Aaron Charles Gregg

How Can I Avoid Inheritance Tax for my Step-Grandchild?

“Taxes in New Jersey are no pretty thing, and after you die, the state will once again try to get its cut of the inheritance tax.”

nj.com’s recent article, “How can I avoid the inheritance tax for step-grandchildren?” explains that the New Jersey Inheritance Tax is a tax imposed on inheritances, depending on the relationship between the deceased and the inheritor, or beneficiary. The relationship between the deceased and the inheritor can be placed into four different categories, and depending upon the category, a tax may be imposed.

Most inheritors fall into Class A. This category includes a spouse, child, parent, grandparent, stepchild, and grandchild. The next most common category is Class C—siblings and daughters-in-law or sons-in-law, and the surviving spouse of a deceased child are included here. Class E beneficiaries include charities, religious institutions and other exempt organizations. Finally, there’s Class D. These beneficiaries includes anyone who’s not a member of another class. In case you’re wondering, there’s no longer a Class B.

Class A beneficiaries will not see any inheritance tax. For Class C, the first $25,000 is exempt and the rate on amounts in excess of that begins at 11% and goes up to 16%. Class D rates range from 15 to 16%. There’s no inheritance tax for Class E.

Step-grandchildren are considered Class D beneficiaries, despite the fact that grandchildren and stepchildren are Class A beneficiaries. You can avoid the tax, by leaving life insurance death benefits to a step-grandchild, because these benefits aren’t subject to New Jersey’s inheritance tax. If the step-grandchild is the step-child of your child or the child of your step-child, leave the bequest to your child or your step-child and make an unenforceable request that she use the bequest for that step-grandchild.

Another option is to make a gift to the step-grandchild, while you’re living. If the gift is made more than three years before your death, then it won’t be subject to the inheritance tax. However, if it’s within that three-year period, there’s a presumption that the gift was made in contemplation of death, so it will be subject to inheritance tax.

You could avoid this, by making a lifetime gift to your child or stepchild, even within the three-year period preceding death, and request that they use it for the benefit of the step-grandchild. The only issue here is that it's not an enforceable obligation. Otherwise, the gift will be deemed to have been made to the step-grandchild and subject to the three-year gift in contemplation of death rule.

If you have real estate outside of New Jersey, you may want to leave some of that property to the step-grandchild, because out-of-state real estate isn’t subject to New Jersey’s inheritance tax.

Reference: nj.com (October 31, 2019) “How can I avoid the inheritance tax for step-grandchildren?”

What Happens to Estate Tax Benefits After 2025?

“Taxpayers can benefit from higher thresholds for U.S. estate and gift taxes, even if they don’t die until after the tax overhaul expires in 2026, the Internal Revenue Service said.”

You may recall that the 2017 Republican tax reform legislation roughly doubled the estate and gift tax exemption.

This means starting in 2019, people are permitted to pass on, tax-free, $11.4 million from their estate and gifts they give before their death. Couples can pass on twice that amount, or $22.8 million.

These higher levels expire in 2026, but those who make large gifts while the exemption is higher and die after it goes back down, won’t see the estate tax benefit eroded, the IRS announced recently via new regulations.

“As a result, individuals planning to make large gifts between 2018 and 2025 can do so, without concern that they will lose the tax benefit of the higher exclusion level once it decreases after 2025,” the agency said in a press release.

Yahoo Finance’s recent article, “IRS Says Millionaires Can Keep Estate Tax Benefits After 2025,” says that the exemption increase was a big priority for Republicans in the 2017 tax overhaul.

This exemption decreased the number of individuals who’d be subject to the 40% estate tax by about two-thirds. The exemption was $5.5 million prior to the law change.

However, Democrats are looking to reverse those changes, if they sweep the House, Senate and White House in the 2020 national elections.

Nearly every Democratic presidential candidate would like to see the estate tax apply to a greater number of wealthy families.

Senator Bernie Sanders has called for the estate tax, to begin when fortunes are worth at least $3.5 million. He has also proposed rates as high as 77%.

