By Michael D. Koppel, CPA, MBA, MSA, PFS, CITP, Tax Advisor
Gray, Gray & Gray, LLP
August 2013
For a number of years, most state tax authorities have “piggybacked” on federal tax laws when it comes to estate and gift tax. It was often easier for the state and less complex for the taxpayer to duplicate federal statutes on the state level.
However, in recent years a number of states have “decoupled” from federal estate and gift tax laws. Massachusetts has frozen its estate tax rates at the federal level that was in effect at the end of the year 2000. So state taxpayers must contend with different rates and exemptions that can have a significant effect on effective estate and gift tax planning.
The current federal gift and estate tax exemption is $5,250,000 for 2013. (Going forward, this exemption will be adjusted annually for inflation.) If you do not use this exemption during your lifetime it is added to your spouse’s exemption, a concept known as “portability.” These provisions have been made permanent, or at least as permanent as any tax provision can be.
Many gift and estate tools such as: discounts, intentionally defective trusts, dynasty trusts, grantor retained annuity trusts (GRATs) and qualified personal resident trusts are still available. However, many states, including Massachusetts, have significant estate taxes with much lower exemptions and no portability provisions. For example, Massachusetts only allows a $1,000,000 estate tax exemption, and has no portability.
Here’s an illustration: John, a Massachusetts resident, dies in 2012 owning property at death with a value of $740,000. John had made lifetime gifts in excess of the annual exclusion amounts, with a value of $840,000. The total value of the property used to determine the filing requirement is $1,580,000, which is the sum of the value of the property owned at death ($740,000) and the value of the lifetime gifts in excess of the annual exclusion amounts ($840,000). The total value of John’s property is calculated as $1,580,000, which is greater than the applicable exclusion amount. Therefore, John’s estate is required to file a Massachusetts estate tax return. As with federal law there is no estate tax if assets pass to a surviving spouse. But because there is no portability option in Massachusetts this can increase the total estate tax.
(Please note that, in the above example, the excess annual gift exclusion is actually a reduction of the Massachsetts exemption thus is limited to $1,000,000. This also means that gift amounts in excess of $1,000,000 will not affect Massachusetts estate taxes.)
Let’s look at another example. Suppose that a married couple has assets of $10 million, or $5 million each. For simplicity’s sake we’ll assume they have made no gifts in excess of the annual exclusion. When the first spouse dies and leaves all of their assets to the remaining spouse there will be no federal or Massachusetts estate taxes. When the surviving spouse dies with an estate of $10 million there will still be no federal tax. However, there will be a Massachusetts estate tax of approximately $940,000. If the couple had taken steps to make their children the beneficiaries of the $5 million from the first parent to die they would have incurred estate taxes of approximately $287,000 on each death, for total estate taxes of only $574,000, saving about $366,000.
Because of the much lower estate and gift tax exemption in Massachusetts many more people in the state are affected by estate taxes and should prepare an estate plan to minimize the impact.
Every state has their own rules. It is important for taxpayers to understand not only the federal estate and gift tax rules but state tax rules. With proper planning taxpayers can minimize both federal and state taxes.
If you have question regarding your gift and estate tax situation please contact Gray, Gray & Gray at (781) 407-0300.