Estate planning is a common service advisors provide to their clients. Although estate planning may be a significant piece of a client’s comprehensive financial plan, many advisors and their clients focus solely upon the impact of federal estate taxes—to their potential detriment. 

The truth is that federal estate taxes have continued to become less of an issue for the majority of clients, as the individual estate tax exemption has grown to $5.43 million in 2015. Couple this increase with the ability of a surviving spouse to “inherit” the unused exemption of his or her spouse through portability and you can see why. Today, you have a scenario where clients with a total net worth of up to nearly $11 million will not be subject to federal estate taxes. Where, then, should your estate planning activities be focused? 

Estate Planning’s Afterthought

Regardless of the federal exemption amount, your clients may continue to be at risk of estate and inheritance taxes at the state level. (An estate tax is levied against the estate of the decedent, whereas an inheritance tax is levied upon the property received by a beneficiary of an estate.)

It is true that the majority of states do not impose an estate or inheritance tax. The District of Columbia and 19 states, however, do have either an estate tax, an inheritance tax, or both (see table); if you have clients residing in those areas, then you still have some estate tax planning to do. 

Among the states listed below, you can find a state with an individual estate tax exemption as low as $675,000 (New Jersey), as well as a state with a top estate tax rate of 20% (Washington). You can also find a state that imposes a top inheritance tax rate of 18% (Nebraska).

Although you won’t see a rate as high as that imposed at the federal level (currently 40%), you can see how the states can take a still-significant bite out of an estate. 

States (including DC) with an Estate Tax, Inheritance Tax, or Both

State

Estate or Inheritance

Connecticut

Estate Tax

Delaware

Estate Tax

Hawaii

Estate Tax

Illinois

Estate Tax

Iowa

Inheritance Tax

Kentucky

Inheritance Tax

Maine

Estate Tax

Maryland

Both

Massachusetts

Estate Tax

Minnesota

Estate Tax

Nebraska

Inheritance Tax

New Jersey

Both

New York

Estate Tax

Oregon

Estate Tax

Pennsylvania

Inheritance Tax

Rhode Island

Estate Tax

Tennessee

Estate Tax*

Vermont

Estate Tax

Washington  

Estate Tax

Washington, DC

Estate Tax

*Tennessee is scheduled to fully phase out the estate tax in 2016.

Planning for State Estate Taxes

As in federal estate tax planning, there are steps you can take to mitigate clients’ state estate tax liability. Although the typical bypass or AB trust strategies are less prevalent at the federal level due to the portability of the exemption, those strategies remain valid while planning to preserve the highest state exemption available between spouses.

It is also worth noting that the majority of states do not impose a gift tax, so lifetime gifting strategies can be particularly effective when attempting to reduce the amount subject to state estate taxes upon the client’s death.

I’ve always said that estate planning is not about the mitigation of taxes but rather the efficient and thoughtful transfer of wealth through generations. Estate tax savings tend to be a byproduct of that process.

When planning for state estate taxes, though, be sure to work with an attorney licensed in the state of your client’s primary residence to ensure that you are taking the proper steps to protect your client’s legacy.

 Commonwealth Financial Network does not provide legal or tax advice.