The ? Disappearing ? Estate Tax
First you see it
Then you don’t
Then [maybe] you see it again
Jeffrey L. Crown
The sleeping estate tax. George Steinbrenner may have been more tax conscious than most people. By dying in 2010, he avoided the Federal estate tax, which was, to some extent, suspended last year.
The re-awakening. On January 1, 2011, the tax woke up with some positive, but possibly temporary, changes. The title of the statute says it all: “Temporary Estate Tax Relief"
Estate tax "sale". During 2011 and 2012, the estate tax exemption will be $5 Million per person. In addition, some married couples will be able to double up their exemptions without using traditional “bypass" trusts."
Is estate tax planning for the middle class dead? For people who postpone their demise until 2013, the outlook isn’t certain. If Congress does not act, the exemption reverts to $1 Million. It would be prudent to consider “estate tax insurance."
Let’s look at an example. Carlos and Carla have assets of $3 Million. They’ve heard about this wonderful Congressional gift and decided not to do any estate tax planning. Let’s see how their plan might work out.
First Scenario. Carlos and Carla die before the end of 2013. They “win" the estate tax lottery.
Second Scenario. The facts are the same as in the First Scenario, except that The exemption from the state estate tax in Carlo and Carla’s estate is only $2 Million. In my state (Connecticut), if this were the case, the estate tax would be over $100,000. If they had documents which provided for bypass trusts, this tax would be eliminated.
Third Scenario. Again, the facts are the same, except that the survivor of Carlos and Carla dies after 2013, and Congress has allowed the estate tax exemption to revert to $1 Million. Carlos’ and Carla’s children are very unhappy. One third of their hoped for $3 Million inheritance has gone to the Government. If a bypass trust were available, this tax would be reduced by $500,000.
Far fetched? The Federal exemption at its 2000 level of $1 Million? Decreased state exemptions? If the increasingly high deficits, mounting debt and high unemployment continue, one can easily envision reduced estate tax exemptions.
Don’t tear up those trust documents. There is only way to assure that a married couple can take advantage of both of their estate tax exemptions, no matter how small or large those exemptions are. They have to set up a mechanism to create a “bypass" trust for the benefit of the surviving spouse.
The “flexible" bypass trust. Suppose that Carlos and Carla had each initially left their assets to the other. Their estate planning documents would provide that the survivor can accept her or his bequest or allow some or all of it to remain in a trust for her or his benefit. She or he would be the only beneficiary and the only trustee of the trust. With these documents, they could take advantage of both of their exemptions and eliminate, or substantially reduce, their estate tax.
What if the Federal and State exemptions are different, as they in many states today? A “flexible" bypass trust can be divided into two separate trusts, one to absorb the larger of the two exemptions and the other to take advantage of the smaller one.
What about “portability?" Under the temporary estate tax relief law, a surviving spouse can sometimes use all or a portion of her or his deceased partner’s exemption in addition to her or his own. However, there are a lot of “ifs." The exemption can’t be “ported" if the surviving spouse remarries. Secondly, the law may change. Most importantly, if the assets appreciate during the survivor’s lifetime, the increase in value will not be protected from estate tax. With a bypass trust, that appreciation will be estate tax free when the survivor dies.
Bypass trusts still make sense. Bypass trusts are still useful for many people, not only to provide “insurance" if the estate tax exemptions decrease. In some cases, these trusts provide protection against a surviving spouse’s creditors. They can shield assets from the depredations of greedy children, grandchildren and after-acquired spouses.