Newsletters 2010 Newsletters The Estate Tax Void
Friday, 12 February 2010 18:12
Although legislative action was expected to prevent the estate tax void of 2010, Congress partisanship (and incompetence) once again prevailed and the one-year estate tax repeal has carried well into February. While there is a provision in Obama’s recently proposed budget that would maintain the estate exemption at the 2009 level ($3.5 million per person) and perhaps do so retroactively, this could prove difficult politically and take some time to maneuver through. While we still expect some form of compromise to become law this year, court challenges as to the constitutionality of a retroactive bill and already intense election year politics will make this an interesting issue to watch, especially for the heirs of decedents who pass away during this temporary period of repeal.
As of 2009, under the 2001 Tax Act, estates over the $3.5 million exemption were subject to a maximum federal estate tax of 45%. That same law repealed the estate tax for one year effective January 1, 2010, freeing the heirs of decedents passing in 2010 of any federal estate tax liability. But in a case of “be careful what you wish for”, the temporary repeal of the estate tax would also coincide with a repeal of the “step up” in cost basis that has allowed substantial savings on capital gains taxes for estates. Instead, heirs will face capital gains exposure for an estate north of $1.3MM and $3MM for the surviving spouse. The lack of a meaningful step-up means that many estates will pay more in capital gains taxes in 2010 than if the estate tax were still in place.
Unless Congress takes action, the 2001 Tax Act passed under President George W. Bush is scheduled to “sunset” at the end of 2010, and in 2011 will be replaced by rates similar to those in place prior to 2001. At that time, should no new legislation pass, we will have a unified estate, gift and GST exemption amount of $1 million and a unified graduated estate tax schedule maxing out at 55%. While the outcome of this estate tax “limbo” is uncertain, there are potential planning opportunities and considerations which one should make during this limited time period.
At a minimum, this is a prudent time to review your current estate plan. Most wills and revocable trusts have been set up with the intention of avoiding federal estate taxes at the first spouse’s death. The use of “A” and “B” trusts are typically used in order to maximize the amount that can pass free of federal estate tax to an irrevocable “B” trust, with the balance passing outright to a revocable trust for the benefit of the surviving spouse. Unless carefully crafted, usually through the provisions of a disclaimer trust, this standard formula could inadvertently cause a lopsided amount of wealth to be transferred to the irrevocable “B” trust, with the possibility of leaving an inadequate amount in the survivor’s trust.
Another consideration is that while the estate tax is repealed for 2010 only, the gift tax remains in effect, albeit with a reduced tax rate of 35%, down from 45% in 2009 and significantly lower than the 55% rate that would otherwise kick in for 2011. While it remains possible that retroactive legislation brings the gift tax back to 2009 levels, the presently lower gift tax may present a planning loophole.
While the good news about the estate tax void is obvious, the hard part is navigating the void to ensure that overall estate plan objectives are not adversely affected by changes in the law. We strongly encourage you to consult with your estate planning attorney or CPA to ensure that your plan is consistent with your goals and needs. We are happy to make a referral to a trusted attorney if you would like additional help.
Finally, we remind you that estate, tax, charitable, education, and retirement planning review are all included as part of our investment advisory service. We invite you to schedule an appointment for a comprehensive Bridge Evaluation review.
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