Alternatives to Paying Estate Taxes: Give Gifts

There are three alternatives to paying estate taxes, but each requires some planning.

Gifts of up to $14,000 per year are not taxed. Through advanced planning, you can make piecemeal annual transfers of assets to save your loved ones some tax expenses in the long run. For example, assume that Michelle owns a home worth $500,000, and has $250,000 in savings and investments, plus another $250,000 in assets in an IRA. Taking money from her savings investments could be detrimental for Michelle’s financial security. She could, however, transfer an interest in her home to her children in $14,000 annual increments.

Unfortunately, that strategy would not be advisable if the house had significantly appreciated since Michelle bought it due to the lifetime-gift-and-capital-gains tax consequences. Under that circumstance, Michelle could accelerate her IRA withdrawals, instead. But be aware: IRA withdrawals are taxable income.

If there is anything left in the IRA upon her death, those funds passed on to Michelle’s children, and will be taxed based on their respective individual tax rates. If Michelle successfully reduced her estate to under $1 million with this adjustment, around $35,000 in estate taxes would be avoided entirely. (To be fair, we would expect the accelerated distributions to result in some lost earnings in the IRA, but on balance, the result should be a significant savings.) This way, Michelle gets the benefit of spending more of her money during her lifetime while still saving responsibly and ensuring that her heirs are not taxed unnecessarily.