Estate Tax. The NJ Transportation Trust fund is running out of money, and Governor Christie has refused to sign any deal to increase the tax on gasoline without a corresponding tax cut somewhere else.
According to various sources, including this article on www.nj.com, lawmakers are close to finalizing a deal to raise the gas tax by $0.23/gallon in exchange for a 4-5 year phaseout both NJ's estate tax and inheritance tax.
Part of the proposed deal would also include a reduction on income tax on retirement money for people earning less than $100,000, an increase in the tax credit for the working poor and an increase in the deduction for charitable gifting.
It is important to note that they are trying to get a deal together by the end of the month to fund the Transportation Trust Fund. Despite support from both Republican and Democratic senate members, a Chris Christie veto is expected (presumably because he does not think it cuts enough taxes)... that's why I'll believe a deal when I see it.
According to various sources, including this article on www.nj.com, lawmakers are close to finalizing a deal to raise the gas tax by $0.23/gallon in exchange for a 4-5 year phaseout both NJ's estate tax and inheritance tax.
Part of the proposed deal would also include a reduction on income tax on retirement money for people earning less than $100,000, an increase in the tax credit for the working poor and an increase in the deduction for charitable gifting.
It is important to note that they are trying to get a deal together by the end of the month to fund the Transportation Trust Fund. Despite support from both Republican and Democratic senate members, a Chris Christie veto is expected (presumably because he does not think it cuts enough taxes)... that's why I'll believe a deal when I see it.
Wednesday, July 2, 2014
Nice Article on the Basics of ILITs
A colleague of mine, David Saltzman, has written a nice article on the Basics of Irrevocable Life Insurance Trusts. As he points out, setting up a life insurance trust is a great way to minimize your estate tax liability and it can be especially important in New Jersey.
Dave is a great resource and knows a lot about insurance. Feel free to contact him regarding any insurance questions you may have.
Dave is a great resource and knows a lot about insurance. Feel free to contact him regarding any insurance questions you may have.
Tuesday, January 8, 2013
Probate In New Jersey - When There Is A Will
One of the questions I frequently get is: What is involved with probate in New Jersey?
In some jurisdictions, I know attorneys go out of their way to help their clients avoid the probate process by creating trusts and titling assets so that they can be transferred automatically on death. In New Jersey, probate usually is not that costly or difficult - at least compared to places like California, New York, Pennsylvania and Florida.
Part of the reason for this is that New Jersey requires attorneys to charge a reasonable fee, and not a percentage of the estate. Additionally, the New Jersey does not charge much for filing a Will or for any other administration fees. Moreover, in almost every county that I've had to deal with, the local Surrogate has been tremendously helpful in trying to assist us through the process. I know I frequently call the Mercer County Surrogate's Office, which is a wealth of information.
So, going back to what is involved, each estate is highly unique. However, here are some good steps to take:
1) Deal with the family and make funeral arrangements. An executor does not have to pay for the funeral. Whoever pays can be reimbursed by the Estate later on.
2) Identify valuable assets and the Will and secure them for safe keeping. (This may include searching the house and possibly even changing locks if you think that someone may access the property unlawfully.)
3) Identify the decedent's next of kin and obtain contact information for them. You will need this when applying to be executor.
4) After the Original Will has been found, identify who the Executor is. If the Executor is not alive or not willing to serve, steps must be taken so that a backup can be named. If the Original Will cannot be found, there is a process for a having a copy approved by the Court.
5) Take the Will to the Surrogate in the County where the Decedent resided. Be aware that no Will can be probated in New Jersey until ten (10) days have passed since the Testator has died. An Executor can go down to the Surrogate with all the paperwork within the first ten days, but the Letters Testamentary won't be released until that time frame has expired.
6) Once the Executor receives Letters Testamentary (also known as Short Certificates), he can transfer assets from the name of the Decedent into estate accounts for the Decedent. New Jersey automatically puts a lien on a Decedent's bank accounts, brokerage assets and real estate when a person passes away. Banks will only release 50% of the assets to pay bills of the estate until they receive a tax waiver from the New Jersey Division of Tax.
7) Shortly after qualifying as Executor, you must mail out a notice of probate to all people named in the Will AND all immediate next of kin, regardless of whether they are named in the Will or not. This can be problematic if you wish to cut an heir out or cannot locate an heir. I would also be a good reason to create an estate plan that will avoid probate. If a charity is named as a beneficiary, then a notice must be sent to the Attorney General's office.
8) If the Executor did not already have access to a safe deposit box, he can do so at this point.
9) Within eight (8) month of the Decedent's date of death, the Executor must file a New Jersey Inheritance Tax Return and pay any taxes due. Typically an inheritance tax return must be filed if assets are transferred to someone other than a spouse, civil union partner, child, grandchild, parent or charity. There is a 3 year lookback.
10) Within nine (9) months of the Decedent's date of death, the Executor must file a New Jersey Estate Tax Return and pay any taxes due. A New Jersey Estate Tax Return must be filed if the TAXABLE estate is in excess of $675,000. Note, the taxable estate can be different from the probate estate because the taxble estate may also include life insurance, retirement benefits, and joint accounts. If the taxable estate is above $5,000,000 (indexed for inflation), a federal estate tax return must also be filed. (It might be advisable to file this return in most situations on the death of the first spouse to pass on the Deceased Spouses unused tax exemption.)
11) The Executor must arrange for income tax returns to be filed and pay any taxes due.
12) The house must be cleaned and potentially sold or transferred.
13) If there is real estate located in other jurisdictions, the Executor must do an ancillary probate.
14) Other duties could include dealing with any business interests or intellectual property rights, assisting beneficiaries with any claims they might have for life insurance or retirement benefits, investigating the validity of claims against the estate and researching the proper title to assets.
15) The executor should prepare an accounting for the estate. This includes what the assets of the estate are, income, expenditures and distributions. Unless the matter is contested, an informal accounting will usually suffice.
16) Conduct child support searches on all beneficiaries.
17) After the tax returns are filed and the estate receives tax waivers and all bills are paid, the Executor can transfer the assets of the estate as directed in the Will.
