The Federal Estate Tax: What Does It Mean For You?

(Last Updated On: January 24, 2017)

When Congress took no action regarding estate taxes in 2009 — 2010 ushered in an automatic end to estate and generation-skipping taxes for a period of one year.

Although, many thought Congress would enact a replacement system starting January 1, 2010 — to date no action has been taken.  It is now looking less likely that any change will occur in the tax year — meaning 2010 will serve as a hiatus from the estate tax.

This year has seen the deaths of several public figures whose estates would be severely affected by the retroactive imposition of an estate tax.  They range from entertainers (the venerable Art Linkletter and the quirky Dennis Hopper) and literary lions (the aristocratic Louis Auchincloss and the reclusive J. D. Salinger) to lesser known but fabulously wealthy persons such as Taco Bell founder Glen Bell.

Former New York Yankee owner George Steinbrenner recently died and his wealth was estimated at $1.5 billion.  Even at the prior 45% top tax rate, a savings of $675 million would provide a substantial budget for tax lawyers.  Given the current political climate for the upcoming election cycle, a retroactive imposition of any such estate taxes now seems even more unlikely.

An unfortunate consequence of this uncertainty is the affect on wealthy people of advanced years or poor health.  As 2011 approaches, what decisions might be made under advance medical directives and “do not resuscitate” orders?  Aside from selfish motives, decision makers are bound to be swayed by their honest opinion of what a dying relative would want when the stakes for the family are so high.  Good tax planning used to be geared to life’s inception—a child born in December had the same dependency exemption as one born in January.  Tax issues this year actually cloud the end of life too.

Should Congress continue to wait, the estate tax will return with a vengeance on January 1, 2011 with an exemption of $1 million (as opposed to the prior $3.5 million) and a top tax rate of 55% (as opposed to 45% in 2009).  The $1 million generation-skipping exemption would gradually become somewhat greater (it is adjusted for inflation), but the sole tax rate would be 55%, with no graduation.

Some lawmakers are proposing a permanent abolition of the estate tax.  Another proposed bill would install a $5 million per person exemption.  The vagaries of election year politics make even informed speculation questionable.  The unintended consequences of the Federal Tax proposals are far reaching and Virginia is no exception.

Action by Virginia General Assembly.  Virginia law now takes into account the possibility that the temporary elimination of the estate tax might produce results that would be contrary to a decedent’s wishes.

Many wills have formulas that allocate to a “family,” “bypass,” or “credit shelter” trust an amount equal to the largest amount that would escape estate taxation by virtue of the individual’s exemption.  The rest is allocated to a spouse or to a trust for the spouse.  In the event that no estate tax is imposed in 2010, the allocation to the credit shelter would be zero and everything would pass to the marital share.  Because presumably wills and trusts were drafted with the idea that there would be allocations other than to the spouse’s share, the Virginia legislature decided that it was more likely than not that a will containing this formula would produce a skewed result for a person dying in 2010.

A 2005 will allocated the applicable exemption to a trust for children with the remainder to a second husband, not the children’s father.  The testator was satisfied with the 2009 allocation of $3.5 million to the children’s trust.  She died in 2010, when there is no estate tax and thus no exemption.  This would mean the children get nothing and the husband everything.  The Virginia legislation returns things to the initial intention.

Note the figure from the example:  $3.5 million.  Many tax oriented wills and trusts were drafted when the exemption was $600,000, and the existing allocation may mean that a spouse’s share may be far less than anticipated, perhaps zero.  If, as expected, the estate tax returns in some form, a review of your estate plan is more critical than ever.

Also available at The Roanoke Star Sentinel

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