Tax Briefing: A Reminder of the Issues

The Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010 (the “2010 Act”) made significant changes to the federal gift tax laws. Among other things, the 2010 Act provided that in 2011, the total lifetime gift tax exemption increased from $1,000,000 to $5,000,000. With indexing for inflation, the current lifetime exemption from gift tax is $5,120,000 ($10,240,000 for married couples who agree to “gift split”). Unless Congress acts to extend the provision, the gift tax exemption will revert to $1,000,000 (indexed for inflation), with a 55% tax rate on gifts exceeding the exemption, on January 1, 2013. Given the current budget crisis, Congress may also act to reduce the exemption amount prior to 2013. Accordingly, if you are in a position to do so, we strongly recommend that you take advantage of your gift tax planning opportunities sooner rather than later.

For residents of New York and New Jersey, an added incentive to utilizing the full $5,120,000 federal gift tax exemption now is the potential to save state level estate tax.  A majority of states, including New York and New Jersey, do not impose a gift tax on lifetime gifts.  In addition, for New York and New Jersey estate tax purposes, the “taxable estate” does not add back taxable gifts made during lifetime. However, New York and New Jersey do impose an estate tax on taxable estates in excess of $1,000,000 and $675,000, respectively.  This tax is in addition to any federal estate tax that may be due. Accordingly, by gifting assets during lifetime instead of transferring them upon death, New York and New Jersey residents have the opportunity to save significant state estate tax (e.g., approximately $500,000 if a New York resident were to transfer the full $5,120,000 exemption amount during his lifetime) without any federal gift tax being incurred. Making lifetime gifts will provide additional estate tax savings, at both the federal and state level, if the gifted assets appreciate between the date of the gift and the date of the transferor’s death, as such appreciation will not be subject to estate tax.

The 2010 Act also increased the generation-skipping transfer (“GST”) tax exemption available for allocation to lifetime gifts to $5,000,000 (currently $5,120,000 taking into account the adjustment for inflation). The GST tax is a surtax that may be imposed (in addition to the estate and gift tax) on certain transfers, including transfers to long-term trusts that ultimately benefit grandchildren, more remote descendants or others assigned to those generations. Accordingly, if GST tax exemption is allocated to gifts made to long-term dynasty trusts, the gifted property as well as the appreciation on that property can be removed from the estate and gift tax system for multiple generations.  Like the gift tax exemption, the GST tax exemption is also scheduled to decrease to $1,000,000 (indexed for inflation) on January 1, 2013, so it is important to take advantage of this opportunity to benefit future generations as soon as possible.

A further reason to act now is that under President Obama’s proposed budget, property held in a generation skipping trust created after the date of enactment will be subject to an estate tax at the end of ninety (90) years whether or not distributed. Trusts in existence before enactment would be grandfathered. Therefore, establishing such trusts in states that permit perpetual terms prior to the enactment of any such legislation is strongly advised.

The President’s budget proposes additional revenue raisers that will foreclose or limit the appeal of some common gifting strategies, including grantor retained annuity trusts (GRATs), the application of valuation discounts to interests in family-controlled entities, and the use of “grantor trusts.” Accordingly, we suggest giving your prompt attention to these strategies while they are still available.  Options exist for those who are concerned about having a “safety net” and are not comfortable giving up future access to the full $5,120,000 exemption amount. For example, an individual who makes a gift to a dynasty trust can provide that the individual’s spouse may receive distributions from the dynasty trust for the spouse’s support, thus providing access to the gifted assets in the event they are needed in the future.

Gov. Romney’s proposal, of course, is the repeal of the “death tax”.  It seems unlikely, but it is, at best, unclear whether or not his election will bring Republican majorities in both the House and Senate.


Posted in Status of Tax Legislation, WillPlan Blog.

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