Tax Considerations


Planning for the distribution of your estate is something that everyone, regardless of their income, should do.

Unfortunately, many people tend to delay this planning and consequently problems arise when they are no longer able to live independently.

Ironically, estate planning is not a difficult process although for some people the distribution of an estate may be an issue of concern due to specific family circumstances. Estate planning consists of writing a will, considering the use of a trust or setting up your financial accounts in joint ownership or payable upon death, and considering the tax consequences of your actions on your beneficiaries.

Tax Consequences to an Annuity Beneficiary

Retirees often possess deferred annuities as a supplement to other retirement income or when savings become depleted. However, many individuals will die before they begin to draw upon an annuity, leaving the taxes to be paid by the beneficiary.

Annuities are not taxed while contributions are made, nor are the dividends of the annuity taxable. When someone dies, however the total value of the annuity less the contributions to the annuity by the deceased is taxable at the beneficiary’s tax rate.

In planning one’s estate, therefore, care should be taxed in purchasing a deferred annuity if there is no intent to ever draw upon that annuity for supplemental income by the retiree.  If the owner of an annuity died before beginning annuitization, the beneficicary can request a lump sum distribution or a series of payments. For more information on tax consequences of annuities to beneficiaries

Your Financial Lifeline has a good summary of some steps that may be taken with annuities to avoid tax liabilities for beneficiaries.

Tax Consequences to the Life Insurance Beneficiary

If the death benefits of your insurance policy plus all other assets in your estate is valued less than your estate tax exemption amount your estate will not pay taxes and the death benefit will pass on to your beneficiary. Smart Money has a short article outlining some options for avoiding taxes on your life insurance death benefit should you perceive that your estate is large enough to be subject to taxes.

Federal Income Tax information from the Internal Revenue Service:

  • The Estate Tax is 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 (Refer to Form 706 (PDF)). The fair market value of these items is used, not necessarily what you paid for them or what their values were when you acquired them. The total of all of these items is your “Gross Estate.” The includible property may consist of cash and securities, real estate, insurance, trusts, annuities, business interests and other assets.
  • Once you have accounted for the Gross Estate, certain deductions (and in special circumstances, reductions to value) are allowed in arriving at your “Taxable Estate.” These deductions may include mortgages and other debts, estate administration expenses, property that passes to surviving spouses and qualified charities. The value of some operating business interests or farms may be reduced for estates that qualify.
  • After the net amount is computed, the value of lifetime taxable gifts (beginning with gifts made in 1977) is added to this number and the tax is computed. The tax is then reduced by the available unified credit. Presently, the amount of this credit reduces the computed tax so that only total taxable estates and lifetime gifts that exceed $1,000,000 will actually have to pay tax. In its current form, the estate tax only affects the wealthiest 2 percent of all Americans.
  • Most relatively simple estates (cash, publicly traded securities, small amounts of other easily valued assets, and no special deductions or elections, or jointly held property) do not require the filing of an estate tax return. A filing is required for estates with combined gross assets and prior taxable gifts exceeding $1,500,000 in 2004 – 2005; $2,000,000 in 2006 – 2008; and $3,500,000 effective for decedents dying on or after January 1, 2009.
  • For more information on Federal Estate Taxes read the information provided by the Internal Revenue Service.

State Taxes

    Estate taxes paid to states will vary according to the statutory language of a given states. Some states have no estate taxes. The Retirement Living Information Center has a useful summary of taxes by state on their Web site. Here you will find information on estate as well as inheritance taxes.

(photo: thinkpanama)