If you’re married and prepared an estate plan before 2010, you likely planned to minimize estate taxes as most married couples did at that time. That is, you probably have revocable living trust that provides for the creation of a Family (also known as Credit Shelter or Bypass) Trust and a Marital Trust following your death. The usual formula for funding these trusts will generally result in the majority, if not all, of your assets passing to the Family Trust, with very little, or nothing being allocated to the Marital Trust.
This result made perfect tax-planning sense back then, since the federal estate tax exemption at that time was much lower than it is currently. The idea with Marital/Family Trust planning (or A-B Trust planning, as it is often referred to) is that the first spouse to die takes full advantage of his/her federal estate tax exemption by allocating as much as possible, without exceeding the exemption, to the Family Trust. The assets in the Family Trust are then “sheltered” from estate tax at the surviving spouse’s death because they are not included in the surviving spouse’s taxable estate.
By including a Marital/Family Trust funding formula in your estate plan, you and your spouse were each utilizing your individual estate tax exemptions. This almost always resulted in lower overall taxes to your family following both of your deaths because the estate tax rates were (and still are) higher than capital gains tax rates.
In recent years, however, the estate tax exemption has increased significantly from the pre-1998 amount of $600,000. For 2016, the federal estate tax exemption is $5,450,000 and the Illinois estate tax exemption is $4,000,000. This means that many couples who had a taxable estate in 2007, for example, when the exemption was $2,000,000, no longer have a taxable estate. If your plan includes the traditional Marital/Family Trust formula provisions, and the total value of assets in your living trust is less than $5,450,000, then all of your trust assets will pass to the Family Trust under your trust document.
While the result of this will be that no estate tax is due at your and your spouse’s deaths (which is good), the result may also be unnecessary capital gains tax when assets in the Family Trust are sold by your children or other beneficiaries following the surviving spouse’s death. The reason is that any assets in the Family Trust at the surviving spouse’s death will not receive the benefit of a step-up in basis at that time, because such assets are not includible in the surviving spouse’s taxable estate. Without that second step-up in basis, your family’s capital gains when they sell those assets will be calculated using the value of the assets at the time of the first spouse’s death, which may be significantly less than the value at the second spouse’s death.
The good news is that it’s not too late to avoid these unnecessary taxes. If you and your spouse are both still able to do your own estate planning, we can help! We will review your existing documents and explain what the tax result will be following one or both of your deaths. You can then decide if it makes sense to amend your existing documents to reflect the current tax laws. We also address non-tax issues that are important to you and your family, like asset and creditor protection for you, your spouse and your children or other beneficiaries.
Should you have any questions about tax law or any other law and or to schedule a no-charge initial consultation with one of our experienced estate planning attorneys, please contact Waltz, Palmer & Dawson, LLC at (847)253-8800 or contact us online.
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