An explanation of Federal Estate Taxes in plain English [Part II]

In Part I of this series, I started by talking about the basics of Federal Estate taxation, including the estate, market value of property and moving target that is the exemption amount. Today, we are going to answer more specific questions about how much you could owe and how you might be able to minimize what you owe.

How do you minimize the Federal Estate Taxes you might owe?

Consider what happens if you do not minimize and you actually end up paying the government more than you have to:

Husband and wife have an estate valued at $2,000,000.00. He dies in 2010. There is an unlimited marital deduction between spouses. However, because he died, his exemption died with him. So instead of having a total of $2,000,000.00 in exemptions, there is only one for the surviving spouse.

Now, come 2011 the surviving spouse dies. That means $1,000,000.00 is exempt, but because the estate exceeds the exemption, the transfer of the estate to the beneficiaries will be taxed at 44% or $435,000 due and payable to the IRS 9 months from the date of death.

This is a mistake that could have been prevented with a small amount of planning. There are essentially two things you can do to be in a better position.  A married couple can set up an AB Trust or Bypass Trust. This type of trust allows you to keep both the husband’s and wife’s exemption intact even after the first spouse dies. In this example there would be no estate taxes due because of the AB Trust.

The estate would be split between both the A Trust and the B Trust. For example $1,000,000.00 in Trust A and $1,000,000.00 in Trust B. These funds are required to stay this way even after the first spouse dies. The surviving spouse may take income or invade principal for care, comfort, maintenance and support. When the second spouse dies both trusts pay out to the person named as beneficiary Federal Estate Tax Free utilizing both exemptions.

Consider this diagram for a visual explanation of the AB Trust method.


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Posted by Shawn Roberts

On this blog, I write about and try to answer practical Oklahoma legal questions. My focus and most experience is in estate planning and business issues including Oklahoma non-compete law. I make a living as an attorney in the law firm I founded, Shawn J. Roberts, P.C. in Oklahoma City. I live in Edmond with my wife Amy and my two children, Sam (19) and David (11). We live precisely in the path of where the "wind comes sweeping down the plains."