Before we take a look at the New York estate tax and the so-called “cliff,” we should provide a brief explanation of the federal estate tax.
This tax can definitely take a bite out of your legacy, but fortunately, most people do not have to pay the tax. This is because there is a credit or exclusion that is relatively high. The federal estate tax exclusion is the amount that can be transferred in a tax-free manner before the estate tax would be applied.
At the time of this writing in 2022, the exact amount of the federal estate tax exclusion is $12.06 million. There are typically annual adjustments to account for inflation, so you may see a somewhat higher figure when the new year rolls around. Every taxpayer gets this exclusion, so if you are married, you and your spouse would have a combined exclusion of $24.12 million.
While we are on the subject of spouses, we should point out the fact that there is an unlimited marital estate tax deduction. People that are legally married in the eyes of the law can transfer any amount of money between one another free of taxation. The only caveat would be that the marital estate tax deduction is only available to citizens of the United States.
The estate tax exclusion is portable between spouses. This means that a surviving spouse can use the exclusion that was allotted to his or her deceased spouse.
New York Estate Tax
There are a number of states in the union that have state-level estate taxes, and New York is one of them. Our exclusion is just $6.11 million this year, so you could be exposed to the state estate tax even if you are federally exempt.
If the value of your estate exceeds the amount of the exclusion by more than 5 percent, you would “fall off the cliff.” You would not be able to apply any of this $6.11 million exclusion to your estate, so the entire amount would be taxable.
When you hear about the existence of estate taxes, a logical solution may pop into your mind. You can simply give assets to your loved ones to keep the value of your estate under the exclusion amount. This would essentially be an exercise in giving out inheritances in advance.
Actually, this is not possible, because the government does not want people to be able to give gifts to avoid the estate tax. We have a federal gift tax as well, and it is unified with the estate tax. The exclusion is a unified exclusion that applies to large lifetime gifts and postmortem asset transfers.
You cannot use gift giving as a comprehensive estate tax efficiency strategy, but you can give some gifts in a tax-free manner. In addition to the unified gift and estate tax exclusion, there is an annual exclusion. This allows you to give up to $16,000 to any number of gift recipients within a calendar year free of taxation.
There is an educational exclusion that you can use to pay college tuition for students in a tax-free manner. This is a tuition-only exemption that does not apply to books, fees, and living expenses. You can also pay medical bills and health insurance premiums for others without being taxed for your generosity.
There is no New York gift tax, and that’s the good news. The bad news is that there is a three-year clawback provision. Gifts that you gave within three years of your passing would be looked upon as part of your estate for tax purposes.
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