By: AVID Esq. Group LLC July 5, 2023

Is Estate Planning Tax Deductible? A Clear Answer

Understanding Estate Planning

Before we get to the issue of tax deductibility, let’s get clear on what estate planning is.

Definition of Estate Planning

Estate planning refers to the process of arranging for the management and disposal of a person’s estate during their lifetime and after their death.

An estate includes all assets, property, and debts owned by an individual.

Estate planning involves the creation of legal documents such as wills, trusts, and powers of attorney that outline the distribution of assets, naming of beneficiaries, and management of affairs in the event of incapacitation or death.

Purpose of Estate Planning

The purpose of estate planning is to ensure that your assets are distributed according to your wishes after your death.

It also helps to minimize the tax burden on your beneficiaries and avoid legal disputes that may arise from the distribution of your estate.

Estate planning is not just for the wealthy; it is important for anyone who owns assets and wants to ensure that their loved ones are taken care of after their death.

Estate planning involves several key steps, including:

Identifying your assets and liabilities
Determining how you want your assets to be distributed
Creating legal documents such as wills, trusts, and powers of attorney
Reviewing and updating your estate plan regularly

Overall, estate planning is an important step in ensuring that your assets are distributed according to your wishes and that your loved ones are taken care of after your death.

While the costs associated with estate planning are generally not tax-deductible, it is still an important investment in your future and the future of your loved ones.

Now let’s discuss tax deductions and how they work.

Understanding Tax Deductions

Definition of Tax Deductions

Tax deductions are expenses that reduce your taxable income. When you file your tax return, you can either take the standard deduction or itemize your deductions.

Itemizing your deductions means adding up all of your eligible expenses and subtracting them from your taxable income.

This can result in a lower tax bill, and sometimes even a tax refund.

How Tax Deductions Work

When you spend money on certain expenses, you may be able to deduct them from your taxable income.

Deductions can vary depending on your circumstances, but some common deductions include:

Mortgage interest
State and local taxes
Charitable donations
Medical expenses
Education expenses

To claim a tax deduction, you must keep accurate records of your expenses and file a tax return. You can either take the standard deduction or itemize your deductions.

The standard deduction is a fixed amount that varies depending on your filing status, while itemizing your deductions means adding up all of your eligible expenses and subtracting them from your taxable income.

Remember, tax laws can be complex and change frequently, so it’s always a good idea to consult with a tax professional before making any decisions about your taxes.

Estate Planning and Tax Deductions

When it comes to estate planning, you may be wondering if the costs associated with it are tax-deductible. While some estate planning fees were tax-deductible in the past, the rules have changed in recent years.

In this section, we will explore the current state of estate planning and tax deductions.

Estate Planning Costs

Under the Tax Cuts and Jobs Act of 2017, most expenses resulting from estate planning lost their tax-deductible status in 2018.

This means that you can no longer deduct the fees paid to your estate planning attorney, financial planner, or accountant on your tax return.

However, there are still a few costs associated with estate planning that are tax-deductible.

One example is the cost of preparing and filing your estate tax return.

If your estate is large enough to require an estate tax return, the fees associated with preparing and filing it may be tax-deductible.

Estate Tax Deductions

Another area where estate planning and taxes intersect is estate tax deductions. When you pass away, your estate may be subject to federal estate taxes if its value exceeds a certain threshold.

However, there are several deductions that can help reduce the amount of estate tax owed.

One common deduction is the marital deduction, which allows you to leave an unlimited amount of assets to your spouse tax-free.

Another deduction is the charitable deduction, which allows you to leave assets to qualified charities without incurring estate tax.

It’s important to note that estate tax laws can be complex, and the rules and deductions may vary depending on your individual circumstances.

Consulting with an experienced estate planning attorney and tax professional can help ensure that you are taking advantage of all available deductions and minimizing your tax liability.

So, while most estate planning fees are no longer tax-deductible, there are still a few costs associated with estate planning that may qualify for a tax deduction.

Additionally, there are several deductions available for estate tax purposes that can help reduce your tax liability.

Be sure to consult with a professional to ensure that you are taking advantage of all available deductions and minimizing your tax liability.

Now, let’s answer the main question.

Is Estate Planning Tax Deductible? The Definitive Answer.

The answer to whether estate planning is tax deductible is a classic legal response: “it depends.”

According to the IRS Publication 529, some expenses related to estate tax planning services can be itemized as miscellaneous deductions on your tax return, under certain conditions.

