Understanding Federal Estate, Gift, and GST Taxes

Understanding the taxes that are imposed on asset transfers by the federal government is important when you’re planning your estate. Those who have been able to accumulate significant assets can lose a large amount of it if the proper preparations have not been made in advance.

Before we start to examine these taxes in detail, we would like to mention that action is required if you have assets that are subject to the gift tax, the estate tax, and/or the generation-skipping transfer tax.

You may think that you will always have time to put a comprehensive and completely well constructed plan in place at a later date. The fact is that you do not know what lies in store around the next bend in the road.

If you were to pass away suddenly and unexpectedly, the results could be devastating for your family if you don’t have a proper wealth preservation plan in place.

The above having been stated, let’s look at these transfer taxes.

Federal Death Tax

The federal estate tax is often referred to as the “death tax” because indeed, the event that triggers the tax is your death. The estate tax exclusion in 2013 is $5.25 million. It can be revised every year to account for inflation.

After the passing of the American Taxpayer Relief Act of 2012, the top rate of the estate tax was set at 40%.

Anything that you have to pass to your beneficiaries that exceeds $5.25 million is subject to this death tax unless you take steps to mitigate your exposure.

There is a caveat to the above statement. The $5.25 million exclusion is applicable to transfers to people other than your spouse.

If you are married and your spouse is an American citizen, you can transfer unlimited assets to your spouse free of transfer taxes.

The Federal Gift Tax

The federal government also imposes a gift tax so that people cannot give away their assets while they’re still alive in an effort to avoid the estate tax.

The aforementioned $5.25 million exclusion applies to gifts that you make while you are alive as well. However, this does not mean that there are two separate $5.25 million exclusions. It is one unified exclusion. If you gave, for example, $3.25 million in taxable gifts during your life, only $2 million would be left to apply to your estate.

Generation Skipping Transfer Tax

There are certain types of trusts that are constructed to pass along assets to your grandchildren rather than your children. As a reaction, congress put a generation-skipping transfer tax in place.

It carries the same $5.25 million exclusion and the 40% maximum rate, and it is applicable on asset transfers for the benefit of any family member who is more than one generation younger than you.

It also applies to transfers to someone who is not a member of your family who is a minimum of 37.5 years younger than you.