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GS 815: Estate Taxation
Assignment 11:
Deductions from the Gross Estate
and
Charitable Transfers
Importance of State Law
• Determines legitimate debts
– no federal deduction is permitted unless it is “allowable
under state law”
• Must permit the debt
– to be paid by the executor of the estate
– out of estate assets
Property Subject to Claims
• Includes property
– that passes through the probate estate
– was owned outright at the time of death
– that can be called upon under state law to pay expenses,
claims, and debts of the estate (reduced by casualty losses)
• May be used to satisfy debts of the decedent and
expenses of the estate
Deduction Limitations
• Deductions of the following expenses are limited to
property subject to claims
–
–
–
–
funeral expenses
administrative costs generated by probate property
claims against the estate
charges against property includible in the estate
Deductible Funeral Expenses
• Must be payable out of probate estate under state law
• May not exceed actual costs
• When combined with administration expenses, claims,
and debts may not exceed the total value of probate assets
Administration Expenses
• Deductible if “actually and necessarily incurred”
– includes expenses of selling property if necessary to pay debts,
expenses, or certain taxes
• Must be actually incurred and allowable under state law
Allowable Administration Expenses
– executor commissions
– attorney fees
– court costs
– accountant & appraiser fees
– clerical costs
– storage expenses
– excise taxes on sale or disposition of property
Trustee Fees
• Generally are not allowed as deductible
administration expenses
• Benefits flow to trust beneficiaries, not estate
Estate Income
• Subject to income tax
• Executor must file a return
(in addition to decedent’s final income tax return)
• Obligation to file continues as long as the estate is open
Estate Tax vs. Income Tax Deduction
• consider tax ramifications
• cannot deduct same expense from both sources
• if estate tax deduction disallowed, can be taken as income
tax deduction if statute of limitations has not yet run
• once made, election to forgo estate tax deduction is
irrevocable
• apportionment is allowed
Nonprobate Assets
• Costs and expenses of non-probate assets in the
gross estate are deductible if:
– caused by the decedent’s death
– incurred in administering property subject to claims
– paid before the estate tax statute of limitation runs out
Claims Against the Estate
Deductibility of Claims
• Claims are deductible if:
– personal obligations of the decedent
– existed at the time of the decedent’s death
– there is consideration in money or money’s worth for the debt
• Intra-family debts are examined carefully
Tax Claims
• If the IRS determines after the decedent’s death that
a tax deficiency resulted from activity when the
decedent was alive, a deduction is allowed if:
– there is an arm’s-length settlement or actual adjudication
No deduction is allowed for:
• income tax liability on income received after decedent’s
death
• property taxes accrued after decedent’s death
• estate, succession, legacy, or inheritance taxes
– some exceptions apply
• (example: credit for state death taxes)
Mortgages & Liens
• deductible from the gross estate only if decedent was
fully liable for repayment of the debt
– liability must exist regardless of asset values securing the debt
• treatment of non-recourse debt
– value of asset is reduced by the debt when including it in the
gross estate
– this treatment impacts Sec. 1014 basis step-up
Casualty Losses and Thefts
Deductibility of Losses
• must be incurred during estate administration
• must be incurred prior to distribution
• must arise by
– theft, fire, storm, flood, shipwreck
– other casualty (destruction or damage from a sudden, unexpected, or
unusual cause) where the extent of the loss can be fully
measured as of time the loss is allowed.
