How to Keep More of Your Retirement Income from “Unwanted Heirs”

Everyone wants to keep as much of their money to pass on to family, heirs and loved ones.  Many people assume that when they die, their assets are automatically distributed to heirs and loved ones.  However, there are several “unwanted heirs” that may step forward to claim their share of your estate before your loved ones.  They include:

  • Federal Government
  • State Government
  • Estate Administrative Costs

Millionaires:  The New Middle Class

A current survey from Charles Schwab shows that many Americans surveyed responded that to be “financially comfortable,” a household must have an average of $1.1 million.  Just a few years ago, this amount would have lasted a person, their children, and their grandchildren with money to live comfortably.  However, with increased prices from housing to transportation to food, it takes almost 4 times as much income to live comfortably as it did 30 to 40 years ago.

At the end of 2016, Spectrem Group reports that a record 10.8 million millionaires lived in the United States.  The breakdown is as follows:

  • 9.4 million:  Individuals with a net worth between $1 million and $5 million
  • 1.3 million:  Individuals with a net worth between $5 million to $25 million
  • 156,000:  Households worth more than $25 million

Federal Government as an Unwanted Heir

Borrowed by Benjamin Franklin from The Cobbler of Preston by Christopher Bullock, the phrase “Tis impossible to be sure of anything but Death and Taxes” holds true when dealing with an estate after a loved one passes.  With a few hours of estate planning, thousands if not hundreds of thousands of dollars could be saved.

Large estates are subject to the federal estate tax.  The qualifying value of an estate is determined by the year of the decedent’s death.  The administrator of an estate must fill out Form 706, United States Estate Tax Return.  Estate assets need to be valued accordingly.  Undervaluing estate assets can lead to a 40% estate tax penalty.

The Federal Government can take up to 40% under the estate tax rate based on the 2017 exemption equivalent of $5,490,000.  For those who have amassed over $5.5 million, this can seem extreme.  For example, a person with a gross estate of $10,000,000 may end up paying half a million for administrative costs, leaving them with a $9.5 million for the taxable amount resulting in $1.6 million in federal estate taxes!

Learn from the Millionaires Mistakes

From presidents to famous railroad tycoons to the “King of Rock and Roll,” many millionaires have had to pay exorbitant amounts to the federal government through estate taxes.  

  • Franklin D. Roosevelt:    Gross Estate $1,940,999 Estate Tax Paid $ 574,867

             Net Estate $1,366,132 Percent Shrinkage 30%

  • Henry J. Kaiser, Sr.:         Gross Estate $5,597,772      Estate Tax Paid $ 2,488,364

Net Estate $3,109,408 Percent Shrinkage 44%

  • Edwin C. Ernst, CPA:       Gross Estate $12,642,431    Estate Tax Paid $ 7,124,112

Net Estate $5,518,319 Percent Shrinkage 56%

  • Senator Robert S. Kerr: Gross Estate $20,800,000    Estate Tax Paid $ 9,500,000

Net Estate $11,300,000 Percent Shrinkage 46%

  • Nelson A. Rockefeller:    Gross Estate $79,249,475    Estate Tax Paid $22,521,847

Net Estate $56,727,628 Percent Shrinkage 28%

  • Conrad Hilton:            Gross Estate $199,070,700 Estate Tax Paid $105,782,217

Net Estate $93,288,483 Percent Shrinkage 53%

  • Elvis Presley:            Gross Estate $10,165,434    Estate Tax Paid $ 7,374,635

Net Estate $2,790,799 Percent Shrinkage 73%

Don’t become disheartened thinking that if these millionaires couldn’t save their estates from federal, state, and estate administrative costs, then how can someone else avoid estate settlement costs.  There are steps that can be taken to keep more income and savings in the hands of heirs.

Federal Estate Tax

A progressive tax on the right to transfer property at death, the federal estate tax begins at 18% and can increase to as much as 40% of the taxable value of an estate.

During a property owner’s lifetime, the transfer of property is taxed with a federal gift tax.  Once the owner has died, a federal estate tax is imposed on the transfer of property transferred after death.  The value of the transferred property determines the amount of tax payable.

Once the estate or gift tax is determined, the amount is reduced by an estate or gift tax unified credit.  Estates that have a value that is equal to or less than the unified credit equivalent will not have to pay federal estate tax.  For cumulative lifetime taxable gifts, the same holds true.  However, this amount will be brought back into the estate owners value for calculation purposes of federal estate tax.

In 2017, the unified credit equivalent (the amount an individual can transfer property) stands at $5,490,000.  This means that an individual can gift or leave after death almost $5.5 million before any federal estate taxes are paid. If you believe that at the end of your working career you may be included in this group, talk with a qualified financial planner.  With four different ways to provide an estate with liquidity to meet the cash obligations of an estate, choosing the best method is vital for the overall value of the estate.  

  • 100% Method – Accumulating enough cash in an estate to pay estate settlement costs outright is one way to pay cash obligations for an estate.  However, many with financial success usually amass their fortune with shrewd investments, rather than leaving their money in a savings account.
  • 100% Plus Method – Borrowing the cash is another option.  However, the money will be paid back with interest.
  • Forced Liquidation Method – Liquidating assets in a hurry can lead to selling off assets at a fraction of their true value.  
  • Discount Method – For qualified investors, estate taxes can be paid with life insurance dollars.  

The estate tax is progressive.  This means that taxes increase as the overall value increases.  Administrative costs also grow based on the size of the estate.  

As America gains more and more millionaires every year, the chance of finding a person who will be required to pay estate taxes increases.  In the future, with more Americans crossing over into the millionaire bracket, sound financial planning to avoid hefty estate taxes and “unwanted heirs” will become more and more important.

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