Estate and Gift Tax Planning


There are basically three types of transfer taxes imposed on the transfer of property from one person to another: (1) death taxes (estate taxes or inheritance taxes), (2) gift taxes, and (3) generation-skipping transfer taxes. Each of these taxes is discussed below.


Generally, death taxes are taxes imposed when a person dies with respect to the property (i.e., assets) owned and transferred by him or her at death. Gift taxes are taxes imposed upon the gift of property from one person to another during lifetime. For property located in the United States, death and gift taxes can be and often are imposed at two levels of government: federal and state.

The federal death tax is known as the “federal estate tax.” The gift tax imposed by the federal government is known as the “federal gift tax.” State death taxes take various forms depending on the state. Many states also impose a state gift tax.

California no longer imposes a state death tax or a state gift tax. However, some states do impose a state death or gift tax that may be applicable to property of a California resident which is not located in California.

The federal estate and gift taxes are discussed below. Because the state death and gift taxes of the 50 states vary, they are not addressed below.


  • Exemptions and Rates

Under the federal law, a person can transfer $5,430,000 of property (for the year 2015) at death without a federal estate tax being imposed. Therefore, if the total net value of a person’s estate (total gross value less debts) transferred in 2015 by a person to his or her beneficiaries at death was $5,430,000 or less, no federal estate tax would be imposed on the transfer. Property transferred in excess of that amount would be subject to estate tax (we will assume he or she did not receive a “portable” exemption from a predeceased spouse, discussed below).

For the federal gift tax laws, a person is allowed to transfer during lifetime property with a total net value of $5,430,000 (as of the year 2015) without a federal gift tax being imposed. Note, however, that if any of that $5,430,000 gift exemption is used during lifetime, the $5,430,000 federal estate tax exemption available at death will be reduced by the amount of the gift tax exemption that was used during lifetime.

Once the relevant exemption amount is exceeded, the estate or gift tax rates are applied to the net value of the property transferred. The federal estate tax rate and the federal gift tax rate are each 40%. As can be seen, the federal estate and gift taxes are substantial after the exemption amount is exceeded. For example, if an unmarried person transferred in 2015 an estate of $7,430,000 at death (assuming no lifetime gifts), $5,430,000 of the estate would have passed estate tax-free, and the remaining $2,000,000 would have been subject to an estate tax in the amount of $800,000 (40% x $2,000,000).

The federal estate and gift tax exemptions are subject to cost-of-living adjustments each year. For example, the federal estate and gift tax exemption was increased from $5,340,000 in 2014 to $5,430,000 in 2015.


  • Marital Deduction

In addition to the federal estate and gift tax exemption, a special federal estate and gift tax deduction is available for property given to a spouse during lifetime or at death. This deduction is known as the “marital deduction.” It is a very important deduction for married persons.

Prior to 1982, there was a limitation on the amount of property that could qualify for the marital deduction. However, in 1982 that limitation was removed. Therefore, the amount that can qualify for the marital deduction for transfers to a spouse is unlimited.

The concept behind the unlimited marital deduction is that a married couple should be treated as a single unit. Therefore, transfers between spouses during lifetime or at death should not be taxed because the transfer was within that single unit.

In order to qualify for the marital deduction, property transferred to a spouse must be done in a qualifying manner. If a qualifying method is not used, the marital deduction will not be available.

There are a number of ways for property to be transferred to a spouse and qualify for the marital deduction. The three most common ways are discussed below:

Outright Transfers.
An outright transfer to a spouse is the easiest way to qualify for the marital deduction. Under this method, property is given to one’s spouse without any restrictions as to its use

Marital Deduction Power of Appointment Trust.
Sometimes a spouse will wish to transfer property in trust to be used for the benefit of the other spouse. The spouse making the transfer may prefer this method in order to avoid a probate of the property on the death of the surviving spouse. To accommodate this form of transfer, federal law allows certain transfers in trust to qualify for the marital deduction. Probably the most common is the marital deduction power of appointment trust. Under this option, property is transferred to a trust for one’s spouse, and the trust provisions provide that the spouse is entitled to all of the income from the trust property for that spouse’s life. The spouse is also given the right to appoint (i.e., give) the property to any person he or she chooses (either during lifetime and/or at death) including himself or herself.

