Compass Newsletter - Articles

The New "Two-Year Estate Tax Plan"

By Barbara Jo Smith
(Winter 2011)

Congress has finally passed a tax bill extending many of the tax cuts we have experienced for the last nine years. For the estate tax, the extension is a new law for 2011 and 2012 only. It sunsets like the rest of the bill on December 31, 2012.

Newspapers and other news sources have highlighted the basics that the exemption is $5 million with a tax rate of 35% for the amount that exceeds $5 million. A new portability feature allows a surviving spouse to use the deceased spouse’s exemption amount if he or she did not use the exemption. This allows married couples to pass up to $10 million worth of assets either during life or at death estate tax free without special bypass or credit shelter trust provisions in their will or trust. The step-up in basis for all assets owned by the decedent remains. The stepped up basis allows the beneficiaries to sell the assets without the same gain as the decedent would have had if he or she sold the assets while living. The step-up in basis has never and still does not apply to IRAs and other retirement proceeds that are subject to ordinary income tax. Those benefits are still subject to income tax when distributed.

The portability feature is the most unique portion of the new law. A married couple can leave everything to the surviving spouse either as a joint owner on the assets or by beneficiary designation with the survivor still being able to use the first spouse to die’s exemption. An election has to be made on the decedent’s estate tax return, so this only applies if the first spouse dies in 2011 or 2012. In the past, lawyers needed to set up a credit shelter trust, which is also known as a bypass trust, or - in our documents - a Family Trust or Decedent’s Trust, to use the exemption of the first to die. This planning is called marital deduction planning. Without such planning, under prior law, the exemption was lost at the first spouse’s death with the survivor having only his or her exemption. Sometimes the allocation to the credit shelter trust is by a mandatory formula and other times it is a discretionary choice of the surviving spouse to “disclaim” or choose not to take a particular asset, allowing it to go to the credit shelter trust. The will or trust must be written one way or the other from the beginning, so if it is a mandatory formula, the survivor will not have the choice.

The big question most of our readers face is whether they need to update their estate planning documents (wills, trusts, beneficiary designation forms) in light of the new law. The short answer is probably not if your documents are otherwise up to date. First, Oregon law continues to have a $1 million exemption. There is no automatic connection between federal estate and Oregon inheritance tax law. The Oregon inheritance tax on the second $1 million in the surviving spouse’s estate is approximately $99,600. Second, in December 2012, we may find ourselves in the exact same position as we did in December 2010. The $5 million exemption will end and the federal exemption goes back down to $1 million on January 1, 2013. In addition, portability goes away unless Congress acts again.

Some planning opportunities from the new law are:

  • Clients may want to change their mandatory credit shelter trust for an optional trust formed through disclaimer. This would give the surviving spouse flexibility based on whatever the law is at the time of death.
  • Giving away more than the prior $1 million exemption amount.
  • Those married couples with less than $2 million in assets may not want the complexity of marital deduction planning when it saves an amount less than $99,600.
  • Anyone with generation skipping planning should check whether they want up to $5 million in assets going into those trusts, as that exemption amount was also increased from $1 million to $5 million.

As I begin my sixteenth year of practice, I find that non-tax reasons are often the ones that require updating an estate plan. Here is a list of factors to consider:

  • Documents dated 2001 or earlier most likely need an update.
  • Every year I seem to surprise someone that marriage revokes a will. Those who have said “I do” or better yet, those who might be about to do so, should check to see what happens if they die without a will.
  • Retirement is a time to consider setting up a revocable living trust to avoid probate. In addition, probate has become more expensive and cumbersome in the last few years.
  • Major health events are often a difficult time to even think of making and keeping any appointment other than the constant stream of medical specialists, testing, and treatment. A couple of hours with your estate planning lawyer may be all it takes to get a little peace of mind at a very difficult time. If more work is required, that is nice to know too.
  • If any heir or beneficiary in a plan has died or become incapacitated, an update is probably warranted. Although the documents generally provide a solution to the issue, it might not be the best solution given the new facts and circumstances that were unknown at the time of drafting.
  • The sale or purchase of a major asset can change assets significantly enough that a review of your estate plan is warranted. This is especially true if an asset specifically mentioned in the documents is sold.

I hope this gives you a better idea of whether you need an update. Unfortunately, we cannot tell simply by looking at a file because we do not know what has changed other than the law.