Congress passed the Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010 (“Act”) which was signed into law on Friday, December 17, 2010 by President Barack Obama.
Prior to the enactment of the Act, the estate, gift, and generation-skipping transfer tax statutes were most recently modified by the Economic Growth and Tax Relief Reconciliation Act of 2001 (“EGTRRA”). Under EGTRRA, from 2002 – 2009, the estate tax rate decreased from 55% to 45% and the exemption amount increased from $1 million to $3.5 million. The estate tax was repealed in 2010 and replaced by a modified carryover basis regime. However, the estate tax was scheduled to return in 2011 with a $1 million exemption and a 55% tax rate if Congress did not act.
The Act prevents the sunset provisions of the EGTRRA from taking effect. Instead, the Act established a top estate tax rate of 35% with a $5 million exemption amount for 2011 and 2012 (2012 adjusted for inflation). According to Tax Policy Center, early projections are that approximately only 3,600 decedents, or 0.14% of all deaths in 2011, will be subject to federal estate tax in 2011.
One other significant change is regarding the unification of the estate and gift tax. In 2009, the gift tax lifetime exemption amount was $1 million and the estate tax exemption amount was $3.5 million. This meant that you could give away, at most, $1 million during life, without using annual exclusions, and $2.5 million additionally at death without incurring estate tax. The Act unifies this exemption in 2011 and 2012 and allows individuals to gift during life and/or at death a total of $5 million. In other words, there is no distinction drawn between transfers during life or at death.
For those decedents who died in 2010, the executors have a decision to make under the Act. The executor can elect to either (a) pay federal estate tax at the 35% tax rate with a $5 million exemption amount or (b) apply the modified carry-over basis rules.
With respect to those executors that choose to pay federal estate tax, the executor is essentially electing to have the Act apply in 2010. Presumably, the Internal Revenue Service is in the process of drafting the applicable form (Form 706) for 2010. If this election is made, any applicable estate taxes are paid and the beneficiaries’ tax basis in the acquired property is stepped up or down to the fair market value of the property on the decedent’s date of death. The Act provided that estate tax returns to be filed for decedents dying in 2010 are not due until 9 months after the date of the enactment of the Act.
For those executors that choose to pay no estate tax in 2010, they must file Form 8939 Allocation of Increase in Basis for Property Received from a Decedent (currently only in draft form). The advantage to making this election is that there is no federal estate tax assessed on the decedent’s gross estate. On the other hand, the beneficiaries do not receive a full step-up in basis. The executors can allocate an additional basis of $1.3 million ($4.3 million if given to spouse). In other words, the beneficiaries’ basis in the inherited property is the same as the basis in the hands of the decedent adjusted for any limited step-up allocation as determined by the executors.
The generation skipping transfer (“GST”) tax, as amended under EGTRRA, was set in 2009 at 45% with a $3.5 million exemption amount. Like the estate tax, the GST tax was repealed in 2010 and set to return in 2011 with a tax rate of 55% and an exemption amount of $1 million.
Under the Act, instead of a repeal of the GST tax laws for 2010, the GST tax rate is set at 0% with a $5 million exemption. While this difference for 2010 may not seem significant on its face (no tax as compared to a 0% tax), this language appears to satisfy estate planners concerned with the numerous issues surrounding the impact of gifting to trusts in 2010 which have generation skipping transfer tax implications.
In 2011 and 2012, the Act sets the GST tax rate at the highest estate tax rate of 35% with a $5 million exemption amount.
One final issue addressed by the Act was the introduction of the novel concept of portability. In 2009, for example, the estate tax exemption amount was $3.5 million per person, $7 million per couple. In order for a couple to take advantage of the full $7 million exemption, each spouse had to use his/her $3.5 million exemption. If the first spouse died with only $1 million in assets, then $2.5 million of estate tax exemption would be lost. However, under the Act, the surviving spouse may use any of the predeceased spouse’s unused estate tax exemption.
Up to this point, estate planners were constantly faced with the challenge of explaining to clients the environment of uncertainty regarding the future of the transfer tax rates. Does this legislation mean that the environment has changed? Considering the Act is set to expire on December 31, 2012, it appears some things never change.
If you have any questions on how this legislation will affect you, please contact Melanie LaSota at email@example.com.
Schneider Downs provides accounting, tax, wealth management, technology and business advisory services through innovative thought leaders who deliver the expertise to meet the individual needs of each client. Our offices are located in Pittsburgh, PA and Columbus, OH.
This advice is not intended or written to be used for, and it cannot be used for, the purpose of avoiding any federal tax penalties that may be imposed, or for promoting, marketing or recommending to another person, any tax-related matter.