Colorado Probate Blog - Wade Ash Woods Hill & Farley, P.C.

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Don’t Defer Planning Your Estate Because The Estate Tax Might Be Repealed

In 2001, when the estate tax exemption was $675,000 and George W. Bush was President, Congress “repealed” the estate tax. But the repeal was phased in over ten years and was then scheduled to last for only one year. Instead of actual repeal, what we got, under President Obama, was a reinstated estate tax with a much higher exemption of $5 million, indexed for inflation. The Republican party now controls both houses of Congress as well as the White House, and we are again hearing calls for repeal of the estate tax.

What Might Happen

Despite the Republican trifecta, outright repeal of the estate tax may not be easy, and there are many unknowns as to what repeal legislation might actually look like. In the Senate, it takes 60 votes to overcome a filibuster. The Republicans have 52 votes, so outright repeal would require some Democratic defections. It is more likely that repeal will be enacted using the budget reconciliation process. Under reconciliation, tax and spending legislation may be passed with a simple majority, but the “Byrd” rule requires that the legislation not increase the deficit outside of the budget window— typically ten years. That is why the Bush “repeal” was phased in and then “sunsetted” after ten years. We might see something similar in 2017.

Two documents provide some limited guidance as to the shape that estate-tax repeal might take. One is the Trump platform. The other is a document published last June by Republicans on the House Ways and Means Committee (the House’s tax-writing committee), called “Better Way for Tax Reform” and commonly referred to as the Republican “Blueprint.” Both the Trump platform and the Blueprint call for repeal of the estate tax. The Blueprint calls for repeal of the generation-skipping transfer tax (GSTT) as well; the Trump platform is silent on the GSTT. Both the Trump platform and the Blueprint are silent on the gift tax. Most experts believe that if Congress repeals the estate tax it will also repeal the GSTT. Some experts predict that the gift tax will be retained, however, because it “backstops” the income tax by inhibiting transfers of income-producing property in order to shift income to taxpayers in lower income-tax brackets.

It is also unclear what might happen to income-tax basis at death. Under current law, most assets held at death receive a new basis equal to fair market value at that time. This is often called “stepped-up basis” on the assumption that, over time, property values rise, but the adjustment may be either upward or downward. Under the Trump platform, “capital gains held until death and valued over ten million dollars will be subject to tax to exempt small business and family farms.” This language raises a number of questions: Is the $10 million exemption $10 million in asset value or $10 million in unrealized gain? Does the exemption apply only to small businesses and farms, or does everyone get a $10 million exemption? Is the $10 million exemption per person or per married couple?  Will the capital gain tax be payable at the time of death or only later when the person who inherits sells the asset?  For now, the answers to all these questions are speculative.

The Republican Blueprint does not specifically address the issue of basis at death, leading some to conclude that the Blueprint calls for repeal of the estate tax but retention of stepped-up basis, while others believe that if the estate tax is repealed, there will be a carryover basis system, under which the decedent’s beneficiaries will take the same basis the decedent had, so that capital gain unrealized at death will eventually be taxed when the asset is sold.

When Might Repeal Happen?

It is possible that a tax reform bill, including repeal of the estate tax, will be signed into law in 2017, but political pressures and other priorities may prevent addressing the estate tax this year. It seems likely, though, that some form of estate-tax repeal will be enacted during the current administration. But whenever estate-tax repeal is enacted, and in whatever form, it is not likely to be permanent, either because there will be a sunset provision as a result of the Byrd rule or because the tax can be reinstated under a future administration.

What Should You Do in the Meantime?

First, it is important to understand that under the current law, only about 0.2% of all Americans will owe any estate tax. For the other 99.8%, the estate tax was effectively repealed in 2012 when the estate tax exemption was increased to $5 million with an inflation adjustment. If you are in that group, you should plan your estate based on non-estate tax factors, some of which are discussed below. But importantly, if you are in this group and you have an estate plan that has not been updated recently, your plan may include provisions that made good sense when the plan was signed but that are no longer needed, or worse, that have adverse tax consequences under the current law and under possible repeal of the estate tax. In that case, you should have your estate plan updated promptly.

If you are among the 0.2% who may have to pay estate tax, you should proceed with caution, but doing nothing is not advisable. It is best to hold off on implementing any purely tax-driven strategies until we know more. But engaging in planning that can be accomplished without incurring any current gift tax might (1) minimize tax under the current law, (2) do no harm if the estate tax is repealed, and (3) possibly protect property from future estate tax if the repeal includes a sunset provision or if the tax is simply re-enacted later under a different administration. And estate plans should be reviewed now to make sure that they include as much flexibility as possible so that the plan can adapt to changes in the law. Flexibility might take the form of broad discretion in trustees over trust distributions, the use of “powers of appointment” and “trust protectors” to allow the powerholder or protector to modify trust provisions in the future, and “formula” provisions that will operate one way if there is still an estate tax and another way if not.

Nontax Reasons for Estate Planning

Regardless of whether you think your estate will or will not be subject to estate tax, there are a number of nontax reasons to have an estate plan and to keep it up to date, for example: ensuring that your property passes only to those you wish to benefit; providing professional investment management; protecting property from creditor claims, from demands by persons who may have influence over your beneficiaries, and from claims of a beneficiary’s spouse if there is a divorce; ensuring that an incapacitated beneficiary may receive needs-based government benefits as well as benefits from your property that enhance the beneficiary’s quality of life; and providing the means for a family “legacy” asset, such as a vacation home, to remain in the family.

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