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Estate tax

Estate tax is a federal tax levied on the death of individuals with large estates.

Expanded Definition

For the estate tax purposes the estate is the total value of all assets of the deceased including IRA, Roth IRA, 401(k) and similar tax preferenced accounts and most life insurance benefits, unless the insurance is held by a properly structured trust (often referred to as an Irrevocable Life Insurance Trust, or "ILIT"). Note that assets included in the taxable estate may be much different from assets included in the probate estate. For example, the tax preferenced accounts referenced above will usually pass by law and thus be outside of the probate estate, but will be included in the taxable estate.

Federal estate tax law is complex in that the current rates enacted with the Bush tax cuts expire in 2011. Under that law, the Federal exemption is $2MM in '08 and $3.5MM in '09, the tax is eliminated in '10, and then reverts to the old law ($1MM exemption) in 2011.

For those with estates over the exemption, a variety of trusts can be used to protect assets from the tax. Married couples can double the exemption amount using an AB by-pass trust. Books in your local library can provide details on many of these. You will usually need the services of an attorney to set up a trust.

The Bush tax cuts are often under discussion in politics. Some would like to make elimination of the estate tax (i.e., the death tax) permanent, or might compromise on an extension of the current law for another five years. Others want to allow the Bush tax cuts to expire, and might enact other modifications of the estate tax law. Currently, there are two main proposals circulating in Congress. One would effectively extend the 2009 law, keeping a $3.5MM personal exemption for all years after 2009 as well as the 45% tax rate. This proposal is supported by the administration. The other proposal would expand the personal exemption to $5MM and likely reduce the tax rate slightly. There are other technical details in these proposals that would impact more complex estate planning strategies. This makes decisions on an estate plan difficult at this time.

Most states have their own estate taxes, usually called inheritance tax. Rates vary, but are often tied to the old "state death tax credit".

In some states probate costs can be high, as much as 5% of estate value. Revocable living trusts are often used to avoid probate and to keep details of the estate from becoming a public record at the county courthouse. They do not reduce Federal estate taxes.

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