Offset Rule
• if the loss is covered by insurance, the deductible
amount is reduced by insurance proceeds received
Charitable Estate Tax Deduction
Federal Estate Tax Charitable Deduction
• Unlimited
• Available for transfers that are “predictable or
ascertainable” at the time of decedent’s death
• Estate expenses apportioned to the charitable
contribution reduce size of the charitable contribution
Qualified Charity
• religious, charitable, scientific, literary, sports
competition or educational organization
• federal or state governments or subdivisions thereof
• specified veteran’s organizations
Split Gifts
• Generally: No Deduction Unless Donor Transfers Entire Interest
Deductible Partial Interest Transfers
•
•
•
•
•
•
Undivided portion of entire property interest
Remainder in residence or farm
Charitable Remainder Trust
Pooled-Income Fund
Charitable Lead Trust
Conservation contribution
Charitable Remainder Annuity Trusts
(CRATs)
• Fixed annuity or percentage
(at least 5%, but not more than 50%) of donated principal
• Term (not to exceed 20 years) or measuring lives
• No additional contributions
• Inflexible, but advantageous if interest rates are high
• Deduction denied if charitable remainder is less than 10%
Charitable Remainder Unitrusts
(CRUTs)
• Stated percentage (at least 5%, but not more than 50%) of annual value of
principal
• Term (not to exceed 20 years) or measuring lives
• Additional contributions permitted
• Flexible, but involves difficulty with hard-to-value assets
• Tax deduction denied if charitable remainder is less than 10%
Assignment 11 Review Question
1. What taxes are deductible on a decedent’s federal
estate tax return?
Assignment 11 Review Answer
1. Certain taxes are deductible on the estate tax return as claims
against the estate. These include income taxes, unpaid gift
taxes, and real property taxes accrued to the date of death.
Federal income taxes owed to the date of death are deductible
only on the federal estate tax return. However, state, local, or
foreign income taxes, as well as property taxes, may be
deducted on either the federal estate tax return or the federal
estate income tax return. Real estate taxes not accrued before
death, as well as local and foreign income taxes on estate
income, are deductible on the income tax return of the estate.
Any federal income taxes on estate income are not deductible
either on the estate tax return or for income tax purposes.
Assignment 11 Review Question
2. Melvin Marvel died leaving an $800,000 apartment
complex as well as other items. He was not married
and was the sole owner of the apartment complex.
The apartment complex has a $300,000 mortgage and
the full value of $800,000 is included in his estate. Is
the estate entitled to a deduction for the mortgage?
Assignment 11 Review Answer
2. A mortgage debt will be allowed as a deduction for
federal estate tax purposes if the following two
conditions are met: (1) the full value of the property
unreduced by the mortgage amount or indebtedness
must be included in the value of the gross estate; and
(2) the decedent’s estate must be liable for the amount
of the indebtedness. Since the two foregoing
conditions have been met, a deduction of $300,000 is
permitted for federal estate tax purposes.
Assignment 11 Review Question
3. Simon Simple’s estate included a yacht valued at $150,000 on
the federal estate tax return. During the period of estate
administration, the yacht was severely damaged by fire. It cost
$80,000 to repair the yacht. The estate received $55,000 under
its insurance claim.
a. What amount, if any, may the estate deduct on the decedent’s
estate tax return?
b. Would it be possible to deduct this or some other amount as a
casualty loss on the decedent’s final income tax return instead?
Assignment 11 Review Answer
3.
a. The estate may deduct $25,000 as a casualty loss calculated as follows:
– Cost of repair $80,000 less Insurance ($55,000) = Loss ($25,000)
b. A casualty loss accruing during estate settlement may be deducted from
either the federal estate tax return or the estate’s income tax return but
not from the decedent’s final income tax return.
Assignment 11 Review Question
4. If an executor is also a beneficiary of the estate, when
would it be wise for the executor to waive the fee?
Assignment 11 Review Answer
4. Executors who are also named beneficiaries of the decedent may
consider the desirability of waiving their executor fees, since they
receive a bequest that is income tax free. If an executor’s
commission is deductible on the federal estate tax return, it is then
received as taxable income whether or not the executor is a
beneficiary of the estate. However, if the commission or devise is
considered a bequest, it is not deductible by the estate for either
estate or income tax purposes. Executors can waive any
commissions if they find that more tax is saved by receiving the
bequest income tax free than is saved by characterizing the
executor’s commission as a deductible expense of the estate. The
critical factor to evaluate is whether greater tax savings results from
a deduction on the federal estate tax return when the additional
income tax incurred by the executor is taken into consideration.
Assignment 11 Review Question
5. Describe the general rule for the charitable deduction
and any limitations on the deduction.
