This pamphlet provides a brief introduction to estate planning to minimize federal and estate taxes for a married couple. In general, several transfer taxes apply to decedents who were residents of Illinois and whose property was located in Illinois: the federal estate tax, the Illinois estate tax and, in some instances, the generation-skipping transfer tax. Property located in other states and countries may be subject to additional transfer taxes.
In effect, every person may give away during life and upon death a certain amount without incurring any tax obligation. For purposes of the federal estate and gift tax, this amount is $5,490,000 as of 2017 (this number is subject to change each year, because the federal exemption amount must be adjusted for inflation as necessary). In addition, the State of Illinois now taxes the estates of decedents that are valued in excess of $4,000,000 (unlike the federal exemption, this amount does not require an adjustment for inflation each year). Any person whose estate exceeds these levels may need to use special estate planning techniques to take advantage of tax saving opportunities available through careful planning with the advice of an attorney.
In addition, the transfer of assets to a spouse who is a U.S. citizen during life or at death is not subject to a gift or an estate tax, either at the federal or state level. CAUTION: However, it is not necessarily the best tax avoidance plan to simply leave 100 percent of one's assets to a surviving spouse, as this may increase the value of the surviving spouse's estate beyond the exemption levels. The applicable exemption is determined in the year the individual dies. If your surviving spouse leaves an estate of less than the applicable exemption, no estate taxes will be due. However, without proper planning, an estate tax may be due if the surviving spouse's estate exceeds the applicable exemption amount - and estate taxes are very steep. The goal, therefore, of estate tax planning for married couples is to take advantage of the applicable exemption of both spouses, thus doubling the amount that can be left estate tax-free.
Do we take advantage of both exemptions?
Traditionally, the primary way for a couple to take advantage of both spouse's exemptions was the use of a bypass trust. Under this technique, a couple must first divide their marital property so that upon the death of the first spouse, his or her solely owned assets can be used to fund a bypass trust up to the applicable exemption amount. The surviving spouse receives income from the bypass trust, but does not have direct control of the assets. Upon the death of the surviving spouse, the trust assets pass to the couple's heirs or other beneficiaries. The assets in this exempt trust, including appreciation in value, are not included in the estate of the surviving spouse and are not subject to the estate tax. Thus, when the surviving spouse passes away, his or her own applicable exemption will be applied to his or her estate.
Recent legislation, however, has made it much easier for married couples to take advantage of both spouse's federal exemptions by implementing the concept of "portability" in the federal estate tax system. This new provision made the applicable federal exemption "portable," meaning that the amount of the exemption that is not used by the first spouse to die can be transferred to the surviving spouse. In other words, couples can now take advantage of both spouse's federal exemptions without using a bypass trust. Portability is not recognized in Illinois, however, and thus applies only to the federal estate tax exemption and not the Illinois estate tax exemption. And even further, relying fully on portability in estate tax planning without considering how it could affect state estate taxes may result in paying taxes that could have been avoided altogether by using a bypass trust or some other similar technique.
Thus, in order to take advantage of both spouse's federal and state exemptions, proper estate planning is essential. Difference between the federal estate tax system and the Illinois estate tax system can lead to the unnecessary payment of estate taxes if they are overlooked. Developing a comprehensive plan that will eliminate or minimize estate taxes for both spouses can become very complicated and thus you and your spouse will probably want to seek the advice of an attorney.
How can I plan for estate taxes if I am not married?
Single persons cannot shelter twice the applicable exemption from estate taxes in the same way as married couples, but there are other methods of reducing estate taxes. These methods are centered on making gifts during your lifetime to reduce the size of your estate. Normally the gifts are made to the persons who would receive your property at the time of your death. The tax rules regarding gifts are very complex, however, and a competent estate planning attorney should therefore be consulted for a full explanation of the alternatives.
Prepared by the Illinois State Bar Association's Trusts and Estates Section (2017)