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Estate Planning Update – Spring 2013

At the beginning of the year, as a part of the deal to address the so-called “fiscal cliff,” Congress and the President made changes to the federal estate tax (aka “death tax”), including:

  •  the exemption amount of $5M (indexed for inflation) was extended indefinitely;
  •  the estate tax rate was changed to 40% (vs. 35% in 2012 / 55% scheduled for 2013);
  •  “portability” (allowing a surviving spouse to use a predeceased spouse’s unused exemption amount) was extended indefinitely.

While these changes are often described as “permanent,” they can be changed at any time by new legislation. In fact, President Obama’s recent budget proposal calls for lowering the exemption amount to $3.5M (not indexed for inflation) and raising the tax rate to 45%, as well as restricting the use of certain sophisticated estate tax planning techniques.

The new law represents good news for taxpayers, especially those with estates under $5.25M. These estates will not be subject to federal estate tax. Those with estate plans put in place when exemption amount was expected to be lower have the opportunity to revisit and possibly simplify those plans. Of course, they and their advisors must still be cognizant of other critical tax issues. For example, many states have state-level estate tax regimes with lower exemption amounts (e.g., Maryland and the District of Columbia), which may also apply even to nonresidents who own property in those jurisdictions. Similarly, couples where one spouse is a non-citizen face special challenges including a much lower exemption under federal law. Finally, there are income tax consequences for qualified investment accounts, such as 401k’s and IRAs, that should be considered.

Those with higher net worth will obviously need to continue to engage in estate tax planning. While “portability” can allow a married couple to transfer over $10M in assets free of federal estate tax, there are potential drawbacks versus traditional “bypass trust” (aka “credit shelter trust”) planning. Importantly, “portability” may not be available if an estate tax return is not filed upon the death of the first spouse or if the surviving spouse remarries. Rather than relying on “portability” alone, a better approach for many clients may be a plan that allows for flexibility between several different options, permitting family members and advisors to adapt to the particular circumstances that may obtain in the future – and, thus, to take advantage of the most favorable or desirable treatment.

Finally, there are many important reasons besides estate taxes to establish a well-thought-out estate plan – from providing for and protecting children and grandchildren to creating a charitable legacy. Whatever their motivations, individuals and families should seek legal counsel to assist in developing and implementing an estate plan tailored to their specific needs and desires.