Estate & Gift Tax for 2012 and Beyond
The estate and gift tax system is arguably one of the most complicated areas of the tax code. Adding to the confusion is the fact that after 2012 the tax on wealth transfers, whether through gifts or inheritances, remains uncertain. If you have or expect to have a sizable estate, say $1 million or more, now is the best time to create your estate plan. Keep in mind that an “estate” includes the value of your home, life insurance, retirement plans, and other investments. This means the estate tax is not just a concern for the “super” wealthy.
Under current law decedents dying in 2012 with estates worth $5,120,000 or less are not subject to estate tax. However, the $5.12 million threshold expires at the end of this year. And unless Congress acts, beginning January 1, 2013 the threshold drops to $1 million. Not only would many more estates be subject to estate tax but the highest estate tax rate is also scheduled to increase to 55%. A lack of estate planning now could result in a hefty estate tax bill later.
If you have already created an estate plan but haven’t reviewed it in the past couple of years, now is a great time to make sure that plan still makes sense with the recent law changes. There are various factors in outdated trusts that could present a problem under current estate tax law. For instance, a trust could be written such that assets are inadvertently subject to estate tax upon the death of the first spouse instead of qualifying for the marital deduction. Or the trust could be written such that pro rata allocations are required and assets must be split between different sub trusts instead of giving discretion to the surviving spouse or trustee to substitute assets of equivalent value. There could also be situations where the ongoing costs and recordkeeping burdens of setting up a trust on the death of the first spouse more than offset any tax benefits resulting from the planning. The bottom line is that you should make sure your trust is carefully inspected to ensure that your wishes are carried out appropriately upon your death in a tax and financially efficient manner.
Another good reason to analyze your current wealth transfer plan is to take advantage of the $5.12 million exemption in 2012 that also applies to gifts. The tax law “unifies” or links the estate and gift tax system, so estate tax can’t be avoided by gifting away all of your possessions while you’re alive. Any gifts made now are added back into your estate upon your death. However, any subsequent appreciation in gifted assets takes place outside of your estate because gifts are valued on the date of the gift. For example a taxpayer who plans to leave a vacation home to his children may wish to make a gift in 2012 with zero out of pocket gift taxes. The home could be gifted in 2012 at a value of up to $5.12 million now, and if the home rises in value to $8.12 million when the taxpayer dies, the additional $3 million is not included in the taxpayer’s estate! Of course gifts are permanent and there are many non-tax considerations when making large gifts.
The 2012 gifting opportunities may also be useful to California Registered Domestic Partners. Because RDPs don’t qualify for the federal estate tax marital deduction which allows assets to pass from the deceased spouse to the surviving spouse free of estate tax, estate planning can be a challenge. Making a sizeable gift in 2012 from one partner to the other may be an effective planning tool.
Estate and gift tax is definitely complex and a taxpayer’s situation and goals vary widely. Expert advice is a must before any final decisions are made or transactions may have unintended consequences. Contact your LMGW advisor for other planning opportunities to maximize the benefit of the $5.12 million estate tax exemption. For more information you can also check out our article on Estate Tax Portability here.