On January 1, 2009 several important changes to the U.S. transfer tax laws (which govern estate, gift and generation-skipping transfer taxes) took effect. Many individuals should reconsider their estate plans as a result.
One such change affects the amount of property that, upon death, may be passed free of federal estate tax. Under former U.S. law, the value of property able to pass estate-tax-free to persons other than a spouse was capped at $2,000,000. This amount has been increased, for deaths occurring in calendar year 2009, to $3,500,000. However, this amount is decreased by the total value of lifetime taxable gifts, which are, generally, non-deductible gifts in excess of the annual exclusion amount (discussed below).
The lifetime limit for taxable gifts which can be made free of gift tax remains at $1,000,000. This means that, although a person may have exhausted his or her ability to make tax-free gifts above the annual exclusion amount, he or she can still transmit at death an additional $2,500,000 of assets by will, trust, beneficiary designation or other means of succession without incurring a federal estate tax. For married couples, combining this with the unlimited marital deduction means that all federal transfer tax may be postponed until the death of the second spouse. Then, if the estate plan and the assets are structured correctly, or can be restructured post-mortem with the aid of an attorney, the tax will only be imposed on the couple’s combined assets in excess of the first $7,000,000 of value.
There is a catch, however, for residents of Massachusetts and Rhode Island. Both states have a state estate tax, and the exemption is capped, at $1,000,000 per person for Massachusetts, and at $675,000 per person for Rhode Island. Thus, a significant disparity exists between the state’s estate tax and the federal estate tax. While both states have the unlimited marital deduction, married couples should take care that their joint estates are analyzed by an attorney to see if both federal and state estate tax can and should be postponed until the second death. which can be accomplished by use of a special trust structure. Alternatively, it may make more economic sense to pay some “first to die” state estate tax. Single individuals should consult an attorney to determine if additional lifetime gifting makes sense since neither Massachusetts nor Rhode Island has a gift tax.
For 2009, the amount of the annual exclusion applicable to gifts has increased to $13,000. Therefore, each individual can give this amount to an unlimited number of persons in each calendar year without any use of the lifetime gift tax exemption. Married couples can choose to “split” gifts—if one spouse gives a donee $26,000 or less, the gift can be claimed on a gift tax return as made equally by both spouses, thus falling within the exclusion amount. Annual exclusion gifts can be a very efficient way, over time, to reduce the value of an individual’s taxable estate. For non-cash gifts, this technique can be combined with discounts used by appraisers to determine the value of fractional or minority interests of certain assets, in order to pack more value into the gifts.
Another important change is that the generation-skipping transfer (GST) tax exemption—the value of tax-free assets which can be given directly to grandchildren or lower generations or placed in trust for the lifetime of the next generation—has also been increased to $3,500,000 per decedent. For plans which establish trusts based on the exemption amount, it is worth reviewing whether this change distorts the intent of the plan. Such plans, signed when the exemption was lower, may have an undesired result now that this amount has been significantly increased.
The federal changes noted above are in effect for 2009. However, Congress is widely expected to act this year to alter the transfer tax laws for years 2010 and going forward. Under current law, a one-year repeal of the estate and generation-skipping tax is scheduled to take effect for 2010. While Congress’ actions are unpredictable, given current economic circumstances, it is probable that this law will not take effect.
On the subject of the economy, it is also important to note that values and interest rates may be at or near the lowest they will be for some time. This currently provides a very good opportunity to make gifts at low value and intra-family loans at advantageous rates.