18) Simultaneous with the transfers from the estate, an Executor should obtain a release and refunding bond. This acts as a waiver to release the Executor from liability and a means by which the executor can retrieve the inheritance back in the event that new bills arise for the estate.
An executor is not required to hire an attorney to help out with an estate admistration, but it can make the process much smoother.
In some jurisdictions, I know attorneys go out of their way to help their clients avoid the probate process by creating trusts and titling assets so that they can be transferred automatically on death. In New Jersey, probate usually is not that costly or difficult - at least compared to places like California, New York, Pennsylvania and Florida.
Part of the reason for this is that New Jersey requires attorneys to charge a reasonable fee, and not a percentage of the estate. Additionally, the New Jersey does not charge much for filing a Will or for any other administration fees. Moreover, in almost every county that I've had to deal with, the local Surrogate has been tremendously helpful in trying to assist us through the process. I know I frequently call the Mercer County Surrogate's Office, which is a wealth of information.
So, going back to what is involved, each estate is highly unique. However, here are some good steps to take:
1) Deal with the family and make funeral arrangements. An executor does not have to pay for the funeral. Whoever pays can be reimbursed by the Estate later on.
2) Identify valuable assets and the Will and secure them for safe keeping. (This may include searching the house and possibly even changing locks if you think that someone may access the property unlawfully.)
3) Identify the decedent's next of kin and obtain contact information for them. You will need this when applying to be executor.
4) After the Original Will has been found, identify who the Executor is. If the Executor is not alive or not willing to serve, steps must be taken so that a backup can be named. If the Original Will cannot be found, there is a process for a having a copy approved by the Court.
5) Take the Will to the Surrogate in the County where the Decedent resided. Be aware that no Will can be probated in New Jersey until ten (10) days have passed since the Testator has died. An Executor can go down to the Surrogate with all the paperwork within the first ten days, but the Letters Testamentary won't be released until that time frame has expired.
6) Once the Executor receives Letters Testamentary (also known as Short Certificates), he can transfer assets from the name of the Decedent into estate accounts for the Decedent. New Jersey automatically puts a lien on a Decedent's bank accounts, brokerage assets and real estate when a person passes away. Banks will only release 50% of the assets to pay bills of the estate until they receive a tax waiver from the New Jersey Division of Tax.
7) Shortly after qualifying as Executor, you must mail out a notice of probate to all people named in the Will AND all immediate next of kin, regardless of whether they are named in the Will or not. This can be problematic if you wish to cut an heir out or cannot locate an heir. I would also be a good reason to create an estate plan that will avoid probate. If a charity is named as a beneficiary, then a notice must be sent to the Attorney General's office.
8) If the Executor did not already have access to a safe deposit box, he can do so at this point.
9) Within eight (8) month of the Decedent's date of death, the Executor must file a New Jersey Inheritance Tax Return and pay any taxes due. Typically an inheritance tax return must be filed if assets are transferred to someone other than a spouse, civil union partner, child, grandchild, parent or charity. There is a 3 year lookback.
10) Within nine (9) months of the Decedent's date of death, the Executor must file a New Jersey Estate Tax Return and pay any taxes due. A New Jersey Estate Tax Return must be filed if the TAXABLE estate is in excess of $675,000. Note, the taxable estate can be different from the probate estate because the taxble estate may also include life insurance, retirement benefits, and joint accounts. If the taxable estate is above $5,000,000 (indexed for inflation), a federal estate tax return must also be filed. (It might be advisable to file this return in most situations on the death of the first spouse to pass on the Deceased Spouses unused tax exemption.)
11) The Executor must arrange for income tax returns to be filed and pay any taxes due.
12) The house must be cleaned and potentially sold or transferred.
13) If there is real estate located in other jurisdictions, the Executor must do an ancillary probate.
14) Other duties could include dealing with any business interests or intellectual property rights, assisting beneficiaries with any claims they might have for life insurance or retirement benefits, investigating the validity of claims against the estate and researching the proper title to assets.
15) The executor should prepare an accounting for the estate. This includes what the assets of the estate are, income, expenditures and distributions. Unless the matter is contested, an informal accounting will usually suffice.
16) Conduct child support searches on all beneficiaries.
17) After the tax returns are filed and the estate receives tax waivers and all bills are paid, the Executor can transfer the assets of the estate as directed in the Will.
18) Simultaneous with the transfers from the estate, an Executor should obtain a release and refunding bond. This acts as a waiver to release the Executor from liability and a means by which the executor can retrieve the inheritance back in the event that new bills arise for the estate.
An executor is not required to hire an attorney to help out with an estate admistration, but it can make the process much smoother.
Tuesday, May 22, 2012
NJ Estate Tax - Case Study $2M
In New Jersey, tax planning and estate planning can be very important. I'd like to show you a good representation of what a plan can do for a married couple with $2,000,000 in assets. Let's assume that the couple has $800,000 of life insurance, a house worth $400,000, retirement accounts of $200,000, brokerage assets of $350,000, and $50,000 of other miscellaneous assets. Let's also assume that they are both citizens and they have two young children from their marriage.
Without a will, everything will go to the survivng spouse, free of tax. However, on the death of the surviving spouse, there will be NJ Estate Tax of about $100,000. Moreover, the two children would each receive $950,000 outright at age 18 and there would be no clear guardian named.
The biggest tax mistake most people make is that they leave everything outright to the surviving spouse. The reason that this can be a tax mistake is because New Jersey allows each person to pass on $675,000 to their children (and grandchildren) before it taxes the estate. If you do not use this $675,000 exemption, you lose it. So the best way to preserve this tax exemption is to avoid giving the $675,000 outright to the surviving spouse and giving it to the surviving spouse and children in a trust. Sometimes you will hear this referred to as a Bypass Trust, a Credit Shelter Trust or even a Family Trust.
Another big tax mistake most people make is to own life insurance on their own lives. Most people think that life insurance passes to their heirs free of tax. This is not true. It is not subject to income tax or inheritance tax, but it IS subject to the Federal Estate Tax and to the NJ Estate Tax. Usually the best way to avoid an estate tax on the payout from a life insurance policy is to have an Irrevocable Life Insurance Trust (also known as an ILIT) own the policy on the life of the insured.
