Over the Cliff

Patrick D. Owens

So we briefly fell off the “fiscal cliff” only to be pulled to safety by legislation agreed to by the Senate about 2:00am on January 1st, 2013. The House reluctantly approved the bill and President Obama signed into law The American Taxpayer Relief Act of 2012 (“ATRA”) late on January 2, 2013. ATRA provides a few important gift and estate tax provisions as follows:

(1) Estate, gift and generation skipping transfer (“GST”) taxes are unified with an exemption of $5,000,000 indexed for inflation ($5,250,000 in 2013);
(2) Portability of estate and gift taxes continues; and
(3) The estate and gift tax rate is 40%.
Plus, the annual gift tax exclusion increased and the Illinois estate tax exemption increased:
(4) The estate tax annual exclusion increased to $14,000 per year per donee;
(5) The Illinois estate tax exclusion amount is $4,000,000.

This is good news for estate planning attorneys but more importantly good news for clients. For attorneys, we now have relative certainty of the estate, gift and GST tax exemptions so we can more definitively advise clients about their tax planning. For clients, more certainty and higher exemptions should mean less estate and gift tax to pay. Notwithstanding the higher estate, gift and GST tax exemptions, ATRA increased income taxes for most individuals (not just “the rich”) and income taxes will likely continue to increase, so income tax planning will become more and more important in the upcoming years.

If Congress did not act, the estate, gift and GST exclusions would have, and very temporarily did, revert back to a $1,000,000 exclusion amount and a top rate of 55%. This would have created some chaos in the estate planning world. For larger estates, the combined federal and Illinois estate tax rate amounts to approximately 48.3%. Notwithstanding the beneficial increases in the exemption amounts, estate planning should not be ignored. We can now spend more time and effort planning for the important transition of wealth to the next generation in a more effective and efficient manner. ATRA allows us to focus more on families, and less on estate tax centric planning. Income tax planning and asset protection planning will be key discussions.

ATRA also extended Portability of the estate and gift tax exemptions. Portability provides that if a spouse passes away and does not fully utilize his or her applicable exclusion amount, then the surviving spouse may use that exemption. Although Portability is a positive for those who have not planned and for those who have an exclusion amount to carry over, there are a few caveats. First, Illinois Estate Taxes are not portable. Second, a federal estate tax return must be timely filed to claim portability and third, the GST tax exemption is not portable.

Additionally, for clients who structured trusts and gifted assets in 2012, the planning continues to hold great value with all future appreciation now excluded from your estates and if a grantor type trust was used, also allowing trust assets to grow tax free to the trust since the taxes are paid by the grantor. Further, there are many administrative follow up issues including:

– Trust administration to ensure compliance with the terms of the trust;
– Filing of federal gift tax returns (Form 709s);
– If a formula gift was used, following up with business appraisers to ensure the proper percentage is gifted.

Finally, although ATRA makes all of the changes “permanent”, “permanent” lasts only until Congress decides to change the tax laws again.

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