Assignment 11 Review Answer
5. An estate tax charitable deduction is allowed for the
full value of property transferred to a qualified
charity, but only if the property is included in the
donor’s gross estate.
Assignment 11 Review Question
6. How may a disclaimer be used to pass property to a
charity?
Assignment 11 Review Answer
6. If property is transferred from a decedent’s estate to a
charitable organization because there has been a
qualified disclaimer by a prior beneficiary, a
charitable deduction is allowed for amounts actually
transferred to the charity.
Assignment 11 Review Question
7. Assuming that all debts, expenses, and taxes are to be
paid from the residuary estate, how is the amount of a
charitable bequest affected if the charitable gift is to
be made from the residue?
Assignment 11 Review Answer
7. If, under the terms of the will or provisions of local law,
payment of death taxes or other deductible expenses is to
be made from the charitable bequest, the charitable
deduction is reduced by those amounts used to pay debts
or taxes. In other words, the deduction is limited to the
actual amount that passes free and clear to the charity for
its charitable purposes. If the will provides that taxes and
administration expenses are payable from the residue and
the charitable bequest is also payable out of the residue,
the residuary bequest is diminished by the amount of
expenses and taxes paid.
Assignment 11 Review Question
8. What are the four general types of partial interests
passing to charity that can qualify for the charitable
deduction?
Assignment 11 Review Answer
8. The four general types of partial interests passing to
charity that can qualify for the charitable deduction
are:
– a testamentary gift of an undivided portion of the
decedent’s entire interest in property not held in trust
– a nontrust remainder interest in a person’s residence
– a nontrust remainder interest in a farm transferred by the
decedent at death
– remainder interests in trust to charitable remainder trusts
and pooled-income funds.
Assignment 11 Review Question
9. Explain how transfers to charity may be split to take
advantage of both the charitable and marital
deductions.
Assignment 11 Review Answer
9. Since 1982 a donor-decedent may create a charitable remainder
trust and obtain deductions for both the charitable and
noncharitable bequests. If a spouse is the only noncharitable
income beneficiary for life, the estate obtains a marital deduction
for the income interest to the surviving spouse as well as a
charitable deduction for the gift of the remainder interest to the
charity.
The result is that no transfer tax is imposed on the creation of a
charitable remainder annuity or unitrust for either the remainder
or income portion, provided that the income interest to a spouse
qualifies under the qualifying terminable interest rules.
Assignment 11 Review Question
10. What are the three ways that remainder interests in
trusts may be given to charities so they will qualify
for the charitable deduction? In all cases, assume that
there is also a noncharitable beneficiary.
Assignment 11 Review Answer
10. If the decedent transfers a remainder interest in
property to a charity in trust, it must be made in the
form of a charitable remainder unitrust, annuity trust,
or pooled-income fund. Otherwise, no estate tax
charitable deduction is allowed. These arrangements
usually provide for an income interest to a
noncharitable beneficiary with the remainder to the
charitable organization.
Assignment 11 Review Question
11. What is a charitable gift annuity and what are its
advantages?
Assignment 11 Review Answer
11. A charitable gift annuity is a contract between a donor and a
qualified charity. Under the agreement the qualified charity
receives a deferred gift. In addition the charity makes annual
income payments to the donor or someone named by the donor
for life. The advantages of a charitable gift annuity include:
–
–
–
–
–
Donor receives an immediate income tax deduction.
Donor may defer gain on contribution of appreciated property.
Donor is able to receive fixed annual payments for life.
It is simple in design and administration.
There are no trust drafting or trustee expenses.
Assignment 11 Review Question
12. Explain how community foundations are
grant-making entities.
Assignment 11 Review Answer
12. Community foundations are considered to be grantmaking entities because they are charitable
organizations that consist of an amalgamation of
separate accounts used to provide grants usually
benefiting local communities.
Assignment 11 True/False Questions
1. Funeral expenses are deductible either on the federal
estate tax return or on the decedent’s last income tax
return.
Assignment 11 True/False Questions
2. Executors’ commissions are considered to be costs of
administering property that are included in a
decedent’s gross estate and are, therefore, deductible
from the gross estate.
