Tax Considerations and Strategies for New York Estate Planning

When it comes to estate planning, our discussions with clients typically revolve around the Federal estate. Our clients are less aware of the careful planning and consideration needed to address their estate tax on the state level. For instance, as of 2022, 12 states and the District of Columbia levy estate taxes on estates over a certain value – and New York is one of them.

Let’s take a further look at considerations you’ll need to keep in mind while planning your estate in New York State.

Understanding Taxation for NY Estate Planning

Generally, if the value of assets passing to beneficiaries other than a spouse or charity is below $6.11 million in 2022, the assets are fully exempt from tax and no NY estate taxes will be due. However, New York estate tax is calculated quite differently, and unfavorably, when compared to the federal estate tax calculation.

Federal estates have an exemption limit of $12.06 million in 2022 (but is set to sunset in 2026 – for more information on this see my insight on gifting strategies for 2021-2025), and estates are only taxed on the assets above that value. In New York, If the amount of your taxable estate is more than 5% of the exclusion amount at your death, you cannot take advantage of New York’s exclusion. These estates are subject to New York estate tax in their entirety – starting from dollar one. An estate that falls between the $6.11 million exemption amount and the 5% excess of $6.415 million is still partially subject to NY estate tax. This is often referred to as a “cliff tax.”

To show the potentially severe impact of the cliff tax, let’s consider this scenario: Amy passed away in 2022 with a taxable estate of $6,110,000. Since she is not over the NYS exemption amount, there is no NYS estate tax due and $6,110,000 will pass to her heirs. However, if Amy passed away in 2022 with a taxable estate of $6,250,000, her estate would be over the NYS exemption amount by just $140,000 yet there would be a NYS estate tax due of $331,040 leaving only $5,918,960 to pass to her heirs. Amy’s heirs would inherit $191,040 less from Amy’s $6.25M estate than from her $6.11M estate.

How to Avoid Excess Tax for Your NY Estate Plan

In the example laid out above, we see that having a lower estate provided heirs more of an inheritance than if the estate was above the exemption limit. If an estate falls above the exemption limit of $6.11 million, there are a few ways the estate value can be lowered. See below for some examples.

1. Give to charity: If Amy (from the above example) had simply contributed $140,000 to charity, her heirs would have inherited $191,040 more. Of course, it’s difficult to plan your exact estate value before your passing – which therefore may limit your knowledge on how much to gift away while living. However, in a will or trust document, one can make a conditional bequest to a charity of assets more than the NYS exemption amount. This way, the math is calculated to a tee after death.
2. Pre-pay retirement account taxes: If an estate includes retirement assets, one could simply “convert” pre-tax assets to after tax assets prior to death – otherwise known as a Roth conversion. Using the same facts above, if Amy had converted $350,000 of pre-tax retirement assets and paid $140,000 in federal/state income taxes, not only would her heirs inherit $191,040 more in total assets, but now they’re also inheriting $350,000 of tax-free assets as well. A double win.
3. Lifetime gifts: Another potential strategy for high-net-worth individuals is to make lifetime gifts to individuals. There is a federal gift tax, but an individual may make gifts up to the federal estate and gift tax exemption (in 2022, $12.06M) before any federal gift tax is owed. While NYS does not impose a gift tax, it does apply a 3 year “clawback” rule where any lifetime gifts made within 3 years of death are clawed back to the decedent’s estate for purposes of determining NYS estate tax. Therefore, this strategy is not beneficial in the decedent’s last days, or even years. The downside of lifetime gifts is that once the assets are gifted, an individual cannot access those assets to live. Analysis must be done to show that an individual does not need the assets to live on prior to utilizing lifetime gifts.
   • Note: The “clawback” rule does not impact annual exclusion gifts of $16,000 per donee in 2022. Therefore, if Amy had 9 people to gift $16K to, she could remove $144,000 from her estate so on her deathbed and it would not be subject to the “clawback” rule.

New York State Estate Planning and Portability

One additional consideration for New York estate planning is the lack of portability — in other words, the ability for married couples to aggregate their unified gift and estate tax exemption amounts. In practice, this means that a surviving spouse inherits the deceased spouse’s assets and any unused portion of the deceased spouse’s estate tax exemption. Portability is only available at the federal level and does not apply to the New York estate tax. Meaning, if the first spouse to pass away gives everything outright to the other spouse, while no taxes are imposed on transfers between U.S. citizen spouses, the first spouse’s entire exemption amount goes unused. The second spouse will still be subject to the $6,110,000 exemption in 2022. There are estate planning strategies, such as utilizing a credit shelter trust, to take advantage of both spouse’s exemption amounts.

Final Thoughts

By implementing certain estate and gift planning strategies, a New York individual can minimize the impact of the New York estate tax cliff and increase the amounts passing to their heirs. If you are a New York resident with an estate that might be above $6.11 million, consult with your financial advisor, tax preparer or estate planner to see what is recommended.