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Think You’re Estate-Tax Exempt? Maybe Not

You may think you don’t have to worry about the federal estate tax because you’re not “rich.” In fact, some unsuspecting upper middle-class folks are exposed to the tax, which hits at a painful 35% rate.


Although current law provides a generous $5 million federal estate tax exemption for estates of individuals who die in 2011 and 2012, the exemption can be exceeded if you have lots of life insurance coverage, a valuable home, healthy retirement account balances, and some other assets.

What Is Included in Your Taxable Estate?

The value of your estate for estate tax purposes includes all the following assets (minus liabilities): proceeds from life insurance policies; your primary residence and any vacation and/or rental properties; retirement accounts, investment accounts; cars, furniture, collectibles, and all the rest of your stuff. Don’t forget to count any private business ownership interests (such as shares in a family corporation or partnership).

Here’s an example: Stephanie is a divorced single parent. Since she earns a healthy salary, she has a $4 million term life policy to provide for her three teenagers. She also has $800,000 of equity in her home, $1 million in retirement plan accounts, and $500,000 worth of assorted personal assets (cars, clothes, furniture, jewelry, and so forth). Stephanie has no significant debts beyond her home mortgage. Since she has never considered herself to be anything close to “rich” she has never done any estate-tax-avoidance planning. However, if she died tomorrow, her estate would be worth a whopping $6.3 million for federal estate tax purposes ($4 million + $800,000 + $1 million + $500,000), and her estate would owe the Feds $455,000 ($6.3 million estate – $5 million exemption) x 35% tax rate). Yikes! There may be a state estate tax bill too.

Impact of Life Insurance Coverage

For singles, a hefty amount of life insurance coverage is the most common cause of unexpected exposure to the federal estate tax. With married couples, it’s less of a problem because the life insurance death benefits can usually go to the surviving spouse federal-estate-tax-free thanks to the unlimited marital deduction privilege. However, the unlimited marital deduction is only allowed if your spouse is a U.S. citizen

To avoid estate tax triggered by life insurance coverage, you can set up an irrevocable life insurance trust to own your policies as explained here.

Watch Out for State Estate and Inheritance Taxes

Say you don’t have any federal estate tax worries thanks to the current $5 million federal exemption. Great, but that doesn’t necessarily mean you’re free and clear of any exposure to state estate or inheritance taxes–as I explained in this week’s Tax Guy column.

If in Doubt, See an Estate Planning Pro

It will cost you some bucks, but it will probably be money well-spent. Plus you can make sure your estate plan deals with important non-tax issues like naming a guardian for your minor children and avoiding probate.


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About The Tax Blog

  • The Tax Blog brings together a team of award-winning tax journalists from the Dow Jones network and around the web to examine the tax issues, changes and legislation that affect families, investors and small business owners. Our contributors include Tax Report columnist Laura Saunders (WSJ), Tax Guy columnist Bill Bischoff and senior reporter Jilian Mincer (, retirement-focused reporter Anne Tergesen (WSJ), wealth management writer Arden Dale (Dow Jones Newswires), TaxWatch columnist Eva Rosenberg and personal finance reporter Andrea Coombes (MarketWatch), and reporter Alyssa Abkowitz (SmartMoney). They’ll provide the latest news and insight, mine the tax code for tips and loopholes, and answer your questions about tricky tax situations. Contact the The Tax Blog with ideas, suggestions or tax questions at