The first quarter of 2011 has had everyone reviewing their estate plans to determine how to respond to the changes in law that took effect in late 2010.  This discussion reviews just a few of the estate and gift tax changes that you should know about for 2011 and 2012, which is as far into the future as Congress dealt with at the very end of 2010.

Whether or not you are fortunate enough to benefit from some of these changes, now is the time to create or update your estate plan.  Ideally, you already have in place a Will, a Power of Attorney and other critical advance directives. If not, then you undoubtedly know that you ought to have.  Perhaps you have also done some further planning with the use of trusts, gifting, charitable contributions, or life insurance, for example.  Or maybe you just haven’t gotten around to it.  In the past year alone, I have seen too many instances of unintended consequences of the failure to engage in even very basic planning.  Better to have made a plan and later, if necessary, adjust that plan, than to allow the laws of intestacy, and others if you become incapacitated, dictate what happens.

Please remember that your estate tax planning must take into account not only Federal law, but also state law.  Just because the Federal exemption has increased, temporarily, to $5 million, does not necessarily mean you are in the clear.  Furthermore, this discussion is just to make you aware of changes that may concern you.  You absolutely must consult a tax advisor for definitive advice for you and your family. That said, please read on ….

What’s New

Under current law, for only 2011 and 2012, the gift, estate and generation-skipping transfer tax exemptions are all $5 million (indexed for inflation after 2011) and the tax rate is 35%, but in 2013 the exemption will revert to $1 million and the top tax rate will be 55%. If you already made otherwise taxable gifts totaling $1 million, then you now have another $4 million gifting opportunity for at least these two years.  Remember, that is your lifetime, tax free maximum.  Whether or not you have millions or measure your estate in thousands, the annual gift tax exclusion remains unchanged at $13,000 per donee, so that amounts gifted in excess of $13,000 (the non-taxable amount) will be allocated to your $5 million lifetime exemption.

Marital Deduction Planning

First, just a review of what’s not new: the 100-percent marital deduction generally permitted for estate and gift tax for the value of property transferred between spouses (who are US-citizens).  Transfers of “qualified terminable interest property” are eligible for the marital deduction . “Qualified terminable interest property” is property: (1) that passes from the decedent; (2) in which the surviving spouse has a “qualifying income interest for life”; and (3) to which an election applies.   A “qualifying income interest for life” exists if: (1) the surviving spouse is entitled to all the income from the property (payable annually or at more frequent intervals) or has the right to use the property during the spouse’s life; and (2) no person has the power to appoint any part of the property to any person other than the surviving spouse.  For spouses who are non-US citizens, a qualified domestic trust must be used instead, and is not discussed here.

Remember that while property passing from one spouse to another is not subject to tax, however it is once it’s in the estate of the surviving spouse.  Therefore, a “credit shelter” trust is commonly found in wills of spouses, the purpose of which is to allow the surviving spouse to use the income of a portion of the deceased spouse’s estate while allowing the principal to escape her estate taxes.

What is new is “portability”. Portability may mean that spouses may be less likely to need credit shelter trust planning.  For married persons, “portability” of a spouse’s unused estate tax exemption was introduced but this only applies to spouses who both die between January 1, 2011, and December 31, 2012.  There is no portability of any unused GST tax exemption for the surviving spouse. This portability issue may seem academic to those of you who are younger and healthy, but for some people it may be quite relevant to their current planning, or an unintended consequence.  If, for example, the husband dies in 2011 with an estate of $2 million, then his estate can elect to permit the wife to use the $3 million unused by the husband.  If the wife dies while portability is in place, then she would have a total estate tax exemption of $8 million.  Again, since portability is in place for 2011 and 2012, planning for portability or not means you have to be on your toes, and be prepared to make changes in your plans on or before 2013 when we know what’s next

Spouses can also plan now using trusts and this $5 million current lifetime gift maximum.  Each spouse can establish a trust for the benefit of the other, their children and future generations. Benefits of using a trust structure, rather than making outright gifts include asset protection, estate tax protection, and income shifting, among other things. However, you must be sure to be aware of the reciprocal trust doctrine, which might otherwise cause the trusts to cancel out each other, and grantor trust rules.

The State’s Take

Remember that your plans must take into account not only Federal estate, GST and gift taxes, but also state taxes.  For example, New York State does not impose a tax on gifts.  But the NYS estate tax is computed on the New York adjusted taxable estate in total – including the first $1 million of the taxable estate that is “exempt” from estate tax.  So, if your estate is less than $1 million, then there’s no NYS estate tax, but if it’s over that amount then the estate tax is on the entire estate.  This is why it is particularly important for New York residents to consider using lifetime gifts as part of their estate planning.  You can’t take it with you, but if you haven’t given it away before your assets become your “estate” you face a higher estate tax.

Life Insurance

Just a reminder about life insurance: the increased gifting opportunities in 2011 and 2012 also increase the opportunity for you to use life insurance to provide income for a family, or to pay estate taxes, for example. An irrevocable trust created to purchase life insurance starts with a one-time gift or successive gifts from the person creating the trust.  The gifts received by the trust are used to pay the premiums on a life insurance policy.  If structured properly the assets (which are the policy proceeds when you die) will not be included in your taxable estate, making them free of estate taxes.  Furthermore, those assets can then remain in the trust so that they remain subject to trustee management, unreachable by the creditors of your beneficiaries, and help you meet other objectives (eg, the special needs of a disabled beneficiary).

Please contact me at 212-662-5324 or andrea@lowenthallaw.com if you would like to review your estate plan and learn more about opportunities available to you.  You can read more about personal planning at www.plan-for-aging.com.

 

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