Qualified Terminable Interest Property Trust.
With the introduction of the unlimited marital deduction in 1982, a new form of qualifying marital deduction trust was authorized. This trust is technically known as the “qualified terminable interest property trust.” Most people refer to this trust today as the “QTIP trust.” Like the marital deduction power of appointment trust, the QTIP trust must distribute all of its income to the spouse for whose benefit the trust has been created. However, the principal (i.e., the actual property transferred to the trust) need not be distributed to that spouse during lifetime. Furthermore, on the death of that spouse, he or she need not be given the power to designate to whom the trust property will pass.

The QTIP trust has become very popular. Although many spouses want to provide for their surviving spouse during that spouse’s lifetime, they do not want their surviving spouse to be able to use the transferred property to benefit the spouse of a new marriage or any children of that subsequent marriage (if the surviving spouse later remarries). Instead, the first spouse to die often wants the property to go to his or her children or other beneficiaries when his or her surviving spouse dies. The QTIP trust permits this result.

(Caution: there is no gift tax marital deduction for transfers to a spouse who is not a United States citizen; however, for the year 2015 there is an annual gift tax exclusion of $147,000 for lifetime gifts to non-U.S. citizen spouses (this amount is subject to annual cost-of-living adjustments). As to transfers between spouses at death, additional requirements are imposed if the surviving spouse of the decedent is not a U.S. citizen. If these requirements are not met, the marital deduction will not be available on the death of the first spouse. To qualify at death for the marital deduction when the surviving spouse is not a U.S. citizen, (i) the property of the decedent must be transferred to a “Qualified Domestic Trust” (“QDOT”) for the benefit of the non-U.S. citizen spouse or (ii) the non-U.S. citizen spouse must become a U.S. citizen by the date the decedent’s federal estate tax return is made and must have been a resident of the United States at all times after the decedent’s death before becoming a U.S. citizen. Special detailed requirements must be met for a trust to qualify as a QDOT.)


Planning to Take Full Advantage of the Estate Tax Exemption

There are two ways to take advantage of the estate tax exemptions available to both spouses. One way is to elect to transfer the exemption of a predeceased spouse to the surviving spouse. This is done by filing a federal estate tax return for the predeceased spouse and requesting that the predeceased spouse’s exemption be transferred to the surviving spouse. This option is often referred to as the “portability” of exemptions election.

The second method to take advantage of both spouses’ exemptions is described in the next few paragraphs.

After reading the above discussion regarding the marital deduction, you might be asking yourself the following question: “If I give all my property to my spouse so that my estate qualifies for the marital deduction, why do I need the $5,430,000 exemption amount?” The answer to that question is that you do not need that exemption in order to pass property to your spouse estate tax free. For example, if in 2015 your taxable estate was $10,860,000 and you passed it all to your spouse on your death, no federal estate tax would be payable on your death even without using your exemption. This is because your entire estate would qualify for the marital deduction. However, on the subsequent death of your spouse, the full $10,860,000 you gave your spouse (plus or minus any increase in value) would be taxed in his or her estate. In other words, if on your surviving spouse’s death in the year 2015 your surviving spouse’s total estate consisted solely of the $10,860,000 you transferred, his or her taxable estate would be $5,430,000 (the $10,860,000 you gave your spouse minus your surviving spouse’s $5,430,000 exemption). This would result in an estate tax of $2,172,000 (40% of $5,430,000) on the death of your surviving spouse. In summary then, what has happened is that your $5,430,000 exemption was not needed to pass your property to your surviving spouse tax free on your death and so it was never used — in a sense you wasted your exemption.

Let’s suppose, however, that somehow you could have given your exemption to your surviving spouse to use on his or her subsequent death. If that had happened, your surviving spouse would have had a $10,860,000 exemption available to him or her (your $5,430,000 exemption plus his or her $5,430,000 exemption). Under those conditions, what amount of property would have been taxed on the death of your surviving spouse if your exemption had been so transferred? The answer to that question is that no amount would have been taxed because the available exemption to your spouse was $10,860,000 ($10,860,000 minus $10,860,000 equals $0).

