New York Estate Planning & Elder Law Blog
The House of Representatives recently passed a bill that would eliminate the federal estate tax. The bill is expected to pass in the Senate but be vetoed by the President, thus most likely preventing it from becoming law. However, the bill does bring up an interesting aspect of the federal estate tax, namely, how small businesses and family farms need to estate plan in order to protect their assets.
Federal and State Estate Taxes
Currently, the federal estate tax applies to any estate that is over $5.43 million, and any assets over that amount in the estate can be taxed up to forty percent. State estate and inheritance taxes vary and must be checked on a state by state basis; however, some states can take a significant portion of the estate’s worth if the assets are not properly shielded by an estate plan. For example, Ohio repealed its estate tax in 2013, but Maryland has both estate and inheritance taxes up to sixteen percent on estates worth more than $1 million.
Effects of Federal Estate Taxes
While most people are not affected by the federal estate tax, people with small businesses or family farms can be hurt by the final tax bill from the Internal Revenue Service (IRS). This is because the majority of the estate’s assets are usually tied up in illiquid things. For example, a small business usually has most of its assets in the building and equipment and a farm has most of its money tied up in farmland, farming equipment, seed, livestock, and other things that cannot be quickly and easily converted into cash.
As a result, small businesses and farming operations can be stuck in a bind if they are hit with serious estate tax bills by the federal government. Oftentimes the heirs are forced to sell the business or farm simply to cover the federal estate taxes because they cannot convert the assets into cash and have enough left to properly run the operation. This is why it is important that the owners of small businesses and farms have the right estate plans in place to shield their assets from the federal estate taxes.
How to Protect Assets
One popular option for small businesses and farms is to purchase life insurance. The life insurance proceedings can be used to cover the federal estate tax without harming the operation. Another option is to transfer the ownership of the business or farm into a business entity. Partnership, corporation, or limited liability corporations are all possibilities for transferring ownership in order to minimize or avoid federal estate taxes on that aspect of the estate. The business or farm would be taxed separately as its own entity, and it would no longer be considered part of an individual person’s estate.