So, knowing all this, let's come back to our couple. The first thing that our couple should do is move the life insurance into a life insurance trust. (It would be even better to have the trust buy a new life insurance policy because if you transfer a policy in to an ILIT, there will not be any tax benefits for 3 years.)
The second thing our couple should do is create Wills (or revocable living trusts). In New Jersey, with most traditional couples, on the death of the first spouse, we will typically send the first $675,000 into a Bypass Trust for the benefit of the surviving spouse and the children. (The $675,000 is really based upon a formula to allow the maximum amount possible to go into the this trust before there is a tax. It various by state and also by the tax law at the time of the death of the first spouse.)
If the first spouse to die owns more than $675,000, than that can either go outright to the surviving spouse or in a Marital Trust. This is up to the couple to decide based upon how much they want to protect this money from creditors and future spouses. Upon the death of the surviving spouse, everything that is in the name of the surviving spouse and everything that is in the trust for the surviving spouse gets combined and sent to the children. If the children are young, we usually recommend that it goes to them in trust until they reach a more appropriate age.
Now that we have the plan in place, we must retitle the assets so that the plan will be effective. You see, a Will that states the first $675,000 goes to a surviving spouse in trust is useless unless the first spouse to die actually owns $675,000. In our situation above, the house is most likely owned by husband and wife jointly, meaning it goes automatically to the surviving spouse outright regardless of what the Will says. Additionally, the life insurance and retirement accounts will most likely name the the surviving spouse as beneficiary. For most couples, retitling the assets typically means moving the life insurance into the ILIT, preparing a new deed and otherwise moving assets around between the couple. There is usually not much you can do with the retirement accounts.
The end result of this plan is that we will have moved $800,000 into a life insurance trust, reducing the taxable estate to $1,200,000. The balance will be divided roughly equally between the husband and wife. On the first to die, we send as much as we can into the Bypass Trust, utilizing their NJ Estate Tax exemption. In this scenario, on the death of the second person, we will have reduced the NJ Estate Tax from $100,000 to $0.
Another benefit to all this planning is that it can make the estate administration much easier and less costly. In this econcomy, it is important to make things easier especially when you own real estate. If you owe estate or inheritance taxes at the time of your death, a tax lien automatically attaches to the property and you will not be able to sell it with a clear title until the taxes are paid.
Without a will, everything will go to the survivng spouse, free of tax. However, on the death of the surviving spouse, there will be NJ Estate Tax of about $100,000. Moreover, the two children would each receive $950,000 outright at age 18 and there would be no clear guardian named.
The biggest tax mistake most people make is that they leave everything outright to the surviving spouse. The reason that this can be a tax mistake is because New Jersey allows each person to pass on $675,000 to their children (and grandchildren) before it taxes the estate. If you do not use this $675,000 exemption, you lose it. So the best way to preserve this tax exemption is to avoid giving the $675,000 outright to the surviving spouse and giving it to the surviving spouse and children in a trust. Sometimes you will hear this referred to as a Bypass Trust, a Credit Shelter Trust or even a Family Trust.
Another big tax mistake most people make is to own life insurance on their own lives. Most people think that life insurance passes to their heirs free of tax. This is not true. It is not subject to income tax or inheritance tax, but it IS subject to the Federal Estate Tax and to the NJ Estate Tax. Usually the best way to avoid an estate tax on the payout from a life insurance policy is to have an Irrevocable Life Insurance Trust (also known as an ILIT) own the policy on the life of the insured.
So, knowing all this, let's come back to our couple. The first thing that our couple should do is move the life insurance into a life insurance trust. (It would be even better to have the trust buy a new life insurance policy because if you transfer a policy in to an ILIT, there will not be any tax benefits for 3 years.)
The second thing our couple should do is create Wills (or revocable living trusts). In New Jersey, with most traditional couples, on the death of the first spouse, we will typically send the first $675,000 into a Bypass Trust for the benefit of the surviving spouse and the children. (The $675,000 is really based upon a formula to allow the maximum amount possible to go into the this trust before there is a tax. It various by state and also by the tax law at the time of the death of the first spouse.)
If the first spouse to die owns more than $675,000, than that can either go outright to the surviving spouse or in a Marital Trust. This is up to the couple to decide based upon how much they want to protect this money from creditors and future spouses. Upon the death of the surviving spouse, everything that is in the name of the surviving spouse and everything that is in the trust for the surviving spouse gets combined and sent to the children. If the children are young, we usually recommend that it goes to them in trust until they reach a more appropriate age.
Now that we have the plan in place, we must retitle the assets so that the plan will be effective. You see, a Will that states the first $675,000 goes to a surviving spouse in trust is useless unless the first spouse to die actually owns $675,000. In our situation above, the house is most likely owned by husband and wife jointly, meaning it goes automatically to the surviving spouse outright regardless of what the Will says. Additionally, the life insurance and retirement accounts will most likely name the the surviving spouse as beneficiary. For most couples, retitling the assets typically means moving the life insurance into the ILIT, preparing a new deed and otherwise moving assets around between the couple. There is usually not much you can do with the retirement accounts.
The end result of this plan is that we will have moved $800,000 into a life insurance trust, reducing the taxable estate to $1,200,000. The balance will be divided roughly equally between the husband and wife. On the first to die, we send as much as we can into the Bypass Trust, utilizing their NJ Estate Tax exemption. In this scenario, on the death of the second person, we will have reduced the NJ Estate Tax from $100,000 to $0.
Another benefit to all this planning is that it can make the estate administration much easier and less costly. In this econcomy, it is important to make things easier especially when you own real estate. If you owe estate or inheritance taxes at the time of your death, a tax lien automatically attaches to the property and you will not be able to sell it with a clear title until the taxes are paid.
Monday, March 12, 2012
Estate Planning for Same Sex Couples
In many jurisdictions, estate planning for same sex couples can be quite complex. In some states, the laws are favorable to non-traditional couples and in others, they are not (like Pennsylvania). There are also states like New Jersey, where the laws themselves can be favorable to same sex couples if you enter into a Civil Union, but there is still Tax Planning that must be done.
