On December 17, 2010 President Obama signed into law the “Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010.”  The new law:

• Extends for two years the current income tax rates and other income tax rates commonly called the “Bush Tax Cuts.”
• Provides tax incentives to businesses
• Cuts federal estate and gift taxes for two years
• Extends unemployment benefits

This article reviews some of the key estate planning provisions of the new law.

Key Provisions

A temporary federal estate and gift tax law, in place since 2001, was set to expire on January 1, 2011.  The new law extends and modifies the federal estate and gift tax for two years.  Key provisions are:

• 2010 Decedents. For those who passed away in 2010, additional rules have been established to provide leniency and nine months of additional time to administer the estates.
• 2010 GST Tax “Holiday.” For trusts known as “generation skipping trusts” that were created in 2010, will not be subject to the GST.
• $5 Million Unified Estate and Gift Exemption.  For calendar years 2011 and 2012 individuals will be able to transfer, during life or at death, $5 million to children and others tax-free.  Transfers to a spouse or a charity remain tax-free.
• Exemption Portability.  A spouse’s unused $5 million exemption can be used by a surviving spouse.
• 35% Tax Rate.  The maximum estate tax bracket is reduced to 35% on the value of taxable estates exceeding $5 million.
• $5 Million Generation Skipping Tax (GST) Exemption. For calendar years 2011 and 2012 individuals will be able to transfer, during life or at death, $5 million to free from GST tax, either in trust or directly to younger heirs. Like the estate and gift tax, the maximum bracket on generation skipping transfers in excess of the exemption will be reduced to 35%.

On January 1, 2013 the law is scheduled to revert to a $1 million estate tax exemption and 55% maximum tax rate of pre-2001 law.

What should you do?

For many, an estate that was well planned under prior law will remain the recommended route through 2012.  The new law is temporary and existing plans should not be changed in haste.  However, if you have not reviewed your estate plan for several years, the recent changes are a good reason to take a fresh look to make sure that the plan still does what you want it to do.

Married couples should continue to use of a trust, usually called the “family” or “bypass” or “credit shelter” trust, to minimize federal and New Jersey estate taxes for children and grandchildren.  New Jersey continues to impose an estate tax which can be reduced or eliminated through the use of trusts.  Also, trusts provide important benefits beyond tax planning, including asset preservation and protection.

“Portability” of the estate tax exemption allows a spouse to leave any unused available exemption to a surviving spouse, increasing the survivor’s estate tax exemption. While a taxpayer friendly change, it is not automatic and does not eliminate the need for a well planned estate. Portability does not allow for inter-generational planning and it does not minimize a family’s New Jersey estate taxes.

Spouses should continue to balance assets between them in order to limit estate tax consequences and they should use trusts to minimize the transfer tax cost as has been popular for the last half century.  We also suggest that, at least for the short term, families continue to stay the course in existing estate plans through the use of trusts for the benefit of the surviving spouse.

For larger estates there are also extremely important changes to the Generation Skipping Transfer Tax which previously prevented large transfers of wealth from generation to generation without estate taxation at each generational level. The new law offers to families with substantial wealth, a unique opportunity to plan lifetime multi-generational transfers during 2011 and 2012.

However, before families make large scale wealth transfers for gifting, they should consider the income tax ramifications of their gifting plan.  While the $5 million gift tax exemption allows large lifetime transfers, these can be negative income tax consequences to the recipients.  The appreciated value of a gifted asset is subject to income tax, payable by the donee on the sale of a gifted asset.  In contrast, the basis of an inherited asset is generally “stepped up”, avoiding income tax on the appreciated value of the inherited asset.

In a nutshell

The recent estate and gift tax revisions are temporary and the New Jersey estate tax remains unchanged.  Your foundational estate plan can remain intact for the short term.  However, if you have questions about how the new law impacts you and your family, if you have had changes in your life that may affect your estate or if your estate plan has not been reviewed in several years, you should consider reviewing your plan.

Kulzer & DiPadova assists its clients, in coordination with the client's accounting and financial professionals meet their family and estate planning goals.