Source of Payment for Estate Tax

Daniel B. Evans, a private practice attorney in Wyndmoor, Pennsylvania, has recently published an article entitled Tax Clauses to Die For, Prob. & Prop., July/Aug. 2006, at 38. The article discusses what happens when the estate taxes on non-probate assets are paid by the probate estate, when it may or may not be a good strategy, and why some attorneys choose to do it regardless.

   

The conclusion to Mr. Evans’s article states:

   

The core problem with a direction to pay all taxes from the residue of an estate is that it is usually either irrelevant or disastrous. If the beneficiaries of the residuary are the same as the beneficiaries of the taxable estate (that is, the assets passing outside of the will are divided in approximately the same manner as the residuary estate), then the direction is largely meaningless, because the benefits received by each beneficiary and the net tax burden payable from each beneficiary’s interests should be the same regardless of the source of the tax payments.  If the beneficiaries of the residuary estate are not the same as the beneficiaries of the taxable estate, however, the result can be a disaster, because the residuary beneficiaries are usually the primary objects of the testator’s estate plan, and the residue might be obligated to pay a large tax bill for assets that do not benefit those beneficiaries or might not even benefit anyone in the testator’s family.

Ideally, the apportionment of the death taxes will be considered explicitly during the estate planning process, but the estate planner still needs to consider the consequences of the testator making changes to the title of assets and to beneficiary designation without consulting the planner. Given this uncertainty and the dangers of directing that all taxes be paid from the residue, the safest course of action is to presume that death taxes payable on nonprobate assets should be paid by the beneficiaries of those assets and not the probate estate.