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Estate Planning Tax Update

January 11, 2013

By now you should have all heard that Congress narrowly averted the Country’s fall over the “fiscal cliff” at the very last moment (well, actually after the very last moment, but retroactive to the very last moment) by enacting the American Taxpayer Relief Act of 2012, now becoming known as “ATRA”. 

While estate tax planning is only one aspect of the estate planning process, the permanence of the new law provides a welcome contrast to the uncertainty about exemption amounts and rates that the last ten years provided.

The new legislation makes permanent the $5,000,000 “applicable exclusion amount” (i.e. each person’s gift and estate tax “exemption”) and sets the generation skipping transfer (“GST”) tax exemption at the same amount. 

The Estate, Gift and GST taxes are all indexed for inflation going back to 2011, so the starting point for each in 2013 will actually be $5,250,000.  This amount will continue to increase periodically in relatively small increments based on the rate of inflation. 

The estate tax rate on taxable estates over $5,250,000 is increased from 35% to 40%.

The concept of “portability,” as introduced in 2010 legislation, continues.   This means that if the estate of the first of a couple to die is not large enough to fully utilize his or her applicable exclusion amount, the unused portion is shifted to the surviving spouse.  For example, if the husband dies first with $3,000,000 of assets, the $2,250,000 of his applicable exclusion amount which was not needed to shelter his assets from tax may be transferred to the wife, giving her an applicable exclusion amount of $7,500,000.  In other words, each couple is permitted to shelter as much as $10,500,000+ from estate tax, regardless which spouse dies first or how their assets are titled.  Keep in mind there are somewhat complex IRS filing requirements to elect portability, including the filing of an estate tax return [Form 706].

These rules vastly simplify gift and estate tax planning for a couple (and alleviate the transfer tax concerns of most single people as well).  More particularly:

• Unification of gift and estate tax:  The $5,250,000 “applicable exclusion amount” can be given during lifetime, and if not used then, is available upon death.

• Simplified planning for married couples:  If a couple is confident they will never have more than $10,500,000 of combined wealth and it is extremely unlikely that the combined estates will ever exceed that figure, they need not do any estate tax planning.  From a gift and estate tax standpoint, the couple could own all of their assets jointly with no disadvantage.  However, a single joint trust or separate trusts might still be advisable to avoid probate proceedings, provide a receptacle for gifts to children, obtain a step up on basis, for asset protection, or to impose some limits on the surviving spouse’s right to dispose of all of the couple’s wealth as he or she sees fit.

• Making things easier for the surviving spouse:  A couple who has less than $10,500,000 of combined wealth and no concerns about the surviving spouse’s control of their wealth can make things much simpler for the surviving spouse by converting separate trusts to a single joint trust that would serve only as a probate avoidance device and would eliminate the need for separate accountings, additional tax returns, etc. after the death of the first spouse to die.

• No tax reason to transfer ownership of assets:  Even if a couple’s assets may exceed $10,500,000, there is no need to shift asset ownership to assure that each spouse has a certain minimum amount in his or her individual name (or in his or her Trust).  Before “portability”, minimization of transfer taxes required shifting the title to assets between spouses to assure that neither spouse had more than his or her applicable exclusion amount if the other spouse had less.

• For couples who desire more control:  If each spouse wants to control disposition of his or her assets when the surviving spouse dies (e.g. to assure that the assets pass to the decedent’s children and not to the surviving spouse’s children from a prior marriage or the surviving spouse’s next husband or wife), it will still be necessary to have separate trusts and to identify which assets belong to which spouse.

In other news, the 2013 annual exclusion gift amount is increased to $14,000 (or $28,000 from a couple) per year per recipient.  These annual gifts are permitted in addition to a gift during life or at death of $5,250,000.  If it appears likely that a couple’s combined wealth may exceed $10,500,000 (or that a single person’s wealth will exceed $5,250,000), then it makes sense to continue annual exclusion gifts to children, grandchildren, or others.  In that event, other planning ideas may be appropriate, such as the use of irrevocable trusts or discount entities, which ATRA left available.

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