Deductions that Are Available to Reduce the Estate Tax

The minimum level at which the estate tax kicks in has been raised so much over the years that it now applies to only a tiny fraction of estates. But this is in flux, as the tax laws can be changed at any time, and the estate tax could become more (or less) relevant in the future.

Even for estates that otherwise would be above the minimum, there are numerous available deductions that could reduce or eliminate the estate tax. These deductions include:

* Marital deduction

Any property that passes outright to the spouse of the deceased is exempt from the estate tax. This can either be passed to the spouse before the person dies, or left to him or her upon death.

If the spouse is an American citizen, then there is no limit to the amount that can pass to the spouse without taxation. Special rules apply when the spouse is a non-citizen.

This amount isn't "permanently" exempt from taxes, in the sense that when the spouse subsequently dies, estate taxes may have to be paid on it.

* Gifts deduction

Aside from property given to one's spouse, a certain amount (which changes often) per year and for one's lifetime can be given in the form of gifts to other people without triggering a gift tax. So, for instance, a person could transfer a certain amount of their wealth to their children as gifts before they die.

* Charitable deduction

Lifetime contributions to charities or bequests to charities at death can reduce the size of the estate and thereby reduce estate taxes. This is in addition to income tax deductions derived from charitable donations during one's life.

* Funeral and estate expenses deduction

The cost for care during the decedent's last illness, the cost of the funeral and burial, probate expenses, and attorney's fees can all be deducted from the amount subject to an estate tax.

* Debts deduction

All outstanding debt, including mortgages, can be deducted from the amount subject to an estate tax.

* Trusts deduction

Money can be shielded in different forms of trusts, including a bypass or credit shelter trust, which is money that is available if needed for the surviving spouse's health or support, but otherwise is exempt from estate tax when the surviving spouse dies (unlike the marital deduction described above).

Another such trust is a life insurance trust. By transferring assets equal to life insurance premiums to an irrevocable life insurance trust, a person can reduce the size of their taxable estate. The proceeds from the life insurance are then not taxable.

* Real estate deduction

There is some flexibility in how the value of some real estate is calculated as part of an estate. A family farm, for instance, can sometimes be valued at a lower "actual use" standard rather than the usual "highest and best use" standard.