In states where the laws are unfavorable to same sex couples, without structuring your affairs properly, one partner may not inherit from the other. Moreover, without a Power of Attorney or Guardianship in place, one partner may even not be allowed to visit the other in a hospital or make financial or health care decisions for the other.
To structure your affairs properly, you should prepare a Will, Financial Power of Attorney, Health Care Power of Attorney and properly title your assets. The proper titling of your assets, including naming beneficiaries of your retirement accounts, life insurance policies, brokerage assets and bank accounts must not be overlooked. Without doing this, your plan will fail.
If you are ready to make a commitment to each other, you should take advantage of whatever laws the state you live in offers, whether it is a marriage, a Civil Union or a Domestic Partnership. To give you an idea of some of the benefits this can offer:
Among the things that I find get overlooked when same sex couples plan for themselves is that they do not consider what will happen to their assets if both of them should pass simultaneously nor do they consider the most tax efficient way to structure their assets. So while much of the material here you may have read elsewhere, you should realize that a good estate planning attorney can help you customize a comprehensive, tax efficient plan for you.
In states where the laws are unfavorable to same sex couples, without structuring your affairs properly, one partner may not inherit from the other. Moreover, without a Power of Attorney or Guardianship in place, one partner may even not be allowed to visit the other in a hospital or make financial or health care decisions for the other.
To structure your affairs properly, you should prepare a Will, Financial Power of Attorney, Health Care Power of Attorney and properly title your assets. The proper titling of your assets, including naming beneficiaries of your retirement accounts, life insurance policies, brokerage assets and bank accounts must not be overlooked. Without doing this, your plan will fail.
If you are ready to make a commitment to each other, you should take advantage of whatever laws the state you live in offers, whether it is a marriage, a Civil Union or a Domestic Partnership. To give you an idea of some of the benefits this can offer:
- In NJ, a civil union partner and a domestic partner are entitled to receive the death certificate of the deceased partner.
- A surviving civil union partner is automatically allowed to inherit as if he or she was a surviving spouse; and
- A surviving civil union partner is deemed to be first in line to act as an administrator (if the decedent has failed to prepare a Will) or guardian (if the partner has failed to prepare a Power of Attorney).
Among the things that I find get overlooked when same sex couples plan for themselves is that they do not consider what will happen to their assets if both of them should pass simultaneously nor do they consider the most tax efficient way to structure their assets. So while much of the material here you may have read elsewhere, you should realize that a good estate planning attorney can help you customize a comprehensive, tax efficient plan for you.
Monday, March 5, 2012
Is there an Inheritance Tax on Life Insurance Proceeds?
One of the biggest misconceptions people have about life insurance is how it should be taxed. Most people think that they can receive the proceeds completely tax free. Upon the death of the insured, the beneficiary of a policy can almost always receive the proceeds without paying an income tax. However, estate taxes and inheritance taxes are a different matter.
If the insured owns a life insurance policy on his or her own name, it is subject to the federal estate tax. It is also subject to the state estate taxes of many states, including the New Jersey Estate Tax and the New York Estate Tax. This is one of the reasons many people have a life insurance trust own the life insurance on their lives. It is also one of the reasons that many people name their children as the owners of their life insurance policies.
The inheritance tax has its own set of rules for how a life insurance policy should be taxed. In Pennsylvania, the death benefit from a life insurance policy is always free of inheritance tax.
However, in New Jersey, it depends upon whether the policy is payable to an individual beneficiary or the estate of the insured. If the policy is payable to an individual in New Jersey, then there is no inheritance tax. If the policy is payable to the estate of the insured, then there may be an inheritance tax depending upon who the beneficiary of the estate is.
Under the New Jersey Inheritance Tax scheme, if the proceeds pass to a spouse, civil union partner, child, grandchild, parent, grandparent or a charity, then there is no inheritance tax. However, if the money passes to a sibling, then there could be anywhere from an 11-15% inheritance tax. Generally, if the money passes to anyone else, then there is a 15-16% tax depending upon how much is transferred.
As a result of these rules, it is usually best to consider who will be a beneficiary of your estate before deciding which assets you wish to go to whom. For example, if you know you want to benefit a niece or a nephew, using life insurance is one of the most tax efficient ways to do it.
Please contact us if you wish to discuss planning with life insurance in more depth.
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Updated on 12/31/12.
If the insured owns a life insurance policy on his or her own name, it is subject to the federal estate tax. It is also subject to the state estate taxes of many states, including the New Jersey Estate Tax and the New York Estate Tax. This is one of the reasons many people have a life insurance trust own the life insurance on their lives. It is also one of the reasons that many people name their children as the owners of their life insurance policies.
The inheritance tax has its own set of rules for how a life insurance policy should be taxed. In Pennsylvania, the death benefit from a life insurance policy is always free of inheritance tax.
However, in New Jersey, it depends upon whether the policy is payable to an individual beneficiary or the estate of the insured. If the policy is payable to an individual in New Jersey, then there is no inheritance tax. If the policy is payable to the estate of the insured, then there may be an inheritance tax depending upon who the beneficiary of the estate is.
Under the New Jersey Inheritance Tax scheme, if the proceeds pass to a spouse, civil union partner, child, grandchild, parent, grandparent or a charity, then there is no inheritance tax. However, if the money passes to a sibling, then there could be anywhere from an 11-15% inheritance tax. Generally, if the money passes to anyone else, then there is a 15-16% tax depending upon how much is transferred.
As a result of these rules, it is usually best to consider who will be a beneficiary of your estate before deciding which assets you wish to go to whom. For example, if you know you want to benefit a niece or a nephew, using life insurance is one of the most tax efficient ways to do it.
Please contact us if you wish to discuss planning with life insurance in more depth.
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Updated on 12/31/12.
Thursday, May 26, 2011
Deathbed Transfers in New Jersey
Often times, a person who is on his or her deathbed will make gifts to family members in an effort to reduce the potential taxes owed.
For transfers to anyone other than a charity, making gifts in a way that minimizes taxes is actually a very complex process. In deciding whether to make a gift, you must consider the amount of the gift, the type of asset you wish to transfer, to whom it is going to and the basis in the gifted item.