Reference: Yahoo Finance (November 22, 2019) “IRS Says Millionaires Can Keep Estate Tax Benefits After 2025”

Will My Heirs Need to Be Ready to Pay Estate Taxes?

“I'm in my 80s and have a substantial sum in retirement accounts that I plan to leave to my children. Will they have to pay estate taxes on it?”
Estate taxes all depend on how on much a person is planning to give to heirs.
Motley Fool’s recent article asks “If I Leave My Retirement Savings to My Heirs, Will They Pay Estate Tax?” The article tells us that retirement accounts like 401(k)s, 403(b)s, traditional and Roth IRAs and others are a part of your taxable estate.
However, unless the total assets of your estate plus any taxable gifts you've already given are more than the lifetime exclusion amount, your estate won’t owe estate taxes.
For 2019, this is $11,400,000, and in 2020, the exclusion will be raised to $11,580,000. If you total all of your assets’ value, only the amount in excess of the exclusion will be taxable. Therefore, if you have a $12,000,000 estate and die in 2020, only $420,000 of your assets would be subject to estate taxes.
Let’s look at another example: if your assets, including your retirement savings, total up to $5 million, your heirs won't be required to pay any estate tax whatsoever.
However, while they may not have to pay estate taxes, remember that withdrawals from most retirement accounts (except Roth IRA accounts) will be deemed to be taxable income. Thus, estate tax or no estate tax, if your heirs are in a pretty high tax bracket, inheriting your retirement savings may increase their tax liability.
Don’t neglect to check with an estate planning attorney about your state’s estate and inheritance taxes. There are a handful of states that have their own estate taxes, and their thresholds may be lower than the IRS’s.
There are now six states with an inheritance tax: Iowa, Kentucky, Maryland, Nebraska, New Jersey and Pennsylvania.
Each state sets its own inheritance tax exemption, and inheritance tax rates. However, these rates are subject to change at any time with changes to the laws in those states.
Reference: Motley Fool (November 8, 2019) “If I Leave My Retirement Savings to My Heirs, Will They Pay Estate Tax?”

Do I Have to Pay Taxes on My Inheritance?

“An inheritance is not subject to income taxes.”
For all practical purposes, the U.S. government doesn’t have an inheritance tax. The inheritances of cash or property aren’t taxed as income. As of 2019, the estate tax is only imposed on estates above $11.4 million for singles, or twice that for couples.
Investopedia’s recent article asks “Are Estate Distributions Taxable?” The article explains that the only exception is for income taxes due on withdrawals from retirement accounts that are ordinarily subject to taxes, like traditional IRA accounts.
However, some states do tax inheritances, and to date, those states include Iowa, Kentucky, Maryland, Nebraska, New Jersey and Pennsylvania. None of those states applies the tax to the spouse or children of the deceased. When imposed, the taxes range from about 5% to about 15% of the inheritance.
If an estate executor doesn’t pay income tax before he or she distributes the inheritance, the IRS may impose limited beneficiary taxes on those who inherit.
Right now, the federal estate tax applies only to inheritances above $11.4 million per individual. Estates, just like individuals, are required to file income tax forms. They may also owe taxes in the form of interest payments on accounts.
The estate can pay the taxes due or distribute the taxable income to the heirs. In certain cases, this actually saves the beneficiary money because the entire estate may be in a higher tax bracket than the individual who’s getting just a portion of the inheritance.
An exemption to the estate tax for inheritances up to $5 million was instituted about nine years ago in 2010 and 2011 (but there were special rules for decedents dying in 2010). This exemption has been reaffirmed, and the limits have been raised in subsequent laws passed by Congress. The current rules exempts from estate taxes the first $11.4 million inherited by an individual, and twice that amount if the inheritance is distributed to a couple.
It’s believed that approximately 2,000 Americans a year are liable for the inheritance tax under that tax exemption law. These individuals usually work with estate planning attorneys and accountants who are skilled at finding strategies to avoid or minimize the estate tax they owe. One way of avoiding any estate tax, is to give away some of the estate in advance to family members. Your attorney may also discuss the use of an irrevocable life insurance trust.
Reference: Investopedia (August 4, 2019) “Are Estate Distributions Taxable?”