Five months into the new year there has been no Congressional action to restore the estate tax. Under current law, there is no estate tax or generation-skipping transfer (GST) tax for decedents dying in 2010, but the taxes come roaring back in 2011 with a maximum rate of 55 percent and an estate tax applicable exclusion amount of $1 million. The income tax basis of the decedent’s property is not stepped up to date-of-death value for decedents dying in 2010. Instead, the executor may allocate $1.3 million in basis increase to the property (plus $3 million for property passing to a surviving spouse). The gift tax continues to apply at a reduced rate of 35 percent to lifetime taxable gifts in excess of $1 million, but there is no GST tax on taxable gifts in 2010. As noted in The Estate Tax Repeal Mess: Are We Having Fun Yet? in the February issue of the Estate Planning & California Probate Reporter,
There is, of course, a possibility that Congress will act to change the laws applicable in 2010, and most (but not all) experts believe it is constitutional for Congress to do this retroactively to the beginning of the year. But there is little indication that Congress is in any hurry to do so.
Confronted by such a mess and the difficulty of explaining it to clients, it becomes tempting to simply ignore the situation until the law becomes more certain. Nevertheless, a review of client plans will reveal that there are situations in which relatively modest plan amendments can at least avoid making a bad situation worse.
Consider the following strategies:
- Clarify or Eliminate Formula Clauses With Respect to Deaths in 2010. Many estate plans, particularly those for married couples, contain dispositive provisions that use transfer-tax related formulas to determine the size of dispositions. When there is no estate tax, such formulas may result in the entire estate passing to a bypass trust in some cases and none to a QTIP trust for the surviving spouse. The plan can be amended to expressly clarify what disposition the client desires if there is no estate tax in 2010 and death occurs in that year.
- Determine Whether There Is a Basis Increase Allocation Problem and Addressing It. The available $1.3 million often will be sufficient to bring the basis of all the decedent’s property up to fair market value; the $3 million basis increase often will be more than adequate to similarly increase the basis of the survivor’s share of community property. But sometimes this will not be the case. Stating the client’s wishes with respect to the allocation of basis increase in a plan amendment often will be a comparatively simple task.
- Preserve the Ability to Use the $3 Million Basis Increase. Often it will be desirable to allocate the increases to QTIP property rather than the surviving spouse’s own community property because the QTIP property will not get a new basis on the survivor’s death if there is no estate tax in 2010.
- Avoid Basis Increase Problems With Respect to Transfers to or From “Survivor’s Trust’s.” The $3 million basis increase is only available for property passing in an “outright transfer” to the surviving spouse or passing to a QTIP trust. It is not clear that a transfer to a survivor’s trust is an “outright transfer” under the statute, particularly if the survivor’s trust permits distributions to someone other than the surviving spouse. It appears prudent to provide that a decedent’s property that would otherwise pass to a survivor’s trust will instead pass to the survivor on a first death in 2010.
- Encourage Big Gifts in 2010. Wealthy clients need to seriously consider the possible advantages of making large inter vivos gifts in 2010 while the gift tax rate is 35 percent. The potential benefits are even more impressive if a client is willing to make outright transfers to skip persons. There is no GST tax in 2010 and the only GST tax event for an outright transfer is the initial direct skip. Transfers in trust may result in great uncertainty in terms of future tax treatment.
For a detailed analysis of these planning strategies, see The Estate Tax Repeal Mess: Are We Having Fun Yet? in the February issue of the Estate Planning & California Probate Reporter. To hear more on the problems caused by temporary estate tax repeal and solutions to other estate planning problems, plan to attend the 32nd Annual UCLA/CEB Estate Planning Institute in Los Angeles (May 14–15, 2010).
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