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A Better Partnership


May 2009
May 20, 2009

What’s Next For Estate (And Gift And GST) Taxes?

The tax "silliness" that we have had to plan for and contend with for nine years is upon us. On January 1, 2009, the estate tax exemption increased to $3.5 million. Unless changed, the estate tax will be repealed next year only, returning in 2011 with a $1 million exemption at 55 percent rates. Will this occur? Almost certainly not.

President Obama’s campaign pledges and recently submitted budget both indicate the current estate tax exemption of $3.5 million, with estate tax rates thereafter at 45 percent, should remain in place indefinitely. The budget proposal also assumes an inflation index for the $3.5 million estate tax exemption. If the estate tax exemption remains at this level, the estate tax is a concern for less than 1 percent of Americans.

The broad principles that are expressed in the campaign promises and budget proposal are subject to diverse alternatives when the legislation is drafted and enacted. What are we watching for as the next tax bill unfolds? Here are some predictions and areas of concern.

  • The campaign promise and budget proposal would make permanent the estate tax exemption of $3.5 million with rates thereafter at 45 percent. We would not be surprised, however, if there is a higher tax rate that applies to certain segments of larger estates. For example, recently introduced House Bill 436 would increase the marginal tax rate to 50 percent for estates between $10 million and $35 million.

  • The lifetime cumulative gift tax exemption of $1 million will probably remain unchanged as the gift tax supports the income tax. But the current rules for annual exclusion gifts through a trust where a beneficiary is granted the power to withdraw the gift may be limited. The annual gift exclusion has increased in 2009 by an inflation adjustment to $13,000, and we do not expect changes for outright gifts or the direct payment of tuition or the health care expenses of another. Those gifts do not apply against the lifetime cumulative gift tax exemption.

  • The generation-skipping transfer (GST) tax may be changed to limit GST tax free transfers to one generation. Today assets that are sheltered from the GST tax by the $3.5 million GST exemption may remain in trust for its beneficiaries free from gift, estate and GST tax for as long as local law permits. Last year, Michigan repealed its rule against perpetuities for most trusts. Today a trust may be established in Michigan (and several other states) that benefits a family for generations and trust assets remain free of the federal transfer taxes. This planning opportunity may disappear with the next tax law.

  • There may be changes that "close loopholes." The valuation of marketable securities and other investment assets that have been placed in family limited partnerships or family limited liability companies may come under further attack. For example, House Bill 436 would eliminate minority and marketability discounts for non-business assets in a family held entity. The proposal in this HB 436 would also adversely affect family businesses. The bill would impose tax on a gift of a minority interest in a family business or an estate's minority interest in a family business as if the interest were aggregated with the holdings of other family members. This rule could tax the minority interest at the value of the more valuable majority interest.

  • There may be changes to statutorily authorized planning techniques to lessen the advantages now allowed by current law. The rules for a Grantor Retained Annuity Trust (GRAT) might change to require significant gifts at the outset of the GRAT. Today, a GRAT can be established with virtually no taxable gift. A GRAT shifts most appreciation on the assets it holds to children virtually gift-tax free.

  • The date new rules becomes effective is always a concern with any newly enacted tax legislation. Sometimes the effective date is the date the legislation is introduced. Less frequently, changes have been retroactive to the beginning of a calendar year. This is an additional factor that must be considered when planning in a year when tax legislation is likely. Generally, prompt action is better than not acting. For example, large gifts may include formulas to adjust the size of a gift to finally determined gift tax values to avoid a tax surprise.

If your estate is now and likely will remain below the estate tax threshold of $3.5 million, you may want to revisit your plan if it includes provisions to reduce estate taxes. Of course, your planning should be reviewed in any event every few years for changes in your circumstances or law. For married couples whose assets exceed $3.5 million, planning is still important to be sure the estate tax exemption of the first spouse is not totally wasted, exposing the survivor's estate to estate tax.

If, however, your estate, your family business, or your family farm is exposed to the estate tax with its 45 percent rates, the opportunities today are unmatched. Low values, low interest rates, and the planning options available under current law provide unprecedented opportunities for individuals whose wealth is above the estate tax thresholds. The value of almost all assets have declined over the last year, but the silver lining for some is the opportunity to move wealth from senior to junior generations at today's low value and avoid a 45 percent estate tax erosion at death.

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