Estate Plan Lessons from DeMuth v. Commissioner

Lifetime gifts are commonly utilized to minimize estate and inheritance taxes, particularly given the current federal estate tax threshold of $12.92 million. In addition to federal regulations, twelve states and the District of Columbia impose their own estate or inheritance taxes.

Individuals seeking to reduce their taxable estate often consider gifting assets to friends and family. However, a recent case from the United States Court of Appeals for the Third Circuit underscores the importance of carefully timing and structuring such gifts. In this case, the failure to finalize gifts in the form of checks before the donor’s death resulted in a significant financial loss for the estate and its heirs.

Given the historically high lifetime estate and gift tax provisions set to expire at the end of 2025, there is a current opportunity to explore gift-giving strategies.

Case Summary

William DeMuth, Jr. of Pennsylvania appointed his son, Donald DeMuth, as his agent through a power of attorney in January 2007. Donald made annual monetary gifts to family members from 2007 to 2014. However, a critical issue arose when, shortly after William’s diagnosis of an end-stage medical condition in September 2015, Donald signed and delivered seven checks totaling $464,000 to family members. Unfortunately, at the time of William’s death on September 11, 2015, only one of the eleven checks had been paid, leaving ten checks, totaling $436,000, unpaid.

The executor, Donald, excluded the value of all eleven checks when reporting the gross estate. The IRS, disagreeing with this exclusion, issued a notice of estate tax deficiency amounting to $179,130. Donald appealed to the Tax Court, which reduced the deficiency to $131,774 by excluding three checks deposited on the day of William’s death. However, the Tax Court held that the remaining seven checks were part of William’s estate under Pennsylvania law, as they were not completed gifts before his death.

The estate appealed to the Third Circuit, arguing that the gifts were completed gifts in contemplation of William’s death, falling under the category of “causa mortis.” However, the court ruled against Donald, stating that the estate failed to demonstrate that the checks were intended as gifts in causa mortis. Consequently, the value of the seven remaining checks was improperly excluded from the gross estate.

Estate Planning Takeaways

The inclusion of the seven checks in William’s estate resulted in an increased estate tax liability of over $130,000. The estate also incurred legal and court fees during the unsuccessful litigation, in addition to nearly eight years of dealing with the courts and the IRS. With better planning, these funds could have been passed on to heirs, avoiding unnecessary tax burdens. It’s important to note that the federal estate tax may be in addition to state taxes, such as Pennsylvania’s inheritance tax, ranging from 4.5 to 15 percent on eligible transfers.

Other estate planning takeaways from?DeMuth v. Commissioner?include the following:?

• If the deathbed gifts made by Donald DeMuth on behalf of his father had been made by a bank check or wire – rather than a personal check – they could have been excluded from the taxable estate because a bank checkor?wire represents funds already withdrawn from the payer’s account.?

• US Code and Treasury Regulations were relevant to?DeMuth v. Commissioner, but state law dictates that property law rules. Relevant to this case, the distinction in Pennsylvania law between gifts inter vivos and gifts causa mortis was critical.

• Knowing that his father was in poor health, Donald should have ensured that the gift checks were received and deposited before William died.?

• A similar mistake is made when checks are written at the end of the year for the purpose?of taking advantage of?the annual gift exclusion amount ($17,000 per person in 2023). If the check is not cashed or deposited by the year’s end, it is not considered complete until the following year and therefore is not a gift made in the year the check is written. This could result in a doubling up on gifts, the required filing of a gift tax return, and a reduction in the lifetime exemption amount.?

• State tax laws should also be accounted for in the timing of gifts. Pennsylvania, for example, does not have a gift tax, but all gifts greater than $3,000 made within 12 months of the decedent’s date of death are pulled back into the estate and subject to Pennsylvania inheritance taxes.

Putting Off Estate Planning Can Have Unintended Consequences

DeMuth v. Commissioners?is a lesson in what can happen when estate planning is put off to the last minute. Gifting can be an effective strategy for reducing estate and inheritance taxes and leaving more money for heirs – but to maximize the unified estate and gift tax exclusions, gifting should be a long-term strategy.?

Today’s all-time high exclusion levels are set to be cut in half in 2026. With this drastic change on the horizon, families may want to revisit their estate plan now and consider actions such as creating a family trust. An estate plan should also account for expected asset appreciation that could put an estate over the exemption amount come 2026.?

Even if you do not think upcoming changes in the tax law will affect your estate plan, it is still important to review your plan every few years. Changes in your life and the lives of loved ones can make it necessary to modify your will or trust terms or reconsider trustees and executors. Like William DeMuth, you could also face a terminal medical condition that forces you to accelerate certain aspects of your plan.?

Whatever your plan is, do not delay taking the necessary steps to make it official. Putting off estate planning can affect your estate, your heirs, and your legacy. When your plans change, our attorneys are here to help. Call or contact us to schedule an appointment.?

At Cheever Law, APC, we don’t just draft documents; we ensure you make informed and empowered decisions about life and death for yourself and the people you love, starting with a valuable and educational Life & Legacy Planning Session. This will allow you to get more financially organized and make the best choices for the people you love. If you have already completed your estate plan, we will review that plan at your Life & Legacy Planning Session to ensure that it will work the way you intend and address any holes or gaps that may be present if circumstances have changed since you executed your plan. ??

To learn more about our one-of-a-kind systems and services,?contact us?or?schedule a no-obligation 15-minute introductory phone call?today.