Most people don't realize that we have two systems of taxation. One taxes income as it's earned; the other taxes wealth as it changes hands. During a person's lifetime, we call this transfer tax the gift tax. At his or her death, we call it the estate tax, and it could carry significant tax consequences for you and your beneficiaries.
That's why estate planning is so important.
Each state has its own rules for state inheritance taxes. And then there's the federal estate tax.
For 2007 and 2008, there's no federal estate tax if your estate is worth $2 million or less.
For the vast majority of Americans, that ends the discussion.
Even if your income is modest, however, you may not be off the hook. Do you live in a community where real-estate values have risen sharply and you've owned the property for a very long time? Have you built up a stake in a company whose stock has shot sky-high over the years, like, say, Google? If you fall into one of these scenarios, pay attention.
The $2 million "exclusion amount" increases until 2010, when it becomes unlimited for a year. That means no federal estate tax, regardless of how big an estate you leave.
I expect to see lots of dying rich people hooked up to machines at the end of 2009 to keep them alive until 2010.
But we're talking about the IRS here, so nothing is simple. Die on Dec. 31, 2010, and you pay zero estate tax. Die the next day and the exclusion amount is scheduled to drop down to $1 million. That's why it's so important to sit down with a professional if you think your estate might be big enough for the tax to hit.
Calculator: Estimate your taxes
Congress has been talking about amending the estate tax rules for two years now, with no progress. Nothing will be done until after the 2008 elections. I suspect at that time we'll get an exclusion of about $3.5 million per person, which, with a properly drafted will, will exclude estates of $7 million or less for married couples.
In the meantime, be careful! Simple things can empty your pockets. For example, if you leave 100% of your assets to your spouse, your estate pays zero tax because of the marital deduction. But, you're losing the