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Private Wealth Pathway · Preserving the Wealth

Estate Planning Basics and Estate Taxes for CFA Level III

Updated 8 October 2026 · Fact-checked

Estate planning is arranging how your wealth passes to others, at the lowest legal cost and in line with your wishes. You solve questions by finding the domicile and legal rules, listing assets, picking the transfer tool (will, trust, gift), then computing the transfer tax.

Understand Estate Planning Basics and Estate Taxes

Estate planning is the process of deciding who receives your assets, when, and in what form, while keeping taxes, legal costs and family conflict low. It also covers who looks after you or your dependants if you lose capacity. For a private wealth client, it sits next to the investment plan. The estate plan sets the objectives and constraints for the portfolio.

Probate is the legal process that validates a will, settles debts and taxes, and transfers the remaining assets to heirs. It is usually public, takes time and costs money. Assets that pass outside probate, such as jointly owned property with survivorship rights, assets held in a trust, or accounts with a named beneficiary, avoid it in many jurisdictions. Rules differ by country, so always work from the facts in the vignette.

A will is a document that takes effect only at death. It names heirs, and an executor to carry out the wishes. It usually goes through probate, so it is public. A trust is a legal arrangement where a settlor transfers assets to a trustee, who holds them for beneficiaries. A trust can take effect during life (inter vivos). A revocable trust can be changed by the settlor, so it gives control but little tax or creditor protection. An irrevocable trust cannot be easily changed, so assets are generally out of the settlor's estate. That gives protection and possible tax savings but less control. A trust can also pass assets privately and avoid probate.

Transfer taxes differ by type. An estate tax is charged on the total estate of the person who dies, and is paid by the estate. An inheritance tax is charged on what each heir receives, so the rate often depends on the heir's relationship to the deceased. A gift tax is charged on lifetime transfers, and it stops people avoiding estate tax by giving everything away before death. Some countries have no transfer taxes at all. Many give an exemption or allowance, and often exempt transfers to a spouse.

Cross-border cases add complexity. A country may tax based on the domicile or citizenship of the deceased, and also on assets located in that country. The same asset can be taxed twice. Tax treaties or credits may reduce this. Your job in the exam is to identify the rules given, apply them, and link the result to the client's goals.

Key rules to remember

Taxable estate
Taxable estate = Gross estate − Deductions (debts, expenses, spousal and charitable transfers where allowed) − Exemption
Use only the deductions and exemptions the question gives. Rules vary by jurisdiction.
Estate tax payable
Estate tax = Taxable estate × Tax rate
Applies to the whole estate. If the question gives progressive bands, tax each band separately.
Inheritance tax by heir
Inheritance tax = (Amount received by heir − Heir's allowance) × Heir's rate
Computed per heir. Allowance and rate may depend on the relationship to the deceased.
Net amount to heirs
Net to heirs = Gross estate − Debts and expenses − Transfer taxes
Gifts made earlier may be added back or taxed separately depending on the rules given.
Future value of a transferred asset
FV = PV × (1 + g)^n
Used when comparing a lifetime gift with a bequest. A gift can move future growth out of the estate.

How to solve Estate Planning Basics and Estate Taxes questions

Use this order for any estate planning question. It keeps you on the facts and links the answer to the client.

  1. 1Read the client's objectives: who should benefit, how much control to keep, liquidity needs, privacy and tax goals.
  2. 2Identify the domicile, citizenship and asset locations, and which tax types apply (estate, inheritance, gift).
  3. 3List the assets and note how each passes: by will (probate), by trust, by survivorship or by named beneficiary.
  4. 4Check the command word. Calculate, Determine, Justify or Recommend each need a different answer style.
  5. 5Compute the tax: deduct debts, spousal and charitable amounts and exemptions, then apply the rate. Show each line.
  6. 6Choose the tool that fits the goal: will for simple transfers, revocable trust for control and probate avoidance, irrevocable trust for protection and tax, gifts for tax savings.
  7. 7State the recommendation in one short sentence and tie it to a specific client objective or constraint.

Quickest way: Goal, route, tax in three passes

When to use it: Use when time is short on an item set and you need to choose among four options fast.

  1. Underline the client's main goal: control, privacy, tax saving, or protection.
  2. Match the goal to the tool: privacy and probate avoidance point to a trust; control points to revocable; protection and tax point to irrevocable.
  3. For tax numbers, do gross estate − deductions − exemption, then multiply by the rate. Check the result is lower than the gross estate.
  4. Eliminate options that confuse who pays: estate tax is paid by the estate, inheritance tax by the heir.

