Estate Planning

In a nutshell, estate planning is the process of defining the things that you want to happen in regard to financial, and nonfinancial matters when you are unable to do them. This includes not only death, but incapacity.

We should think of estate planning as a safety net, and as a safety net we should seek to rely on it as little as possible. It could be argued that the perfect estate plan includes a robust set of estate documents that outline trusts and other clauses to occur on death, but that are never needed because you die having achieved all your goals in life, pennyless.

I know that may strike you as unusual, but it is not to say that you are broke, but rather that you gave everything away a moment before you died, rather than a moment after you died. The former is governed by the rules of gift tax, and the latter by the rules of estate tax. As we will see. these two are intertwined.

How does Estate Planning apply to me?

Estate Planning is a broad subject, and something of a cyclical process. In light of changes to federal estate tax law over the past decade, many people think that estate planning is no longer necessary. In some cases this is true. The challenge for the individual is knowing when they need to plan and when they do not, and a massive part of this is the divergence between federal and state approaches to estate tax.  Couple that with the fact that most searchable articles on estate tax focus on federal, rather than state issues, results in people searching for answers for their specific situation, but receiving information that might not consider the impact of their state of residence.

Although many professionals might not want to admit it, there are times where you don't really need an estate plan. For example, if you are young, have no dependents and little in the way of assets you might not need even a basic Last Will and Testament (Will).

The reason for this stems from the notion of Rule of Law vs Rule of Contract. A classic example is found where a person remarries. They have an old Will that states very clearly, please leave everything to my spouse (at that time). That ex-spouse might try to claim rights on a bank account, but would fail to if the spouse had titled the bank account in a way that named a beneficiary. The Rule of Contract outweighs the Will, despite it being a legal document. While sometimes this works to your benefit it can backfire also.

Problems that can arise in estate planning title of assets.
Green boxes are good, red boxes show problems.

Estate Planning is more than tax

While federal estate tax is less of a concern for many, it is only a small piece of estate planning. In broader financial planning, the estate plan is considered a pillar of planning. The CFP® Board, weights this as 12% of the total curriculum. They break it down into the following topics:

H.63. Characteristics and consequences of property titling
H.64. Strategies to transfer property
H.65. Estate planning documents
H.66. Gift and estate tax compliance and tax calculation
H.67. Sources for estate liquidity
H.68. Types, features and taxation of trusts
H.69. Marital deduction
H.70. Intra-family and other business transfer techniques
H.71. Postmortem estate planning techniques
H.72. Estate planning for non-traditional relationships

source CFP® Board

As you can see, there are many facets to the subject, and these integrate with other elements of financial planning, such as insurance and gifting.  And, perhaps more importantly to some, the non financial elements of the estate plan which include the naming of guardians for your surviving dependents. Where you are in life, and what responsibilities you have, will alter the importance of an estate plan in general, and the components of the plan specifically. For example, there is a good argument to be made that you only need term life insurance in the 'middle years' when you are young and have no dependents it is unnecessary, and when you are old, you can self insure via other assets. However, it is very common for people to start a family and buy a home using a mortgage, and term life insurance during these years can be life changing.

Evolution of the Estate Plan
The evolution of the Estate Plan

In financial matters they are the instructions of last resort

If we look at financial elements of an estate plan, which include asset titling and transfers, trusts, and taxation, we can see that an estate plan is really just taking care of things that we failed to do when living. It is the instruction of last resort. If we were to take a perfect life (financially) a person would spend their last dollar, laugh at the life they have lived, and then die. There would be no need for a Last Will and Testament, no assets to transfer, no Trusts to form. This doesn't mean that they haven't saved and provided for their loved ones, it simply means that in the perfect example, asset transfers are completed during their lifetime, rather than after it.

Think of gift tax and estate tax as the same

While there may be some nuances between the two, they are intrinsically linked. If you consider them as follows:

  • Gift tax = tax paid on gifts in excess of the lifetime exemption ($11.7M in 2021) that occur while living.
  • Estate tax = tax paid on gifts in excess of that same lifetime exemption that occur when dead.

(noting that you may also exclude $15,000 per person annually from gift tax)

Further proof of this is that the exemptions in gift tax and estate tax are the same. If you were to use $10M of gift tax exemption during your lifetime, your estate tax exemption is lowered by that amount and would be $1.7M. If we can make this all one big 'gift-estate combo' for the purpose of planning, things become a lot clearer.