Lawyers have figured out a way to permit you to, in essence, give your spouse and children (or your other beneficiaries) the benefit of your exemption without making the “portability” election (described above). Let’s suppose that instead of giving your full $10,860,000 to your spouse on your death you gave your spouse only $5,430,000 outright and the other $5,430,000 you put into a trust that does not qualify for the marital deduction. (The trust does provide, however, for distributions to your spouse for his or her support.) The $5,430,000 going to your spouse outright would not be taxed on your death because it qualified for the marital deduction. The other $5,430,000 would technically be taxable, but because your $5,430,000 exemption would offset any such tax, no tax would be payable on your death. On your spouse’s subsequent death, what would be taxed? The $5,430,000 you placed in trust (and any appreciation on that $5,430,000) would not be taxed if the trust was properly drafted. This is because by properly drafting the trust, your spouse would not be deemed to be the owner of that $5,430,000. As to the $5,430,000 your spouse received outright from you, that amount would technically be taxable, but your surviving spouse’s $5,430,000 exemption would offset that tax. The result: no tax on your death and no tax on the death of your spouse. Yes, we in essence have transferred the use of your exemption (without making the “portability” election) to the ultimate benefit of your children (or other beneficiaries). We did not waste your exemption on your death, and because we did not waste it, we saved your children $2,172,000 in estate taxes under our example.

This is an extremely important estate planning option that should be considered for any couple that will have a total net estate (including life insurance proceeds and retirement plan death benefits) exceeding $5,430,000 on the death of the surviving spouse.



In addition to the federal estate and gift taxes, Congress in 1976 introduced a new form of transfer tax known as the “generation-skipping transfer tax.”

Prior to 1976 many wealthy grandparents were able to pass, at the death of their children, large amounts of property to their grandchildren without the imposition of a federal estate tax on their children’s death. This was accomplished by placing property in trust for the life of their children, and then on the death of their children, passing that property to their grandchildren. By properly structuring the trust, trust property could be used for the benefit of their children during the children’s lifetime without subjecting the property to estate taxes on the children’s death. In essence then, the property could be said to have skipped to the next generation (i.e., to the grandchildren) without having been subjected to an estate tax at the death of the grandparents’ children.

To minimize the benefits that could be obtained from this type of plan, the generation-skipping transfer tax was introduced in 1976. The purpose of this tax as it relates to the above type plan was to tax the transfer of the property from the children to the grandchildren, notwithstanding the special limitations that were placed on the children’s trust.

Great opposition was encountered over the generation-skipping transfer (“GST”) tax enacted in 1976. Therefore, in 1986 Congress repealed the 1976 GST tax and enacted a new GST tax. The objective of the new GST tax is the same as the old tax, but the methods for achieving this objective are different.

As of 2015 the GST tax is imposed at the rate of 40%. However, a $5,430,000 GST exemption (for the year 2015) is granted to each individual transferring property in a generation-skipping transfer. Most of the generation-skipping estate planning done today is aimed at preserving or maximizing this GST exemption, and many complicated techniques have been developed to do so.

If an estate was properly planned, a married couple in 2015 could pass $10,860,000 in a generation-skipping transfer without subjecting that property to a GST tax. A single person is limited to the $5,430,000 GST exemption.

Both the federal estate tax and the generation-skipping transfer tax can apply to the same transfer of property so that there is a double tax imposed (although it should be noted that the manner in which the generation-skipping transfer is structured will have an impact on the amount of the GST tax because of various technical rules governing how the tax is computed). For example, if in 2015 a grandparent had an estate of $20,000,000 and provided for a direct generation-skipping transfer of that property to her grandchild on the grandparent’s death, the transfer would be subject to both an estate tax and a generation-skipping transfer tax (after taking into account the $5,430,000 estate tax exemption and the $5,430,000 GST exemption). Therefore, great care should be exercised in planning large estates to minimize or avoid the impact of the GST tax.



Almost everyone knows what a gift is. The most common type of gift occurs when one person (usually out of love, affection, or admiration) transfers property to another without receiving anything in exchange for the property. However, a gift can also occur when a person transfers property to another and receives property in exchange. If the value of the property transferred exceeds the value of the property received, there may be a gift equal to the value of the property transferred less the value of the property received.

Gifts are an important part of the estate planning process. They can yield significant tax and nontax benefits to both the person making the gift (the “donor”) and the recipient (the “donee”). Below I will discuss some of the tax and nontax aspects of making gifts.



