By Sandy LeDuc
LeDuc and Sikowitz
The Economic Growth and Tax Relief Reconciliation Act of 2001 signed by President Bush in early June has begun the process of unwinding the estate tax. Although repeal is scheduled for 2010 the law is reinstated in 2011.
Planning will be a moving target for the next several years. Aside from the obvious problem of not knowing what 2011 holds in store, basic planning principles have been upset.
Until now gift and estate tax rules have used the same exemptions and tax rate schedules. Under this act these two tax systems are pried apart beginning in 2004. Exemptions begin to work on two different schedules. Basis rules that dictate the income tax treatment for transactions involving transferred property begin to change. In 2010 the estate tax is repealed and the gift tax continues on.
Beginning in 2002 through 2004 the exemption for each of the two taxes is raised to $1 million. While the estate tax exemption continues to rise to $3.5 million by 2009 the gift tax exemption remains at $1 million.
The top estate and gift tax rates will fall in tandem by 10% to 45% progressively through 2009. The gift tax rate after 2009 will be the top income tax rate.
Under old law recipients of gifts have not received increased basis for property received. On the other hand, inherited property has received the benefit of a "stepped up" basis with the advantage of significant income tax savings on the appreciation of property up through the date of death. The new law allows only limited basis adjustments on inherited property once the estate tax is repealed. The decedent's estate would be permitted to increase basis on inherited assets by $1.3 million or as much as $4.3 where a surviving spouse is provided for.
The new law may have the unintended effect of pitting the interests of different generations against one another. A common strategy of planning has been to move appreciating property such as rental real estate and stock in family-owned businesses out of an estate by gift to the next generation over the donor's lifetime. Although this property did not receive a stepped-up basis it did eliminate appreciated value from taxation at the date of death with the added benefit of moving income to younger family members. Under the new law, lifetime transfers are likely to be rethought as planners consider the wisdom of paying a gift tax on property that would otherwise never be subject to inheritance tax.
Because most states assess inheritance tax based on the state tax credit on the federal return, they are apt to have to revise their inheritance tax laws in response to lowering revenues.
One thing is certain: while most planners don't believe that the estate tax will ever be fully repealed, every estate plan needs to be reviewed and monitored over the next several years in light of this new law and other changes that are bound to surface.
Summer 2001 - Volume 11, Number 3