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SUNRISE-SUNSET: Is The Death Tax Really Dead? Summary of New Law. The law would abolish the federal estate tax in 2010. However, because of the "sunset provision," the tax repeal could be short-lived. The repeal is revoked on December 31, 2010, and tax rates return to their 2001 levels. In the interim, the estate tax exemption, which is now $675,000, will gradually increase to $3.5 million in 2009. The top estate tax rate, which is now 55 percent, will drop to 50 percent next year, and then gradually decline to 45 percent. The exemption amount for gifts increases to $1 million, but the gift tax will not be repealed and the top gift tax rate will be lowered to the top individual income tax rate. A chart summarizing these changes is included in this article. Who Are the Big Winners? The Very Wealthy. The current top estate tax rate includes a five percent surcharge on estates in excess of approximately $10 million. This surcharge is repealed in 2002. (In 1999, there were only about 1,600 taxable estates that would benefit from this rate reduction.) The top rates are then reduced by one percent each year through 2007 and the estate tax is repealed in 2010. So, the very wealthy are both winners and losers under this scenario -the losers are those unfortunate enough to die before the repeal or after it is revoked . . . the winners are those fortunate enough to have accumulated enough wealth to benefit from the rate reductions and "time it right." The Moderately Wealthy. Because the unified credit exemption amount bumps up to $1 million in 2002, and eventually to $2 million in 2006, the moderately wealthy may enjoy estate tax "repeal" sooner than the very wealthy. Raising the exclusion to $1 million will eliminate estate taxes on approximately 38% of all taxable estates, based on 1999 numbers. With proper legal planning, a married couple may apply both the husband's and the wife's unified credit exemption amount to their combined estate assets, allowing them to shield as much as $4 million from taxation. Again, based on 1999 statistics, this would exempt nearly 80% of all currently taxable estates from taxation. Who Loses? The States (and those who reside in them). By the year 2005, states will lose approximately $6 billion in annual revenue generated by the State Death Tax Credit. Currently, 35 states utilize a "pick-up"tax, which is an estate tax set to equal the amount of the federal credit. Repeal of the State Death Tax Credit will automatically repeal the state estate tax. States that levy their own estate or inheritance taxes, such as Indiana, in addition to the pickup tax, could continue to collect those taxes. However, Indiana's law provides that if the Indiana inheritance tax is less than the credit allowed against federal taxes, the Indiana tax is increased to the amount of that federal credit. As a result, Indiana also loses revenue. In 1999, Indian's revenue from its inheritance tax totaled about $124 million. In addition, Indiana's revenue from the pick-up tax was over $24 million. Unless Indiana's tax law is revised, the state will lose this $24 million. In a letter to the Senate, a group of 37 governors estimate the revenue loss will be even higher, as much as $10 billion per year, resulting in "abrupt, significant adverse impacts" on states. Recouping the revenue could be tricky, whether through new state death taxes, or other revenue measures. Charities. Because of the 100% estate tax deduction for charitable donations, many people currently choose to reduce their estate tax liability through a variety of charitable giving strategies. Charitable deductions on estate tax returns totaled $14.5 billion in 1999. Those with highly appreciating assets. A provision of the new law eliminates a tax advantage currently enjoyed by all estates. Assets transferred at death carry a date-of-death value or "stepped-up" tax basis to the recipient. This stepped-up basis allows most inherited wealth to escape capital gains taxation. Under the new law, this tax advantage would be repealed in 2010, when the estate tax is repealed. Transfers made at death would have a carry-over basis. In other words, if granddaughter inherits property from grandfather she also inherits grandfather's tax-basis in the property and the capital gains tax liability on any appreciation in the property value. As a result, some estates that currently pass federal estate tax and capital gains tax-free (or with very little federal estate tax liability) may now be subject to significant capital gains tax. (Stepped-up basis will be allowed on estate assets valued at up to $1.3 million and on spousal transfers of up to $4.3 million.) What the New Law Means to You. What, if anything, does this mean to you? First, it is impossible to predict any long-term changes or final outcomes. It would be foolhardy for anyone with a sizable estate to ignore the need to plan for federal estate taxes. This legislation will have to survive five Congresses and as many as three presidents before the estate tax will be repealed. Then, the entire law, including the estate tax repeal, "sunsets" on December 31, 2010, and everything reverts back to 2001 levels. The political odds of a complete and sustained estate tax repeal seem dicey at best, especially given the current political climate. Estate Planning is Not Just Estate Tax
For 98 percent of adult Americans, these fundamental issues of estate planning remain unchanged. Who Should Review their Plan? Even though estate planning is not just estate tax planning, you should review your planning options in light of this new law, especially if you fall into one of the following groups:
This article is only a broad overview of some of the changes this law brings and some of the planning issues. A more in-depth analysis should be done based on your specific circumstances and needs.
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