Estate taxes
Under the 2012 Taxpayer Relief Act, the top estate tax rate is set at 40 percent for 2013 and later years (up from 35 percent in 2012). The maximum exclusion for both estate and gift taxes is a unified amount of $5 million (indexed for inflation at $5.12 million for 2012 and $5.25 million for 2013), and portability applies to a deceased spouse’s unused exclusion amount. The five-percent surtax on estates and gifts between $10 million and $17,184,000, which had been designed to offset the benefits of graduated rates, has been permanently repealed. The generation-skipping transfer tax exemption, which is tied to the estate tax rate, is also set at $5 million and adjusted for inflation.
Comment
Had Congress and President Obama not come to an agreement, the maximum estate tax rate would have reverted to 55 percent, effective January 1, 2013, and the maximum exclusion would have been only $1 million.Stepped-up basis
Stepped-up basis is preserved for assets passing through the estate. This is particularly important for people whose estates are not large enough to owe estate taxes (i.e., estates under $5 million, indexed for inflation). While stepped-up basis had originally been repealed for decedents dying after 2009 and before 2011, the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010, P.L. 111-312, reinstated stepped-up basis for estates of decedents dying in or after 2010.
Comment
Under a special rule, estates of decedents dying in 2010, were allowed to opt out of the estate tax and apply modified carryover basis regime, with $1.3 million worth of assets subject to a basis step-up (plus $3 million for property passing to the spouse). All other properties would have a carryover basis and thus could have significant built-in gains when acquired by the estate beneficiary. Modified carryover basis treatment is not available to the estates of decedents dying before or after 2010.
The stepped-up basis rules continue to apply to estates of decedents dying after 2012. All properties passing through the estate for tax purposes are entitled to a step-up in basis, whether or not the estate owes any estate taxes. This has a significant impact on income taxes potentially owed by taxpayers receiving assets from the estate, by insulating built-in gains from taxes and allowing taxpayers to sell assets and invest the proceeds in other arrangements, if they choose.
Example 1
Tom bought stock in 1990 for $10,000. When Tom dies in 2013, the stock is worth $30,000. If Tom had sold the stock before he died, he would have owed income tax on $20,000 in capital gains. However, if Tom made a bequest of the stock to his daughter, Kit, she would inherit the stock with a basis of $30,000. If Kit sells the stock immediately for $30,000, she would owe no capital gains tax.Gift taxes
As with the estate tax, the maximum gift tax rate for 2013 and beyond is 40 percent, up from 35 percent in 2012. For 2013, taxpayers can make tax-free gifts of up to $14,000 without owing any gift taxes and without reducing the lifetime exclusion for gifts and estates. Married couples can engage in gift-splitting and give up to $28,000 per recipient. Furthermore, unlimited gifts also can be made for tuition or medical expenses without gift tax liability, provided the gifts are made directly to the medical or educational provider.
Even though the lifetime exemption under the unified estate and gift tax ($5 million, adjusted annually for inflation) may never be fully used, a donor still must file Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return, for gifts to a donee totaling more than the annual exclusion amount.
The gift tax annual exclusion is much lower than the lifetime exclusion. However, thanks to the lifetime exclusion, donors often will owe no federal gift taxes on a gift, even if the gift exceeds the annual exclusion.
Portability
The provisions allowing portability of the deceased spousal unused exclusion amount were enacted in 2010, and originally applied only if the first decedent in a married couple died in 2011 or 2012. In the 2012 Taxpayer Relief Act, Congress made portability permanent for the estates of decedents dying after 2012.
Under portability, if the first spouse to die has a taxable estate valued below the exclusion amount ($5.25 million for 2013 decedents), that spouse’s estate can allow the surviving spouse or his or her estate to use the unused exclusion amount by filing Form 706, United States Estate (and Generation-Skipping Transfer) Tax Return, even if the estate tax return is not otherwise required to be filed. Together, the husband and wife have a combined exclusion of $10 million (indexed annually for inflation).
