From the May 2009 issue of Investment Advisor • Subscribe!

Retirement Planning: Estate Tax Up for Debate

Congress must take some action this year, as estate tax vanishes in 2010

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One issue that will be a big debate in Congress this year is the estate tax. Congress must take some action on the estate tax this year, because the way it stands now, the estate tax is set to disappear come January 1, 2010, but then spring back to life come 2011. In 2011 the estate tax exemption level returns to $1 million for individual estate tax exemption and $1.3 million estate tax exemption for family-owned businesses. The tax rate will also return to its original maximum rate of 55 % with 5 % surtax on estates over $10 million.

Sen. Max Baucus (D-Montana), chairman of the Senate Finance Committee, said last December that Congress will make the 2009 estate tax exemption limit (those estates greater than $3.5 million are taxed at a 45% rate) under current law permanent and indexed for inflation this year. Sticking to his word, on March 26, Baucus introduced a bill (S. 722) that would do just that--and is very much in line with what President Obama has proposed. While Senators Jon Kyl (R-Arizona) and Blanche Lincoln (R-Arkansas) introduced an amendment to the budget bill that would bump up the exemption to $5 million and set a 35% tax rate--which has received some support from prominent Senators--Mark West, assistant VP, advanced solutions, at Principal Financial Group, anticipates that Congress will indeed decide this year to stick to the $3.5 million exemption and 45% tax rate.

West says there are a number of "positives" in Baucus's bill, including an indexing-for-inflation provision. He also likes the so-called portability provision. The way it works today, he says, a husband and wife each have $3.5 million of exemption. The portability provision says that "whatever the husband or wife, whichever one dies first, doesn't use up can be transferred to the surviving spouse so that you make sure you take full advantage of the full $7 million" allotted for the couple.

The bill also reunifies the estate and gift tax exemption equivalent. Based on current law, West says, the exemption equivalent at death is $3.5 million. "For example, if a person has a $3.5 million estate, no estate tax is due. If the same person makes a gift today of $3.5 million, only $1million is exempt from gift tax," he says. The Baucus proposal would "unify" the estate and gift tax exemption at $3.5 million, he explains, "which means that whether a gift was made or assets passed at death, no gift or estate tax would be due up to $3.5 million. Prior to the 2001changes, the gift and estate exemptions were unified."

Under current law, the annual exclusion is $13,000 per year, West says; the Baucus bill would not change that amount. "For example an individual with four children could make annual gifts of $52,000 ($13,000 per child) without reducing his/her lifetime exemption (currently $1 million) or triggering any gift tax. The gifts can be made to anyone, not just children."

On the House side, Rep. Earl Pomeroy (D-North Dakota) introduced January 9 H. 436, Certain Estate Tax Relief Act of 2009. The legislation would restore the tax on estates and generation-skipping transfers and the step-up in basis provisions for property acquired from a decedent, previously repealed by the Bush Administration's Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA). Pomeroy's bill also sets the estate tax exclusion at $3.5 million and imposes a maximum estate tax rate of 45%. The bill would also restore the phaseout of graduated estate tax rates and the unified credit against the estate tax, and sets forth estate valuation rules for certain transfers of non-business

assets. Pomeroy's legislation would

also limit estate tax discounts for certain individuals with minority interests in a business acquired from a decedent.

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