Estate Tax Rate

[shepherd]

Hi,

I may be oversimplifying but if someone is in the 35% or 37% tax bracket for life and lives in a state with a 6% tax rate (but not estate tax). Wouldn't it be cheaper to just pay the estate tax as opposed to converting Traditional to Roth if the estate is/will be above the estate tax limit?

The situation is that my mom is in this situation and we will try to keep the estate below the limit through gifting to family and charity but it may become difficult. Roth seems like a reasonable tactic to reduce the estate and make it more useful for heirs but may end up overpaying for taxes right?

Other ideas aside from GRAT, FLP, etc?

Thanks.

[oktax]

Traditional and Roth accounts are included in a decedent’s estate for estate tax purposes. Converting to Roth only impacts the income tax consequences of distributions taken by the decedent’s beneficiaries.

[senex]

The Roth decision isn't as simple as it sounds. Say exemption is 11M, she has 14M taxable + 1M trad ira.

No conversion: estate tax approx 1.6M (ignoring the small graduations). Heirs pay their ordinary tax rates on the IRA withdrawals.
Convert: 400k income tax today. Estate tax approx 1.44M. Heirs pay no additional tax on Roth withdrawals.

In that case, conversion today is better if heir's ordinary tax rate is above about 24%.


Other strategies depend on how far over the limit she is, and how much time she has. The easiest, by far, is gifting (including paying med & school bills directly, which has no dollar limit). But that only goes so far.

A good summary doc, a bit old, but still mostly relevant, is here: https://www.alliancebernstein.com/Resea ... igenBB.pdf

[FIREchief]

Traditional and Roth accounts are included in a decedent’s estate for estate tax purposes. Converting to Roth only impacts the income tax consequences of distributions taken by the decedent’s beneficiaries.

Converting to Roth consumes money, thus reducing the size of the estate.

[shess]

Hi,

I may be oversimplifying but if someone is in the 35% or 37% tax bracket for life and lives in a state with a 6% tax rate (but not estate tax). Wouldn't it be cheaper to just pay the estate tax as opposed to converting Traditional to Roth if the estate is/will be above the estate tax limit?

The situation is that my mom is in this situation and we will try to keep the estate below the limit through gifting to family and charity but it may become difficult. Roth seems like a reasonable tactic to reduce the estate and make it more useful for heirs but may end up overpaying for taxes right?

Other ideas aside from GRAT, FLP, etc?

Have you run the numbers? AFAICT, paying taxes now is more expensive if she dies with <$12.08M, but less expensive if she dies leaving more than that. Personally, if I were in that range, I wouldn't be pulling in family members to try to figure it out via Internet forums. I'd just splash out a few thousand dollars on an estate-tax attorney and see what strategies they can lay out.

Also, keep in mind that Roth conversion shifts a tax burden from the heirs to the estate (effectively). For the estate purposes, the issues of shifting the taxes around is pretty bloodless, it's not going to impact daily life much. But for an individual heir, receiving an IRA with a ticking 10-year tax bill might be pretty annoying. Don't get me wrong, I don't think heirs should get pissy about such a thing, just that it's an opportunity to simplify something up front.

Also, just in case it matters, I believe that if you gift appreciated shares of stock, it's your basis that is used in calculating how much. If you have highly-appreciated shares, you can shift a lot out of your portfolio while still staying under the yearly gifting limits, the only cost being that the giftee receives your basis (and thus a tax bill). Versus receiving those shares from the estate with a basis step-up, but the estate pays estate tax.

[shepherd]

Thanks for the responses. We used an estate attorney a few years ago and I left underwhelmed by the experience. $12k and some boilerplate documents later we had settled the estate and had a trust set up. Same with the accountant we used. Neither seemed willing/able to dig into the details to determine best course of action. Will most likely try again however.

[shess]

Thanks for the responses. We used an estate attorney a few years ago and I left underwhelmed by the experience. $12k and some boilerplate documents later we had settled the estate and had a trust set up. Same with the accountant we used. Neither seemed willing/able to dig into the details to determine best course of action. Will most likely try again however.

Hmm. I'm sorry that was your experience. Sometimes they pick up on the desire for something simple and disengage, because it's not as lucrative. I know one of our experiences with an estate-tax planner was they were full on playing out situations like what if these people die at the same time those people can't do this and ... and we were like "*Shrug*? At some point, [expletive removed by moderator oldcomputerguy] happens and we don't want to be second-guessing six-deep scenarios." Perhaps they will be more useful if you can ask them specific questions, so they're saying "Here's why that's a bad idea" rather than "Here are some good ideas". Of course, generating such ideas if the forte of Internet forums .

