This is the first in a series on post-mortem planning techniques to manage taxes and optimize estate planning following death.
It’s difficult, to say the least, to alter your estate plan after you have passed. However, post-mortem planning allows your family to make certain adjustments to your plan even after death. These adjustments can “tune-up” the tax efficiency of your plan, resulting in substantial tax savings.
Core to this planning is the disclaimer. The power to disclaim is provided by statute in most states, including Pennsylvania, Ohio, and West Virginia. A disclaimer is a legal instrument that allows the recipient of a gift to refuse or “disclaim” that gift, including gifts occurring as a result of death. When a recipient disclaims a gift, the recipient is treated as dying before the donor. Therefore, the gift will not pass to the disclaiming recipient, but rather to whomever would have received the gift if the intended recipient had previously passed away.
For example, assume that Dad’s Will left money to his son. If his son died before him, Dad’s Will provided that his son’s children received the money. After Dad’s death, if the son effectively disclaims the money, the money passes to his son’s children rather than to his son.
A disclaimer in this situation could be desirable for a number of reasons. Perhaps the son does not personally want the money due to his own tax circumstances. Perhaps the son wants his children to have a legacy by which to remember their grandfather. Perhaps the son is financially comfortable and had no use for the additional funds (and did not want to incur estate or inheritance tax again on the funds at the son’s death).
A disclaimer does not need to be of an entire inheritance, but can be done by selecting certain assets. For example, the son might select an IRA to disclaim if his children were in lower income tax brackets. Likewise, the son might choose to disclaim an asset that would grow substantially in value, such interests in a family business to keep those interests from appreciating in his hands where they would be taxed for inheritance and estate tax upon his passing. Each beneficiary of an estate can disclaim independently of other beneficiaries.
A disclaimer can also specify a certain dollar amount, number of shares of stock, formula, or fraction of the assets being disclaimed. This method of disclaimer is often done to precisely set the value of the asset being disclaimed for tax purposes. For example, a disclaimer might read “I disclaim the maximum fraction of the estate possible without incurring federal estate tax.”
Disclaimers must meet specific requirements to be effective under state law. Federal tax law imposes additional requirements for a disclaimer to be effective for tax purposes. Chief among these is that a disclaimer must be made within nine-months of the gift (usually the date of death), with very limited exceptions.
Additionally, the disclaimant must not exercise possession or enjoyment of the disclaimed property before or after the disclaimer is made. Therefore, once an heir has received the inheritance, it is too late to disclaim. Heirs should consider disclaimer opportunities early in the estate administration so that no deadlines to disclaim are unintentionally missed and no distributions are inadvertently accepted, either of which could bar effective disclaimer planning.