Estate Law Changes – Add Confusion and Some Relief

On June 7, 2001, the Economic Growth and Recovery Tax Act (EGRTA) was signed by President George W. Bush. This law, which included a highly publicized “repeal” of the federal estate tax, brought about some relief, but also brought about a fair amount of confusion and some uncertainty in dealing with future estate planning.

First of all, as is typically the case with tax relief legislation, most of the benefits were deferred until sometime in the future.

Second, since Congress could not obtain a 60% majority, they were unable to pass a tax act that impacted the budget for more than 10 years. As a result, they added an unusual “sunset provision” which repeals all of the tax changes both for estate tax and for income tax, effective in the year 2011.

Third, despite all of the initial publicity about the repeal of the estate tax, EGRTA brings about only a one year window in which the estate tax may be avoided. In the year 2010 there is scheduled to be no estate tax. On the other hand, for that year there continues to be a gift tax, and estates may incur additional capital gains tax, because a special “carryover basis” provision will be in effect only for the year in which the estate tax is “repealed.”

Under the present law, all assets owned at a decedent’s death receive a new cost basis equal to their date of death value. Under the “carryover basis” provision, a portion of inherited assets will retain the decedent’s original cost basis. It may thus be necessary to determine historical cost information in order to determine the capital gains treatment of post-death sales by an estate, trust or beneficiary. A similar “carryover basis” provision was passed in the late 1970’s but was repealed almost immediately because of the recordkeeping nightmares which it produced.

The actual estate tax exemption and rate changes as scheduled in the new law are as follows:

Year Exemption Top Bracket
2001 $ 675,000 55%
2002 $1,000,000 50%
2003 $1,000,000 49%
2004 $1,500,000 48%
2005 $1,500,000 47%
2006 $2,000,000 46%
2007 $2,000,000 45%
2008 $2,000,000 45%
2009 $3,500,000 45%
2010 No Estate Tax N/A
2011 $1,000,000 55%

Most practitioners believe that the estate tax will have to be further modified by legislation. We are thus left with a law change which is expected to be further modified and which, if not changed, will amount to a temporary reduction of the tax with a full reinstatement by the year 2011.

As a practical matter, this means that individuals will need to monitor not only their estate plan but also the funding of their plans as the exemption moves up and then down.

Many of the estate plans that we have reviewed are fine as is and need no modification under the new tax act. This is because many trusts have formulas that automatically adjust references to the estate tax exclusion. Other estate plans have needed modification. All estate plans should be reviewed more often, and it should be verified that funding is completed and that assets are properly allocated between spouses for married individuals.

If you have any questions about the new tax act or any other estate planning issues, please contact any of the members of our Estate Planning Group in our Detroit, Birmingham or Ann Arbor offices.