Due to Congressional inaction in the final weeks of 2009, the estate tax has been repealed for individuals dying during 2010. This should be good news, but it can have a significant adverse impact on families with accumulated assets in excess of $1 million. Because of this surprising failure by Congress to address the estate tax situation and prevent the repeal as most commentators had expected, you should consider reviewing your current estate planning documents with your attorney.
Although there is no estate tax on estates of individuals who die in 2010, as of Jan. 1, 2011, the estate tax will be reinstated at the 2001 exemption amounts and rates (a $1 million exemption from federal estate tax and a top tax rate of 55 percent). Because of Congressional inaction, the $3.5 million estate tax exemption has disappeared. Many families who thought that their total assets were safely below the exemption limit, may now be exposed to estate tax liability. This is especially true as the economy improves and land values continue to increase.
As a result of this one-year repeal of the federal estate tax, it may be uncertain how provisions of current estate planning documents will be interpreted should death occur in 2010 while there is no estate tax in effect. If your estate planning documents make distribution divisions using tax terms, those terms may not be applicable if death occurs in 2010. For example, if your estate planning documents speak in terms of a “credit shelter” trust or “family” trust and a “marital” trust, these trusts may need to be changed to ensure that they continue to work as intended.
There are new income tax issues as well. Up until this year, heirs have used the fair market value of an asset on the owner’s death as their income tax basis. Now, heirs must use the original price paid for an inherited asset when computing the income taxes they will owe if they sell the asset.
Each estate is permitted to exempt $1.3 million of gains from this carry-over basis rule. An additional $3 million exemption applies to assets inherited from a spouse. It is necessary to properly allocate these exemptions before selling appreciated assets following the death of the owner. These rules promise to create a record-keeping nightmare and a confusing situation for heirs and fiduciaries alike.
Congress may well take action in 2010 to change the current law, possibly retroactive to Jan. 1, 2010. However, it is not possible to predict the conduct of Congress and whether any legislation will be passed prior to Jan. 1, 2011.
Looking to 2011, if Congress does not act to change the federal estate tax laws in 2010, whether retroactively or prospectively, people with estates of $1 million or more should have their estate plans reviewed and discuss whether tax planning is necessary in order to avoid what will be a significant federal estate tax for estates of individuals who pass away after Jan. 1, 2011.
Doug Nickell is with Lathrop & Gage, LLP, in Springfield, Mo.
