Money Matters: Return of the estate tax, for now

By John N. Hamling
The Daily Record Newswire

The tax bill that passed the House of Representatives and was recently signed into law by President Barack Obama will mean that estates will face a lower tax burden and be able to leave more of their assets to their beneficiaries. On Dec. 17, Obama signed into law the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010, which will continue the tax cuts from the George W. Bush administration. The tax cuts were set to expire at the end of this year.

Bush’s Economic Growth and Tax Relief Reconciliation Act of 2001 phased out the estate tax this year. Under those rules, the federal estate tax was set to revert back to 2001 levels, with a $1 million personal exemption and a 55 percent top tax rate as of Jan. 1, 2011.

The 2010 Act will set the personal estate tax exemption at $5 million per person (or $10 million per married couple) and set the top tax rate at 35 percent for the next two years.

In addition, there is a step-up basis, and, for the first time, the estate tax exemption is portable between spouses.

Therefore, the 2010 Tax Act will allow more assets to go to the estate’s beneficiaries rather than the federal government. Unfortunately, New York state still maintains the $1 million estate tax exemption, which means that state residents will still need to undertake estate tax planning so as to avoid or minimize the state’s estate taxes.

Gift tax
Under the 2010 Act, the exemption in the gift tax will increase from $1 million to $5 million per person, retroactive to Jan. 1, 2010. The law also gives estates the ability to opt out of the estate tax structure and choose the carryover basis rules, which have been in effect for the 2010 year. The unified credit for both federal and gift taxes is now $1,730,800.

This increase in the gift tax exemption makes lifetime gifting a valuable planning tool, especially for those states with state estate tax, like New York.

IRA charitable rollover
The 2010 Act also restored the IRA charitable rollover for 2010 and permits use through 2011. The law allows donors who are at least 70.5 years old to make direct transfers of up to $100,000 per year from traditional IRA accounts to qualified charities. These transfers will not be included in taxable income and no adverse income tax consequences result from this transaction.

The legislation expires on Dec. 31, 2011. The direct charitable transfer will count toward minimum distribution requirements.
Because Congress recognized that it is late in the year, individuals who choose to make a qualified charitable distribution from their IRA trustee to a charity may take their 2010 charitable gift during the very short time left in 2010 or in January 2011.

Options for 2010
Under the estate tax wording in the bill, the heirs of people who died this year will have two options for a tax bill. If they chose to treat the estate by the tax laws in place in 2010, they will have to calculate the capital gains on all assets in the estate to determine if the value is above a level the IRS is allowing. This “artificial step-up basis” is $1.3 million to any heir and $3 million to a surviving spouse.

The other option is to apply the 2011 law, which would exempt the first $5 million of the estate and impose a rate of 35 percent on anything above that. This is far more generous than the 2009 law, which was a $3.5 million exemption and a 45 percent tax rate, which many people thought would be reinstated.

Going forward
Finally, there will be much talk about the 2010 Act in the coming weeks. It is important, now more than ever, to develop an estate planning strategy to ensure that your loved ones will be taken care of financially, and that it doesn’t go to the government unnecessarily.

John N. Hamling is a vice president at Karpus Investment Management. He can be reached at (585) 586-4680.

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