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What are Estate Taxes?

What are Estate Taxes?

The federal estate tax is a tax on the transfer of property from an individual to his or her beneficiaries at the time of the individual’s death and on other transactions that are determined to be the equivalent of a transfer of property at death. It is sometimes called the death tax.

The estate tax is imposed on the decedent’s taxable estate. The taxable estate equals the total value of property transferred at death or considered to be transferred at death (called the gross estate) minus deductions allowed under the Internal Revenue Code. The following types of property are included in the gross estate:

• Property that the decedent owned at the time of his or her death
• Certain types of gifts made during the decedent’s lifetime within 3 years of death
• Transfers of property in which the decedent retained a life estate
• Transfers of property that take effect at death
• Transfers that are revocable
• Property that is jointly owned by another and the decedent at the time of his or her death
• Qualified terminable interest property for which a marital deduction was allowed previously
• Property that is subject to powers of appointment
• The decedent’s life insurance
• Pensions and annuities that have death benefits

Once it has been determined what property is included in the gross estate, the value of that property must be ascertained. The value is generally fair market value. For estate tax purposes, fair market value is defined as the price for which a willing buyer and seller would transfer property, where neither is forced to buy or to sell and both of them have reasonable knowledge of all the relevant facts. Fair market value is normally the value of the property on the date of death. The estate’s executor, however, can select a date other than the date of death to value the gross estate if certain conditions are met. This is called the alternate valuation date.

After finalizing the value of the property that is included in the gross estate, the allowable deductions must be determined. Deductions are available for the following:

• Administration expenses
• Funeral expenses
• Claims against the estate
• Unpaid mortgages
• Theft or casualty losses sustained by the estate during administration if not covered by insurance
• Charitable transfers
• The marital deduction (the value of any property that passes from the decedent’s estate to the surviving spouse)
• Any state or local estate or death taxes paid because of the decedent's death

To arrive at the taxable estate, subtract the available deductions from the value of the gross estate.

The Economic Growth and Tax Relief Reconciliation Act of 2001 provides for estate tax relief that will expire after December 31, 2010, unless Congress acts to extend it. Under this Act, the maximum estate tax rate was reduced from 50% in 2002 to 45% in the years 2007-2009. For 2010, the estate tax is repealed. In addition, the amount that is exempt from estate taxes has increased under this Act from $1 million in 2002 to $2 million in 2007 and 2008 and up to $3.5 million in 2009.

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