How Does Estate Tax Work in Illinois?

Can a Revocable Living Trust Avoid Estate Taxes?

Video by Attorney Kevin O'Flaherty
Article written by Illinois & Iowa Attorney Kevin O'Flaherty
Updated on
October 28, 2019

In this article we will explain revocable living trusts and estate taxes and answer the question “can revocable living trust avoid estate taxes?”  We will explain how estate tax works in Illinois, answer the question “what is a revocable living trust?”, explain how revocable living trusts avoid probate, and compare revocable living trusts to irrevocable trusts for estate tax purposes.  

How Does Estate Tax Work in Illinois?

When someone passes away, if he or she owns assets with a dollar value in excess of the state and/or federal estate tax exemption amounts, the amount of assets over and above the exemption amounts will be subject to state and federal estate tax respectively.  The Illinois estate tax exemption is $4 million.  This means that the first $4 million in a deceased individual’s estate is not taxable in Illinois, but that any amounts over and above $4 million will be subject to Illinois estate tax.  Because the Illinois estate tax exemption is lower than the federal exemption, we will focus on Illinois estate tax in this article, but, unless otherwise noted, the principles we discuss are the same for both Illinois and federal estate tax.

What is a Revocable Living Trust?

Are irrevocable trusts subject to estate taxes?

A revocable living trust is a legal entity created by a “grantor” that can own property separate and apart from the grantor.  The grantor will name a series of trustees to act in succession in order to manage the trust for the benefit of named beneficiaries according to the terms and restrictions set forth in the trust.  

During the grantor’s lifetime, the grantor will typically be both trustee and beneficiary of the trust.  Therefore, he or she will not generally notice the difference between owning the property in his or her individual name and owning it as trustee of his or her trust.  

Revocable Living Trusts and Probate in Illinois

The most common purpose for a revocable living trust in an estate plan is to avoid probate.  For more on this topic check out our article, How to Avoid Probate Using Revocable Living Trusts.  

Probate is generally required in order to distribute estates that own any real estate, regardless of value, or more than $100,000.00 of assets.  For more on this, see When is Probate Required in Illinois?  Probate is undesirable for many reasons that are beyond the scope of this article.  However, a primary reason is the cost to the estate in attorney fees and court costs.

Revocable Living Trusts are used to remove assets from ownership in your individual name to that of your trust, because, when you pass away assets that are owned by your trust are not considered part of your estate for the purpose of triggering probate.  

This means that if a deceased individual owned most of their significant assets in trust, their estate (meaning assets owned outside of trust) should not own any real estate and should own less than $100,000.00 in total assets.  If this is the case, probate will not be necessary regardless of how much property is owned by the trust.  

This saves the estate a significant amount of money on court costs and attorney fees, allows the assets to be distributed immediately rather than be tied up in probate for a year, and saves the deceased individual’s family a significant amount of stress that would otherwise be caused by a probate case.

Can a Revocable Living Trust Prevent Estate Tax?

How do trusts avoid taxes?

Owning property in a revocable living trust removes that property from your estate for the purpose of probate, but it does not remove the property from your estate for the purpose of estate tax.  Your estate for the purpose of estate tax includes property owned by a revocable living trusts, retirement accounts, and death benefits of life insurance policies that you own.  

Even though moving all of your assets to a revocable living trust does not make them untaxable, revocable living trusts are still the first line of defense in minimizing estate tax.  

If you are married and live in Illinois, you and your spouse each have a $4 million state estate tax exemption.  However, you are not automatically able to take advantage of one another’s estate tax exemptions.  This differs from federal estate tax, which does allow married couples to take advantage of one another’s federal estate tax exemptions.  

So what does this mean?  

Let’s say Clark Kent and Lois Lane are married and Clark passes away owning $5 million in assets.  Clark’s estate tax exemption is only $4 million, so $1 million of Clark’s assets will be subject to estate tax before passing to Lois.  Lois cannot automatically apply $1 million of her own estate tax exemption to those assets to make sure that they pass to her without being taxed.

Revocable Living Trusts can be used to allow married couples to take advantage of one another’s estate tax exemptions, essentially raising the threshold at which the couple has to worry about Illinois estate tax from $4 million to $8 million in assets.

With the use of a proper revocable living trust strategy, if the first spouse passes away with assets over and above the estate tax exemption, the surviving spouse can use some of his or her own estate tax exemption on these assets to ensure that they pass free and clear of estate tax.  Assets to which these exemptions are applied will not be taxed when the surviving spouse passes away.  

Similarly, if the first spouse passes away with assets valued less than the exemption, any unused portion of the exemption can pass to the surviving spouse and will be added to his or her own estate tax exemption amount.  

This is complicated and a little bit arcane, but the upshot is that placing assets in a revocable living trust does not remove them from your estate for the purpose of estate tax.  However, use of a proper revocable living trust strategy can be used to raise the threshold at which Illinois estate tax will be a concern for married couples from $4 million to $8 million.

Not every revocable living trust is set up to allow married couples to take advantage of one another’s estate tax exemption.  You should check with an attorney rather than assuming that your trust accomplishes this.  

Revocable Living Trusts vs. Irrevocable Living Trusts for Estate Tax Purposes

The primary difference between a revocable living trust and an irrevocable trust for estate planning purposes is that irrevocable trusts do in fact remove assets from your estate for the purpose of estate taxes.  This means that assets owned by an irrevocable trust may not be subject to estate tax when the creator passes away.  

The downside of irrevocable trusts is that you have to give up some control over your assets in order for the trust to effectively remove the assets from your estate.  For this reason we will typically start using irrevocable trusts as part of your estate tax planning strategy only after your begin nearing the $8 million mark, assuming you are a married couple employing the revocable living trust strategy discussed above.  For estates below $8 million, revocable living trusts will allow you to avoid estate tax without giving up control over your assets.  For more on how we use irrevocable trusts to avoid estate tax, check out our article How to Avoid Estate Tax.

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