|Minnesota is an equal opportunity estate taxing authority: it taxes residents and nonresidents alike. If you live in Minnesota, or have property located in the state, you are subject to estate taxes in Minnesota.
The bad news is that Minnesota tax rates start at 13% and range up to 16% on estates over $10 million. The good news, however, is that estate tax, unlike death, is not necessarily inevitable. Creative use of combined exemptions and disclaimer trusts can avoid the estate tax in Minnesota for both resident and non-resident couples in some circumstances.
Considerations for Minnesota Residents
A married couple has potential Minnesota estate tax liability when their net worth is greater than $2.7 million in 2019 (and greater than $3 million in 2020 and beyond). When this is the circumstance, tax planning in their estate planning documents becomes advisable.
Now you might ask, if the dollar amounts listed above are when the MN estate tax kicks in for an individual, why does a married couple have to plan when they jointly cross those numbers? Shouldn’t the actual threshold be $5.4 million and $6 million for a married couple? I might then reply, “Wow, what a great question,” but I would also answer that you’re applying federal estate tax rules to the Minnesota estate tax, which is a different animal. The Minnesota estate tax exemption is not “portable” like the federal estate tax exemption, meaning you cannot combine a married couple’s exemptions to essentially double the estate tax threshold.
A married couple is in Minnesota estate tax territory when they cross the individual exemption amount ($2.7 million in 2019, $3 million in 2020 and beyond). If one spouse dies, and passes all their assets to their spouse, then the surviving spouse has all of the couple’s assets, but only has one individual Minnesota estate tax exemption. Effectively, when the first spouse dies, their individual exemption is wasted.
Imagine a couple with a combined net worth of $4 million, with each spouse having an individual net worth of $2 million. If spouse 1 dies, and leaves their $2 million to the survivor, there won’t be any estate tax to be paid at the first death, both because of the marital deduction (a concept that is not explored here), but also because spouse 1 has a Minnesota estate tax exemption of greater than the $2 million owned at death. However, as stated above, they can’t give their exemption to the surviving spouse. So when spouse 2 dies later, they have $4 million, but only an exemption of $3 million (assuming they die in 2020 or after). Thus, there will be a Minnesota estate tax on $1 million (approximately $130K).
However, if a married couple properly plans for the Minnesota estate tax, then they CAN effectively double the exemption amount, by making sure both spouses use their individual Minnesota estate tax exemptions. One of the simplest ways to achieve that goal is by including disclaimer trust provisions in your will or trust. This is a trust that can be created after the death of the first spouse. The surviving spouse has 9 months from the date of the first spouse’s death to choose whether to disclaim certain assets from the deceased spouse’s estate. This option gives the surviving spouse the flexibility to choose whether or not to disclaim assets and the amount that best suits their circumstances.
If the choice is made to disclaim, the provisions of the trust will provide that any amounts disclaimed are placed into a disclaimer trust. Typically, the surviving spouse is the beneficiary of this trust, but not the owner . The surviving spouse can receive the income from the disclaimer trust assets, and also receive principal for health, education, maintenance, and support.
By placing the assets into a trust, the surviving spouse can receive the benefits of the disclaimed assets without having to include them in their taxable estate. Thus, if the couple with $4 million plans properly, the surviving spouse can disclaim $1 million of the deceased spouse’s $2 million, still receive the benefit of the disclaimed assets and only have an estate consisting of $3 million. The Minnesota estate tax has been avoided!
Considerations for Minnesota Property Owners who are Non-residents
A non-resident has estate tax liability in Minnesota if they own real estate or business assets located in Minnesota. To determine the amount of taxes owed to Minnesota, a non-resident must (1) calculate the estate tax as if they were a resident of the State, (2) calculate the fractional share of the assets located in Minnesota and (3) multiply the tax due as if a resident in (1) by the fractional share (2) to determine the amount owing. As an example, take a resident of Florida who still owns a cabin in northern Minnesota at the time of death. The entire estate was valued at $5 million. The cabin is valued at $1 million. The Minnesota estate tax on a $5 million estate is $299,000. The percentage of the Minnesota assets to the entire estate is 20% ($1 million divided by $5 million). The resulting Minnesota tax is $299,000 X .20 or $59,800.
If we have a married couple with an estate as described above, and the cabin has been transferred to the spouse who is first to die, a disclaimer trust can be used to avoid the Minnesota estate tax. The surviving spouse can disclaim the cabin by placing it into the disclaimer trust provided for in the will or trust. The disclaimer effectively creates a Minnesota taxable estate for the first to die spouse, but given the taxable estate is limited to the value of the cabin ($1 million) and it is less than the Minnesota estate tax exemption ($2.7 million in 2018 and $3 million thereafter) the estate is not taxable in the first estate. The surviving spouse can then have the use of the cabin during their lifetime via the trust, and upon their death pass it along without Minnesota estate tax (since it is not an asset of the spouse that is second to die).
Minnesota estate tax liability can be limited through careful planning, including the use of disclaimer trusts. The specific language establishing a disclaimer trust, end of life planning and the process for properly disclaiming assets after a spouse’s death are very complex and should only be done with the advice of counsel. The subject matter of this article may not be applicable to your particular situation, but hopefully, these illustrations will make you mindful of the Minnesota estate tax thresholds and when to consider including estate tax mitigation disclaimer techniques in your estate plan.
At Sanford, Pierson, Thone & Strean, our estate planning attorneys help plan estates — large and small — and we’d be happy to tailor a plan that navigates the complexities you and your family may face in the future.