Posted by: Brad Dunlavy | January 12, 2010

Estate Tax Upheaval Creates Planning Challenges

We begin the new year with no Federal estate tax in place. The last time this occurred was 1915. A law passed in 2001 repealed Federal estate taxes for the year 2010. That same law provides for the estate tax to reappear in the year 2011 with a $1 million exemption amount and a top rate of 55 percent.

Congress has known for the last eight years that the law needed to be changed, and virtually all practitioners felt the law would be changed. Nevertheless, the law has not been changed due to failure by the Senate to act. The House passed a bill that would have extended the 2009 laws through 2010. The primary reason there was no action in the Senate is due to disagreement as to whether the tax should be repealed or changed to a higher exemption amount. The consensus opinion among most practitioners is that Congress will address this issue in early 2010 with an effective date of January 1, 2010. Some believe that the retroactive tax may violate the U.S. Constitution, but others believe there may be precedent for retroactive application.

There is another significant change for persons dying in 2010 if the law is not changed. Some assets will no longer receive a basis equal to the date of death value of the assets, which is current law. Instead, there will be a carryover basis from the decedent with the ability to obtain a step-up in basis for only a limited amount of assets. A similar law was enacted in the 1970s and was soon repealed because it was impractical. Because of this law change, some heirs of estates that would not have been required to pay Federal estate tax under current law may now have to pay capital gains taxes when they sell inherited assets.

Planning your estate amid uncertainty is a challenge. You need to be prepared for the law that is on the books as well as for any potential change. You also need to make sure that your current will still will work in the manner intended if you die during the year 2010. Many current wills are based on formulas that are tied to the Federal estate tax system that may not exist at your death, which has the potential to change the distribution of your estate in a manner that you may not have intended.

Stay tuned for changes in the Federal estate tax.

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