Taxes That Must be Considered When Making Gifts
There are generally six taxes that might be triggered as result of the gift. These include the New Jersey estate tax, the New Jersey inheritance tax, the federal estate tax, the federal gift tax, the capital gains tax and the generation skipping transfer (GST) tax.
I discuss all of these taxes in more detail elsewhere, but to quickly review the general purpose of each tax:
What is a Deathbed Gift?
New Jersey defines deathbed gifts as gifts made in contemplation of death (N.J.S.A. 54:34-1(c)). People usually know the deathbed gift rule as the three year lookback rule because gifts made within three years of death are presumed to be in contemplation of death. If a gift is made in contemplation of death, and the gift was over $500, then New Jersey asserts it was really a transfer at death subject to the inheritance tax.
For New Jersey tax purposes, this particular three year rule ONLY appears under the NJ inheritance tax statutes. There is a very different rule for the New Jersey estate tax because the New Jersey estate tax generally follows the federal estate tax for determining what is taxable and what is not taxable. I will discuss this in more detail below.
Since gifts made in contemplation of death are subject to an inheritance tax, and the inheritance tax only applies for transfers to certain beneficiaries, it is important to know how New Jersey classifies the beneficiaries of the gift.
Determining the Class of the Beneficiary
To determine if a lifetime gift will result in a New Jersey inheritance tax, the first thing that you must do is differentiate between gifts made to Class A beneficiaries, Class C beneficiaries and Class D beneficiaries.
Class A beneficiaries include the decedent's spouse, civil union partner, domestic partner, all lineal descendants (such as children, grandchildren and great-grandchildren), all lineal ascendants (such as parents, grandparents and great-grandparents) and step-children. An adopted child, grandchild or great-grandchild is also considered a lineal descendant. Transfers to Class A beneficiaries are exempt from the NJ inheritance tax, meaning there is no inheritance tax on deathbed gifts or transfers at death to such individuals.
Class C beneficiaries include the decedent's brother or sister and son-in-law or daughter-in-law of the decedent even if the decedent's child is also deceased. Class D beneficiaries includes everyone else (most notably nieces and nephews).
If the gift is made to a Class C Beneficiary, and the gift was over $25,000, there definitely will be a NJ inheritance tax if the gift was made "in contemplation of death". If the gift was made more than 3 years prior to the decedent passing, it will not be subject to a NJ inheritance tax.
If the gift is made to a Class D Beneficiary, and the gift was over $500, there definitely will be a NJ inheritance tax if the gift was made in contemplation of death. If the gift was made more than 3 years prior to the decedent passing, it will not be subject to a NJ inheritance tax.
If the deathbed gift is subject to the New Jersey inheritance tax, there will be a tax due of 11-16% of the transferred amount. There is an 11-16% tax on transfers to Class C beneficiaries on the gifted amount in excess of $25,000 and a 15-16% tax on the entire transfer to Class D beneficiaries if the gift is in excess of $500. The more that is transferred, the higher the rate will be.
As an example, assume I owned $5,000,000, and I gifted away $1,000,000 to my nieces and nephews four years ago, $3,500,000 to my nieces and nephews this year and then died within three years, leaving the remaining $500,000 to my two siblings. The $1,000,000 gift to my nieces and nephews would not be subject to a New Jersey inheritance tax because it was longer than three years ago. The first $700,000 of the $3,500,000 deathbed gift to my nieces and nephews would be taxed at a 15% inheritance tax rate ($105,000). The remaining $2,800,000 would be taxed at a 16% inheritance tax rate ($448,000). For the transfers to my siblings, $50,000 will pass free of taxes, and the remaining $450,000 will be taxed at an 11% inheritance tax rate ($49,500). In total, there will be a $602,500 NJ inheritance tax.
For gifts to charity in any amount and gifts of less than $500 to any person, there is an easy answer - it is not subject to an inheritance tax in New Jersey.
Regardless of what classification a beneficiary is in, there MAY BE a New Jersey estate tax and/or federal estate tax if the gift is subject to a three year lookback under the federal estate tax rules or a lifetime lookback if the gifted items are in excess of the annual exclusion amount.
Certain Transfers are Automatically Subject to a Three Year Lookback for Estate Tax Purposes
Under Section 2035 of the Internal Revenue Code there is a limited three year lookback that most significantly applies to life insurance policies transferred within three years of death.
A. Life Insurance: If you learn nothing else from this post, make sure you learn this:
Gifts in Excess of the Annual Exclusion Amount
Currently, each United States citizen and permanent resident alien can give away $13,000 to as many donees as he or she wishes. This is known as the federal annual exclusion amount or 2503(b) exclusion. Gifts in excess of the federal annual exclusion amount result in a "taxable gift". Usually there is no immediate out of pocket expense though because New Jersey does not have a gift tax and the federal government will only institute a gift tax if the sum of these gifts exceeds the lifetime exclusion amount (currently $5,000,000).
When calculating the New Jersey estate tax, we are required to look not just at what a person owned when he or she died, but also the taxable gifts that the decedent made over his or her lifetime.
In most situations, if the decedent's taxable estate, including prior taxable gifts, is in excess of the New Jersey estate tax exemption amount (currently $675,000), there will be a New Jersey estate tax. However, there is a big difference in the tax depending upon whether the decedent died with estate over the $675,000 threshhold or died with an estate under the $675,000 threshhold, but is deemed to have an estate in excess of $675,000 due to the lookback provisions.
As an example, assume I owned $5,000,000, and I gifted away $4,500,000 to my daughters and then died in 2012 as a widower, leaving the remaining $500,000 in my estate to my children. Normally, there would be no estate tax on a New Jersey estate of only $500,000, but we must add back the prior gifts. Even adding back the prior taxable gifts, it would only produce a $10,000 NJ estate tax. (To learn how this is calculated, you will need to prepare a 2001 Form 706 federal estate tax return and a New Jersey estate tax return. I will discuss this in future post, entitled "Deathbed Transfers in New Jersey - Advanced")
To realize the benefit of making this gift, you should know that if I had died with the entire $5,000,000, my estate would have to pay a $391,600 New Jersey estate tax. In years past, nobody would give away more than a $1,000,000 because that was the old lifetime gift limit for federal gift tax purposes. Any gifts above $1,000,000 were taxed at a very high gift tax rate. However, with a $5,000,000 lifetime federal gifting limit and no New Jersey gift tax, there is ample opportunity for planning to avoid or drastically reduce the New Jersey estate tax.