The general scheme for taxing gifts was discussed above. What was not discussed above, however, are some important gift tax exclusions. These exclusions are in addition to the federal gift tax $5,430,000 exemption and the marital deduction. These exclusions will be discussed here. Before doing so, however, remember that there is no longer a California gift tax. The exclusions discussed here are those available under the federal gift tax laws.

The first exclusion is commonly referred to as the “federal annual gift tax exclusion.” For the year 2015, under this exclusion each person while alive can give $14,000 (in money or property) to each of any number of individuals each year. (For gifts from one spouse to a non-U.S. citizen spouse, the annual federal gift tax exclusion in 2015 is $147,000. That exclusion is this large because the marital deduction is not allowed for lifetime gifts to non-U.S. citizen spouses.)

The $14,000 annual gift tax exclusion will be subject to future cost-of-living adjustments (up or down). For example, if you had 5 children and 10 grandchildren, you could make $210,000 in gifts to these children and grandchildren ($14,000 to each) in the current year and $210,000 in gifts in every year after that year (ignoring any cost-of-living adjustments to the annual exclusion amount). If you were married, your spouse could do the same. You could make these gifts without using any portion of your federal gift tax $5,430,000 exemption amount. Furthermore, if the total annual gifts to a person did not exceed the $14,000 amount, no gift tax return would need to be filed for the gifts to that person. As can be seen, this exclusion can be used to transfer substantial amounts of property to others without incurring gift tax liability.

In addition to the annual gift exclusion, federal law also provides an unlimited exclusion from gift tax for amounts paid for tuition or the medical care for another person. The exclusion for tuition is limited to direct tuition costs only; it does not include payment for books, school supplies, housing, etc. There are also limitations on what medical expenses are covered. To qualify for the tuition or medical care exclusion, the payments made for these purposes must be made directly to the educational institution or medical care provider. The payment should not be made to the person on whose behalf the tuition or medical care payment is made.



 Several benefits can be received by making gifts, including the following:

  • Gifts can be made to reduce the size of the donor’s estate. By reducing the size of the donor’s estate, less property will be subject to the federal estate tax on the donor’s death. With the federal estate tax rate fixed at 40%, estate taxes payable by the donor’s estate can be significantly reduced by making gifts. For example, for an estate subject to the estate tax rate of 40%, lifetime annual exclusion gifts of $100,000 would save $40,000 in estate taxes (assuming the gifted property did not increase or decrease in value after the date of the gift).
  • In addition to reducing the size of the donor’s estate by the amount of the gift, if the gifted property increases in value after the gift is made, the donor’s estate will also be reduced by the amount of this increase. For example, if using the annual gift tax exclusion a donor had gifted property worth $140,000 at the date of the gift and if the property doubled in value between the date of the gift and the date of the donor’s death, the donor’s taxable estate would be $280,000 less than it would have been if no gift had been made. At an estate tax rate of 40%, this would result in an estate tax savings of $112,000. This is why property expected to increase in value is often ideal for making gifts.
  • Property that has been gifted prior to the date of death will not be included in the donor’s probate estate. Making gifts then is an effective way to avoid the probate of the gifted property.
  • By making gifts, income generated by the gifted property after the date of the gift can be shifted from the donor to the donee (we’ll assume the donee is old enough to avoid the “kiddie tax rules”). If the income tax rate at which the donee’s income is taxed is lower than the donor’s rate, the income tax liability payable on the income from the gifted property will be reduced.
  • When property is passed at death, the decedent never has the opportunity of seeing his or her beneficiaries enjoy the property. In contrast, by making lifetime gifts, the donor has the advantage of seeing the donees enjoy the assets while the donor is still alive.


Often a donor will want to give property to a minor child. But making a gift outright to a minor with no additional planning can cause significant problems. Under general legal principles, special limitations are placed on a minor’s ability to transfer, manage, or otherwise deal with property. For example, under California law a minor cannot make a contract relating to real property or relating to any personal property not in the minor’s immediate possession or control. Because of a minor’s inability to deal with the property, it is often necessary to have a guardian appointed for the minor to manage or otherwise deal with the property gifted to the minor. But guardianships can be costly and burdensome because they are subject to the supervision of the probate court. Fortunately, California law also provides for alternative ways to make gifts to minors that permit the avoidance of guardianship proceedings. The most important alternatives are discussed below.