Common mistakes in Estate Planning Basics and Estate Taxes

  • Mixing up estate tax and inheritance tax.

    Both are taxes at death and the names sound alike.

    Fix: Ask who is taxed and on what base. Estate tax: the estate's total. Inheritance tax: each heir's share.

  • Saying a will avoids probate.

    Students think a will makes transfer automatic.

    Fix: A will is what probate validates. To avoid probate, use a trust, joint survivorship or named beneficiaries, subject to local rules.

  • Treating a revocable trust as a tax or creditor shield.

    Trusts are linked with protection in general.

    Fix: If the settlor can revoke it, the assets generally stay in the estate. Only an irrevocable trust normally removes them.

  • Applying the exemption to every heir under an estate tax, or ignoring it under an inheritance tax.

    The base of each tax is not checked.

    Fix: Apply an estate exemption once to the estate. Apply inheritance allowances heir by heir, using the figures given.

  • Ignoring the domicile and asset location in cross-border questions.

    Students jump to the calculation.

    Fix: State which country can tax which asset first. Then check whether a credit or treaty prevents double tax, if the question mentions one.

  • Giving a general recommendation with no link to the client.

    Students recite features of tools.

    Fix: End with 'because the client wants…' and name the objective or constraint in a few words.

Worked examples

Example 1

A client domiciled in Country A dies with a gross estate of 12,000,000. Debts and funeral costs are 500,000. A bequest of 2,000,000 goes to a registered charity, which is deductible. The estate tax has an exemption of 3,000,000 and a flat rate of 40% on the taxable amount. Calculate the estate tax and the net amount to heirs after tax, treating the charity bequest as separate from heirs.

Show the solution
  1. Deduct debts: 12,000,000 − 500,000 = 11,500,000.
  2. Deduct the charitable bequest: 11,500,000 − 2,000,000 = 9,500,000.
  3. Deduct the exemption: 9,500,000 − 3,000,000 = 6,500,000 taxable estate.
  4. Tax = 6,500,000 × 40% = 2,600,000.
  5. Net to heirs = 9,500,000 − 2,600,000 = 6,900,000.

Answer: Estate tax is 2,600,000. Net to heirs is 6,900,000 after debts, the charity bequest and tax.

Example 2

A widow wants her two children to receive her assets privately, wants to avoid public probate, and wants to keep the right to change her mind while alive. Which structure best fits: a will only, a revocable trust, or an irrevocable trust? Justify in two sentences.

Show the solution
  1. Her goals are privacy, probate avoidance and flexibility.
  2. A will goes through probate, which is generally public, so it fails the first two goals.
  3. An irrevocable trust gives up control, so it fails the flexibility goal.
  4. A revocable trust passes assets to the trust, so probate can be avoided and the terms stay private, and she can still amend it.

Answer: A revocable trust. It avoids public probate and keeps terms private, and she keeps control to change it. The trade-off is that the assets generally stay in her estate, so it gives no estate tax reduction or creditor protection.

Exam tips

  • Read the command word in bold. 'Calculate' needs a number only. 'Justify' needs a reason tied to the client.
  • Show each deduction line so partial credit is possible if one number is wrong, but put the final figure clearly.
  • Always state who pays: the estate for estate tax, the heir for inheritance tax, the donor or donee for gift tax as the question states.
  • In cross-border vignettes, mark domicile, citizenship and asset location before any maths.
  • Recommendations should be short: tool, reason, client objective. Do not list every feature.

Estate Planning Basics and Estate Taxes in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Estate Planning Basics and Estate Taxes: frequently asked questions

What is the difference between a will and a trust?

A will takes effect only at death and usually goes through probate, which is generally public. A trust can operate during life and after death, can avoid probate, and keeps terms private. A trust needs assets transferred to the trustee to work.

What is the difference between estate tax and inheritance tax?

Estate tax is charged on the total estate of the deceased and paid by the estate. Inheritance tax is charged on what each heir receives, and the rate or allowance often depends on the heir's relationship to the deceased.

What is probate and why do planners try to avoid it?

Probate is the legal process of validating a will, paying debts and taxes, and passing assets to heirs. It can be slow, costly and public. Planners use trusts, survivorship ownership or named beneficiaries to pass assets outside it where local rules allow.

Why does a gift tax exist?

Without a gift tax, people could give away assets before death and avoid estate tax. The gift tax taxes lifetime transfers, often with allowances. How it links to the estate tax depends on the jurisdiction in the question.