As a CPA and an estate planning attorney, respectively, my fiancé and I often find our dinner conversations circling back to the topic of taxes. Exciting stuff, I know. But in our careers, it’s very helpful to pick each other’s brains and learn about our overlapping fields, especially because one of the primary concerns my clients have is the issue of taxes.
As Benjamin Franklin famously stated, “In this world nothing can be said to be certain, except death and taxes.” Taxes mean less money for us all, so naturally, we fear and dread paying them. With estate planning in particular, taxes can serve as a menacing bogeyman. But really that’s because most people do not understand them or are unaware of the differences in the types of taxes.
Although I am not a tax professional by any means, I have learned a few things along the way that I’d like to share in hopes of clarifying some of the confusion that surrounds the subject of taxes.
An estate tax (sometimes referred to as a death tax) is a tax on your right to transfer property at your death. An inheritance tax is a tax imposed on a person who has inherited assets from a deceased person.
The first thing to note is that California does not have an estate or inheritance tax. While there are several states that do impose these types of taxes, California is not one of them.
That being said, even though there is no state-specific tax, there is still a federal estate tax. The good news is that most Californians do not have to pay this tax, either.
As of 2017, the federal estate tax exemption is $5.49 million — that means that you can transfer or inherit up to $5.49 million tax-free. It is estimated that only the richest .20 percent of Americans will be subject to federal estate taxes. So, unless you’re one of the lucky ones who have to deal with this “problem,” you probably don’t have anything to worry about.
According to the IRS, the general rule of thumb is that any gift is a taxable gift. However, there are several important exceptions to the rule.
Gifts that fall below the annual gift tax exclusion are not considered taxable gifts. The annual gift tax exclusion is the amount that you can give away in one year without experiencing any gift tax consequences. You can give away this amount to as many people as you want without getting taxed as long as it falls below the annual gift tax exclusion. As of 2017, that amount is $14,000 per person per year.
This means you can make one gift of $14,000 or several gifts that add up to $14,000. For example, you can give $14,000 to your daughter in January. You can also give $5,000 to your son in January, another $5,000 in February and another $4,000 in March. Either way, you will not have to pay taxes all thanks to the annual gift tax exclusion.
Additionally, gifts to your spouse, gifts to a political organization for its use and gifts for education and medical purposes (such as paying for your grandson’s tuition or your daughter’s hospital bills) are not considered taxable gifts.
Sadly, we are all too familiar with the chore of paying income taxes. Fortunately, this is not something you have to worry about when it comes to an inheritance.
When you inherit money, real property or other assets, you do not pay income taxes as a result of that inheritance. (However if you inherit real property and decide to rent it out, then you may.)
Capital Gains Taxes
One of the biggest tax advantages to inheriting assets from a living trust is that the assets are “stepped up” to the fair market value at the date of the decedent’s death. For tax purposes, this means that if you have inherited assets that have appreciated in value and then you choose to sell them, you can eliminate (or at the very least, minimize) the “gain.”
For example, let’s say your parents bought their home in 1965 for $30,000. When they pass away in 2017, you inherit the home and end up selling it shortly thereafter for $630,000. You’ve made a $600,000 profit ($630,000 – $30,000). However, because you inherited the home through a living trust, the home is stepped up to the fair market value, and you end up paying no capital gains taxes ($630,000 – $630,000).
Still confused about taxes? You’re not alone. Feel free to consult your local CPA or attorney for further clarification … or you can always join my fiancé and me for dinner!
Staci Yamashita-Iida, Esq., is an estate planning attorney at Elder Law Services of California. She can be contacted at (310) 348-2995 or firstname.lastname@example.org. The opinions expressed in this article are the author’s own and do not necessarily reflect the view of the Pacific Citizen or JACL. The information presented does not constitute legal or tax advice and should not be treated as such.