Assignment 11 True/False Questions
3. Unpaid mortgages on property included in the gross
estate for which the decedent was liable are allowable
as deductions from the gross estate in arriving at the
adjusted gross estate.
Assignment 11 True/False Questions
4. Expenses in the administration of nonprobate assets
are deductible if incurred on behalf of assets
includible in the gross estate.
Assignment 11 True/False Questions
5. There are certain deductions that may be taken on
either the federal estate tax return or the estate’s
income tax return.
Assignment 11 True/False Questions
6. When an executor who is an heir takes a commission
for services, he or she must report the commission as
ordinary income.
Assignment 11 True/False Questions
7. A charitable deduction is allowed for the entire value
of a bequest to a qualified charity even though the
property is not included in the donor’s gross estate.
Assignment 11 True/False Questions
8. A charitable deduction will be allowed for the full
value of property that passes to a qualified charity as
a result of a qualified disclaimer made by a prior
beneficiary.
Assignment 11 True/False Questions
9. So that gifts of remainder interests made to charity
may qualify for the charitable income, estate, or gift
tax deduction, the gift must be in the form of a
charitable remainder trust or a pooled-income fund.
Assignment 11 True/False Questions
10. It is now possible to create a charitable remainder
trust in combination with a qualified terminable
interest property (QTIP) trust in favor of the
surviving spouse and to avoid federal estate tax
liability entirely.
Assignment 11 True/False Questions
11. When the donor makes a gift of a remainder interest
in a CRT, the donor escapes all gift taxation as a
result of the transfer.
Assignment 11 True/False Questions
12. With a charitable remainder annuity trust, one or more
noncharitable income beneficiaries receive a fixed
percentage of not less than 5 percent of the net fair
market value of the trust assets as revalued annually.
Assignment 11 True/False Questions
13. Under current tax law, the value of a remainder
interest passing to charity in a CRT must be at least
10 percent of the value of the property transferred to
the trust.
Assignment 11 True/False Questions
14. Pooled-income funds are used primarily by wealthy
donors making sizable charitable contributions so that
more income will be generated within the fund.
Assignment 11 True/False Questions
15. Charitable lead trusts are structured so that one or
more noncharitable beneficiaries receive the
remainder interest in the trust when it terminates.
Assignment 11 True/False Questions
16. One of the disadvantages of the charitable gift
annuity is that it is an arrangement requiring a trust
agreement and has on-going trustee fees.
Assignment 11 True/False Questions
17. Once a donor makes a contribution to a community
foundation, the donor’s involvement ends.
Assignment 11 True/False Questions
18. A recognized advantage of private foundations is
that they are subject to few and simple taxation rules.
Assignment 11 True/False Questions
19. Often donors establishing a private foundation
intend the foundation to be a way of involving future
family generations in social and philanthropic
endeavors.
Assignment 11 True/False Questions
20. Private foundations provide lower annual charitable
deduction percentages than are generally allowed for
charitable contributions to public charities.
Assignment 11 True/False Questions
21. The fair market value of a charitable remainder
interest is the present value of the interest at the time
of transfer.
Assignment 11 True/False Answers
1. False. Reasonable funeral expenses are deductible for estate tax purposes only.
2. True.
3. True.
4. True.
5. True.
6. True.
7. False. A charitable deduction will be received for a gift of one’s entire estate to a qualified
charity at death only if the subject property is included in the donor’s gross estate.
Assignment 11 True/False Answers
8. True.
9. True.
10. True.
11. False. It is possible for the donor to have gift taxation on the transfer if a taxable gift
has been made to one or more noncharitable income beneficiaries of the CRT.
12. False. A charitable remainder annuity trust provides a noncharitable income
beneficiary with a fixed annuity worth not less than 5 percent of the initial net fair
market value of the property contributed to the trust. It is a charitable remainder
unitrust that provides a fixed percentage, revalued annually, of the fair market value in
the trust.
13. True.
Assignment 11 True/False Answers
14. False. Pooled-income funds are sometimes referred to as the poor person’s charitable
remainder trust. They are used mostly by donors having relatively small
amounts to contribute to charity. By using a pooled-income fund, donors are
spared the expense and effort of having separate trusts established.
