We are witnessing a sea change in it in tax planning due to two new developments:
1) The new “portability” of the estate tax exemption for our clients
The concept of portability allows the surviving spouse (widows and widowers) to carry over the estate tax exemption of the spouse who died and add it to their own exemption amount.
However, to take advantage of this action you must “elect portability”. This means your executor, with the assistance of estate tax counsel, must handle the estate of the spouse who has died and file a federal estate tax return, even if there are no estate taxes due.
Further, this estate tax return must be filed within nine months of death. However, the Internal Revenue Service has recently issued a Revenue Procedure creating some relief for people who fail to make this filing.
Portability has the additional advantage of allowing assets to get a basis adjustment to fair market value after the date of the surviving spouse’s death. By contrast, this step up in basis is not available for assets that went into a bypass or credit shelter trust at the first spouse’s death.
Most of the readers of this article have just those kinds of trusts. Specifically, the types of trusts that will not allow step up and tax basis and probably result in more income tax being due than is necessary.
Note: This means that it’s probably a good time to review existing wills and trusts.
2) Increased demand by clients for increase in tax basis to avoid increasing capital gains tax from 15 to 20%
On January 2, 2013 the capital gains tax increased from 15% to 20%. Furthermore, Obamacare introduced a 3.8% Medicare tax that applies to capital gains. The combination of these two taxes can result in capital gain taxes of up to 23.8%. This can be a bad result especially when an estate consists of a trust or trusts created to eliminate estate tax but no estate tax, will be due. In 2014, no estate tax will be due unless a husband and wife have a pooled net worth of approx. $10.5 million!
Therefore a review of trusts is suggested. It makes no sense to have trusts that avoid estate tax that you will never pay while those same trusts will force you to pay 23.8% in capital gains tax, when that 23.8% tax does not have to be paid at all.
In short, the only way that this can be resolved is by creating a potentially taxable estate on the death of the first spouse to die that will fall below the $10.5 million taxation threshold.
Simultaneously because the estate of the deceased spouse is left in a way that is potentially taxable to the surviving spouse, the surviving spouse gets to step up in income tax basis at their death. The net result is no estate tax and no income tax due. I would call that a pretty good days work.
I have written on this topic before but because it is so immensely important I have chosen to dedicate another article to this concept of estate tax elimination combined with income tax income tax elimination.
Still think it’s not time to review that estate plan?
Anthony B. FerraroAttorney – MS Tax – CPA847-292-1220