Death and Taxes - Revisited
It has long been said that the only things certain in life are death and taxes. While most Americans pay any number of local, state and federal taxes while living, depending upon the extent of one’s property and the estate planning techniques used, additional taxes may be owed at death. According to the IRS website, “The Estate Tax is a tax on your right to transfer property at your death.” While the federal estate tax, therefore, has an impact on estate planning, the extent of that impact is currently in a state of flux. While death remains a certainty that all will face, the amount of federal estate tax is not.
In 2001, the Economic Growth and Tax Relief Act of 2001 (the “2001 Act”) was signed into law, significantly changing key provisions of the Internal Revenue Code dealing with the federal estate tax. Changes included an incremental increase in the estate tax unified credit exclusion from the pre-2001 amount of $650,000.00 per person, to $3.5 million per person in 2009, with no federal estate tax at all in 2010. In addition, the top estate tax rate declined from 55% to 45%. However, the 2001 Act contains a sunset provision and is set to expire on December 31, 2010. At that time the federal estate tax exclusion is scheduled to revert to $1 million per person and the maximum tax rate of 55% will be restored.
At 2009 rates, only inheritances above $3.5 million for an individual and $7 million per married couple were subject to the federal estate tax, at a tax rate of 45%. While it was estimated that only 1% of all inheritances would exceed those thresholds (encompassing an estimated 6,000 estates), Congress expected the federal estate tax to generate upwards of $25 billion in taxes in 2009.
Although there is no federal estate tax in 2010, the 2001 Act replaces the federal estate tax with a 15% capital gains tax on property inherited in 2010. Prior to 2010, beneficiaries of appreciated assets received those assets at their fair market value at the time of the decedent’s death (”stepped-up basis.”) Under stepped-up basis rules, the difference in the value of the asset from the time it was acquired by the decedent (the decedent’s “basis”) and the value of the asset at the time of the decedent’s death (the “gain” or “appreciation”) was not taxed as capital gains to the beneficiaries. This total exclusion no longer applies in 2010. While the capital gains scenario for 2010 is complicated and has its own system of exemptions, experts agree that many who thought that the elimination of the federal estate tax in 2010 would amount to a windfall may be in for a surprise.
The new capital gains treatment in 2010 notwithstanding, it is uniformly acknowledged that Republicans and Democrats alike are not going to accept the total elimination of the federal estate tax in 2010. In fact, on December 3, 2009, the House passed the Permanent Estate Tax Relief for Families, Farmers and Small Business Act of 2009, making permanent the $3.5 million per person exclusion, the 45% top tax rate, and stepped-up basis rules. However, the Senate, while focused on healthcare reform in the closing weeks of 2009, did not address the federal estate tax. As a result, the 2001 Act remains controlling — at least for now. Some Democratic Senators have vowed to reconvene early in January in order to pass an act that will be retroactive to January 1. As of this writing, the only thing that is certain is uncertainty.
We at Wright Penning & Beamer will continue to monitor this situation and the impact of future federal legislation on the estate planning needs of our clients. Stay tuned.
Duane L. Reynolds