The federal estate tax exempt amount is currently $3.5 million and the highest estate tax marginal rate is 45%. At death, an individual's estate in most cases will pass to heirs free of federal estate tax if the fair market value of their assets (including life insurance), less applicable estate tax deductions (e.g., marital and charitable deductions), is $3.5 million or less.
Most of the recent proposals in Congress dealing with the federal estate tax provide for a continuation of the current estate, gift and transfer tax system, with the estate tax exemption and estate tax rate remaining at 2009 levels of a $3.5 million estate tax exemption and a 45% estate tax rate.
The state of Minnesota, however, has a separate estate tax and no gift tax. Minnesota's estate tax exempt amount has been frozen since 2001 at $1 million. This "Minnesota tax gap" between the federal estate tax exemption and the Minnesota estate tax exemption is now $2.5 million. The Minnesota estate tax on the Minnesota tax gap is roughly $229,200—not an insignificant amount.
In most cases, this Minnesota tax gap can be eliminated if the individual decedent was married at death, had appropriate asset titling and ownership, and had the right kind of will and estate plan in place. However, many wills (and estate plans), especially those dated prior to 2001, have formula provisions that create a by-pass, family or credit shelter trust on the first death equal to the federal estate tax exemption. If so, these old wills and plans may inadvertently generate a very large Minnesota estate tax on the death of the first spouse.
This problem has been with us since 2001, but the concern is more heightened in 2009 (and in future years) for the following reasons: 1) the Minnesota estate tax exposure is much larger than in prior years; 2) the value of many clients' estates has eroded with the economic downturn, so many clients are already living with less; and 3) liquidity and preserving cash (by avoiding the payment of expenses and especially taxes) is very important and prudent in these difficult economic times.
Finally, there may be a significant negative psychological impact of having to pay such a large tax on the death of the first spouse. We can help you review your current will and estate plan to see if they have formula provisions tied to the federal estate tax exemption and, if so, determine if revisions are necessary.