Estate and Gift Tax – Update for 2009
The new year brings some good news in the area of estate planning, although recently introduced legislation may mean that some opportunities will be short-lived.
Increased Exemptions
The federal estate tax exemption is now $3.5 million (up from $2 million), which means that with proper planning married couples should be able to exclude as much as $7 million from estate tax. The federal gift tax exemption,
however, remains at $1 million ($2 million in total for a married couple). The $1 million exemption is in addition to annual exclusion gifts, which for 2009 has been increased to $13,000 per donee (up from $12,000). This
increase in the annual exclusion means that a married couple can now gift $26,000 per donee each year, completely free of gift tax and without using any portion of their gift or estate tax exemptions.
Effect of State Law
While some states, including Virginia and Georgia, impose no state estate tax, other states, like New York, Maryland and the District of Columbia, do impose a separate state tax, and have frozen their estate tax exemptions at $1
million. New Jersey’s is even lower, at $675,000, and Connecticut’s is fixed at $2 million. This means that depending on where you live, your estate may be subject to estate tax even if it is less than the
federally exempt amount. Your estate planning documents would need to take this into account. Also, since many states that have an estate tax have no gift tax, there may be opportunities for state tax savings by making
lifetime gifts.
In addition, the interest rate the IRS uses to determine whether intra-family loans and transfers will be treated as gifts, known as the “applicable federal rate” or “AFR” is at an historic low. These low interest rates, especially when combined with today’s depressed asset values, make this an opportune time to move value to your intended beneficiaries.
H.R. 436
Under the 2001 tax act that is still in effect, the federal estate tax rate was gradually reduced to the current rate of 45%, and the federal estate tax exemption was gradually increased to the current level of $3.5 million.
Because of the “sunset” provisions of the 2001 tax act, the estate tax would be repealed in 2010, but would be reinstated in 2011, with a $1 million exemption and a 55% tax rate. President Obama has previously
stated that he favored freezing the tax rate and exemption at the 2009 levels, and adjusting the exemption for inflation in the future. H.R. 436, recently introduced by Congressman Earl Pomeroy (D-ND), while keeping the $3.5
million exemption (not indexed for inflation) and 45% rate, would impose a 5 percent surcharge on estates valued over $10 million, up to a stated maximum, creating an estate tax “bubble” rate similar to the bubble that
existed under prior law. Perhaps more significantly, H.R. 436 would eliminate valuation discounts for transfers of interests in business entities (other than actively traded interests) to the extent the assets of the business
entity consist of nonbusiness assets, and may eliminate minority or lack of control discounts if, after the transfer, the transferee and members of his or her family had control of the entity. The tax rate changes in H.R. 436
are proposed to be effective for 2010, but the provisions regarding valuation discounts are proposed to be effective as of the date of enactment.
H.R. 436 is a long way from becoming law, but may give us insight as to the issues that Congress will focus on when looking at estate tax reform this year. Additional proposals are expected to be introduced, and some of these proposals may have as a proposed effective date the date of introduction rather than the date of enactment. For that reason, taxpayers wishing to take advantage of valuation discounts in their estate planning might want to consider acting quickly.
Suggested Vehicles
Certain estate tax planning vehicles are especially useful in a low-interest rate environment. These include:
- Grantor-Retained Annuity Trust (“GRAT”). A GRAT is a trust that pays back to the grantor, as an annuity over at least a 2 year term, an amount equal in value to what the grantor contributed, plus an interest factor (which is 2.4% for January, 2009). Because the grantor receives, over the term of the trust, assets equal in value to what he contributed, he has not made a gift. If the assets appreciate at a rate greater than the assumed interest factor, and the grantor survives the trust term, the remaining assets pass to the grantor’s children or other beneficiaries gift and estate tax-free.
- Intra-Family Loans or Sales. The January, 2009 AFR that must be used to avoid gift tax when loaning property to family members or selling property to family members (or to a trust for the benefit of family members) is only .81% for loans up to 3 years, 2.06% for loans between 3 and 9 years, and 3.57% for loans over 9 years. That makes this an opportune time to lend money to family members or trusts for their benefit to permit them to make investments or sell property in exchange for an installment note. If you have existing loans at higher interest rates, now may be a good time to refinance them.
- Charitable Lead Trusts. Charitable lead trusts are often used to minimize the tax cost of leaving assets to the next generation, with the added advantage of benefiting charity. When interest rates are low, a fixed annuity payable to charity will reduce the gift or estate tax value of the remainder, maximizing the assets ultimately payable to family members.
Please contact one of our Trusts & Estates attorneys to discuss how you can best take advantage of the estate planning opportunities presently available.