Behavioral Issues

A very common theme in young parents is a financial goal to pay for college for their children, allowing them to be unburdened by student loans and giving them a boost in life. Frequently, 529 plans are used to allocate funds for college, and a gift occurs from parent to child. There's a method where accounts can be 'superfunded' by bunching five years of $15,000 annual gift exclusions into one that several people use, or even doubling that via gift splitting an funding $150,000 into a single 529 for the child's future education.

In many cases, this is a fine strategy. An immediate benefit that it offers is to insulate the funds from annual taxation,  allowing them to grow tax free (if later used on qualified education expenses). However, in some cases this is very bad strategy.  The obvious problem is that by transferring funds into the 529, they are no longer available for other uses. While there might be annual tax savings on the growth of the 529 funds, what about the opportunity cost of depleting these funds?

It is a sincere, and kind gesture, the parent wants their child to not have to pay interest on student loans. They have a mortgage which they are paying interest on, and they can't pay it off as resources are allocated to 529. Or, in other scenarios if they had an additional $150,000 available they could use this to cover two years of retirement spending, and use those $0 income years for roth conversions.

Ultimately, when we bundle this gift-estate-combo together what we are doing is seeking to ask better questions:

  • Which strategy teaches the best skills of managing money?
  • Which strategy results in the greatest amount of net worth?

Of course, there is much more to this than money, but we are looking at this only through the lens of money at this time. A strong argument could be made that a student who graduates with no debt due to the support of a parent may not possess the skills to manage a budget. Therefore, if a parent intentionally decided to not fund college, they might teach prudence and balancing budgets, and at the same time be building a greater amount of wealth to transfer.

Matching asset transfer to phases in your life, rather than theirs

That said, the goal is to give it all away a moment before you die, then paying for college is one idea, but a better one might be to look at gifts at key stages in your own life. Perhaps college years are coinciding with a time where you still have other debt to manage, and by depleting yourself of resources you have to accept additional expenses. It might be that you need to hold more life insurance because you've overextended into covering college. Contrastingly, if you pay for college after the mortgage is paid off, you have a consistent financial platform to work from. For those who have children later in life, it might be that college coincides with retirement years, in which case it can be better to 'make them wait' until required minimum distributions (RMD) are occuring and you have excess annual income to deploy.

You want to give it all away

Ultimately, you want to give it all away, but the timing matters. This is the essence of the estate plan, it is a backup plan for the things you couldn't complete in time. You may have planned to gift $150,000 for college but you died, so you have it written down that you want $150,000 to be allocated for college. But again, if that was your only goal, and you had just finished paying for college, the estate plan is redundant.

We want to create the most robust plan possible, but use it as sparingly as possible.

Components of the Estate Plan

Components of our estate planning process
The components of the estate planning process

We should keep in mind that no one size fits all, and that everything has a cost in some capacity, whether that is the cost of taxes, or the cost of planning to avoid those taxes. For example, if you have assets in excess of $11.7M (the lifetime exemption amount in 2021) you are subject to Federal Estate Tax. But if your assets exceed the $11.7M amount by $50, perhaps creating an elaborate series of trusts would be effective at protecting that $50 from taxation, but at a cost of many thousands of dollars.

However, that same individual might have many different needs based on the bigger picture:

If they were married with young children, and their assets were matched with liabilities of $11.7M via a mortgage and other debt, then part of their planning might require insurance to help protect their dependents in the event of premature death.

In another scenario, age alone may be material. A person who is age 30 with these assets would be expected to live many more years, and if spending is less than income, they might find that the $50 excess quickly grows into something more substantial. Trusts are used in situations like this to freeze the size of the estate.

Therefore, what your plan should focus on really depends on where you are in life.

Estate Planning Key Documents

Estate Planning Key Documents
Estate Planning key documents

State Tax matters

One of the major challenges in any planning process is that each state has the ability to implement their own rules in regard to estate tax. Furthermore, some also implement an inheritance tax, which is applied to certain beneficiaries of assets. The Tax Foundation has a great graphic on this:

State or Inheritance Tax from the Tax FoundationSource: Tax Foundation

Divergence between State and Federal Law

Arguably, two of the most impactful pieces of legislation within Estate Planning were found in Portability (introduced in 2010 via HR 4853) and the large increase to the lifetime exemption amount in 2017, where it increased from $5.49M per person to $11.18M per person.

However, not all states have implemented Portability, and each state is able to set its own lifetime exemption amount, which can be significantly lower than the federal level.

Portability is the method of transferring Deceased Spouse Unused Exemption (DSUE) to the surviving spouse. The impact of this is that a married couple electing portability will double the lifetime exemption of a single person, whether they fully use the exemption on first to die or not.

