Next year the federal estate tax environment will change dramatically unless legislation is passed in Washington. In fact, according to the Tax Policy Center, the number of estates subject to tax will increase by over ten times (roughly 3,600 taxable estates to over 43,000) while total estate tax revenue received by the government will increase by roughly three times (from $11 billion to $34 billion)*
* Tax Policy Center, December 2010.
|KEY FEDERAL ESTATE and GIFT TAX FIGURES|
|Estate and gift tax exemption||$5.12 million||$1 million|
|Maximum tax rate||35%||55%|
Given the attractive tax environment for estates and gifts now, combined with escalating federal budget deficits and future uncertainty, what are some strategies investors should consider now?
Review estate planning documents and strategies
It’s critical for investors to review estate plans in conjunction with changes in the tax environment. For example, as the federal exemption amount increased to $5 million in 2010, in many cases trust provisions had to be amended to ensure that potential unintended consequences were avoided. Additionally, investors’ estate plans may be well-positioned for the federal estate tax but may not be designed effectively to avoid the impact of state death or inheritance taxes. Lastly, there are a host of other, non-tax-related, estate planning concerns that need to be addressed. Examples include powers of attorney, wills, medical directives, and techniques to avoid probate such as revocable trusts.
Make lifetime gifts in 2012
Right now, individuals can gift up to $5 million over their lifetime without incurring federal gift tax. With this limit reverting to $1 million in 2013, removing assets out of larger estates by making large gifts now may make sense. Even if there is some legislative compromise on the estate tax exemption for 2013 to avoid returning to the $1 million exemption level, it’s conceivable that the gift tax exemption would be considered separately and revert to $1 million. Another reason for lifetime gifting is that appreciation of transferred assets post gift is also outside of the estate. That makes gifting assets that may have depreciated in value – like real estate, for example – due to the current economic environment an attractive option.
Consider advanced wealth transfer strategies
Individuals and families with more complex estates should consider advanced strategies to transfer wealth efficiently. Examples include Family Limited Partnerships (FLPs) or Grantor Retained Annuity Trusts (GRATs). GRATs are especially attractive currently as a result of low IRS interest rates.
Explore options with life insurance trusts to create liquidity at death
With the possibility of estate taxes rising, families with sizable assets may want to explore life insurance as a means to create liquid assets at death to pay estate taxes. Proper planning with life insurance can help families avoid liquidating other, non-liquid property such as real estate or family-owned businesses during less-than-ideal personal or economic circumstances.
Of course, with any potential moves affecting gifts or estates, it’s critical for clients to work with a qualified estate planning attorney.