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Estate Planning An Important Facet of Life

American expatriates should be aware by now that annual income tax filing stateside requires that they report and sometimes pay taxes on their world-wide income.  Any expatriates from America who become residents of a foreign country must often also report and pay taxes on their world-wide income to their foreign country of residence.  If these filing requirements seem complicated or unfair, Americans who pass away while holding assets abroad may also owe estate taxes – not that they necessarily could care from the grave.  But their heirs may be astonished that the Internal Revenue Service can require that the decedent’s estate file a tax return reporting his or her world-wide holdings. 

Presently estates valued under $2,000,000 do not have to file an estate tax return as there is no tax liability.  But within nine months of the passing of a decedent, estate assets must have been valued for estate tax purposes.  And given that the euro has been worth as much as $1.38, an estate with European holdings valued at €1,500,000 can exceed the $2,000,000 limit! 

Estate taxes are also steep. Suppose the decedent owned a business valued at $10,000,000.  After allowable deductions for funeral expenses, debts of the deceased, mortgages and liens, expenses of administering the estate, and charities, the estate could be calculated hypothetically as follows:

                        Gross Estate                             $10,000,000
Less Allowable Expenses               500,000
Taxable Estate                          $   9,500,000
Tentative Tax                                                                $4,155,800
Less Applicable Credit                                                       -780,800
Federal Estate Tax Due                                     $3,375,000

Any foreign inheritance taxes can further reduce this estate tax liability.  But the harsh reality is the likelihood that the heirs will have to sell off the business to pay the taxes!

Smaller estates are no less vulnerable. A taxable estate of $2,100,000 would incur an estate tax liability as follows:

                        Taxable Estate                          $2,100,000
Tentative Tax                                                                $  825,800
Less Applicable Credit                                         - 780,800
Federal Estate Tax Due                                     $   45,000

What can be done to lower these taxes?  Gifts of $12,000 per donee can be made annually to reduce the value of the estate.  A lack of control or marketability discount could apply to lowering the market value of an asset.  Fractional interest discounts could also be applied to real property.  And real property used in a trade or business may qualify for special use valuation.  In our next article, we will elaborate these alternatives.