Estate planning can be a complex topic, especially when it comes to taxes.

While Texas residents enjoy the benefit of not having to worry about state-level estate taxes, an understanding of the federal estate tax is crucial for ensuring their assets are distributed as intended.

“Texas does not levy an estate tax. It is one of 38 states with no estate tax,” says SmartAsset. “Regardless of the size of your estate, you won’t owe estate taxes to the state of Texas. You might owe money to the federal government, though.”

Remember, when it comes to your finances and the Internal Revenue Service (IRS), it’s always best to seek help from a qualified financial advisor or an experienced tax attorney such as those at Powell Tax Law in Houston, San Antonio, and Austin.

What is an Estate Tax?

An estate tax is a levy imposed on the transfer of wealth from a deceased individual to their beneficiaries.

Sometimes referred to as the “death tax”, estate taxes have been part of the U.S. tax system since 1797 when the Stamp Act was passed to help fund a conflict with France. While only sporadically in place in the 18^th and 19^th centuries, a modern federal estate tax has been around in one form or another since 1916.

The IRS explains: “The Estate Tax is a tax on your right to transfer property at your death.”

The federal estate tax applies to estates exceeding a certain threshold, currently set at $12.92 million (as of 2023) and $13.61 million (as of 2024).

The tax is paid by the estate before any assets are distributed to heirs.

“As you might guess, only a small percentage of Americans die with an estate worth $12.92 million or more. But for estates that do, the federal tax bill is pretty steep. Most of the estate's value is taxed at a 40 percent rate,” said Kiplinger.

Proponents argue that inherent taxes promote tax fairness by ensuring the wealthy contribute a larger share to government revenue.

Opponents view them as a double tax, as assets have already been taxed during the owner's lifetime, and argue they hinder economic growth and discourage charitable giving.

Estate Tax vs. Inheritance Tax vs. Gift Tax:

It's important to distinguish between different types of taxes:

• Estate tax: Taxed on the entire taxable estate before distribution.
  
  
• Inheritance tax: Taxed on the value of assets received by individual beneficiaries. Texas does not have an inheritance tax.
  
  
• Gift tax: Taxed on transfers of property made during the donor's lifetime. Texas does not have a gift tax, but residents are still subject to the federal gift tax.

Currently, the gift tax limit for 2024 is $18,000 for one individual.

“If you exceed the annual limit (also known as the annual gift tax exclusion), you must file a gift tax return with the IRS and the excess of your contribution will be added toward your lifetime gift tax exclusion. Once you exhaust your lifetime exclusion, you may begin to owe gift taxes,” explains Nerd Wallet.

The lifetime exemption for the federal gift tax is the same as the estate tax exemption, meaning you can give away up to $13.61 million in your lifetime without incurring gift tax.

Federal Estate Tax: Understanding the Rules

The federal estate tax is progressive, meaning the tax rate increases as the value of the estate rises.

For estates exceeding the exemption amount, the marginal tax rate can be as high as 40 percent.

Calculating the Tax:

The estate tax calculation involves several steps:

• Determining the Gross Estate: This includes all assets owned by the decedent at the time of death, such as real estate, investments, and personal belongings.
  
  
• Valuing the Estate: Each asset is assigned a fair market value. The fair market value of these items is used, not necessarily what you paid for them or what their values were when you acquired them.
  
  
• Deductions: Certain expenses and debts are subtracted from the gross estate to arrive at the taxable estate. These deductions may include mortgages and other debts, estate administration expenses, property that passes to surviving spouses, and qualified charities. The value of some operating business interests or farms may be reduced for estates that qualify.
  
  
• Applying the Exemption: The estate tax exemption is deducted from the taxable estate.
  
  
• Taxable Estate: The remaining amount is subject to tax at graduated rates.
  
  

Smart Asset says this is how much heirs can expect to pay based on the value of your taxable estate:

• $1 to $10,000 taxable: 18 percent
• $10,001 to $20,000: 20 percent
• $20,001 to $40,000: 22 percent
• $40,001 to $60,000: 24 percent
• $60,001 to $80,000: 26 percent
• $80,001 to $100,000: 28 percent
• $100,001 to $150,000: 30 percent
• $150,001 to $250,000: 32 percent
• $250,001 to $500,000: 34 percent
• $500,001 to $750,000: 37 percent
• $750,001 to $1,000,000: 39 percent
• $1,000,001 and up: 40 percent

Common Estate Planning Tips

The federal estate tax exemption amount is subject to change over time. It's crucial to stay updated on current regulations and consult with a financial advisor or tax attorney to develop an estate plan that minimizes your tax burden.

Here are some common estate planning tips:

• Create a Will: A will outlines your wishes for asset distribution and appoints an executor to manage the estate.
  
  
• Explore Trusts: Trusts can offer various benefits, such as asset protection and minimizing probate costs.
  
  
• Utilize Lifetime Gifting: Strategically gifting assets during your lifetime can reduce the taxable estate value.
  
  
• Maximize Retirement Account Beneficiaries: Designating beneficiaries for retirement accounts can bypass probate and potentially reduce taxes.
  
  
• Consider Life Insurance: Life insurance proceeds can provide beneficiaries with liquidity to cover estate taxes and other expenses.
  
  
• Plan for Charitable Giving: Charitable donations can reduce your taxable estate and support causes you care about.
  
  
• Review Regularly: Update your estate plan periodically to reflect changes in your life, assets, and tax laws.
  
  
• Seek Professional Guidance: Consult with a qualified estate planning attorney and financial advisor for personalized advice.
  
  
• Communicate with Beneficiaries: Discuss your estate plan with your beneficiaries to ensure clarity and avoid future conflicts.
  
  
• Stay Informed: Keep yourself updated on changes in estate tax laws and regulations.
  
  

Reach out to the tax pros at Powell Tax Law today to discuss your estate planning needs.