AVOID OREGON ESTATE TAX WITH LIFETIME GIFTS (But Be Careful)

Oregon’s estate tax laws have a loophole: If you make sufficient gifts during life to reduce your estate below $1M, you will avoid paying any Oregon estate tax at death.  For example, if you have $8M of wealth and give away $7M the day before you die, your Oregon estate tax will be zero.   [This does not work for federal estate tax purposes because lifetime gifts (in excess of $13,000/person/year) reduce the $5M lifetime exemption dollar-for-dollar.]

But lifetime gifts of appreciated property can have a boomerang effect.  By way of background, the recipient of a lifetime gift will have the same cost basis in the item as the party making the gift.  Thus, if a parent gives away stock having a value of $100 and a cost basis of $25, the recipient will have $75 of capital gains if the stock is sold for $100.  But if the parent holds the stock until death, the recipient’s cost basis is “stepped up” to $100, meaning the shares can be sold for $100 with no gain or loss.

The significance of the cost basis / stepped-up basis discussion is that the Oregon estate tax savings from lifetime gifts may be dwarfed by the extra income taxes (federal and Oregon) owing when the item is sold.  Example:  A parent makes a lifetime gift of stock having a value of $500,000 and a cost basis of $200,000.  Since the Oregon estate tax marginal rate (starting in 2012) is 10%, the gift would save Oregon estate tax of $50,000, i.e., 10% of $500,000.  But the recipient’s eventual capital gain (upon sale) will be $300,000 more than if the gift had been made at death.  If we assume a combined federal & Oregon capital gains rate of 24%, the extra income tax (when the item is sold) will be about $72,000, which exceeds the $50,000 Oregon estate tax savings.  Keep in mind that the Oregon estate tax is due 9 months after death, whereas income tax is not due until the item is sold.  Thus, if the recipient is going the hold the shares for a long period of time, the analysis is muddier.

The moral of the story is that a parent should consult a tax professional  prior to making huge deathbed gifts as a tax-savings strategy.

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