Ya gotta know where the land mines are.
Fundamentally, avoiding such taxes requires an elementary understanding of the tax ramifications of a gift versus an inheritance.
Today, we turn to a recent Fox 61 News report titled "Tips to avoid an income tax and estate planning time bomb."
The article explains how "timing" is critical when seeking to gain the most from an inheritance.
Spoiler alert: Taxes due on the sale of an asset can be drastically different depending on how the asset passed to the heir.
For example, what if parents decide to deed a home to their son while they are alive.
Because the son did not pay the parents the "fair market value" for the home ... the transfer is a "gift" and a gift tax return may be required depending on the value of the home.
No big deal.
The parents simply need to file a Form 709 Gift Tax Return with that year's income tax filing.
But wait, there is more.
Because the parents gave their son the home, the son "inherited" the tax "basis" of his parents in the home.
As a result, the son will owe capital gains taxes based on the amount the home appreciated in value after the date the parents' originally purchased the home.
In effect, the parents unknowingly planted an income tax time bomb for their son by gifting property during their lifetimes instead of allowing the son to inherit the property after their deaths.
Alternatively, if the parents had used a revocable trust to own the home, then the residence would be passed on to their son after both parents died.
In this scenario, the son would owe no capital gains tax, provided the property was sold for what it was worth at the date of death.
By the way, this rule works regardless how much the property is worth when the last surviving parent passes on.
Young or old, if you do not have an estate plan, then create one now.
So, where do you start?
Start with the basics and, if relevant, do any additional planning as necessitated by your unique circumstances.
Here are some practical pointers:
- Review and update your beneficiary designations.
- Review and update your insurance policies. Check the amount of coverage and make sure it still meets the current needs of our loved ones.
- Consider purchasing long-term care insurance to help pay for the costs of long-term care in case you and/or your spouse ever need it due to illness, injury or old age.
Plus, at a bare minimum, everyone over the age of 18 needs a General Power of Attorney (for Financial Decisions) and an Advance Health Care Directive.
And while you are at it, review and update the guardian designation for any minor children.
Against this backdrop, it is critical to work with an experienced estate planning attorney who can keep your estate plan up-to-date with all of the changes in the law, changes in your finances and health, and changes in the health and finances of family members.
Remember: “An ounce of prevention is worth a pound of cure.” When making your financial, tax and estate plans, do not go it alone. Be sure to engage competent professional counsel.
For more information about estate planning in Overland Park, KS (and throughout the rest of Kansas and Missouri), visit our estate planning website and be sure to subscribe to our complimentary estate planning e-newsletter while you are there.
Reference: Fox 61 News (January 4, 2016) "Tips to avoid an income tax and estate planning time bomb"