Estate Tax Repeal - 2010

The Estate Tax Debacle - 2010

Well our leaders' preoccupation with health care reform has left estate planners and their clients in a quandary. How do we advise our clients about the inheritance taxes that may apply in the event of their death?

A little background is in order so that you can appreciate what is happening. As we all know we pay income taxes on our income each an every year as we work and grow our estates. At the time of our death there are transfer taxes imposed on the transfer of your assets to your family. There are exceptions (like transfers between spouses), and minimum amounts before the taxes apply.

There are basically three types of transfer taxes: the gift tax, the estate tax, and the generation skipping transfer tax. The gift tax is imposed when you make a taxable gift to your family during your lifetime. The estate tax is imposed at your death on the value of the taxable assets you transfer to your family members. And finally, there is a generation skipping transfer tax that is designed to make sure that there is an estate tax imposed at every generational level. So if you skip your children, and make taxable transfers to your grandchildren, there will be two taxes imposed: the estate tax and the generation skipping transfer tax. (I have been involved in audits where the combined tax rate for these two taxes was well over 80%. In other words, for every $1 transferred to a grandchild $0.80 was paid in the form of taxes.)

Our current dilemma started in 2001 when our federal transfer tax system was amended (i) to increase the amount that could be transferred tax free and reduce the tax rates on the taxable transfers, (ii) to repeal the estate and generation skipping transfer taxes for 2010, and (iii) then the entire amendment sunsets (or goes away) in 2011 (that means we are back to the old system in effect before the 2001 law changes).

Most estate planners assumed that by the end of 2009 we would have a new set of laws and regulations governing the transfer tax system. To our surprise, Congress has failed to act and now we are faced with the unknown.

What is known is that the estate and generation skipping transfer tax have been repealed for 2010, and are no longer of any consequence or effect. The gift tax remains in full force and affect. For income tax purposes there is no longer any increase in the tax basis of assets to fair market value. This was a huge benefit in the past because it allowed our family members to increase their tax basis in the assets they inherited thereby reducing the income tax consequences when these items were later sold.

Unfortunately, Congress can not let well enough alone. We can deal with the current state of things if left alone. Congress is now implying that they will finally get around to dealing with the transfer tax system, and are planning to pass legislation that will be effective retroactively to January 1, 2010.

How in the world are we to properly plan our affairs when we have no idea of what the rules are? How much time, effort and expense are we supposed to expend trying to make sure we have an efficient and effective estate plan? Even if Congress should finally act in the near term, will making the new laws retroactive even be constitutional?

The transfer tax system is very different from our income tax system. Transfer taxes are imposed on the date of the transfer (mostly the date of death or gift). Income taxes are periodic assessments based on our income or loss over a given period of time (mostly the calendar year). Someone who passed away on January 1, 2010, has had the taxable event already occur. At that time there were no taxes due and owing. When Congress makes a retroactive change to an income tax law, the taxable event (the end of the taxable period) has not occurred.

It is patently unfair for our leaders in Washington to leave their constituents in such a state of confusion. Most folks find it difficult enough to deal with their death to make sure their family members are appropriately taken care of at such a hard time. Now they have given everyone a reason to put off dealing with these important matters, and those who do not deal with them will have families who suffer the results. Congress should be ashamed of their failure to act on such important legislation.

Robert S. Williams is a tax attorney with the Tallahassee law firm of Viera Williams, P.A., and is the Chair of the Estate & Gift Taxation subcommittee of the Florida Bar.

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