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Financial Planning > Tax Planning > Tax Loss Harvesting

'Repeal' Of Estate Tax Could Be A One-Year Wonder

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‘Repeal’ Of Estate Tax Could Be A One-Year Wonder



Despite all the hoopla, Congress has enacted what some are calling a one-year suspension of the estate tax as part of the $1.35 trillion tax reduction bill.

Under the legislation, the estate tax will be gradually reduced until Jan. 1, 2010, when it is scheduled to terminate. However, it will return exactly as it exists today on Jan. 1, 2011, unless Congress passes another bill extending the suspension or making it permanent.

The question is whether a future Congress will do so.

Maria Berthoud, vice president of federal affairs for the Independent Insurance Agents of America, which strongly supports estate tax repeal, says the “sunset” provision in the legislation is “obviously a concern.”

However, Berthoud says, she truly believes Congress will ultimately act to make the cut permanent.

“We didnt work this hard to let a technicality completely change the direction of the bill,” she says.

But the life insurance industry questions whether a future Congress will be able to permanently extend the provision.

“If Congress cannot afford to repeal the estate tax today, why will Congress be able to afford it in 2010?” asks David Winston, vice president of government affairs for the National Association of Insurance and Financial Advisors, Falls Church,Va.

The projected budget surpluses that are expected to finance repeal, Winston says, may not materialize. The demands of future budgets, he says, could force Congress to push back repeal.

The message, Winston says, is that it would be a tragedy for individuals to depend on the legislation as a reason not to plan their estates.

Doug Bates, assistant vice president with the American Council of Life Insurers, Washington, adds that Congress will have to enact another tax bill, even if it is just to codify the suspension.

Bates notes that during the tax cut debate, some members of Congress wanted to create a “trigger” mechanism. Under this mechanism, he says, the tax cuts would take place so long as the economic conditions allowed them.

However, if the surpluses did not appear, he says, the trigger would stop the cuts.

The sunset provision, Bates says, is like an ad hoc trigger. While this is being called repeal, he says, it looks more like a suspension of the tax rather than repeal.

Indeed, he says, given the budget parameters, the sunset provision was the only way that Congress could afford the estate tax provision.

It will be up to a future Congress to revisit the issue, Bates says, and the question will be who is in control of the Congress and the White House at that time.

Bates adds that he does not think Congress will wait 10 years to revisit the issue.

Specifically, under the estate tax provision, rates in excess of 50% will be eliminated in 2002. Rates will be reduced by one percentage point a year from 2003 to 2006. The maximum rate will be set at 45% in 2007. The estate tax will be repealed in 2010.

However, due to the sunset provision, it will go back into effect on Jan. 1, 2011.

Similarly, the current credit of $675,000 will increase to $1 million in 2002. It will reach $1.5 million in 2004, $2 million in 2006 and $3.5 million in 2009.

But these provisions will also sunset on Jan. 1, 2011, and the current $675,000 credit will go back into effect.

As for basis, carryover basis will apply once the tax is suspended, meaning that heirs will have to use the basis of the decedent when calculating capital gains taxes should the property be sold.

However, the first $1.3 million of an estate will be subject to stepped-up basis, meaning the fair market value at the time of the transfer to the heirs.

For spousal property, an additional $3 million will be subject to stepped-up basis, for a total of $4.3 million.

Bates notes that because of the structure of the estate tax provision, it has very little budget impact in the early years.

During the first seven years of the budget, the revenue loss is anywhere between $4 billion and $12 billion annually.

But during 2009, he says, the revenue loss is $23 billion. Then in 2010, during the year the tax is completely suspended, the revenue loss is $53 billion.

That, Bates says, will be the “opening bid” for any future legislation to extend the suspension or make it permanent.

However, insurers are pleased with language in the tax legislation that will allow workers to save more for their retirements and make it easier for small businesses to set up pension plans.

Under the legislation, the contribution limits for individual retirement accounts will increase from the current $2,000 to $5,000.

For 401(k) plans, the current $10,500 annual limit will go to $15,000.

In addition, workers age 50 and over will be allowed to make so-called “catch-up” contributions of an additional $5,000 annually.

The bill also eases many of the administrative burdens faced by businesses that sponsor pension plans.

Bates says the pension provisions in the tax bill are a “terrific victory.”

Indeed, he says, the pension language reflects the one serious policy direction contained in the legislation that is sustainable outside the budget process.

“We are delighted with the decision to include pension reform in the tax bill,” he says.

Reproduced from National Underwriter Life & Health/Financial Services Edition, June 4, 2001. Copyright 2001 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.

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