Complicated Estate Tax Details

2010 Estate Tax Legislation

Wall Street Journal reporter Laura Sanders broke down the current proposed estate tax legislation in a Weekend Investor column. And it’s all pretty much good news for estate planners and their clients as it currently stands.

A small number of U.S. taxpayers who are very wealthy and very sick will have a substantial difference between dying in 2010, when there is no estate tax, and 2011, when there is one. But such life-and-death dilemmas will affect far fewer than if the 2011 individual exemption remained at $1 million.

Duration. The Senate’s bill makes this regime effective only for 2011 and 2012. At that point the provisions “sunset,” and if Congress doesn’t act, the 2013 top rate would again be 55% and the exemption $1 million per individual.

Inflation indexing. The $5 million exemption will be indexed for inflation beginning in 2012, which suggests the drafters foresee an extension.

The 2010 estates have the choice of whether to use 2010 or 2011 tax rules. One consequence of this year’s tax lapse is that some heirs—often those of the affluent rather than the very wealthy—fare worse under this year’s law.

That’s because of a change in capital-gains tax. Just for 2010, the tax on heirs who sell assets of those who died in 2010 is based on the original acquisition cost of the assets, not on their value as of the date of the taxpayer’s death, as is usually the case.

Portability of exemption. Each partner of a married couple has always been allowed a full individual estate-tax exemption, but under earlier law married couples often lost the value of one exemption unless they got good legal advice. The loss occurred if the first-to-die spouse left everything to the other without the proper trusts in place.

A “portable” exemption allows for easier post-death planning. After the death of the first spouse, any unused portion of the spouse’s $5 million exemption may go to the surviving spouse’s future estate.

Gift and generation-skipping tax. The law for the first time, will “unify” the estate, gift and generation-skipping taxes, with one $5 million per individual exemption for all three. In recent years the exemptions for the three levies have been out of synch, complicating succession planning for family businesses and other matters.

If a taxpayer makes a $3 million taxable gift during life, his estate would then have $2 million with which to shelter other assets from tax. If another taxpayer left $4 million to a generation skipping trust for grandchildren at death, then $1 million would be available.

There is no portability of the generation-skipping exemption between spouses.

Here’s how this works: At Mary’s death, her estate uses $2 million of her $5 million exemption, and the other $3 million carries over to her surviving husband, John. He can shelter $8 million of assets from estate taxes, but only $5 million of that can be used to protect against generation skipping taxes.

There are no changes to the annual gift-tax exclusion, which is currently $13,000. The law allows anyone to give as much as $13,000 of cash or assets a year to any other individual, free of tax. There is no limit on the number of gifts, as long as they are made to different people.

 Jay Lashlee, True Trust Book by Jay Lashlee