To see how portability works, consider the example where a married couple owns $14M in assets, with and without Portability:

Example without Portability

  • Spouse 1 dies on January 1st with $7M in assets titled to their name individually, with Spouse 2 receiving 100% of the assets on death (via beneficiary designation on the account).
  • Spouse 2 dies on February 1st with $14M in assets, leaving everything to their surviving child.

The first transfer of assets occurs when Spouse 1 dies. However, none of the $7M is subject to estate tax due to the marital deduction. An unlimited amount of money may transfer between spouses (other than those married to non resident aliens). The second transfer occurs with the death of Spouse 2.

If there were no Portability of the DSUE, using 2021 rates, with a federal estate tax exemption of $11.7M, $2.3M of estate would result in $865, 800 in federal estate tax, for an effective rate of 37.64%. This is due to the brackets in the estate tax table being compressed in relation to income tax tables, and the top rate of 40% quickly arising at $1M and above. The Table below shows the current estate tax rates.

Amount over Lifetime Exemption

Estate Tax Rate
Table A—Unified Rate Schedule: IRS

Example with Portability

Taking the same facts as above, portability would allow Spouse 2 to claim the DSUE of Spouse 1, therefore she would be able to exempt a total of $23.4M from her estate on her death, making none of the $14M taxable. The portability law saves her estate $856,800 in federal tax.

Don't forget the State taxation!

In the example above, we might think that the combination of Portability and broadened lifetime exemption limits would suffice for planning estate tax, we need to keep in mind how the state views the matter. New York State is an example of estate tax that becomes very burdensome under their approach to calculating the tax. Using the same example as above, where an married couple with assets of $14M is subject to no federal tax, New York would calculate the tax due as follows:

There are four factors in the New York calculation that impact the tax calculation:

  1. No portability of DSUE (making the $7M from Spouse 1 taxable on the death of Spouse 2).
  2. A lower lifetime exemption rate of $5,930,000 vs $11,700,000 at the Federal level.
  3. A special rule where the exemption is disallowed in estates that exceed 105% of the exemption, referred to as the Estate Tax Cliff.
  4. Tax Rates: lower than Federal rates with a maximum rate of 16% for estates over $10,100,000 in size (2021)
New York Estate Tax Table
New York Estate Tax Table (Form ET-706 2021)

The NY Estate Cliff

This is a great example of how an individual state might approach Estate Tax differently. In the Federal calculation of tax, the lifetime exemption is always allowed, to the extent that it hasn't been used during the lifetime via gifting. In New York, as soon as the estate exceeds their (already lower) exemption level by a certain amount, the tax calculation acts as though the exemption is worth $0.

Due to these divergences, classic estate planning strategies, such as Credit Shelter Trusts are still in use for estates that are not subject to federal estate tax, and while many think that such estate planning is no longer necessary, it is typically because they are viewing this from the lens of Federal Tax.

The use of Trusts in the Estate Plan

Trusts can be fantastic tools in an estate plan. They are split into two key categories:

  1. Revocable Trusts = Disregarded for tax purposes, transfers into the trust may be reversed.
  2. Irrevocable Trusts = Typically a separate tax entity, though exceptions apply, transfers to irrevocable trusts cannot be undone. They are moved out of your name and into the name of another entity, though they can still be used for your benefit.

Revocable Trusts will tend to contain provisions that create new trusts on death, and control the flow of assets to beneficiaries, which could be natural people, or other entities. They are attractive because they avoid the need for Probate when assets are titled appropriately.

Probate and Intestacy in Estate Planning
Probate Court and Intestacy

Care needs to be taken with Trusts. As noted, when irrevocable trusts are involved you are often at the mercy of the irrevocable nature of the transfer.  This can cause issues when a trust has provisions to qualify it for certain tax treatment, as we saw recently with the use of a trust as a beneficiary of a retirement account. Under old law, in order for the trust to qualify it had to have provisions where it would allow for withdrawals that followed the rules of required minimum distributions (RMD). However, when the laws governing RMD's were changed these trusts created bottlenecks that could cost the account holder massive amounts of tax penalty.

Therefore, while trusts can solve complex problems, they can also create new ones, and must be constantly monitored for changes in the underlying tax code.

If you'd like to discuss your own estate plan, feel free to reach out via the contact form below, or send an email to

Matthew Hague Headshot
Matthew Hague CFP®, EA

‍My name is Matthew Hague, and I am a CERTIFIED FINANCIAL PLANNER™ professional and an Enrolled Agent with the IRS .

I founded Guide Wealth Management to help provide independent, fiduciary advice to our clients. Prior to launching the firm I attended NYU to study Financial Planning and am currently enrolled in a Masters in Taxation degree.

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