The federal estate and generation-skipping transfer ("GST") taxes are currently in a state of flux. Although it was expected that Congress would act by December 31 to avoid the scheduled one-year repeal of the federal estate and GST taxes, Congress has recessed without having taken action. Congress had 9 years to prevent this from happening but was unable or unwilling to act. As of now, there will be no federal estate tax on the estates of individuals who die in 2010 and there will be no GST tax on transfers made in that year. The federal gift tax will remain in place and the maximum rate will be 35% for gifts made in 2010. Each individual will continue to have a $1 million lifetime exemption from the federal gift tax. State laws regarding estate, gift and GST taxes will not be affected by any of these changes.
Many individuals who completed estate plans when the Federal Estate Tax exemption was less than $3.5 million should consider reviewing their plan. Depending on the size of the estate, it often makes sense to simplify the plan to avoid a surviving spouse being the beneficiary of a Trust that is unnecessary for tax planning reasons.
It is expected that Congress will act to reinstate the taxes and that they may attempt to make them retroactive to January 1, 2010. The ability to impose these taxes retroactively is not free from doubt. This would undo the capital gains increase but would also create fertile ground for lawsuits for those whose family members die after January 1, 2010 and before the date a retroactive law is enacted.
Along with the repeal of the estate and GST taxes, there will be an elimination of the current "step-up" in basis rule as to assets in a decedent’s estate. Under current law, all property owned by a decedent receives a basis increase to its value on the decedent’s date of death. As of January 1, 2010, absent action by Congress, property in a decedent’s estate will retain the decedent’s basis, which will "carry over" to the recipients of the property. Capital gains tax will then be incurred when the property is sold on the difference between the sales price and the decedent’s basis. There are, however, some exceptions to this "carryover" basis regime. Every decedent will be allowed a $1.3 million step-up in basis to be allocated among their assets. Also, assets which pass to a surviving spouse are allowed an additional $3 million increase in basis.
As a result, a large number of taxpayers will pay capital gains on inherited assets and Executors will face additional and confusing administrative burdens. For example, a parent dies owning a home worth $1.5 million and a portfolio of investments purchased over the last 50 years worth $600 thousand. Normally if you sold any of those assets you would pay little or no capital gains tax. Now you have to calculate capital gains based on the value of the assets when purchased not when you inherited them. In addition to being complex this process will be expensive.
On January 1, 2011, the federal estate and GST taxes and the step-up in basis rule are all scheduled to return. The rate for the federal estate and GST taxes will increase to 55%. Each individual will be allowed only $1 million estate and GST tax exclusions (as compared with the current $3.5 million exclusions for each tax for each person). The top gift tax rate will increase to 55% with a $1 million gift tax exclusion.
Individuals should consult with counsel to review their specific situation. Cohen Seglias will continue to monitor this important issue and update you on any new developments. Please contact Wayne Buckwalter, Partner and Chair of the firm's Wealth Preservation Practice Group at (215) 564-1700 or firstname.lastname@example.org if you have any questions.