Attribution: Josh Jensen CC-By-SA-2.0
The sad and tragic death of Philip Seymour Hoffman at age 46 last month is yet another reminder of the importance of estate planning. Most of us go along each day not thinking or worrying about what would happen to our loved ones if we suddenly died. Some, in an attempt to be conscientious, draft an estate plan but fail to keep such plan up to date. But most people die without ever doing any estate planning leaving state laws and the courts to decide who should get their estate. When these matters are neglected, surviving family members can be left with momentous legal, tax and financial problems resulting in uncertainty and expensive attorney fees to sort it all out.
Although Mr. Hoffman drafted his will in 2004, he failed to update it after having two children and even after some significant estate tax law changes. Such changes and ten years usually triggers a meeting with your estate planning attorney. For more on a checklist of events that should result in a meeting with your estate planning attorney please explore Estate Planning Triggers.
Mr. Hoffman’s 2004 will leaves everything to the mother of his children, Marianne O’Donnell. He was not married to her and this is where the problems start, at least from an estate tax perspective.
Federal and State Estate Taxes
It is estimated that Mr. Hoffman’s estate was around $35,000,000. Currently, $5,340,000 is exempt from federal taxes (the so-called unified credit) with amounts above that amount being subject to a federal estate tax rate of 40%. It would appear then that roughly $30,000,000 of his estate would be subject to estate tax at a 40% rate. This would generate a whopping $12,000,000 in federal estate taxes!
New York also has an estate tax with an exemption of $1,000,000. This New York estate tax has graduated tax rate that goes as high as 16%. It is estimated that roughly another $3,000,000 in will be paid in New York estate taxes.
Combined estate taxes: $15,000,000.
(Liquidity Side Bar: Be aware that estate taxes are due nine (9) months after the date of death so hopefully Mr. Hoffman’s estate has enough liquid assets to avoid a forced sale of assets to meet his tax obligations. Estate Planning Point: It is not known if Mr. Hoffman had life insurance but having life insurance to provide for liquidity is sometimes essential. In certain cases, the use of an irrevocable life insurance trust would allow for excluding the life insurance proceeds from being subject to estate tax.)
The point is that even though a meeting in 2004 may have explored marriage as a simple way to save estate taxes, Mr. Hoffman may, for whatever reason, not wanted to be married at that time. It also could have been that his wealth was not that great in 2004.
But here is the object lesson: Things change and so should one’s estate plan.
- A later meeting to review his estate plan would have explored the huge estate tax benefit to being married. No one is suggesting that people should get married only for tax reasons, however, under federal estate tax rules, inheritances to a surviving spouse are not subject to estate tax.
- Double Estate Taxation: Since they were not married, the amounts Ms. O’Donnell receives will be taxed twice. First, the amount she receives above the unified credit will be taxed at Mr. Hoffman’s death. When she dies the balance in her estate above her unified credit will be taxed a second time. Marriage eliminates this double estate tax.
- Marriage would have provided possible social security, retirement plan, income tax and other financial benefits.
- If Mr. Hoffman wanted to get married but did not want his wife to have absolute control of his assets, a qualified terminable interest trust (a QTIP trust) could have been used to obtain the estate tax savings while providing income and principal to her during her lifetime. The assets in this trust would pass to his children at her death. This would have been the best of both worlds: saving estate taxes but still providing for his wife and children.
- Sidebar: A QTIP trust is often used in second marriages where there are children from a prior marriage.
One Strategy To Eliminate Estate Tax At His Death
In a perfect world, Mr. Hoffman could have created a so-called marital deduction trust and a unified credit or by-pass trust by funding each trust based on a formula clause tied to the unified credit applicable in the year of his death. (Or he could have used the disclaimer trust discussed below to achieve this same result if he was married.) If he had implemented this estate planning strategy his 35,000,000 would have been split between Continue reading