Prepared January 27, 2011
Last year (2010) the Federal Estate Tax (“Estate Tax”) was eliminated along with the Generation-Skipping Tax (“GST”). Gift taxes were limited to 35% of taxable gifts over $1 million. At the end of 2010, with the flurry of activity, Congress and the President enacted an extension of many of the tax provisions which were enacted in 2001. However, with respect to the Estate/Gift Tax and the GST, the exemption amount was unexpectedly increased to $5 million per person and the maximum rate on transfers in excess of $5 million was reduced to 35%. Although the 2010 Tax Act is only good for two years (it expires December 31, 2012), it is obviously a much more generous tax regime than that which existed prior to January 1, 2010.
However, the 2010 Tax Act went further and allowed persons dying in 2010 to elect whether to have their estate subject to the tax laws as they existed in 2010 (i.e. zero Federal estate tax with no step-up in cost basis) or to have a $5 million estate tax exemption and a full step-up (or step-down) in cost basis. For persons who died in 2010 with estates worth more than $5 million, this election must be made within nine months of the enactment of the 2010 Tax Act or September 17, 2011.
The 2010 Tax Act also created a planning opportunity for married couples known as portability. Thus, if there was no credit shelter trust planning in a decedent’s Will the surviving spouse could inherit all of the assets of the deceased spouse directly and, upon the death of the second spouse, the exemption amount that belonged to the first spouse to die (i.e. $5 million) could be added to the exemption amount of the second spouse to die, thereby giving the surviving spouse a gift and estate tax exemption totaling $10 million. While this portability concept can in fact simplify your estate planning, it does have its limitations, and we believe that high net worth individuals will, in general, still benefit from the use of credit shelter trust planning. In addition, portability only applies to the Federal Estate Tax exemption, it doesn’t apply to the GST exemption, nor does it apply to the State death tax exemption (i.e. $675,000 in New Jersey).
Also, the new exemption amount may require you to review your estate plan. If your wills provide for mandatory or disclaimer credit shelter trusts to be funded with the Federal Estate Tax exemption and/or GST exemption using the largest amount which may pass free of tax, it will result in a much larger portion of your estate going to those trusts, which could cause unintended consequences.
Finally, since the lifetime gift exemption is now $5 million per person, new and significant lifetime gifting strategies are available. This can be very important for New Jersey residents, considering the state estate tax exemption is still only $675,000 and there is no state gift tax.
Although it is temporary, there are a number of other issues created by the 2010 Tax Act. After you have had an opportunity to review this document and your estate planning documents, we suggest that you contact us in order to discuss whether the new 2010 Tax Act will require modifications to your estate planning instruments or present new planning opportunities.