Preparing for estate taxes is something that all taxpayers need to think about and plan for, especially for those who intend to pass property or other assets onto beneficiaries after their death. It is also important for taxpayers to stay on top of changes to estate taxes, as the IRS recently announced that the federal estate tax exemption is increasing for the 2025 tax year.
So, what exactly does this mean for taxpayers and how might these changes affect future tax planning?
Understanding Estate Taxes
First, it's important to understand what estate taxes entail and how they are calculated. Specifically, estate taxes (which are imposed at the federal and state levels) are taxes that must be paid when a property or asset is transferred to a beneficiary following the original owner's death.
More specifically, the IRS defines federal estate tax as “a tax on your right to transfer property at your death. It consists of an accounting of everything you own or have certain interests in at the date of death.”
The good news? Most people who will be passing on an estate will not actually have to pay estate taxes (nor will their beneficiaries) because there are exemptions in place. In general, unless the value of the estate is quite high, no estate or inheritance taxes will be owed.
Adjustments for Inflation
The precise exemption for federal estate taxes can vary from year to year, especially because it is periodically adjusted for inflation. The exemption amount for the 2025 tax year has just recently been announced as $13.99 million, which is an increase from the $13.6 million that was in place for the 2024 tax year.
It is important to note, of course, that this is the exemption amount for individuals. For married couples, on the other hand, the amount is $27.98 million.
For those with estates valued above the exemption amount, an estate tax will need to be paid that can vary depending on the total value of the estate that exceeds the exemption. For example, an estate exceeding the exemption amount by up to $10,000 will be taxed at 18%, whereas an estate exceeding the amount by more than $1 million can be taxed up to 40%.
A Note About TCJA
Also important to keep in mind when it comes to federal estate tax exemptions is that many provisions of the Tax Cuts and Jobs Act (TCJA) are set to expire at the end of 2025. This could affect those planning their estates because, at that time, the federal estate tax exemption is actually scheduled to drop back to the base of just $5 million. If this happens, this could mean that many people who were previously exempt from the tax may suddenly be on the hook for paying a hefty amount.
More realistically, however, provisions of the TCJA will likely continue after Donald Trump is sworn into office, especially with a Republican-led Congress. Only time will tell, of course, what the future will hold for the federal estate tax exemption—so taxpayers should plan accordingly for any and all possible outcomes.
What This Means for Taxpayers
In the unlikely event that estate tax provisions of the TCJA do expire in 2025, taxpayers will need to revisit their tax strategies as they relate to federal estate taxes. In the meantime, however, with exemptions increasing for the 2025 tax year, this should be welcome news for those who are planning to pass along their estates to loved ones or other beneficiaries after they die.
It is also important to note that many states impose their own estate taxes, and the exemptions may or may not line up with federal amounts. With this in mind, taxpayers should research and become familiar with the requirements in their own states so they can plan their taxes accordingly.
Time to Consult with a Tax Advisor?
Handling and preparing for estate taxes can be confusing, especially when exemption amounts can vary from one year to the next. For taxpayers who have estates worth a substantial amount, it may be a good idea to consult with an experienced financial advisor or tax planner for further guidance and next steps. This can be the best way to protect one's generational wealth and ensure it can be passed along with minimal tax consequences.
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