You should also be aware that if you do make a gift in excess of the annual exclusion amount, you should file a federal gift tax return (Form 706). If a lifetime transfer is in excess of the federal annual exclusion amount, it could lead to a federal estate tax or a federal gift tax at some future time. To minimize this possibility, you should try to structure gifts over longer periods of time and for an amount equal to or less than the annual exclusion amount. To read more about this, see my article entitled: Federal Estate and Gift Taxation of Deathbed Gifts.
The Importance of Knowing the Basis of the Gifted Item
It is important to know the basis of the property that is being gifted. If the donor is gifting cash, the basis is exactly the amount of the gift. If the donor is gifting property or stock, it may be unwise to make the deathbed gift because there could be substantial built-in capital gains.
When property is gifted away, the donee usually takes the property with a basis equal to that of the donor's basis. (For more on basis, see my post on Understanding Basis.) If the donor keeps property until his or her death, the recepient will receive the property with a new basis equal to the fair market value of that property on the date of the death. This is often referred to as a step-up in basis rule, although in this economy it may be a step-down in basis.
Let's assume I give away a real estate property worth $4,500,000 to my daughters shortly before I die to save on the New Jersey estate tax. If my basis in the property was only $1,000,000, the kids will take the property with that same basis. If my kids sell it immediately after I die for $4,500,000, there will be a 15% capital gains tax on the $3,500,000 of built in gain. This will produce a federal capital gains tax of $525,000 and probably a New Jersey income tax of $315,000. As discussed above, the New Jersey estate tax would have only been $391,600 if I had held onto the property.
Due to the carryover basis rule, it is usually best not to give away appreciated property during life. It is usually better to pay a smaller estate or inheritance tax than to risk losing the step-up in basis on the decedent's death.
Summary
In summary, large deathbed gifts are not necessarily going to be taxed after the donor passes. Whether there will be a New Jersey tax on a deathbed gift is based upon whether the transaction has occurred in the last three years, to whom the item is being gifted, the type of asset being gifted and on the size of the donor's net estate after factoring in prior gifts.
When all is said and done, even if there is a New Jersey tax (estate or inheritance), large gifts made to Class A beneficiaries prior to death and large gifts made to Class C and D beneficiaries more than three years prior to death will greatly reduce the overall estate and inheritance tax liability unless the donor is making a gift of a highly appreciated asset.
Simple, right?
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I want to give a special thank you to Martin Bearg, Esq., Rekha Rao, Esq., Rebecca Esmi, Esq., and to individuals at the New Jersey Transfer Inheritance Tax Branch (who wish to remain anonymous) for taking the time to speak with me about this and helping me to gather my thoughts.
For transfers to anyone other than a charity, making gifts in a way that minimizes taxes is actually a very complex process. In deciding whether to make a gift, you must consider the amount of the gift, the type of asset you wish to transfer, to whom it is going to and the basis in the gifted item.
Taxes That Must be Considered When Making Gifts
There are generally six taxes that might be triggered as result of the gift. These include the New Jersey estate tax, the New Jersey inheritance tax, the federal estate tax, the federal gift tax, the capital gains tax and the generation skipping transfer (GST) tax.
I discuss all of these taxes in more detail elsewhere, but to quickly review the general purpose of each tax:
- The New Jersey estate tax is imposed by the state on transfers at death to the extent the decedent's net estate exceeds $675,000 and the money passes to someone other than a charity, surviving spouse, domestic partner or civil union partner.
- The New Jersey inheritance tax is also a tax imposed on transfers at death. However, the inheritance tax is based more upon who the money is going to rather than the amount involved. New Jersey does offer a dollar for dollar credit against its estate tax for any inheritance tax paid.
- The federal estate tax is imposed by the federal government on transfers at death to the extent the decedent's estate exceeds $5,000,000 and the money passes to someone other than a charity or a surviving spouse.
- The federal gift tax is imposed by the federal government on transfers during a person's lifetime to the extent the person's lifetime gifts exceed $5,000,000 and the money is transferred to someone other than a charity or a spouse.
- The generation skipping transfer tax (also known as the GST Tax) is generally assessed by the federal government on transfers during life or at death to a person's grandchildren, or more remote descendants to the extent such transfers exceed $5,000,000.
- The capital gains tax imposed on the sale of appreciated property, stock or similar assets.
What is a Deathbed Gift?
New Jersey defines deathbed gifts as gifts made in contemplation of death (N.J.S.A. 54:34-1(c)). People usually know the deathbed gift rule as the three year lookback rule because gifts made within three years of death are presumed to be in contemplation of death. If a gift is made in contemplation of death, and the gift was over $500, then New Jersey asserts it was really a transfer at death subject to the inheritance tax.
For New Jersey tax purposes, this particular three year rule ONLY appears under the NJ inheritance tax statutes. There is a very different rule for the New Jersey estate tax because the New Jersey estate tax generally follows the federal estate tax for determining what is taxable and what is not taxable. I will discuss this in more detail below.
Since gifts made in contemplation of death are subject to an inheritance tax, and the inheritance tax only applies for transfers to certain beneficiaries, it is important to know how New Jersey classifies the beneficiaries of the gift.
Determining the Class of the Beneficiary
To determine if a lifetime gift will result in a New Jersey inheritance tax, the first thing that you must do is differentiate between gifts made to Class A beneficiaries, Class C beneficiaries and Class D beneficiaries.
Class A beneficiaries include the decedent's spouse, civil union partner, domestic partner, all lineal descendants (such as children, grandchildren and great-grandchildren), all lineal ascendants (such as parents, grandparents and great-grandparents) and step-children. An adopted child, grandchild or great-grandchild is also considered a lineal descendant. Transfers to Class A beneficiaries are exempt from the NJ inheritance tax, meaning there is no inheritance tax on deathbed gifts or transfers at death to such individuals.
Class C beneficiaries include the decedent's brother or sister and son-in-law or daughter-in-law of the decedent even if the decedent's child is also deceased. Class D beneficiaries includes everyone else (most notably nieces and nephews).
