I have not written about estate taxes in this column over the last year because I, like all estate planners, was nonplussed as to what to say. Through almost all of 2010 we were in disbelief that no estates were taxable under federal law. No one thought 2010 would arrive and Congress would fail to resolve the estate tax issue. But partisanship prevailed; a solution appeared on the horizon in December of 2009 but did not pass. Thus, during 2010, folks gasped in awe as billionaires died and no tax was levied on their estates. A common example was that of George Steinbrenner’s estate that untaxed would save his heirs $600 million in taxes and lose that amount in revenue to the government.
Then came relief from the lame-duck session of December 2010. The horrifying question of whether to remove someone’s life support before year’s end to take advantage of the lack of estate tax could be avoided. This ethical issue was discussed seriously at legal seminars, a topic we all had hoped to skip.
Here’s the summary of the estate tax for 2010 through 2012: For people who died in 2010, there are two options. An estate smaller than $5 million will owe no federal tax. Amounts above $5 million will be taxed at the rate of 35 percent. A full step-up in basis is allowed for assets in estates that elect this treatment. Basis means the amount on which capital gains are calculated when an asset from the estate is sold. A simple example is that if the deceased purchased 100 shares of IBM stock at $30/share for a price of $3000 and died owning that stock that on date of death was worth $7000, if the stock is then sold at $8000, the capital gain is $1000 ($8000 – $7000 = $1000) rather than $5000 ($8000 – $3000 = $5000). The capital gain rate currently on these gains is 15 percent.
As an alternative for 2010, the estate can elect to owe no estate tax (which could be the right choice for George Steinbrenner’s estate); however (a big however), assets above a certain amount ($1.3 million for nonspouse beneficiaries, $3 million for spouses) will be treated for basis purposes as valued at the price the deceased paid for them. So in the example above, the capital gain would be $5000 rather than $1000. If this alternative is elected, a form must be filed by April 18th, 2010 (Emancipation Day changes the due date to the 18th) indicating which assets are to be treated as stepped-up for basis purposes.
A gift tax for lifetime gifts applies to each gift made to nonspouses above the annual exclusion amount, which was $13,000 for 2010 and continues at $13,000 for 2011. Total nontaxable gifts above the annual exclusion are $1,000,000 for 2010 and amounts above are taxable at 35 percent. Your estate exemption is reduced by the amount of gifts you make above the annual exclusion limit.
For the years 2011 and 2012, estates less than $5,000,000 are not taxable at the federal level and amounts above $5,000,000 are taxable at 35 percent. The amount you can give away above the annual exclusion without owing a gift tax (but which does reduce your exemption at death) is $5 million. The gift tax rate on amounts above $5 million is 35 percent. For the very wealthy, this change may offer an incentive to give during 2011 and 2012.
A useful change for 2011 and 2012 is the “deceased spousal unused exclusion amount”, which can be applied at the death of the second spouse (assuming no remarriage). If at the first spouse’s death, all assets pass outright to the surviving spouse, the second spouse to die can claim an exemption of $10,000,000 on his or her estate. This could eliminate the need for a trust at the first spouse’s death though the issue of the assets appreciating beyond $10,000,000 could result in a tax on the amount above $10,000,000 at the second conclusion is that for estates smaller than $5 million, no tax will be owed. The alternative of an unlimited nontaxable estate with no step-up in basis of assets is probably not an option for 2010.
Originally published in Southern Neighbor, February 2011