Estate Plans: Where There’s a Will . . .
If you own a home in Southern California, have life insurance and your employer has a pension plan, you may need a lawyer.
It’s not because you will be sued. Your net worth may be more than you realize, and your family could save $100,000 or even more from some relatively easy estate and tax planning advice.
Let’s take an example. Say Fred Fearless bought a home 15 years ago for $150,000 and today it is worth $600,000. That would not be too outrageous to believe in many areas in Southern California. Fred also has a life insurance policy with a face value of $250,000. Fred’s company pension plan is worth $100,000, and his cars, personal property and savings accounts add up to another $50,000. He’s a millionaire and doesn’t even know it.
If Fred dies and leaves all of his property to his wife Wilma, there is no estate tax. (There is an unlimited marital exemption for gifts to a spouse.) Let’s assume Wilma is frugal and doesn’t spend any of the inheritance, living off the interest income from the million dollars. When Wilma dies, she leaves the million dollars to their daughter, Pebbles. Pebbles will now be stuck with a huge tax bite of more than $140,000. She won’t be taxed on the first $600,000 she inherits (the current amount allowed by federal law), but she will have to pay a 35%-40% estate tax on the remaining $400,000.
Tax Avoidance
The tax could have been legitimately avoided if Fred had planned his estate properly. He could have left $600,000 to Wilma, and the remainder of his estate in trust for the benefit of his daughter. He could have named his wife as the trustee and also provided that she receive the income from the $400,000 in the trust. He could structure the trust so that Pebbles received the $400,000 upon Wilma’s death.
When Wilma dies, she also leaves her $600,000, which she inherited from Fred, to Pebbles. There is no tax on any inheritance up to $600,000 under current federal law (although there are bills pending in Congress that would lower that amount). Pebbles receives the full $1 million without paying any tax.
What is important to keep in mind here, points out John Cohan, a partner of the Century City law firm of Irell & Manella, is that Fred could use either a will or a living trust to obtain the substantial tax savings. “There has been a lot of misleading advertising that makes people believe these savings are only available with a living trust,” he says. “That’s pure nonsense.”
Under this scheme, a trust would be created upon Fred’s death, but that can be arranged by either a living trust or a will. A living trust has other probate-avoidance advantages, but it does not provide tax savings that can’t be obtained with a well-drafted will.
Never Realized Savings
In our hypothetical example, Fred Fearless never realized the potential savings he would get from consulting an attorney. Even if he knew that $600,000 could be given away, tax-free, he probably never realized the full amount Wilma would inherit, because he did not think about his life insurance, his pension or the full value of his home in the current market.
Incidently, the federal law exemption of $600,000 in estate tax also applies to gifts. So a person can give away up to $600,000 on a tax-free basis, with no gift tax. (A married couple can give away $1.2 million.) You can stand on a street corner and give $100,000 to 6 complete strangers without anyone incurring any tax liability, notes Cohan. “They’ll be very grateful but pay no tax.” But the $600,000 is a one-time exemption in total, whether it’s a gift or an inheritance. So if you give the money away on the street corner, your heirs will pay tax on every penny of their inheritance.
Klein cannot answer mail personally but will respond in this column to questions of general interest about the law. Write to Jeffrey S. Klein, Legal VIEW, The Times, Times Mirror Square, Los Angeles 90053.