These conditions include if the legal fees are tied to:

The generation or gathering of income
The upkeep, conservation, or management of property that generates income
Tax advice or planning, especially concerning the assessment, collection, or reimbursement of taxes

Consequently, if your estate planning involves advice about creating income-generating tools (like a trust), the associated legal fees could be deductible.

Similarly, advice related to estate taxes, strategies to minimize potential taxes, or asset transfers to avoid inheritance tax could also qualify.

Some legal expenses unrelated to estate planning could also qualify as miscellaneous deductions, such as those related to your job, divorce-related tax advice or planning, collecting taxable alimony, or handling tax issues arising from business profits or losses, property rents or royalties, and farming income or expenses.

However, IRS Publication 529 also outlines certain non-deductible legal expenses.

These are usually personal legal expenses that don’t have a direct tax link.

Non-deductible expenses include the preparation of a will, power of attorney, or medical directive, legal expenses from a promise to marry breach suit, property claims or settlements from a divorce, child custody matters, civil or criminal charges linked to personal relations, title preparation or defense, and personal injury damages.

Income Taxes vs Estate Taxes

It’s important to distinguish between income taxes and estate taxes.

While everyone must file an income tax return each year, only a small fraction of estates—about 0.1% to 0.2%—are substantial enough to incur an inheritance tax upon the individual’s passing.

To claim tax deductions for qualifying legal expenses from your income taxes, your attorney should clearly identify on their invoice the services related to tax.

For instance, your attorney could specify that 25% of their fee was for preparing your will (non-deductible), while the remaining 75% pertained to income and estate tax planning.

The actual percentage of your bill that’s tax-deductible varies by case, but typically, between 60% to 75% of estate planning legal fees are deductible.

The 2% Miscellaneous Deduction Rule

Remember, these eligible deductions fall under the 2% miscellaneous deduction rule. The IRS will subtract 2% of your adjusted gross income (AGI) from the total deduction.

So, if your miscellaneous deductions make up 5% of your AGI, the IRS will take away 2%, allowing you to deduct the leftover 3% from your taxable income.

If you’re unsure about the tax deductibility of your estate planning fees, it’s best to consult with a financial advisor.

They can provide you with personalized guidance on what expenses may be deductible for your specific situation.

Overall, while estate planning fees may not be tax deductible for most taxpayers, it’s still important to consider the financial implications of estate planning.

Proper estate planning can help you minimize taxes, protect your assets, and ensure your wishes are carried out after your passing.

Is Estate Planning Tax Deductible FAQs

Is the cost of setting up a trust tax deductible?

The cost of setting up a trust may be tax deductible, but it generally depends on the purpose of the trust. If it’s established primarily for income-producing purposes, then the legal fees could qualify for a deduction. However, it’s always best to consult with a tax professional or attorney to understand your specific situation.

What is the standard deduction for trusts?

The standard deduction available to an estate or trust is zero according to Code Sec. 63(c)(6)(D). However, there are some deductions that trusts can take advantage of to offset some of their income. An estate is allowed a $600 deduction in place of the personal exemption provided by IRC § 151. A trust that is required to distribute all of its income currently (a simple trust) is allowed a $300 deduction, and all other trusts are allowed a $100 deduction according to IRC § 642(b). Trusts may also deduct reasonable fees for trustee management and tax preparation, but the trust may only deduct these fees based on the amount of income generated by the trust.

Are estate expenses tax deductible?

Certain types of estate expenses may be tax deductible. These typically include administration costs such as attorney’s fees, executor’s commissions, and costs associated with selling or managing estate property. However, deductions are subject to specific rules and regulations, and tax law can be complex. For this reason, we at AVID Esq Group LLC always recommend consulting with a tax professional or an estate planning attorney to understand what deductions may apply in your specific situation.

While the question of whether estate planning is tax deductible doesn’t have a simple answer, the rules outlined in IRS Publication 529 can offer some guidance.

It’s crucial to understand the differences between tax-related and personal legal expenses and to work with your attorney to clearly identify these in your bill.

Ensuring your estate planning includes tax advice can potentially help you leverage deductions, reducing your overall tax burden. Remember, each case is unique and what works for one might not work for another.

Therefore, to get a detailed understanding of what parts of your estate planning might be tax deductible, we recommend you consult with the knowledgeable estate planning attorneys at AVID Esq Group LLC.

We offer a free consultation to discuss your specific circumstances, helping you navigate the intricacies of estate planning and tax laws in Arizona and Colorado.