[illumination]

I can't see any plausible scenario where it's cheaper to pay the Estate Tax.

If she's in the Estate Tax territory, I would think starting IRA to Roth IRA conversions would be a good place to start, especially if heirs are likely going to be be pushed to the highest tax brackets. That can be an enormous savings for everyone involved.

You can also sometimes make a case for the current estate to sell securities and pay capital gains now instead of letting the cost basis reset upon death since the capital gains tax rate is less than the Estate Tax. So for instance, if you were $1000 over the Estate Limit, it's better to pay some capital gains taxes now that cost the estate $1000 and get it under that limit than go over and face a 40% off the top.

Maxing out gifting to lots of eventual heirs and making big 529 contributions (where you can do 5 years of gifting combined into a single year) are another strategy.

A lot of this though can be hard to convince someone to do, paying more taxes and giving everything away is harder when you're above ground.

[TomatoTomahto]

Traditional and Roth accounts are included in a decedent’s estate for estate tax purposes. Converting to Roth only impacts the income tax consequences of distributions taken by the decedent’s beneficiaries.

Converting to Roth consumes money, thus reducing the size of the estate.

I refer to this as “estate cramming.” It’s not such a nice sounding phrase, but it means that I can, everything else equal, transfer more value to beneficiaries (assuming that we are above the exclusion limits).

[BestCoast123]

Can also consider making gifts above the annual exclusion and paying the gift tax. If you really are at the margin you could get a lttle bit more out of the estate.

[TomatoTomahto]

Can also consider making gifts above the annual exclusion and paying the gift tax. If you really are at the margin you could get a lttle bit more out of the estate.

You do not pay gift tax for being above the annual exclusion. Taxes don’t begin until after the lifetime exclusion.

[BestCoast123]

Can also consider making gifts above the annual exclusion and paying the gift tax. If you really are at the margin you could get a lttle bit more out of the estate.

You do not pay gift tax for being above the annual exclusion. Taxes don’t begin until after the lifetime exclusion.

Unless you elect to pay them and not use up the exclusion. You could pay gift tax on $150k / yr and only be at the 30% marginal gift tax rate. If you're going to be subject to the gift tax it'd be away to get a little bit out of the estate each year at a lower marginal gift tax rate.

https://www.policygenius.com/taxes/guide-to-gift-tax/

[BestCoast123]

Can also consider making gifts above the annual exclusion and paying the gift tax. If you really are at the margin you could get a lttle bit more out of the estate.

You do not pay gift tax for being above the annual exclusion. Taxes don’t begin until after the lifetime exclusion.

Unless you elect to pay them and not use up the exclusion. You could pay gift tax on $150k / yr and only be at the 30% marginal gift tax rate. If you're going to be subject to the gift tax it'd be away to get a little bit out of the estate each year at a lower marginal gift tax rate.

https://www.policygenius.com/taxes/guide-to-gift-tax/

But if you have the liquidity to do this, you'd be better off doing rolling short-term GRATS...

[TomatoTomahto]

Can also consider making gifts above the annual exclusion and paying the gift tax. If you really are at the margin you could get a lttle bit more out of the estate.

You do not pay gift tax for being above the annual exclusion. Taxes don’t begin until after the lifetime exclusion.

Unless you elect to pay them and not use up the exclusion. You could pay gift tax on $150k / yr and only be at the 30% marginal gift tax rate. If you're going to be subject to the gift tax it'd be away to get a little bit out of the estate each year at a lower marginal gift tax rate.

https://www.policygenius.com/taxes/guide-to-gift-tax/

Live and learn.

[FIREchief]

Can also consider making gifts above the annual exclusion and paying the gift tax. If you really are at the margin you could get a lttle bit more out of the estate.

You do not pay gift tax for being above the annual exclusion. Taxes don’t begin until after the lifetime exclusion.

Unless you elect to pay them and not use up the exclusion. You could pay gift tax on $150k / yr and only be at the 30% marginal gift tax rate. If you're going to be subject to the gift tax it'd be away to get a little bit out of the estate each year at a lower marginal gift tax rate.

https://www.policygenius.com/taxes/guide-to-gift-tax/

Live and learn.

Interesting! How could I have hung around this forum for years and never heard about this??

[FIREchief]

Traditional and Roth accounts are included in a decedent’s estate for estate tax purposes. Converting to Roth only impacts the income tax consequences of distributions taken by the decedent’s beneficiaries.