Example 2
Tom dies in 2013 and has a taxable estate of $4.25 million. Tom’s estate has an unused exclusion amount of $1 million, which it transfers to Tom’s surviving spouse, Sheila. If Sheila uses none of this exclusion amount toward lifetime gifts, then when she dies, her estate tax exclusion ($5.25 million, as indexed for inflation), will be increased by the unused $1 million amount from Tom’s estate.
The marital deduction allows for unlimited tax-free transfers between spouses, both for estate and gift tax purposes. In the absence of portability, the first spouse to die could transfer property to the surviving spouse tax-free by claiming the marital deduction. However, as sole owner of the assets, the second spouse to die could be in danger of exceeding the applicable estate tax exclusion and owing more estate taxes.
Example 3
Tom owns $7 million in property, and his wife, Sheila, owns $5 million in property. Upon Tom’s death, his estate passes $2 million of property to his children, and $5 million in property to Sheila, using the marital deduction. When Sheila dies, she now has $10 million in property (assuming her earnings and expenses are a wash), but only has an exclusion of $5 million. Thus, $5 million of her assets are taxable.
Portability can eliminate or substantially lessen this problem. In Example 3 above, if the husband passes $2 million to his children, and $5 million to his wife, he has a DSUE amount of $3 million. Assuming that the wife makes no lifetime gifts that use any portion of her lifetime exclusion amount, when she later dies with an estate of $10 million, the wife has an estate tax exclusion of $8 million ($3 million from the husband, plus her own $5 million exclusion), and will owe estate tax on $2 million instead of $5 million. At a 40-percent maximum estate tax rate, this is a potential savings of $1.2 million to the husband and wife, collectively. Portability lessens the need for complex estate planning when the husband and wife together have assets in the $10 million range.
Other provisions
The 2012 Taxpayer Relief Act also provided certainty for other estate, gift, and generation-skipping tax transfer provisions. The act extended a number of GST tax provisions that had been set to expire at the end of 2012. These include the GST deemed allocation and retroactive allocation rules, the clarification of valuation rules for determining the GST inclusion ratio, rules allowing severance of a trust, and relief for late GST allocations and elections.
Liberalized estate tax installment payment rules continue to apply for certain estates, allowing payment of only interest for the first five years, followed by 10 years of principal and interest payments. The 2012 Taxpayer Relief Act eliminated the five-percent surtax on estates and gifts between $10 million and $17.184 million, which was designed to offset the benefits of graduated tax rates. The act also extended permanently certain modifications to the exclusion for qualified conservation easements, including the repeal of distance requirements.
Some act provisions are not beneficial to taxpayers. These include making permanent the deduction for death taxes imposed by a state, the corresponding permanent repeal of the more favorable state death tax credit; and the permanent repeal of the estate tax deduction for qualified family-owned business interests.
Future changes?
A recent Congressional Research Service report on the 2012 Taxpayer Relief Act’s estate and gift tax provisions also discusses several important items affecting estate planning that have been proposed by the Obama administration, and that may be raised in President Obama’s fiscal year 2014 budget proposal. These include:
- requiring a minimum 10-year term for grantor retained annuity trusts;
- disallowing minority discounts, which are important for estates leaving interests in a family partnership;
- requiring consistent valuation for estate tax and basis for capital gains, rather than allowing a low value for estate tax and a high value for basis of an asset in an heir’s hands; and
- limiting the duration of generation-skipping trusts to 90 years.
Conclusion
Although the estate and gift tax rules have fluctuated since 2001, the 2012 Taxpayer Relief Act has provided some beneficial provisions and needed permanence to the treatment of transfer taxes. Despite the limited application of the estate tax, if a particular taxpayer has a taxable estate, the 40-percent estate tax rate can take a substantial bite out of the decedent’s assets. Taxpayers still need to pay attention to the relevant provisions, so that they can transfer assets to their intended beneficiaries while minimizing their estate and gift tax liabilities.
0 comments:
Post a Comment