January 6, 2010

Latest Developments Regarding The Federal Estate Tax

Arnold & Porter Advisory

What will happen to the estate tax in 2010?

You may have read about the uncertain status of the federal estate tax. Under a law passed in 2001, the estate tax was repealed on January 1, 2010. Under this same law, the estate tax will be reinstated in 2011 with a lower exemption amount than we had in 2009 ($1 million vs. $3.5 million) and at a higher rate (55% vs. 45%.) The generation-skipping transfer tax is similarly treated. During 2010, the lifetime gift tax exemption remains at $1 million and the tax rate on gifts in excess of the exemption drops from 45% to 35%. In addition, the so-called "carryover basis" rules are now in play. The carryover basis rules establish onerous record-keeping requirements and will likely result in increased income taxes for your heirs. These changes in the tax law, which will remain in place for only a single year, place an unprecedented burden on planners and clients alike. For this reason, planners have long anticipated that Congress would enact permanent tax legislation to address the situation. Even as late as last month, planners expected Congress to pass temporary legislation retaining the 2009 regime ($3.5 million, 45% rate) during 2010. Astonishingly, no such legislation was passed.

Some in Congress claim that they plan to clean up the 2010 legal morass by enacting legislation that will resuscitate the 2009 transfer tax regime and apply it retroactively to January 1, 2010. This "quick fix" is problematical as many contend that the retroactive application of the taxes is unconstitutional. It will likely take years of litigation in the federal courts to resolve the issue. Meanwhile, planners and clients remain in tax planning limbo. While the changes in the law present some interesting planning opportunities, we cannot be certain what Congress or the courts will do and, therefore, it is impossible to take advantage of these opportunities without substantial risk. Unfortunately, it is also possible that certain unintended consequences might arise in connection with the estate plans of some individuals who die in 2010.

What should I do now?

In the midst of all this confusion, we think that the best course of action for many of our clients will be to simply "ride it out" while we await further guidance from Congress. Nevertheless, if you have an estate plan prepared by Howard Rice, we suggest that you give us a call so that we can review your plan and decide together whether contingency planning or further tax planning is warranted. (Please note that we do not specifically monitor a client's circumstances or the effect that any change in the law could have on their plan unless they ask us to, but this is an unusual situation we want to highlight.)

If you have questions about any of the matters summarized in this article, please contact: Ann C. Matthews at 415.677.6416 or or your usual Howard Rice attorney.

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