My wife and I are in our late 60's. We live in Massachusetts which has a $1M estate tax exemption (w/o portability) and a progressive estate tax that tops out at 16%. We have two unmarried independent adult children. We greatly appreciate simplicity in our financial affairs and would prefer to not have to deal with irrevocable trusts. We will not pay any federal estate tax even if the current amounts are halved at the end of 2025. We hold much of our portfolio in traditional IRAs.
Part of the standard estate planning approach would be for us each to have a bypass trust in place so that the first to die would put $1M into a bypass trust and thus “preserve” their MA estate tax exemption upon their death. These trusts typically have the surviving spouse as the beneficiary with any remainder going to the children upon the death of the second spouse.
We prefer not to set up (nor have the surviving spouse have to deal with) such bypass trusts. What we plan to do is for the surviving spouse to disclaim $1M from the deceased spouse’s traditional IRA so that it is divided evenly between our two children in separate inherited traditional IRAs. We can comfortably afford to do this under any circumstances that we can currently foresee.
Advantages of this plan include:
- No cost to set up – simply use the proper beneficiary designation on our traditional IRAs.
- The full amount of the MA estate exemption is utilized.
- There is no bypass trust, no need to file trust income taxes each year, generate K-1 forms, etc.
- The surviving spouse need not disclaim if unforeseen circumstances have arisen. And the plan can be altered up to the death of the first spouse.
- Our children receive a meaningful amount of inheritance earlier than they would if both parents had to pass before there was any inheritance.
- The surviving spouse gets a good idea of how the children deal with the funds as they are distributed from the inherited IRAs over the required 10-year distribution period.
- The children start a 10-year IRA distribution period for these funds that is separate from (but may end up overlapping with) the one that will be triggered by the death of the second spouse.
- This would lower the RMDs required of the surviving spouse just at the time when the survivor’s income tax rate will be increasing as they begin to file taxes as a Single.
- There is no “loss of the step up basis” that would occur if appreciated assets were gifted to children by a living parent.
There is a proposal to double the MA estate tax exemption, and this might cause a rethink if it came to pass. But who knows what the MA legislature will actually do in the future?
For us, this plan appears to have a number of advantages and little downside under current tax laws. It does require that the surviving spouse be competent and willing to follow through with this planning. Obviously the timing of the plan is a complete unknown, but such is the lot of estate planning in general.
Comments, criticisms, suggestions?