As you may already know, the Federal Estate Tax Exemption is set to fall back to $1 million per person with a top tax rate of 55% on January 1, 2013 (this is the amount each U.S. citizen can pass to heirs at death without the imposition of estate tax). Although there has been much debate among President Obama and Congress about moving the exemption to $3.5 million per person, it is very unlikely that any law change will occur between now and year end due to the election. There could be new legislation passed sometime in 2013 that would include a retro-active patch back to January 1, 2013, but it is unclear if that will happen. I suggest that you evaluate the current fair market value of your estate or that of your clients’ to see if you are in the danger zone of Federal estate taxation.
Your taxable estate consists of any equity you have in real estate, your business interests, bank accounts, brokerage accounts, stocks, annuities, life insurance policies, and retirement accounts (as well as vehicles and personal property). Come January 1, 2013, a married couple will be able to pass up to $2 million total estate tax free (less any lifetime gifts made over the annual exclusion amount, $13,000 for individuals and $26,000 for married couples). If there is a retro-active patch next year to $3.5MM per person, a married couple will be able to pass up to $7MM total less any life time gifts over the annual gift exclusion.
Presidential candidate Mitt Romney favors a repeal of the estate tax while President Barak Obama proposes a $3.5MM exemption at a tax rate of 45%. Even if Romney wins, most believe it is unlikely that there will be a full repeal of the estate tax. The most likely outcome would be a compromise somewhere between $2MM and $5MM with a tax rate between 35% to 55%.
Regardless of where the actual numbers fall, there are good planning opportunities for those with estates above $7MM ($3.5MM for individuals). The reason for the opportunity is the current $10.24MM life time gift exemptions for married couples ($5.12MM for individuals). For example, a couple owning $12MM in assets who wished to pass $10.24MM in assets to their children could do so without having to pay a gift tax. The couple would file a 709 gift tax return to record the gift with the IRS. They would no longer have a death-time estate tax exemption for federal, but in effect they would come out $3.24MM ahead if the estate tax exemption falls to $3.5MM. The remainder of their estate, $1.76MM would be subject to estate tax without a spend down or other estate tax mitigation planning. However, even without additional planning or spend down of the estate, the net tax savings would be approximately $1,458,000 if the federal estate tax falls to $3.5MM per person at a 45% tax rate.
Even better yet, a couple could take advantage of the current $10.24MM GST exemption and set up an irrevocable trust that provides for future generations free from the estate tax system.