Converting to Roth consumes money, thus reducing the size of the estate.

I refer to this as “estate cramming.” It’s not such a nice sounding phrase, but it means that I can, everything else equal, transfer more value to beneficiaries (assuming that we are above the exclusion limits).

LOL. I like that. It's probably as good a term as any.... We have "bunching" in a few contexts. Probably nothing wrong with some cramming to go along with it.

[TomatoTomahto]

Can also consider making gifts above the annual exclusion and paying the gift tax. If you really are at the margin you could get a lttle bit more out of the estate.

You do not pay gift tax for being above the annual exclusion. Taxes don’t begin until after the lifetime exclusion.

Unless you elect to pay them and not use up the exclusion. You could pay gift tax on $150k / yr and only be at the 30% marginal gift tax rate. If you're going to be subject to the gift tax it'd be away to get a little bit out of the estate each year at a lower marginal gift tax rate.

https://www.policygenius.com/taxes/guide-to-gift-tax/

Live and learn.

Interesting! How could I have hung around this forum for years and never heard about this??

Yeah, I’m going to have to look into this some more. I’ll ask our estate attorney. There’s gotta be a catch.

[bob1234]

Would Income in respect of a decedent (IRD) apply for the traditional IRA that was passed down?

Also, since the estate tax exemption is scheduled to go down in a few years, does the lifetime gift exemption apply to when the gift was made or at time of death? For example, if you gift $10M this year, then the exemption goes down to say $6M at time of death, would there be any clawback of the extra $4M?

[BestCoast123]

You do not pay gift tax for being above the annual exclusion. Taxes don’t begin until after the lifetime exclusion.

Unless you elect to pay them and not use up the exclusion. You could pay gift tax on $150k / yr and only be at the 30% marginal gift tax rate. If you're going to be subject to the gift tax it'd be away to get a little bit out of the estate each year at a lower marginal gift tax rate.

https://www.policygenius.com/taxes/guide-to-gift-tax/

Live and learn.

Interesting! How could I have hung around this forum for years and never heard about this??

Yeah, I’m going to have to look into this some more. I’ll ask our estate attorney. There’s gotta be a catch.

The catch is that using GRATS is a better strategy. So no one would ever recommend the above unless someone was irrationally averse to GRATS or other estate planning.

[shepherd]

So are rolling GRATs a better strategy than Roth conversions or should they be used in addition to?

Also, back to my original question - isn't federal + state higher than estate tax rate once you are locked in at 35% plus thus making Roth conversions less attractive? What am I missing?

[senex]

Also, back to my original question - isn't federal + state higher than estate tax rate once you are locked in at 35% plus thus making Roth conversions less attractive? What am I missing?

See the example in my post above.

Income tax must be paid on the IRA -- either now, at Mom's rates, or later, at heir's rates.
Estate tax must be paid on the IRA balance, too, whether you convert or not. And the balance is lower after conversion. Thus the common bias toward converting.

Strictly speaking, it depends on heir's tax bracket. See my example above or work through one yourself.

[MarkNYC]

Can also consider making gifts above the annual exclusion and paying the gift tax. If you really are at the margin you could get a lttle bit more out of the estate.

You do not pay gift tax for being above the annual exclusion. Taxes don’t begin until after the lifetime exclusion.

Unless you elect to pay them and not use up the exclusion. You could pay gift tax on $150k / yr and only be at the 30% marginal gift tax rate. If you're going to be subject to the gift tax it'd be away to get a little bit out of the estate each year at a lower marginal gift tax rate.

https://www.policygenius.com/taxes/guide-to-gift-tax/

Application of the lifetime exclusion/credit against taxable gifts is mandatory - not optional. (see Form 709 instructions)

[BestCoast123]

Can also consider making gifts above the annual exclusion and paying the gift tax. If you really are at the margin you could get a lttle bit more out of the estate.

You do not pay gift tax for being above the annual exclusion. Taxes don’t begin until after the lifetime exclusion.

Unless you elect to pay them and not use up the exclusion. You could pay gift tax on $150k / yr and only be at the 30% marginal gift tax rate. If you're going to be subject to the gift tax it'd be away to get a little bit out of the estate each year at a lower marginal gift tax rate.

https://www.policygenius.com/taxes/guide-to-gift-tax/

Application of the lifetime exclusion/credit against taxable gifts is mandatory - not optional. (see Form 709 instructions)

Thanks. Makes sense.