15. True.
16. False. One of the advantages of charitable gift annuities is that they are simple in
design and administration and do not require a trust arrangement or involve
trust fees.
17. False. One of the advantages of community foundations is that the donor may play a
decision-making role in how the funds in his or her account benefit the local
community.
Assignment 11 True/False Answers
18. False. Private foundations are subject to strict and limiting tax rules.
19. True.
20. True.
21. True.
GS 815
Assignment 12
Tax Rates, Liability for Payment, & Credits
Tax Credits
• Dollar for dollar reduction in tax
• Cannot exceed the tax imposed
The Basic Credit Amount
• Exempts a certain amount of the value of assets
from Estate Taxation
Credit for Prior Transfers
• Allowed for taxes imposed on transfers to the present
decedent by a person who died within 10 years before
or 2 years after the present decedent’s death
Credit for Prior Transfers
• Equals the smaller of:
– the amount of the federal estate tax attributable to the
transferred property in the transferor’s estate, or
– the amount of the federal estate tax attributable to the
transferred property in the present decedent’s estate.
Credit for Prior Transfers
• Restrictions for a transferor who died more than 2
years before the present decedent
–
–
–
–
80% if transferor died 3-4 years prior
60% if transferor died 5-6 years prior
40% if transferor died 7-8 years prior
20% if transferor died 9-10 years prior
Credit for Foreign Death Taxes
• Minimizes double taxation
• Allowed for
– U.S. Citizens
– Resident Aliens
• Estate must show the tax was actually paid
• Limited to
– Tax actually paid, or
– Federal estate tax attributable to foreign property
State Death Taxes
• Inheritance Tax
– tax on the right of a beneficiary to succeed to ownership of
property
• Estate Tax
– tax imposed on the privilege of the deceased to leave property
• State Death Tax
– allowed as Deduction from the Adjusted Gross Estate
Where is the Property Taxed
• Real Property
– State where located
• Tangible Personal Property
– State where located
• Intangible Personal Property
– State of decedent’s domicile
– Multiple state taxation is possible
Elimination of the State Death Tax Credit
and the “De-Coupled” States
• States with no tax—AL, AK, AZ, AR, CA, CO, DE, FL, GA,
HI, ID, LA, MI, MO, MS, MT, NV, NH, NM, ND, SC, SD,
TX, UT, WV, & WY
• States with separate inheritance tax—CT, IN, IA, KS, KY,
MD, NJ, OH, OK, PA, TN, & WA
• States with decoupled pick-up tax—DC, IL, KS, ME, MD,
MA, MN, NE, NJ, NY, NC, OR, RI, VT, VA (repealed 7/1/07),
& WI
Life Insurance & State Death Taxes
• Majority Rule: Life insurance proceeds paid to a
named beneficiary avoid state death taxation
• Life insurance payable to the estate or an inter-vivos
trust may be subject to state death taxes
Assignment 12 Review Questions
1. Briefly describe the two current types of state death tax.
Assignment 12 Review Answers
1.
Inheritance Tax
The inheritance tax is a tax imposed on an individual’s right to inherit property
from the estate of a decedent. The amount of inheritance tax is based on
two factors: (1) the value of the property received by each beneficiary and
(2) the rate of the tax (and the amount of exemption, if any exists), which
depends on the beneficiary’s degree of blood relationship to the deceased.
Estate Tax
A state estate tax is similar in nature to the federal estate tax. It differs from the
inheritance tax in that the inheritance tax is imposed on a beneficiary’s right
to inherit, while the estate tax is imposed on a decedent’s right to transfer or
pass property to beneficiaries.
Assignment 12 Review Questions
2. What effect do beneficiary classes and exemptions
have on state death taxation?
Assignment 12 Review Answers
2. In the majority of states, state law groups beneficiaries who are
entitled to receive estate assets into classes. The closest blood
relatives of the decedent have the lowest state death tax rate and the
largest exemption. In a state that provides for two classes, Class 1
(or Class A) may include the deceased’s surviving spouse, children,
parents, and grandchildren. Class 2 (or Class B) may include aunts,
uncles, brothers, sisters, nephews, nieces, and all other beneficiaries.
