Estate tax confusion leaves survivors in fiscal purgatory

Benjamin Franklin was only half right. Death is still certain, but taxes have become more of a gray area.

As the Bush tax cuts of 2001 draw closer to their December 2010 expiration date, the federal government has remained mum on its intentions for 2011.

Will top-bracket income taxes increase to 43.4%?

Will the estate tax return? If so, at what thresholds?

With no official word from Washington, all we have is speculation that taxes will likely increase to pay for the largest budget deficit that the nation has seen since World War II. Taxation based on speculation is no way to run a country, much less an individual’s retirement or estate plan.

Rampant confusion over how to handle these issues has left financial and estate-planning professionals with few options to help families settle the affairs of departed loved ones or plan for their financial future.

The estate tax repeal was structured so that it would last only one calendar year, 2010. However, in 2011, this same law, which was designed to eliminate taxes, actually restores the estate tax to its highest level in decades (60%) and lowers the threshold for what is taxable (all estates in excess of $1 million will be subject to the tax).

Additionally, for 2010 only, the estate tax effectively has been re¬placed by a capital gains tax on the appreciated property of an estate when it is sold. Instead of taxing the total value of the decedent’s assets at the time of death, the new tax applies to the total appreciated value of assets such as homes, stocks and bonds.

And that’s not all.

In March, Rep. Sander Levin, D-Mich., acting chairman of the House Ways and Means Committee, said that the committee would begin work to reinstate the federal estate tax retroactively, back to Jan. 1. The legislation would likely seek an extension of the 2009 law, which imposed a 45% tax on assets in excess of $3.5 million.

Addressing a group of reporters, Mr. Levin said: “We’re ready to fight over the issue of extending the middle-class tax cuts and not continuing those for very wealthy families … The sooner we do it, the better.”

The senator added that he hoped the committee would begin deliberations on the matter as early as April. To our knowledge, it hasn’t happened yet.

So how can advisers help their clients navigate this mess? In our New York practice, where appreciated real estate typically makes up a sizable portion of our clients’ estates, the difference between 2009, 2010 and 2011 estate tax law can mean the difference between hundreds of thousands of dollars in after-death tax obligations.

We are advising clients who are affected to postpone filing any forms for the maximum-allotted nine months after death and then — if there is still no resolution on this issue — filing for a six-month extension. Although this is far from the ideal solution, it gives us the ability to cross the threshold into 2011 to avoid any last-minute 2010 tax code changes that come out of Washington.

If Washington sets the tax law back to 2009 levels, we will implement traditional estate planning by moving the assets of married couples into family and credit shelter trusts, setting up irrevocable trusts and building family limited partnerships, where appropriate, to limit the estate’s exposure to taxes. If Washington does nothing, the first several months of 2011 will be spent working with forensic accountants to catalog the appreciated value of homes, minus any capital improvements, tracing stock portfolios through every split and reverse spilt that occurred while they were owned, and finding ways to depreciate the value of family businesses.

This is an inelegant solution at best, but it is the only practical way to help families settle their affairs amid this kind of ambiguity. There is simply no certainty in the current scenario.

Instead, people such as Charles, an 86-year-old real estate entrepreneur who lost his wife last month, are left in limbo, unable to move forward with the estate plans that they have worked a lifetime to build. Charles has a $5 million estate consisting of his home, some investment properties and a bond portfolio that he would like passed on to his son and two daughters when he dies.

Like many entrepreneurs, he is also a Type A personality, for whom the process of grieving over his wife’s death involves the catharsis of paperwork and organization.
It is a crime that I can offer no more advice to Charles and the dozens of clients I have who are just like him, other than, “We will have to wait and see.”

These are the people that made the right choices in life. They saved; they prepared; they created jobs and greased the wheels of the American economy like living, breathing stimulus programs.

Their payback for all that? If they happen to be unlucky enough to die this year, they become bargaining chips in Washington’s latest power struggle.
Mr. Levin is right about one thing: We need a resolution sooner rather than later.

Whether the estate tax is reinstated or repealed isn’t the issue.

What we need is certainty around the law so that the people who have lost their loved ones this year can begin the healing process. To allow deliberation on this issue to drag on for months would be shameful for our nation.

Mark S. Eghrari is a fellow of
the American Academy of Estate Planning Attorneys.