President Obama signed the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (the "Act") into law on December 17, 2010. The Act provides several tax and estate planning opportunities. Keep in mind that the Act sunsets on January 1, 2013, so its opportunities will only last for two years and some for only one year. Therafter, the provisions of prior law reappear unless Congress makes more changes. Clients should therefore take advantage of these opportunities while they last.
One important change made by the Act is the unification of the gift, estate, and generation-skipping transfer (GST) tax lifetime exemption - all at $5 million per individual or $10 million for a married couple. Another important change is the reduction of the top estate, gift, and GST tax rates to 35%.
Since these rates are much lower than the previous rates which could exceed 55%, for the next two years, clients should consider lifetime transfers during these next two years, 2011 and 2012. For persons who had used up their $1,000,000 exemption through gifts prior to 2011, such person can give another $4,000,000 in assets without paying any gift tax (a gift tax return must be filed for the gift). Better yet, the gift can be to grandchildren or to a dynasty trust for the benefit of children and their descendants, not only are estate and gift taxes avoided, but generation skipping taxes are avoided too as long as the total lifetime gifts do not exceed $5,000,000 per donor.
Assuming there are no changes to the tax laws before 2013, the exempt amount for estate and gift tax purposes will revert to $1,000,000 per donor and the GST exemption will revert to $1,300,000 per donor. The maximum marginal rate will revert to 55%. This is therefore a tremendous opportunity for gift planning now.
A totally new concept to the estate laws that was introduced for the next two years by the Act is called "portability." Portability permits the use of an unused exempt amount in a predeceasing spouse's estate in the surviving spouse's estate. To achieve portability, an estate tax return must be filed by the estate of the first spouse to die and such estate must elect the portability option. With portability, couples can pass a total of $10,000,000 to the next generation free from federal estate tax regardless of the size of each respective estate. Portability does not apply for purposes of the GST tax.
For estates of decedents dying in 2010, the Act provides beneficial options. Such estates may elect to either subject the estate to the estate tax, with a $5,000,000 exemption amount and a maximum tax rate above that amount of 35%. If such election is made, the Estate also receives a step-up in basis of the decedent's assets from the decedent’s basis to their fair market value on the date of death. Otherwise, the Estate may elect not to pay estate tax at all but receive only the limited basis step-up of up to $1,300,000 of the appreciation inherent in the estate, and an additional $3,000,000 of stepped up basis for assets passing to the surviving spouse. The decision regarding which election to make is based upon a number of factors including the size of the estate, the amount of estate tax that would be due, the amount of appreciation in the assets and the time frame that the assets would be anticipated to be sold.
The use of discounting through family limited partnerships and family limited liability companies are still not disallowed by the Act though there had been a great deal of speculation that these devices would be legislated out of estate planners’ tool kits. Also Irrevocable Life Insurance Trusts ("ILITs") for multiple generations can be accomplished by leveraging the $5,000,000 exemption for even more spectacular savings. The premiums can be paid with GST exempt dollars so that when the policy matures and pays out, they are received estate, gift, income, and GST tax free. Grantor retained annuity trusts (GRATs) with less than a ten-year term and "zeroed-out GRATs" (those with no gift component) were also not legislated out.
New Jersey like many states, has decoupled their estate tax from the federal estate tax. New Jersey allows only $675,000 of an estate to pass estate tax free for its estate tax. That leaves a $4,325,000 spread between the amount allowed by the federal exemption and the amount allowed by New Jersey. If not properly planned, the estate may be subjected to a state estate tax on the death of the first spouse, even if the couple desired to defer all taxes until the death of the second spouse.
Congress had various bills pending (but never enacted) that would have eliminated discounts, and short term GRATs but the Act does not do so. The fact that those restrictions were not enacted is yet another reason to act now to revise one’s estate plan.
The time for planning is now.