Tax considerations when closing an estate

"[I]n this world nothing can be said to be certain, except death and taxes." - Benjamin Franklin, letter to Jean-Baptiste Leroy, 1789.

Dead people and estates have to pay taxes too, and since the decedent can’t do it, this responsibility falls upon the executor. The filing due dates are atypical and the calculations are not simple. Therefore, the best advice is to consult a tax expert with any questions (and most certainly for estates that are “close” calls). As a starting point, below are some important tax considerations for closing an estate:

The Decedent’s last 1040

The executor should file an individual income tax return by April 15th for the decedent. The return covers the period from Jan. 1 through the date of death. If there’s a surviving spouse, then the final 1040 can filed as a joint return (as if the decedent were still alive). Large uninsured medical expenses are important, and they should be discussed with your attorney, accountant, or tax-preparer. If estate taxes are due, the smarter option is likely to deduct medical expenses from the estate tax instead of on the 1040.

The Estate Income Tax return

Any income generated by the decedent’s investments or holdings after death is attributed to the estate. If that income exceeds $600, then the estate will have its own income tax, which is reported on Form 1041. Think of this like a gap-filler: the 1040 covers income through the date of death, and then the estate income tax picks up income after death. Distinguish this income tax from the estate tax, discussed immediately below.

The Estate Tax return

The federal estate tax return, due 9 months after the date of death, is filed on Form 706. Determining whether an estate tax is due is not always simple. If sizable gifts were made, anything over the annual exemptions (currently $14,000, but less in years past) are added back (to determine whether the exemption is surpassed). Also, with exceptions, life insurance proceeds are generally part of the estate for taxation purposes. Executors dealing with substantial estates should usually hire a tax professional.

Other considerations

If Forms 1041 and/or Form 706 are appropriate, then the executor should apply for an estate federal employer identification number (EIN). The executor should also file a Form 56 (Notice Concerning Fiduciary Relationship). Typically, executors open a checking account in the name of the estate using the estate EIN with funds from the decedent’s accounts.

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