The Mathematics of Money

Copyright © 2008, The McGraw-Hill Companies, Inc.

of accounts such as trusts, which may circumvent estate taxes; the details of how these

work though is a matter for specialized attorneys and accountants, and lies far beyond our

scope here.

Example 9.4.5 Suppose that Anselm died, leaving assets worth $925,063.

His will left $400,000 to his wife, $75,000 to his church, and $35,000 to other

charities. At his death he had debts totaling $54,053 and his funeral expenses

were $22,500. Executor’s and other legal fees amounted to $30,000. What was

his taxable estate?

The money left to his wife, church, and charity are not taxable. In addition, all of the expenses

listed would be subtracted as well. In total, these amounts add up to $616,553. The remaining

taxable estate is $925,063 – $616,553  $308,510.

Estate taxes are structured in such a way that every estate is allowed a fairly large exemption

from the tax. The estate tax then applies to the value that exceeds this exemption. In recent

years the amount of the exemption has been growing, and the tax rate has been reduced, in

response to strong political opposition to the estate tax. The exemptions and rates for recent

years are shown below.

Year of Death Exemption Rate

2003 $1,000,000 49%

2004 $1,500,000 48%

2005 $1,500,000 47%

2006 $2,000,000 46%

2007 $2,000,000 45%

2008 $2,000,000 45%

2009 $3,500,000 45%

As of this writing, under current tax law, the federal estate tax will be eliminated entirely

in 2010. However, it will be eliminated for that year only; according to present law it will

return in 2011 with a much lower exemption ($1,000,000) and higher rate (55%) than

before. While it can’t be said with any certainty what will happen in the future, it is very

likely that some changes will be made before 2010.

Example 9.4.6 If Anselm (from Example 9.4.5) died in 2006, how much federal

estate tax would have been owed on his estate?

Anselm’s taxable estate fell far below the exemption in 2006 (or in any of the years in the

table for that matter). No federal estate tax would be paid.

Example 9.4.7 Suppose that an unmarried person dies, leaving an estate worth

$2,800,000. After excludable expenses are subtracted out, her taxable estate came

to $2,600,000. How much federal estate tax would be owed if her death occurred in

2008? In 2009?

2008: The taxable estate is $2,800,000 – $200,000  $2,600,000. Since the exemption

for 2008 is $2,000,000, the tax rate applies to $2,600,000 – $2,000,000  $600,000. The

estate tax owed would then be (45%)($600,000)  $270,000.

2009: Since the exemption in 2009 is $3,500,000 and this is more than the taxable estate,

no tax would be owed.

In this section we have been discussing only federal estate taxes. Some states also assess

estate taxes, though there is a great deal of variation in estate taxes among the states.

The amount of estate tax paid to the federal government may be affected by the amount

of state estate tax. The examples above did not take this into account, and since the

nature and amount of estate tax—if any—varies widely, we will consider only federal

taxes here.

9.4 Other Taxes 409