March 25, 2011
This letter is to acquaint you with the estate and gift tax changes in the Tax Relief Act that was enacted on December 27, 2010. The Act significantly changes the federal estate and gift tax laws. For many of you, the changes will influence your estate and gift planning documents and will provide significant estate and gift planning opportunities.
Please call us to schedule an appointment to meet to review your current estate plan and discuss how you and your family can make the best use of the new estate and gift tax rules. Also, we would be proud to show you our new office.
Overview of the Act. First, you should be aware that the Act provides only temporary relief through 2012, after which it is scheduled to “sunset.” Among the changes made by the Act are the following:
• It increases the estate exemption amount to $5,000,000 per individual.
• It reduces estate, gift, and generation-skipping transfer (GST) tax rates for 2011 and 2012.
• It preserves estate tax repeal for 2010, but in a convoluted way described below under the heading Special tax saving choice for 2010.
• In addition, for estates of decedents dying after December 31, 2010, a deceased spouse's unused estate exemption may be shifted to the surviving spouse. This is known as “portability”.
However, as noted above, these generous rules are temporary -- much harsher rules are slated to return after 2012.
Lower estate tax rate and higher estate exemption for 2011 and 2012. For estates of individuals dying in 2009, the top estate tax rate was 45% and there was a $3.5 million exemption. For 2011 and 2012, the Act reduces the top rate to 35%. It also increases the exemption to $5 million for 2011 with a further increase for inflation in 2012. However, these changes are temporary. The relief provided by the Act sunsets on December 31, 2012, following the next national election cycle. Unless Congress takes further action on these issues, the top estate and gift tax rate will become 55%, and the exemption amount for estates and gifts will revert to $1 million as of January 1, 2013.
Special tax saving choice for 2010. Because of the delay in passing the Act, it allows estates of decedents who died in 2010 to choose between (1) estate tax (based on a $5 million exemption and 35% top rate) and a step-up in basis, or (2) no estate tax and a modified carryover basis. “Basis” is the yardstick for measuring income tax gain or loss when an asset is sold. With a step-up in basis, pre-death gain is eliminated because the basis in the heir's hands is increased to the date of death value of the asset. On the other hand, with a modified carryover basis, an heir gets the decedent's original basis, plus certain increases, which can be substantial. Even so, if the decedent had a relatively low basis and significant assets, some pre-death gain may be taxed when the heir sells the property. If you are aware of a situation regarding which these rules might be applicable, please contact us.
Gift tax changes. Years ago, the gift tax and the estate tax were unified — they shared a single exemption and were subject to the same rates. This was not the case in recent years. For example, in 2010, the top gift tax rate was 35% and the exemption was $1 million. For gifts made after December 31, 2010, the gift tax and estate tax are reunified and an overall $5 million exemption applies. This is in addition to the annual exclusion amount of $13,000 per year (indexed for inflation) per donee. Certainly, the increased exemption amount of $5 million allows substantial gifts to be made without the imposition of gift taxes. However, as has always been the case, you must determine how much you can afford to give and how much and to whom you desire to make gifts. If you decide to take advantage of the increased exemption amount, we suggest that you speak to us about certain of the technicalities that should be considered in making such gifts and the necessity of filing an appropriate U.S. Gift Tax Return.
GST tax changes. The GST tax is an additional tax on gifts and bequests to grandchildren (and other “skip” persons) when their parents are still alive. The Act lowers GST taxes for 2011 and 2012 by increasing the exemption amount from $1 million to $5 million (as indexed after 2011) and reducing the rate from 55% to 35%.
New portability feature. Under the Act, any exemption that remains unused as of the death of a spouse who dies after December 31, 2010 and before January 1, 2013 is generally available for use by the surviving spouse in addition to his or her own $5 million exemption for taxable transfers made during life or at death. Under prior law, the exemption of the first spouse to die would be lost if not used. This could happen where the spouse with resources below the exemption amount died before the richer spouse. One way to address that was to set up a trust for the spouse with the smaller estate (commonly known as a “credit shelter” or “family trust”). Although the portability rule was apparently intended to make setting up a trust unnecessary in certain situations, there are still many other reasons for which we recommend utilizing credit shelter or family trusts. For example, a credit shelter trust may protect appreciation occurring between the death of the first spouse and the death of the second spouse from being subject to estate tax. Such a trust also can protect against creditors, including marital claims by future spouses against the property comprising the credit shelter trust. In addition, the exemption transferred under the portability feature may be lost if the surviving spouse remarries and is again widowed.
Considering the fact that the portability provision is also scheduled to sunset on December 31, 2012, we will still advise our clients to continue to utilize Revocable Living Trusts that incorporate credit shelter trust provisions.
$100,000 Qualified Charitable IRA Distribution.
A qualified charitable distribution from an IRA is money that individuals who are 70½ or older may direct from their traditional IRA to eligible charitable organizations. The provision has a cap of $100,000 for charitable distributions from individual IRAs each year. Individuals may exclude the amount distributed directly to an eligible charity from their gross income. Under this provision, donors benefit by not having to recognize as income the amount distributed directly from their IRA to a qualifying charity. However, because donors exclude this contribution from their gross income, they cannot take a charitable contribution deduction for the contribution. If that were allowed, it would result in a double benefit for the donors.
Most contributions to public charities, other than supporting organizations, are considered qualified charitable contributions. However, distributions from IRA accounts to donor advised funds held by public charities are not considered qualified charitable distributions under this charitable rollover provision.
Distributions to almost all types of funds typically held by community foundations (other than donor advised funds), such as scholarship, field-of-interest, and designated funds, qualify.
Conclusion. The estate and gift tax relief in the Act is substantial, but it is temporary. Estate and gift planning to reduce taxes remains an important consideration. Even if taxes are not a concern because an estate is below the exemption level, it is important to have a proper estate plan to ensure that your wishes regarding the disposition of your estate are fulfilled and the needs of intended beneficiaries are met. As we have always told our clients, it is a good idea to review your estate planning documents every few years for changes in the law, changes in your intent, asset and liability changes, changes in family and/or business circumstances and other issues that might impact your feelings regarding the disposition of your assets upon death.
We look forward to hearing from you.
HOWARD J. GOURWITZ
BENSON J. BARR