If you have been fortunate enough to accumulate substantial assets during your lifetime, did you know that estate taxes could reduce the amount you’ll be able to pass on to your heirs? For estates larger than $2,000,000 (for 2006), federal estate tax rates can be as high as 46%. Therefore, it is very important to develop an estate planning strategy that reduces the impact of estate taxes. By making gifts of existing assets during your lifetime, you can reduce the size of your estate and lessen your family’s future estate tax burden.

Life Insurance - An Estate Tax Solution

Individuals often arrange for life insurance to help pay estate taxes. Theoretically, each annualized premium may be only a small fraction of the potential amount of the death benefit. It is anticipated that the life insurance policy proceeds will be greater than the total of the premiums paid over the life of the policy- not taking into account the interest that could have been earned on the premium payments. In addition, policy ownership can be arranged so the policy’s proceeds will not be included in the insured’s estate.

Credit Shelter Trust: An Estate Planning Tool

A credit shelter trust, also referred to as a bypass trust, is a popular estate planning tool used to protect assets from successive estate taxes. Current laws permit an unlimited amount of assets and property to pass to a surviving spouse without being subject to federal estate taxes. However, estate taxes are due when property at $2,000,000 or more passes to children or other beneficiaries (in 2006). A couple taking advantage of a credit shelter trust generally arranges for certain assets to pass into a trust for the benefit of a surviving spouse, rather than passing all assets directly to the spouse. This trust, which would not be considered part of the surviving spouse’s estate, may pay the surviving spouse income for life, and then upon his or her death may pass to a beneficiary, such as a child, free of estate taxes if under the applicable exclusion amount ($2,000,000 in 2006). In addition, the gross estate of the surviving spouse, upon his or her death, could also pass to the same beneficiary, and up to $2,000,000 (in 2006) would be free of estate taxes.

Early IRA Withdrawals

If you choose to make withdrawals from your Individual Retirement Account (IRA) before the age of 59½ as part of a “series of substantially equal periodic payments,” there are three IRS-approved methods to choose from: the life expectancy distribution method, amortization, and annuitization. You are still responsible for ordinary income tax, but may receive the scheduled distributions penalty free. Certain restrictions apply as outlined in Section 72(t) of the Internal Revenue Code (IRC). First, the payments from an IRA must be made at least annually, based on the life expectancy of the IRA owner, or the joint life expectancy of the IRA owner and his or her beneficiary. Second, the payments must continue for at least five years, or the attainment of age 59½ by the IRA owner, whichever comes later. For example, if you begin taking equal periodic payments at age 50, you must stay with the same payment plan for 9½ years. Finally, and perhaps most importantly, if the method of payment changes prior to reaching age 59½, the 10% federal income tax penalty would apply retroactively to all distributions received prior to age 59½.

What Are Those Old Clothes Worth?
When you give four bags of your old clothes to the Salvation Army, workers there will give you a receipt for four bags of old clothes. But, the value of the pile as a charitable tax deduction is left up to you to decide. How much is too much? The IRS has tried to eliminate most of the guesswork. You should deduct only the current fair market value, in other words, what the clothes would fetch in a used clothing store or flea market. To protect yourself from a challenge, keep records of what you contributed to which charity along with a description of the items. If you claim a deduction exceeding $500, you must file Form 8283, "Noncash Charitable Contributions." And, if you donate a shoe collection worth more than $5,000 or other "similar items" amounting to that much, say a library of books, you must have a qualified appraiser verify the total using Section B of Form 8283. Being charitable may save you some tax dollars!