  • Trusts

The most flexible alternative for making gifts to minors is through the use of a trust. Under the trust arrangement, the property is actually transferred to a trustee to manage for the benefit of the minor until the minor reaches an age specified in the trust document.

However, caution needs to be exercised whenever the trust alternative is used if the donor intends the gift to the trust to qualify for the annual gift tax exclusion. This is because in order to qualify for this exclusion, the gift made must be a “gift of a present interest”; it cannot be a “gift of a future interest.” Gifts of a future interest will not qualify for the annual exclusion. At first this would appear to create a real obstacle to the use of the trust for making gifts to minors. The purpose for setting up a trust for the minor is to defer the outright transfer of the property to the minor until some later time. But by deferring the outright transfer to the minor, a gift of a future (and not a present) interest is created.

However, special types of trusts are available today to satisfy the “present interest” requirement. Perhaps the most widely used form of trust is known as the “Crummey trust.” (The name of this trust is no reflection on the quality of the trust; the trust receives its name from the court case that authorized the use of this trust as a means to qualify for the annual gift tax exclusion.) Under the Crummey trust, the trust instrument provides that whenever the donor makes a gift to the trust for the benefit of the minor, the minor has the immediate right to withdraw the gifted property (up to a certain dollar amount, e.g., $14,000) and the minor is informed of that right. This right continues for a specified period of time (for example, 60 days). At the end of this period, the minor’s right to withdraw the property terminates and the property remains in the trust. Because the minor has the right to withdraw the property immediately on its transfer to the trust, a gift of a present interest is created and the annual gift tax exclusion is thereby made available. Even if the minor chooses not to exercise his withdrawal right, the annual exclusion is still available. It is the fact that the minor has the right of withdrawal that is important, not whether he exercises the right.

An alternative form of trust that can be used to qualify gifts to minors for the annual gift tax exclusion is the “2503(c) minor’s trust.” This trust receives its name from the section of the Internal Revenue Code authorizing the use of the trust. To qualify under this section, the income and principal of the trust must be expendable by the trustee for the benefit of the minor while the minor is under age 21, and to the extent it is not so expended, it must pass to the minor when he attains age 21. If the minor dies before reaching age 21, the trust property must be paid to the minor’s probate estate or to any person designated by the minor to receive the property under a general power of appointment held by the minor.

Of the two trusts (i.e., the Crummey trust and the 2503(c) minor’s trust), the Crummey trust is probably the most flexible to use because the property held in the trust need not be distributed to the minor when the minor attains age 21. Distribution to the minor can be deferred until a later time.

One word of caution needs to be stated. Although the concept of qualifying a gift in trust for the annual exclusion may not seem too complicated, the provisions of any trust intended to so qualify must be carefully drafted. The inadvertent use of various provisions often included in other forms of trusts could result in the loss of the annual exclusion.


  • Custodianships

Although trusts are the most flexible way to make gifts to minors, they are also the most expensive. This is because in order to establish a trust, the attorney must draft a trust document. In order to provide a less expensive way to make gifts to minors, the Uniform Transfers to Minors Act has been adopted in California. Under this Act, gifts can be made to a custodian on behalf of the minor. The appointed custodian is responsible for administering the property until the minor reaches a specified age (which, in the case of lifetime gifts, cannot exceed age 21). The property held by the custodian must be administered in accordance with the provisions of the Act; the provisions of the Act cannot be modified by the person making the gift. This type of an arrangement is known as a “custodianship.”

Gifts to minors under the Uniform Transfers to Minors Act will automatically qualify for the annual gift tax exclusion. No special steps need to be taken to qualify the gift. Furthermore, any type of property can be transferred to a custodianship. This makes the custodianship very useful.

There are, however, some limitations inherent in the custodianship arrangement. First, if a donor wishes to establish a custodianship for a number of minors, a separate custodianship must be established for each such minor; it is not permitted under the statute to use one custodianship for more than one minor.

In addition, there are some potential tax dangers lurking under the statute, especially where a parent of the minor is named as the custodian. For this reason, an attorney should be consulted before establishing a custodianship arrangement so that these tax dangers can be minimized or eliminated if that is the client’s desire.

Finally, gifts made to a custodian during the donor’s lifetime must be distributed to the minor no later than when the minor attains age 21. Distributions cannot be deferred beyond that time. Contrast this with the trust arrangement where distributions can be deferred until whatever time the donor designates in the trust document.