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As you have probably heard, Congress failed to resolve the status of the federal estate tax in 2009. The result is that for people who die in 2010 (or who die in 2010 before Congress re-enacts the tax), there will be no federal estate tax or generation-skipping transfer tax. The gift tax, however, remains in effect. Opinions vary on how quickly Congress will act to reinstate the tax; and whether the tax can be implemented retroactively for all of 2010 – which becomes more unlikely as more time passes. Part of the problem deals with a disagreement between the two parties regarding whether the top rate should remain at its 2009 level of 45%, or whether the top rate should be lowered to 35%. In this game of “chicken,” so far neither party has been willing to blink. If no resolution is reached before the end of this year, the top rate will go back up to 55% and the exemption will drop back to $1,000,000. While no one expects that to happen, no one expected Congress to permit the tax to disappear for 2010, either, so anything is possible.
For most higher net worth individuals who have trusts, their trusts probably provide that the first $3,500,000 of the first spouse to die will be allocated to a Family Trust, and the remainder will be allocated to a QTIP Marital Trust. Should anyone with this type of arrangement die in 2010, or before the tax is reinstated, all amounts in both the Family Trust as well as the QTIP Marital Trust would avoid estate taxes at both deaths, even if the second spouse dies years after the tax is reinstated, provided that the trusts meet certain conditions. This assumes that the first spouse to die had at least $3,500,000 titled in his or her name.
Because there currently is no federal estate tax, couples whose combined assets exceed $7,000,000 may want to consider re-titling their assets one-half in the name of each spouse. If this were done, and if one spouse were to die before the tax is reinstated, that entire half would totally avoid federal estate taxes upon both deaths. Along these same lines, many estate plans provide that certain assets will pass outright from the deceased spouse to the surviving spouse. If instead of an outright distribution, if those assets were to remain in trust, those assets would not be taxed in either estate if one spouse were to die during this interim period. For estate plans which provide for the outright distribution of assets of significant value to the surviving spouse (e.g. the house or a retirement plan), it may be a good idea to determine whether or not it might be more advantageous for such assets to remain in trust.
In 2010, it may also be uncertain how the provisions of your estate planning documents will be interpreted if there is no estate tax. Typically, several provisions of documents such as yours are phrased in terms of tax concepts, such as the estate tax exemption and marital deduction. Because those tax concepts are not in the law this year, there may be some question as to what your documents mean and how your property is disposed of. That in turn may cause tax questions to arise.
If you pass away in 2010, the Ohio estate tax exemption is still $338,333. That means that if you pass away with an estate of more than $338,333 your executor is required to file an Ohio estate tax return and you may have to pay Ohio estate tax. The highest Ohio estate tax rate is 7%. The Ohio gift tax annual exclusion for 2010 is still $10,000. The federal gift tax annual exclusion for 2010 is still $13,000.
Another change that is scheduled to take effect this year relates to the income tax basis of inherited assets. Income tax basis is the value from which gain or loss on assets sold is measured. Under the law up until this year, the income tax basis of an asset is changed to its current value when its owner dies, as a general rule. But this year, this automatic change in basis will not occur. Rather, the deceased owner’s income tax basis in assets will “carry over” to the persons who inherit the assets. It may be appropriate for your documents to be revised in order to take into account the possibility of carry-over basis. $1,300,000 of gain can be excluded from potential capital gains taxes if the executor files an election. If the trust of the first spouse to die contains certain provisions, an additional $3,000,000 of gain can be excluded. It is important to make sure that existing wills and trusts grant the executor or trustee the necessary authority to make these allocations and to take advantage of the additional $3,000,000 of possible step up.
Lastly, many clients have included provisions for their grandchildren. For larger gifts that would have been subject, or potentially subject, both to the estate tax as well as to the generation-skipping transfer tax, it might be advisable to consider making those transfers now. By doing so, the transfers would be subject only to a 35% gift tax, as opposed to a 45% estate tax, followed by an additional 45% generation-skipping transfer tax on the skipped amount.
While it is always prudent to review your current estate planning documents periodically, given the uncertainty with the federal estate tax laws, its impact on the basis of assets, and the potential planning opportunities, it is even more important for you to contact your estate planning attorney to review your wills and trusts.
NOTE: This general summary of the law should not be used to solve individual problems since slight changes in the fact situation may require a material variance in the applicable legal advice.