New Estate Tax Laws

It has been a while since my post regarding 2010's estate tax uncertainty. Without a doubt, few people - if any - accurately predicted what Congress would do. Not surprisingly, the uncertainty will continue, at least through 2012, when Congress will - hopefully - once again revisit the issue.

In the meantime, here are a few of the highlights from the new legislation:

• Default estate tax exclusion for decedents who passed away in 2010 is $5M.
  
• For decedents who passed away in 2010, an option is available to choose "carryover basis" (with step-up of $1.3M) instead of estate tax. Such an option could be useful when a decedent's estate exceeds $5M in value and liquid assets are unavailable to pay estate tax that may be due. However, in the vast majority of situations, taking the default $5M exclusion and the full "step-up" in basis will be the best option.
  
• Portability! The most useful and exciting change to the estate tax laws, in my opinion, is the new "portability" of estate tax exclusion amounts. This allows a married couple two opportunities to access both spouses' exclusion amount. For example, if Spouse A passes away leaving a $3.5M estate, and Spouse B subsequently passes away, leaving a $6.5M estate, neither estate will be subject to estate tax. Why? Because Spouse A has a $5M exclusion. Because Spouse A's estate only used $3.5M of the exclusion, $1.5M was "left over" and will be applied to Spouse B's estate, giving Spouse B an exclusion of $6.5M.
  
• A close runner-up to Portability, as an exciting new change, is the move from a $1M tax-free gifting cap to a $5M tax-free gifting cap (applicable only in 2011 and 2012). This increased gifting cap provides an excellent opportunity for families to reallocate assets to various estate planning vehicles, such as Irrevocable Life Insurance Trusts, Family Limited Partnerships, Grantor Retained Annuity Trusts, and Grantor Retained Unitrusts.

While the 2010 Tax Act brings good news for most moderate and high net worth individuals, the good news is tempered by the fact that Congress, once again, has given us temporary rules. Unless Congress acts again before 2013, the Estate Tax laws will revert to the laws applicable in 2000, with a $1M exclusion and a $1M tax-free gifting cap.

So what does all of this mean?

First and foremost, there are excellent tax planning opportunities during the next two years, that may disappear on January 1, 2013, so taking steps to plan now is highly advisable. The ability to transfer up to $5M tax-free to a tax planning vehicle should not be lightly passed up, as this opportunity may very well be "for a limited time only", and may revert to the $1M limit in 2013.

Second, it is advisable that all Estate Planning documents (particularly Revocable Trusts and Wills) be carefully reviewed to ensure that they continue to meet a client's wishes. Many Wills and Trusts are drafted with so-called "formula clauses". These provide for gifts to heirs based on a specified formula, which is often tied to the Federal Estate Tax laws. Because of the ongoing changes to Federal Estate Tax laws, gifts to heirs could also be changing, unbeknownst to the client!

For these reasons, I strongly encourage everyone who has (or should have) an Estate Plan in place to consult with their Estate Attorney, CPA, and Investment Advisor to ensure that their estate plans are still consistent with their wishes and effectively take advantage of the variety of available tax planning opportunities.