The Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (the Act) passed late last year, which not only extended 2001 tax rate cuts for two more years, but also created significant opportunities with its changes to gift, estate, and generation-skipping taxes.

Estate and generation-skipping tax changes. The Act increased the estate tax exemption to $5 million per person for 2010 through 2012. The top marginal tax rate was changed to 35 percent. It was zero in 2010 and 45 percent in 2009. Since the generation-skipping transfer (GST) tax exemption is tied to the $5 million estate tax exemption, it also increased. The GST tax rate is 35 percent for 2011 and 2012. Both the estate and GST exemption amounts have been indexed for inflation in 2012. At the end of 2012, the law will sunset, returning to 2001 rates unless Congress acts.

• State estate tax. Some states assess a separate state estate tax. Further, exemption amounts for the state estate tax may be lower than the federal exemption. So some estates may still be subject to state estate tax.
• Portability. In 2011, a new provision applied, allowing the unused estate tax exclusion of a deceased spouse, who died in 2011 or later, to be transferred to the surviving spouse. This unused exclusion can then be used by the surviving spouse during his or her lifetime (see gift tax changes below) or at death to avoid additional asset transfers from estate tax. Note that the surviving spouse may only use the unused exclusion of his or her most recently deceased spouse. Also, there are limitations to portability as any unused GST exemption or any unused state estate exclusion is not portable to a surviving spouse.

Gift tax changes. Effective in 2011, the Act reunified gift and estate exclusions, which means the lifetime gift tax exclusion is also $5 million. This is a significant increase over the $1 million exclusion in prior years. The top marginal gift tax rate is 35 percent. A surviving spouse will have his or her own $5 million exclusion and any unused exclusion from his or her last deceased spouse to transfer during lifetime.

The following chart summarizes what the law was in 2009 and 2010, what it is in 2011 and 2012, and what it will look like if Congress does not act before Dec. 31, 2012.

Planning opportunities. Under the Act, these new provisions are effective for 2011 and 2012 only, and will revert to exclusion levels and rates from 2001 unless Congress acts. However, this should not deter you from taking advantage of the Act’s significant changes:

• Consider whether the increased estate exclusion to $5 million per person ($10 million per married couple) means you should rework your will or revocable trust’s division and distribution of asset provisions. Should the first deceased spouse simply leave his or her estate to the surviving spouse rather than funding a family trust, considering the increased exemption and the portability of the unused exclusion to the surviving spouse? There will, however, be many situations where funding the family trust at the first death will still make sense. In order to take full advantage of your increased generation-skipping exemption, additional planning and language may need to be added to your documents. Also, take into account the implications of state estate tax as most of the states that assess a separate tax have lower exemption amounts.
• Because the gift tax exclusion had been fixed at $1 million since 2002, even while the estate tax exclusion climbed to $3.5 million in 2009, individuals were forced to limit wealth transfers or enter into more complicated transfer-planning techniques. The Act’s additional $4 million exclusion allows additional straight gift transfers during an individual’s lifetime rather than waiting until death. This has the added benefit of shifting post-transfer appreciation to heirs. It may make sense to revisit prior transfers involving gifts and sales of assets or look for other opportunities to transfer wealth to heirs during your lifetime. It is an opportune time to consider wealth transfers: interest rates are still near all-time lows, asset values may also be lower, which means the potential for appreciation is much higher, and tax rates are lower now than in the recent past. Also, it may be more tax efficient to make taxable gift transfers today rather than waiting to make those same transfers at death when rates could be higher.
• With the GST exemption rising to $5 million, generation-skipping planning should be considered. Gifts can be transferred out of the estate and into a trust that keeps assets out of the taxable estate, allowing subsequent generations to benefit from the trust.
• Even if the new exclusion limits result in your estate being nontaxable, make sure the ownership of assets between spouses takes advantage of each spouse’s exclusion and that beneficiary designations coordinate properly with your will or trust’s dispositive provisions. In addition, this may be a good time to evaluate your documents for nontax reasons to ensure your intentions for disposition of your estate are fulfilled.
• Other estate tax planning considerations include: Creating various charitable trusts, exclusion giving of $13,000 annually, and giving a tax-free medical care and/or tuition gift.

Contact our tax services team >