Reducing Estate Taxes


Reducing Estate Taxes

In 2016, the amount of your taxable estate above $5,450,000 is subject to estate taxes at a rate of approximately 40%. For example, if you die with an estate of $2,500,000, $1,000,000 will be subject to estate taxes.

Below we discuss:

  • The core terms of estate tax planning
  • Basic techniques for reducing your estate taxes

Even though the goal of reducing taxes is straightforward, remember that implementing a more sophisticated estate tax-planning techniques requires the assistance of an attorney.

Basic Terms

Unified credit exemption

This refers to maximum amount of assets the IRS allows a tax payer to transfer tax-free during life or at death. Currently the unified credit is $5,000,000 for 2016.

Unlimited marital transfer
The IRS allows spouses who are both U.S. citizens to transfer unlimited amounts of assets to one another tax-free. Special rules apply to non-U.S. citizen spouses.

Gift limits
The IRS allows a person to give an unlimited number of gifts of up to $14,000 annually, without using their unified credit exemption.

Basic Estate Tax Planning Techniques

The following techniques form the cornerstones of most estate tax planning.

Credit shelter trust

This type of trust, also know as a bypass trust or an exemption trust, is probably the single most effective estate planning tactic you can use. This common technique encourages couples take advantage of both spouses’ unified credit exemption (instead of just one spouse).

Upon the death of a spouse, if his or her assets are simply shifted to the surviving spouse, you lose the opportunity to use that spouse’s unified credit exemption. With a credit shelter trust, a couple can transfer up to $5,400,000 tax-free, rather than just $5,000,000 and save at least hundreds of thousands of dollars in estate taxes.

When you create a credit shelter trust, you:

  • Create a trust that takes advantage of your unified credit tax exemption.
  • Name the beneficiary (often your spouse) who can receive income from the trust.
  • Name the final beneficiaries for the trust.
  • Transfer the assets to the final beneficiaries tax-free. Even if your spouse is the income beneficiary, it will not count as part of their estate.

Qualified terminable interest property trust (QTIP)

These trusts are often used to complement credit shelter trusts. Combined with a bypass trust, the QTIP has the potential to eliminate all estate taxes upon the death of the first spouse. Many people pair the QTIP with a bypass trust, a combination that estate planners call an A-B trust arrangement.

The QTIPs are a specialized–and tax-advantaged–way of taking advantage of the unlimited marital transfer of assets. Here’s how they work:

  • You transfer assets into a QTIP that’s part of your spouse’s estate.
  • You get to name the final beneficiaries of that trust.
  • While your spouse is alive, he or she receives the income generated by this trust.
  • Upon your spouse’s death, the assets pass to the final beneficiaries.

By shifting assets to a spouse whose taxable estate is lower than yours (or whose taxable estate is lower than the unified credit exemption limit), you can reduce or eliminate the estate taxes that the two of you will pay.

QTIPs are now more attractive than ever because the unified credit exemption is currently $5,000,000. The longer that your spouse outlives you, the more likely that delaying paying estate taxes will pay off because the estate tax limit is increasing.


After taking advantage of your unified credit exemption, gifting is one of the most effective (and easiest) ways to reduce the size of your taxable estate.

The annual $14,000 exclusion is an effective way to reduce the size of your estate (married couples can give $28,000). Each year, you can give $14,000 to as many people as you wish without incurring transfer tax. For example, for a $2 million estate, if you were to give $28,000 every year to your two children, their spouses, and your four grandchildren, you would cut the size of your estate in no time.

Beyond this $14,000 limit, a person can “gift” an unlimited amount for tuition and medical expenses. An important note: in order for this gift not to count against your unified credit exemption, you must pay the school or healthcare provider directly.

Giving more than $14,000

Giving away assets before death (instead of after) can make financial sense.

If you have an asset whose value you expect to appreciate rapidly (homes are a classic example), it may be a good idea to gift it before its value appreciates and consumes an even larger portion out of your unified credit exemption.

Once you have passed the unified credit exemption limit, giving gifts makes even more sense because the effective tax rate on gifts is lower than on an estate. Gift tax is calculated like a sales tax; the amount of the gift is multiplied by the tax. Estate taxes, however, are levied on the entire estate, including the money you send the IRS to pay those very estate taxes.

Giving to charitable organizations

When you give cash or assets that you have held for longer than a year to charity, you can deduct from your taxes the appreciated value of the assets (not your original costs), translating to potentially substantial tax savings.

For example, if you give a charity $50,000 in stock that cost $7,000, you can take a $50,000 deduction.

Charitable remainder trust

Charitable remainder trusts are very effective estate planning vehicles. Because of their rather sophisticated structure, they require the help of a professional. Very simply, this is how they work:

  • You gift assets into a charitable trust, which is irrevocable.
  • You can take a tax deduction on the gift that will pass to charity at the end of the trust term; the amount is discounted at a predetermined rate.
  • The charitable trust pays you a certain amount for a predetermined amount of time.
  • At the end of the term of the trust or at your death, the remaining principal in the trust goes to the charity of your choice.

Why do this? By creating a charitable remainder trust, you can reduce capital gains taxes and other taxes you would incur by either selling those assets or keeping them as part of your estate. This way, you enjoy some income from these assets and give them to charity at the end of the trust term.