For years, estate planners have done what is considered traditional estate planning. They drafted plans primarily concerned with minimizing future estate tax liability and gave minimal attention to income tax consequences.
This was perfectly fine years ago when the estate tax was much more severe than the potential for income tax. This was attributable to relatively high tax rates, low tax exemption that was not indexed for inflation, and comparatively low capital gains rates.
However, Congress has tinkered with the tax system in a huge way. Accordingly, the income tax impact of estate planning is taking on greater significance, especially for Massachusetts residents.
More attention shall now be directed toward the importance of income tax basis considerations in estate planning due to the narrowing between the estate tax rates and the income tax rates. In fact, in most estates worth less than $ 5.34 million, estate taxes are no longer an issue. Now, income taxes loom large, primarily because of the lack of attention on the income basis (Ie cost or adjusted basis) of capital assets. Also state estate taxes have become critically important because of the lower $ 1 million threshold for tax in states like Massachusetts.
The bad news for most middle-class taxpayers is that for years they've been fed a steady diet of estate tax minimizing wills and trusts. Worse yet, they hang onto outdated documents for many years, thinking they are done with their estate planning and not wanting to be bothered. Sadly, these old documents will no longer serve their intended purpose of tax minimization. A major problem is also created when federal tax minimization plans, unless they are updated, will cause a completely avoidable Massachusetts tax for a married couple. While there may be no federal estate tax savings with these documents, because very few middle-class taxpayers will ever pay estate tax, the documents will increase income taxes for their heirs upon sale of appreciated assets. Moreover in Massachusetts, there may not only be a completely avoidable tax on an additional one million dollars, but it may also trigger a large, completely avoidable Massachusetts estate tax on the first death.
Bottom line: the game starts anew. Let's focus on income tax minimization for most taxpayers and forget about tax minimization. Unless your estate is worth more than $ 5.34 million, your biggest risk is Massachusetts estate tax as well as overpaying income taxes due to inattention to income tax basis planning in your wills and trusts. Don't make that mistake. Review your documents today so that you eliminate these lurking tax problems.