The Class 2 individuals are subject to a higher tax rate than those in
class 1. If the particular state also provides exemptions, the
beneficiaries in Class 2 will have smaller exemptions than those in
Class 1. A state might also have different exemptions within a class
according to how closely the beneficiary is related to the decedent.
Assignment 12 Review Questions
3. Describe the general rules used to determine which
state has the right to tax the following types of
property:
a. real estate
b. tangible personal property
c. intangible personal property
Assignment 12 Review Answers
3.
a. Real property is real estate and property that is permanently attached to the
land. Generally, real property is taxable only by the state in which the
property is located (has situs).
b. Tangible personal property is property such as cars, furniture, jewelry, and
artwork. Tangible personal property generally is taxable by the state in
which the property is usually kept, whether or not the state is the decedent’s
state of domicile.
c. Intangible personal property includes stocks, bonds, insurance policies,
mortgage liens, notes, debt instruments, and the like. These kinds of
property may be taxable by more than one state if the states can establish a
sufficient nexus or contact with the property.
Assignment 12 Review Questions
4. Describe the most common circumstances in which
intangible property is subject to double or multiple
state death taxation.
Assignment 12 Review Answers
4. Intangible property may be subject to multiple state death
taxation under the following circumstances:
– The decedent owned residences in more than one state and it
is unclear which of the states was the decedent’s state of
domicile.
– Intangibles held in trust may be taxable by the deceased
grantor’s state of domicile and the trustee’s state of domicile.
– Securities transferred due to the shareholder’s death may be
taxable by the shareholder’s state of domicile and by the
issuing company’s state of incorporation.
Assignment 12 True/False Questions
1. At the present time, there are basically two types of
state death taxes—state estate taxes and inheritance
taxes.
Assignment 12 True/False Questions
2. For federal estate tax purposes, from 2005 through
2012, state death taxes are a deduction for the entire
amount of state death taxes paid.
Assignment 12 True/False Questions
3. Decoupling refers to states that have both an
inheritance tax and a state estate tax.
Assignment 12 True/False Questions
4. If a decedent’s estate does not have to file a federal
estate tax return (Form 706), there is no deduction for
state death taxes paid.
Assignment 12 True/False Questions
5. In many states, beneficiaries of different classes are
taxed at different rates.
Assignment 12 True/False Questions
6. The closest blood relatives of a decedent typically
have the lowest state death tax rate and the largest
exemption.
Assignment 12 True/False Questions
7. Real estate transferred at a decedent’s death is taxed
only by the decedent’s state of domicile.
Assignment 12 True/False Questions
8. Intangible personal property may be subject to death
taxation by more than one state.
Assignment 12 True/False Questions
9. Life insurance proceeds payable to a named
beneficiary other than the estate are specifically
exempt from state death taxes in some states.
Assignment 12 True/False Questions
10. A decedent-spouse’s one-half interest in community
property is exempt from state death taxation in most
of the community-property states.
Assignment 12 True/False Questions
11. Many states have adopted a time frame of 6 months
from the date of the decedent’s death for filing and
paying death taxes.
Assignment 12 True/False Answers
1. True.
2. True.
3. False. Decoupling is a relatively recent term used to identify the legislation of states
that no longer reference state death taxation to EGTRRA 2001 for purposes of the
state death tax credit (allowed prior to 2005) and/or the basic exclusion amount
increases.
4. True.
5. True.
6. True.
Assignment 12 True/False Answers
7. False. While the state of domicile has a claim against all the decedent’s property for
state death tax purposes, the state in which the decedent’s real estate is situated
may impose some form of transfer tax at death. The state of domicile will
probably exempt from taxation real estate owned by the decedent located
outside its borders.
8. True.
9. True.
10. False. A decedent-spouse’s one-half interest in community property is subject to death
taxation in most of the community-property states.
11. False. Many states have adopted the federal government’s time frame of 9 months
from the date of the decedent’s death for filing and paying death taxes.