How Can I Reduce Inheritance Tax for My Children?

One critical element of estate planning is inheritance tax—an often-overlooked financial burden that can significantly reduce the amount your children or beneficiaries receive. If not addressed, inheritance tax can lead to substantial financial consequences for your heirs. Fortunately, there are ways to minimize this tax legally, allowing more of your hard-earned assets to remain with your family.

Inheritance tax is a tax that beneficiaries must pay when they inherit money or property from a deceased person's estate. The amount varies depending on the value of the estate, the relationship between the deceased and the beneficiary, and the country or state in which the individual resides.

In the U.S., for example, there's no federal inheritance tax, but some states impose their own inheritance taxes. This tax is typically applied after the deceased's estate has already been subjected to estate tax, which is a separate levy that applies to the total value of the estate before it’s distributed to beneficiaries.

Notably, inheritance taxes can be steep, especially for large estates. As a result, they can eat into the amount your children or other heirs receive, sometimes significantly. However, with proper estate planning, you can mitigate these tax consequences and protect your assets for future generations.

How Inheritance Tax Affects Your Children

One of the most pressing concerns for parents is how much of their estate will actually reach their children after taxes. Without proper planning, inheritance tax can substantially reduce the assets your children stand to inherit.

The amount of inheritance tax your children will owe depends on several factors, such as:

• The size of the estate: Larger estates are generally subject to higher tax rates.

• The tax exemptions in place: Some exemptions allow a certain amount of the estate to be passed on tax-free.

• The type of assets being inherited: Real estate, business assets, and financial accounts can all be taxed differently.

While most states offer exemptions for spouses and direct descendants, these thresholds can vary. Therefore, understanding the inheritance tax laws in your jurisdiction is crucial to protecting your estate for your children.

Strategies to Reduce Inheritance Tax for Your Children

The good news is that inheritance tax isn’t set in stone. With thoughtful estate planning, you can reduce or even eliminate the tax burden on your heirs. Below are some effective strategies to consider.

1. Gifting Assets During Your Lifetime

One of the simplest ways to reduce inheritance tax is to give away some of your assets while you're still alive. Many countries and states allow individuals to gift a certain amount of money or property each year without incurring taxes. In the U.S., for example, individuals can give up to $18,000 a person, per year, as of 2024, without triggering a gift tax, according to the IRS.

By gifting assets to your children while you're alive, you reduce the value of your estate, thereby potentially lowering the inheritance tax they would owe. Moreover, these gifts can help your children financially while you're still around to witness the benefits.

2. Setting Up a Trust

A trust is an excellent tool for managing and distributing your assets while also minimizing inheritance tax. Trusts are legal entities that hold assets on behalf of beneficiaries, and they can be designed to limit or avoid taxes altogether. There are several types of trusts you can set up as part of your estate planning, including:

• Revocable living trusts: These allow you to retain control over your assets during your lifetime, and they pass to your beneficiaries without going through probate after your death.

• Irrevocable trusts: Once established, these can’t be altered or revoked, but they remove the assets from your estate for tax purposes, thereby reducing inheritance tax liabilities.

• Generation-skipping trusts: These are designed to transfer wealth to grandchildren or future generations, bypassing your children and avoiding some tax implications.

Trusts also offer the added benefit of protecting your assets from creditors and guaranteeing your estate is distributed according to your wishes.

3. Purchasing Life Insurance

Another effective strategy for reducing inheritance tax is to purchase a life insurance policy. Life insurance proceeds are generally not subject to inheritance tax, which means that the payout can provide your children with a tax-free inheritance. Additionally, you can use life insurance to cover the costs of any taxes your estate may owe, keeping your assets intact for your beneficiaries. By having a life insurance policy in place, you can provide peace of mind for your heirs and eliminate any financial burdens that may arise from taxes or probate costs.

4. Making Charitable Donations

Charitable giving is a way to both support causes you care about and reduce inheritance tax. Many jurisdictions offer tax exemptions for charitable donations, meaning any assets you leave to a qualifying charity won’t be subject to inheritance tax.

By incorporating charitable donations into your estate plan, you can reduce the overall value of your estate and the taxes your children would owe. Moreover, you can establish a charitable trust to continue your legacy and support charitable organizations even after your death.

5. Taking Advantage of Exemptions and Reliefs

Many countries and states offer specific exemptions or reliefs that can significantly reduce inheritance tax for your children. For example, in 2024, the U.S. has an estate tax exemption that allows estates up to approximately $13.61 million per individual to be passed on without incurring federal estate tax, according to the IRS. By keeping your estate within this exemption limit, you can avoid inheritance tax entirely.

Additionally, certain types of assets, like family-owned businesses or farms, may qualify for relief from inheritance tax, allowing you to pass them on to your children with reduced tax liabilities.

Work With an Estate Planning Attorney Today

Estate planning isn’t just about determining who gets what—it's about making sure your loved ones are cared for in the most efficient way possible. Inheritance tax can significantly impact the assets your children receive, but with careful planning, you can reduce or eliminate this burden. Contact the Law Office of Justin S. Eppler, LLC to start your estate planning journey today. We’re here in Anchorage, Alaska to help you secure your family's financial future and preserve your legacy for generations to come. We also serve Fairbanks, Juneau, Wasilla, and Palmer.