Estate planning or inheritance planning is the process of anticipating and arranging for the management of a person's estate or net worth during the person's life in preparation for future incapacity or death. The planning includes the bequest of assets to heirs, loved ones, and/or charity, and may include legal tax avoidance. Estate planning includes planning for incapacity, reducing or eliminating uncertainties over the administration of a probate, and maximizing the value of the estate by reducing taxes and other expenses. The ultimate goal of estate planning can only be determined by the specific goals of the estate owner, and may be as simple or complex as the owner's wishes and needs directs. Guardians are often designated for minor children and beneficiaries with incapacity.
Avoidance of income tax, gift tax, capital gains tax, inheritance tax, and generation-skipping transfer tax plays a significant role in choosing the structure and vehicles used to create an estate plan.
In the United States, assets left to a spouse who is a U.S. citizen or any qualified charity are not subject to U.S. Federal estate tax. Assets left to any other heir, including the decedent's children, may be taxed if that portion of the estate has a value in excess of the lifetime gift, estate, and generation-skipping transfer tax exemption amount. As of 2023, the federal exemption amount was $12,920,000. For a married couple, the combined exemption is $25,840,000.
One way to minimize or avoid U.S. Federal gift, estate and generation-skipping transfer taxes is to distribute the property in incremental gifts during the person's lifetime. Individuals may give away as much as $17,000 per year (in 2023) to another person without incurring gift tax or using up any of their lifetime exemption amount. Other tax-free alternatives include paying tuition expenses or medical expenses free of gift tax, but only if the payments are made directly to the educational institution or medical provider.
Other tax-advantaged alternatives to leaving property, outside of a will, include qualified or non-qualified retirement plans (e.g. 401(k) plans and IRAs) certain "trustee" bank accounts, transfer on death (or TOD) financial accounts, and life insurance proceeds.
Because life insurance proceeds generally are not taxed for U.S. Federal income tax purposes, a life insurance trust could be used to pay estate taxes. However, if the decedent holds any incidents of ownership like the ability to remove or change a beneficiary, the proceeds will be treated as part of decedent's estate and generally will be subject to the U.S. Federal estate tax. For this reason, a trust vehicle often is used to own the life insurance policy. The trust must be irrevocable to avoid taxation of the life insurance proceeds, and it typically called an irrevocable life insurance trust (or ILIT).
Estate planning may involve a will, trusts, beneficiary designations, powers of appointment, property ownership (for example, joint tenancy with rights of survivorship, tenancy in common, tenancy by the entirety), gifts, and powers of attorney (specifically a durable financial power of attorney and a durable medical power of attorney).
More sophisticated estate plans may cover deferring or decreasing inheritance taxes or business succession.
