How does the estate tax work?
For most people, the driving forces in estate planning are federal estate taxes and fear. They hear rumors and whisperings about how someone’s entire estate was decimated by these taxes, and they don’t want the government to do that to them! However, because of increased exemptions, you really have less to fear in the estate tax than you might think. By understanding this tax and then carefully planning out your estate, you and your heirs can avoid the headaches and heartaches commonly associated with this infamous tax. This month I will answer a few common questions regarding the estate tax and estate planning. Then, I’ll share my own thoughts on what I think estate planning should be.
Estate tax is calculated by first determining your gross estate, minus certain deductions. Then, any taxable gifts that you made after 1976 are added to this amount. The total gives you what is called your “taxable base”. You then use this total to figure out the tax rate that applies to your estate. Tax rates are based on your “taxable base” and are set by the IRS Unified Transfer Tax Rate Schedule. The last step is to subtract the credits that apply to you and this last total is the amount of tax that will be imposed on your estate. For example, if your “taxable base” is $2,000,000 your estate will be subject to a tentative estate tax of $780,800 in estate taxes. But everyone dying in 2007 and 2008 gets a $780,800 applicable credit. If you subtract this from your tax liability you end up having $0 to pay in estate taxes. If however, your “taxable base” is $2,100,000, your estate would have to pay $45,000 in estate taxes. This is because the amount over $2,100,000 will be taxed at 45%