If the gift is made to a Class C Beneficiary, and the gift was over $25,000, there definitely will be a NJ inheritance tax if the gift was made "in contemplation of death". If the gift was made more than 3 years prior to the decedent passing, it will not be subject to a NJ inheritance tax.
If the gift is made to a Class D Beneficiary, and the gift was over $500, there definitely will be a NJ inheritance tax if the gift was made in contemplation of death. If the gift was made more than 3 years prior to the decedent passing, it will not be subject to a NJ inheritance tax.
If the deathbed gift is subject to the New Jersey inheritance tax, there will be a tax due of 11-16% of the transferred amount. There is an 11-16% tax on transfers to Class C beneficiaries on the gifted amount in excess of $25,000 and a 15-16% tax on the entire transfer to Class D beneficiaries if the gift is in excess of $500. The more that is transferred, the higher the rate will be.
As an example, assume I owned $5,000,000, and I gifted away $1,000,000 to my nieces and nephews four years ago, $3,500,000 to my nieces and nephews this year and then died within three years, leaving the remaining $500,000 to my two siblings. The $1,000,000 gift to my nieces and nephews would not be subject to a New Jersey inheritance tax because it was longer than three years ago. The first $700,000 of the $3,500,000 deathbed gift to my nieces and nephews would be taxed at a 15% inheritance tax rate ($105,000). The remaining $2,800,000 would be taxed at a 16% inheritance tax rate ($448,000). For the transfers to my siblings, $50,000 will pass free of taxes, and the remaining $450,000 will be taxed at an 11% inheritance tax rate ($49,500). In total, there will be a $602,500 NJ inheritance tax.
For gifts to charity in any amount and gifts of less than $500 to any person, there is an easy answer - it is not subject to an inheritance tax in New Jersey.
Regardless of what classification a beneficiary is in, there MAY BE a New Jersey estate tax and/or federal estate tax if the gift is subject to a three year lookback under the federal estate tax rules or a lifetime lookback if the gifted items are in excess of the annual exclusion amount.
Certain Transfers are Automatically Subject to a Three Year Lookback for Estate Tax Purposes
Under Section 2035 of the Internal Revenue Code there is a limited three year lookback that most significantly applies to life insurance policies transferred within three years of death.
A. Life Insurance: If you learn nothing else from this post, make sure you learn this:
- If a decedent OWNS a life insurance policy insuring his or her own life, the entire death benefit is subject to both the New Jersey estate tax AND the federal estate tax. Many people assume life insurance proceeds are tax free. While this is true for income tax, it is not true for estate tax. The only relief is if the beneficiary is a charity, a surviving spouse, a civil union partner or domestic partner because then the estate may be entitled to a deduction;
- If the decedent transferred OWNERSHIP of the policy on his life to another party within three years of death, the 2035 rule kicks in and it is considered a taxable deathbed gift.
Gifts in Excess of the Annual Exclusion Amount
Currently, each United States citizen and permanent resident alien can give away $13,000 to as many donees as he or she wishes. This is known as the federal annual exclusion amount or 2503(b) exclusion. Gifts in excess of the federal annual exclusion amount result in a "taxable gift". Usually there is no immediate out of pocket expense though because New Jersey does not have a gift tax and the federal government will only institute a gift tax if the sum of these gifts exceeds the lifetime exclusion amount (currently $5,000,000).
When calculating the New Jersey estate tax, we are required to look not just at what a person owned when he or she died, but also the taxable gifts that the decedent made over his or her lifetime.
In most situations, if the decedent's taxable estate, including prior taxable gifts, is in excess of the New Jersey estate tax exemption amount (currently $675,000), there will be a New Jersey estate tax. However, there is a big difference in the tax depending upon whether the decedent died with estate over the $675,000 threshhold or died with an estate under the $675,000 threshhold, but is deemed to have an estate in excess of $675,000 due to the lookback provisions.
As an example, assume I owned $5,000,000, and I gifted away $4,500,000 to my daughters and then died in 2012 as a widower, leaving the remaining $500,000 in my estate to my children. Normally, there would be no estate tax on a New Jersey estate of only $500,000, but we must add back the prior gifts. Even adding back the prior taxable gifts, it would only produce a $10,000 NJ estate tax. (To learn how this is calculated, you will need to prepare a 2001 Form 706 federal estate tax return and a New Jersey estate tax return. I will discuss this in future post, entitled "Deathbed Transfers in New Jersey - Advanced")
To realize the benefit of making this gift, you should know that if I had died with the entire $5,000,000, my estate would have to pay a $391,600 New Jersey estate tax. In years past, nobody would give away more than a $1,000,000 because that was the old lifetime gift limit for federal gift tax purposes. Any gifts above $1,000,000 were taxed at a very high gift tax rate. However, with a $5,000,000 lifetime federal gifting limit and no New Jersey gift tax, there is ample opportunity for planning to avoid or drastically reduce the New Jersey estate tax.
You should also be aware that if you do make a gift in excess of the annual exclusion amount, you should file a federal gift tax return (Form 706). If a lifetime transfer is in excess of the federal annual exclusion amount, it could lead to a federal estate tax or a federal gift tax at some future time. To minimize this possibility, you should try to structure gifts over longer periods of time and for an amount equal to or less than the annual exclusion amount. To read more about this, see my article entitled: Federal Estate and Gift Taxation of Deathbed Gifts.
The Importance of Knowing the Basis of the Gifted Item
It is important to know the basis of the property that is being gifted. If the donor is gifting cash, the basis is exactly the amount of the gift. If the donor is gifting property or stock, it may be unwise to make the deathbed gift because there could be substantial built-in capital gains.
When property is gifted away, the donee usually takes the property with a basis equal to that of the donor's basis. (For more on basis, see my post on Understanding Basis.) If the donor keeps property until his or her death, the recepient will receive the property with a new basis equal to the fair market value of that property on the date of the death. This is often referred to as a step-up in basis rule, although in this economy it may be a step-down in basis.
