How to Plan for Washington State’s Death Tax After the 2017 Tax Reform Act

Planning for Washington State’s Death Tax

(Updated January 28, 2020 by Carrie Jo Umba)

The Tax Cuts and Jobs Act of 2017 provides a window of opportunity before 2026 to make use of your personal gift / estate exemption of $11,580,000 (2020-adjusted annually for inflation). This exemption can be used to reduce gift / generation skipping taxes (GST) or Federal estate taxes. If a person’s estate or taxable lifetime gifts exceed this amount, there is a 40% tax on the excess.

After January 1, 2026, the pre-Act laws will resume (effectively slashing the exemption in half).  As a result, most taxpayers may have no Federal gift /GST/death taxes in the next 5 years, but the Washington State death tax still is in play.

When a Washington State resident or someone that owns property in Washington dies with net assets worth more than $2,193,000, they are liable for Washington death taxes, also known as estate taxes. The graduated tax rates range from 10 percent to 20 percent (over $1,490,000).

Currently, Washington and Oregon are the only western states with a death tax. Washington’s estate tax rate continues to be the highest estate tax rate in the nation and so factoring it into your overall estate plan is important.  In 2020, Washington is one of 12 states that collects death taxes and six other states have an inheritance tax.  https://taxfoundation.org/does-your-state-have-estate-or-inheritance-tax-0

If you hold Washington property, it is subject to both Federal and State estate tax at the time of your death.  While the Washington state death taxes are deductible against the Federal estate taxable income, if there are no Federal estate taxes due, then the state estate tax is effectively increased.

Washington residents with net assets of more than $2,193,000 ($4,386,000 for married couples) are advised to speak to estate planning professionals to find ways to minimize the Washington estate tax.

Here are some suggestions of things to do:

Consider moving to another state that has no estate tax, and little or no income taxes. This would include spending the majority of your time at your non-Washington residence to establish residency in that state.

Remain a Washington State resident, but make lifetime gifts of high basis property either outright or funding certain trusts to reduce the value of your estate to below the $2,193,000 threshold. Unlike Federal law, Washington State does not add back lifetime gifts in determining their taxable estate value.

Use your annual gifting amount, currently $15,000 per person (donee), to reduce your net assets below $2,193,000. Annual gifts above $15,000 to a donee requires a filing of a Federal gift tax return (but remember you have $11,580,000 of lifetime gift exemptions to use before there are any Federal gift taxes to pay).

Make direct payments for family members for tuition to schools or medical care costs to the providers. These are not considered gifts if the check is not made payable to a family member; they are also not limited to being less than $15,000.

Gifts to qualified charitable tax-exempt organizations are not limited to the annual $15,000 limits.

You could transfer your home (in advance) into a Qualified Personal Residence Trust, to remove that asset from your estate. This option requires professional assistance and a gift tax return with proper appraisals.

Review your will or revocable living trust documents as a result of the tax law changes. Many wills used formula clauses that might create more taxes or over fund the “Family Trust” (AKA By-pass or Credit Shelter Trust). This may not be the best solution with Federal portability rules and the fact that inherited assets continue to get a stepped-up basis. Washington State does not have portability rules.

If you don’t live in Washington State, but own real estate or store tangible personal property in Washington, consider restructuring the ownership to creating non-Washington intangible assets. A transfer of individually owned assets into a business entity, such as a limited liability company, would create member units. Most states treat LLC units as “intangible personal property.” While intangible personal property is still part of your potentially taxable estate, Washington’s tax formula reduces the tax on such intangible “non-Washington assets,” depending on their value compared to the value of Washington assets.

If you live in Washington, review how you are holding non-Washington real estate and tangible personal property assets so that you are not creating additional taxable Washington assets.

If you’re married and your assets are community property, some of these decisions can be postponed until after the first spouse dies (except for the decision to make gifts). Because of the marital exemption, you can elect to defer taxes on any assets over $2,193,000 if your will or living trust is correctly drafted. For example, if a couple has $6 million in assets, the first spouse to die would own one-half, or $3 million. The personal representative can pay tax on $2,193,000 (Washington death tax would be zero) and defer the tax on the remaining $807,000 by transferring it directly to the surviving spouse or into a marital trust with the spouse as the income beneficiary. There would be no tax due on the first spouse’s death.  The $2,193,000 that was subject to estate tax could be transferred directly to their children or retained in a Family trust for the benefit of the surviving spouse and children.  If the Family trust is correctly administered, it would not be included in the survivor’s estate when they die.

Planning in advance is the best way to protect your assets for your surviving family members and those you care about.

Carrie Jo Umba is a tax owner at the CPA firm Hagen, Kurth, Perman & Co., P.S. in Seattle. Reach her at 206-682-9200 or carriejo.umba@hkpseattle.com