The Basics of MA Taxation and the Magic of Trusts

Massachusetts and the federal government impose estate taxation at death. The tax owed is based upon the total of lifetime gifts plus the value of the estate at time of death. The beneficiaries pay the tax. This article discusses techniques to reduce the Massachusetts estate tax bill.

 

At the first death of a married couple, no estate taxes are owed by the surviving spouse. The taxes are deferred until the second death. For an unmarried person, no taxes are owed if the total of lifetime gifts plus the value of the estate at time of death is less than $1 million.  The estate assets include life insurance, retirement funds, all bank accounts, Massachusetts real estate and out of state rental property. It does not matter if the assets were probated or not. They are all in the pot, except for non-rental out of state real estate.

 

Because Massachusetts does not have a gift tax, serious life-time gifting reduces the estate tax imposed upon the beneficiaries. The estate tax table is graduated. The higher the value of estate assets, the higher the tax percentage imposed. Here are some examples showing the benefit of serious life-time gifting: 1) no gifts and #1.6 million estate, the estate will owe $70,800.

2) $300,000 lifetime gifts plus a date of death value of $1.3 million, results in a tax of $51,600.

3) $800,000 gifts and $800,000 estate, the estate will owe $22,800.

 

Many of my clients ask about the $15,000 per beneficiary per year gift rule. This is called the annual exclusion. This number is indexed for inflation and goes up $1,000 at a time every few years. This is a federal rule. Massachusetts has no gift tax. If a person gifts more than the annual exclusion to any one person per year, a federal gift tax return must be filed. No federal gift taxes are imposed on lifetime gifts under $11.7 mil for an unmarried person and $23.4 mil for a couple. For most people, the federal gift tax return is filed, but no gift taxes are owed.

 

In addition to serious gifting, a married couple can sign a trust. I prefer a joint revocable trust. Without a trust, let’s say the couple’s combined assets total $2 mil. Because all of the assets are jointly titled or payable on death to the surviving spouse, at the death of the first spouse, Mr. Green, the surviving spouse, Mrs. Green, owns $2 mil. When Mrs. Green passes away, her estate owns $2mil, and her three children owe $100,000 in Massachusetts estate taxes.

 

Alternatively, if Mr. and Mrs. Green signed a joint trust and funded it with their $2 mil, Mrs. Green will not own Mr. Green’s half when Mr. Green passes away; the trust owns it. The trust allows us to take ½ the trust assets, $1 mil, off the chopping block, free from estate taxation. Mrs. Green keeps her $1mil and by serious gifting (or by spending to keep her estate below $1mil), she could get the estate taxes to zero when she passes away. Mrs. Green does not lose control over Mr. Green’s trust assets because Mrs. Green is the trustee of both halves of the trust. In other words, she has access to all of the $2mil.

 

This process does not happen automatically. There are three key steps: 1) sign the trust; 2) at the first death, divide the assets in half and place them in the name of Mr. Green’s Irrevocable Trust. Mr. Green’s ½ of the trust becomes irrevocable at his death. At Mr. Green’s death, a CPA may recommend that an estate tax return be filed, but there will be no estate taxes owed; and, 3) I recommend that Mrs. Green keep an eye on the value of her estate and does gifting/spending if her assets exceed $1mil. At Mrs. Green’s death, if the total of lifetime gifts plus the value of her estate is less than $1 million, the estate taxes are zero! It’s a beautiful thing!

 

A note of warning: A gift can trigger a capital gains tax issue. For example, 20 years ago the Greens paid $100,000 for stock now worth $200,000. If the Greens give this stock to Suzy, Suzy acquires the Greens’ basis of $100,000. When Suzy sells the stock later for $220,000, Suzy must pay the capital gains taxes on the profit of $120,000.  Check with a financial advisor or accountant before gifting.