Let's assume I give away a real estate property worth $4,500,000 to my daughters shortly before I die to save on the New Jersey estate tax. If my basis in the property was only $1,000,000, the kids will take the property with that same basis. If my kids sell it immediately after I die for $4,500,000, there will be a 15% capital gains tax on the $3,500,000 of built in gain. This will produce a federal capital gains tax of $525,000 and probably a New Jersey income tax of $315,000. As discussed above, the New Jersey estate tax would have only been $391,600 if I had held onto the property.
Due to the carryover basis rule, it is usually best not to give away appreciated property during life. It is usually better to pay a smaller estate or inheritance tax than to risk losing the step-up in basis on the decedent's death.
Summary
In summary, large deathbed gifts are not necessarily going to be taxed after the donor passes. Whether there will be a New Jersey tax on a deathbed gift is based upon whether the transaction has occurred in the last three years, to whom the item is being gifted, the type of asset being gifted and on the size of the donor's net estate after factoring in prior gifts.
When all is said and done, even if there is a New Jersey tax (estate or inheritance), large gifts made to Class A beneficiaries prior to death and large gifts made to Class C and D beneficiaries more than three years prior to death will greatly reduce the overall estate and inheritance tax liability unless the donor is making a gift of a highly appreciated asset.
Simple, right?
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I want to give a special thank you to Martin Bearg, Esq., Rekha Rao, Esq., Rebecca Esmi, Esq., and to individuals at the New Jersey Transfer Inheritance Tax Branch (who wish to remain anonymous) for taking the time to speak with me about this and helping me to gather my thoughts.
Sunday, October 3, 2010
New Jersey Estate Tax
New Jersey has many different types of taxes, including two different taxes on death: the NJ Estate Tax and the NJ inheritance tax. The New Jersey estate tax is a tax on transfers at death and certain transfers in contemplation of death.
Transfers to charities, a surviving spouse or a surviving Civil Union partner are exempt from the NJ estate tax. Transfers to anyone else are taxable to the extent that the transfer exceeds $675,000. New Jersey never does anything in a simple manner, and it does not technically offer a $675,000 exemption from the estate tax. NJ actually exempts the first $60,000 of transfer and then taxes the next $615,000 at 0%. The effect of this is that the first $675,000 can almost always pass to whomever you want tax free.
Each New Jersey resident is entitled to the NJ estate tax exemption. Accordingly, married couples and Civil Union couples can double the amount that they pass on to their children with proper planning. (This usually involves setting up a bypass trust for the surviving partner or spouse rather than leaving them money outright.)
The New Jersey estate tax is a progressive tax, meaning that the more you pass on, the higher the tax rate. The NJ estate tax rate generally varies from 0% to 16% depending upon the amount of the transfer. The major exception is that for the first $52,175 over $675,000, there is a 37% tax. For a detailed breakdown of the tax rates, see page 10 of the NJ Estate Tax Return.
New Jersey offers two different method of calculating the state estate tax on the NJ Estate Tax Return: the 706 method and the so called "Simplified Method". The Simplified Method allows the executor or administrator of the estate to avoid filing a 2001 version of the federal estate return, but it often results in a higher tax. For this reason, it is often advisable to hire a competent estate planning attorney to minimize this tax liability.
A decedent's estate can be subject to both the NJ estate and inheritance taxes. New Jersey does offer some relief if an estate is subject to both taxes. For example, if a person with $1,000,000 dies and leaves the entire amount to her nephew, this transfer would be subject to both taxes. A transfer of one million dollars in normally subject to a $33,200 New Jersey estate tax. A transfer of this amount though is also subject to a $150,000 New Jersey inheritance tax. In such an instance, New Jersey would only collect only the higher tax, the 15% inheritance tax in this case.
The NJ estate tax is due within 9 months from the date of the decedent's death. This is different than the NJ inheritance tax, which is due within 8 months from the date of the decedent's death.
The NJ estate tax should not be confused with the federal estate tax. Unless Congress acts to extend the repeal of the federal estate tax (which I think to be highly unlikely), the United States will have a separate and additional tax on death.
Transfers to charities, a surviving spouse or a surviving Civil Union partner are exempt from the NJ estate tax. Transfers to anyone else are taxable to the extent that the transfer exceeds $675,000. New Jersey never does anything in a simple manner, and it does not technically offer a $675,000 exemption from the estate tax. NJ actually exempts the first $60,000 of transfer and then taxes the next $615,000 at 0%. The effect of this is that the first $675,000 can almost always pass to whomever you want tax free.
Each New Jersey resident is entitled to the NJ estate tax exemption. Accordingly, married couples and Civil Union couples can double the amount that they pass on to their children with proper planning. (This usually involves setting up a bypass trust for the surviving partner or spouse rather than leaving them money outright.)
The New Jersey estate tax is a progressive tax, meaning that the more you pass on, the higher the tax rate. The NJ estate tax rate generally varies from 0% to 16% depending upon the amount of the transfer. The major exception is that for the first $52,175 over $675,000, there is a 37% tax. For a detailed breakdown of the tax rates, see page 10 of the NJ Estate Tax Return.
New Jersey offers two different method of calculating the state estate tax on the NJ Estate Tax Return: the 706 method and the so called "Simplified Method". The Simplified Method allows the executor or administrator of the estate to avoid filing a 2001 version of the federal estate return, but it often results in a higher tax. For this reason, it is often advisable to hire a competent estate planning attorney to minimize this tax liability.
A decedent's estate can be subject to both the NJ estate and inheritance taxes. New Jersey does offer some relief if an estate is subject to both taxes. For example, if a person with $1,000,000 dies and leaves the entire amount to her nephew, this transfer would be subject to both taxes. A transfer of one million dollars in normally subject to a $33,200 New Jersey estate tax. A transfer of this amount though is also subject to a $150,000 New Jersey inheritance tax. In such an instance, New Jersey would only collect only the higher tax, the 15% inheritance tax in this case.
The NJ estate tax is due within 9 months from the date of the decedent's death. This is different than the NJ inheritance tax, which is due within 8 months from the date of the decedent's death.
The NJ estate tax should not be confused with the federal estate tax. Unless Congress acts to extend the repeal of the federal estate tax (which I think to be highly unlikely), the United States will have a separate and additional tax on death.
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