There are two things that are certain in life — death and taxes. Nowhere is that more true than in Minnesota, where residents are not only taxed in life, but in death, in some circumstances.
Minnesota is one of 19 states (20, if you count the District of Columbia) that imposes a tax on residents’ estates upon death. Oh, and the federal government does, as well.
If your estate exceeds $5.43 million ($10.86 million for married couples), you will incur an estate tax by the federal government of 40%. If your estate exceeds $1.4 million in 2015 ($2.8 million for married couples), you will incur an additional Minnesota estate tax of 16%, on top of the top federal estate tax. The Minnesota estate tax will incrementally increase to $2.0 million by the year 2018. Please keep in mind that the exemption amount only doubles for married couples if they structure transfers to trusts appropriately.
In addition, the State of Minnesota enacted a gift tax in 2013, which subjected gifts made within three years of death to the estate tax. Only gifts that are also subject to the federal gift tax (currently $14,000) were subject to the law. The legislature later repealed this law, but the three-year look-back period remains.
For purposes of this blog, let us assume that Grandpa’s estate exceeds $1.4 million at the date of his death in the year 2015. Grandpa’s estate totals $1.8 million at that time. Grandpa’s estate will, therefore be taxed at a rate of 9% (soon to be 10%), which is a tax of $36,000.
This may not seem like a huge number in the grand scheme of things. But just think — what could you do with $36,000? Pay off your student loans? Save up for retirement? Invest wisely? Pay for a vacation? Donate to charity or a good friend who needs help? A recent survey found that the three most popular ways of spending an inheritance is to pay for retirement, pay down a mortgage, or pay for their children to go to college. Check out this really interesting article on inheritances. http://www.businessinsider.com/3-smart-ways-to-spend-your-inheritance-2013-10. The same article suggests that an inheritance be spent in the following way:
- Set aside a rainy-day fund. A rainy-day fund is 6 to 12 months’ wages in order to ensure you are able to withstand short-term financial turmoil and won’t be tempted to find cash in the wrong ways.
- Pay down high-interest debt (credit cards, car loans), then pay off lower-interest debts (student loans, home mortgages).
- Any “extra” cash left over can be invested for the future, such as stocks, bonds, and mutual funds. Keep in mind that unemployment rates for college graduates are just half the unemployment rates for high school graduates.
Keep in mind that Grandpa’s estate will not be taxed if Grandpa has in place a will with a pour-over trust or a living trust, which will allow Grandpa to transfer the estate tax-free to Grandma. Now let us assume that Grandma also dies, leaving $2.2 million in assets to her child. Again, if Grandma has a will with a pour-over trust or a living trust, she will be able to pass her estate to her child tax-free. The estate will, therefore, not be subject to the $36,000 in taxes. The will with pour-over trust / living trust has done its job!
For more information on how to avoid tax consequences in transferring your estate upon death, contact Excelsior Law Firm.