How to Avoid Estate Taxes in Washington State

Estate taxes can significantly impact the transfer of wealth to your loved ones. While Washington State has its own estate tax, separate from the federal estate tax, there are strategies you can employ to minimize its impact. This blog post provides an overview of common methods. It is crucial to consult with an estate planning attorney and tax advisor for personalized guidance.

Understanding Estate Taxes

An estate tax is levied on the transfer of property from a deceased person (the decedent) to their heirs or beneficiaries. It's not a tax on the assets themselves, but rather on the act of transferring those assets after death. It's calculated based on the taxable estate, which is generally the gross value of the deceased's assets minus allowable deductions (like debts, funeral expenses, and charitable contributions).

Estate taxes have a long history, dating back to ancient civilizations. In the U.S., the first federal estate tax was enacted in 1797. Washington has its own estate tax, separate from the federal one. Washington's estate tax has been subject to changes over the years, including adjustments to the exemption amounts and tax rates.

Washington State Estate Tax Specifics

• Separate from Federal: Washington's estate tax is independent of the federal estate tax. Even if your estate doesn't meet the threshold for federal estate tax, it might still be subject to Washington's tax.

• Exemption: Washington has an exemption amount, meaning estates below this value are not subject to the state estate tax. This exemption amount is subject to change based on legislation. It's crucial to look up the current exemption amount on the Washington State Department of Revenue website.

• Tax Rates: Washington's estate tax uses a graduated rate structure. This means that different portions of the estate above the exemption are taxed at different rates. The higher the value of the taxable estate, the higher the tax rate on the incremental value.

• Focus on Transfer: Remember, Washington's estate tax is a tax on the transfer of property, not the property itself. This is a key distinction.

• Washington Inheritance Tax (Historical Note): Washington previously had an inheritance tax, which is different from an estate tax. An inheritance tax is levied on the heir or beneficiary based on what they inherit. Washington repealed its inheritance tax in 1981 and replaced it with the current estate tax.

  
  

Key Differences: Estate Tax vs. Inheritance Tax

Understanding this difference is fundamental when discussing how to avoid estate taxes in Washington State.

• Estate Tax: Tax is on the estate before distribution to heirs.

• Inheritance Tax: Tax is on the heirs based on what they inherit.

  
  

Strategies to Minimize Estate Taxes

Maximize the Exemption: 

A simple strategy is to ensure your estate doesn't exceed the exemption amount. This may involve gifting assets during your lifetime.

Gifting: 

Gifting assets during your lifetime can reduce the size of your taxable estate. Washington, unlike the federal system, does not have a gift tax. However, it's vital to consider the implications of gifting, such as relinquishing control of the assets and potential tax consequences for the recipient. Keep detailed records of all gifts.

Irrevocable Life Insurance Trust (ILIT): 

Life insurance proceeds are generally included in your taxable estate. An ILIT can hold your life insurance policy, effectively removing the proceeds from your estate. The beneficiaries of the trust receive the death benefit, which is not subject to estate tax.

Qualified Personal Residence Trust (QPRT): 

A QPRT allows you to transfer ownership of your primary residence to a trust while retaining the right to live there for a specified term. At the end of the term, the house passes to your beneficiaries, and it is no longer part of your taxable estate. This strategy works best if the property appreciates in value.

Charitable Giving: 

Donating assets to qualified charities can reduce your taxable estate. You can make charitable gifts during your lifetime or through your will. Consider setting up a charitable remainder trust or a charitable lead trust for more complex giving strategies.

Family Limited Liability Company (LLC) or Family Limited Partnership (FLP): 

These entities can be used to consolidate and manage family assets, such as real estate or a family business. They can also provide valuation discounts for estate tax purposes, potentially reducing the taxable value of the assets. These are more complex and require careful planning.

Properly Titling Assets: 

How your assets are titled can impact estate taxes. For example, jointly owned property with right of survivorship will automatically pass to the surviving owner, potentially increasing their estate's value. Review your asset titling with your attorney.

Estate Planning Documents: 

A well-drafted will is essential for directing the distribution of your assets and minimizing potential disputes. A revocable living trust can also be a valuable tool, allowing your assets to pass to your beneficiaries outside of probate, which can be time-consuming and expensive.

Tax Planning with Your Attorney and CPA: 

Regularly consult with your estate planning attorney and tax advisor to review your estate plan and ensure it aligns with your goals and current tax laws. Tax laws are subject to change, so periodic reviews are essential.

Planning Opportunities Before Sunset

As part of the Tax Cuts and Jobs Act (TCJA), the federal estate tax exemption was doubled for tax years 2018-2025. This increased exemption is set to sunset at the end of 2025, at which time – barring legislative action prior to the end of the year – the exemption will be reduced to one-half of its then-indexed-for-inflation amount. Gifting assets or cash directly to the next generation while the exemption is high is a potential way to pass assets to the next generation to utilize lifetime exemptions. With current exemption levels being much higher than the expected exemption level after the sunset, a direct transfer or wealth to the next generation can result in substantial tax savings.

Key Considerations

• Complexity: Some of these strategies, like QPRTs and FLPs, are complex and require careful planning and execution.

• Control: Gifting assets or using trusts can mean relinquishing some control over those assets.

• Cost: Setting up trusts and other estate planning tools can involve legal and administrative costs but substantial tax savings.

  
  

If you need assistance with estate planning, call us at 206-703-0764 or contact us online to schedule a consultation.