Matthew Curtiss, Esq

Will the Estate Tax Disappear? - WSJ.com

Many people hope the federal estate tax will disappear next year, as scheduled. They could be sorry if it does.

Back in 2000, Congress enacted a gradual loosening of the estate exemption. It has since risen to its current level of $3.5 million per individual, or up to $7 million per couple. The tax is scheduled to lapse just for next year and return in 2011.

Washington insiders are betting lawmakers won't let that happen. Instead they believe Congress is likely to act before the end of this year to extend the current system through next year. And perhaps they should, because getting rid of the estate tax actually would cause problems for most taxpayers.

At issue is the "step-up in cost basis" that all assets receive when an owner dies. The way the law is currently written, if the estate tax goes away, so does the step-up in cost basis. That's where the problem lies.

via online.wsj.com

The step-up in basis is one of the most valuable tools utilized in estate settlement. In most non-taxable estate, setting the basis for properties can be the most important tasks because of the step-up rule.

Presume that husband passes away owning 1,000 shares of Coca-Cola bought in 1960 for $1/share. In 2009, it is worth $80 share. If husband sells the stock prior to his death, he would report capital gains on the $1 purchase price (the basis). If he passes away holding that stock, the basis "steps up" to the date of death value in 2009. The surviving spouse then can sell the stock if necessary using the 2009 basis as a starting point. Much less capital gains, much better result for the heirs.

If the step-up rules go away when the estate tax goes away, surviving spouse has little incentive to sell that stock due to the taxes.

With tangible goods such as antiques, valuations in the estate process (especially in a non-taxable estate)  can be very important (to set the basis) but relatively easy because you are looking at a date-of-death snapshot of that asset.  If no step-up, an antique may need to be valued at purchase date (for basis purposes ) and date-of-death (for inventory purposes). 

Seems like wishing away the estate tax isn't such a black and white issue.

Congress begins to work on the Federal Estate Tax

With all of the talk of health care, public options, spicy mustard, socialism, and Michelle's arms; its nice to see some members of Congress address the approaching year-long federal estate tax repeal.  NACSOnline has a nice overview of what proposals have been  put forth to date:

• H.R. 436 – Rep. Earl Pomeroy (ND-at large):
Makes the current exemption of $3.5 million and the rate of 45% permanent. (Estates between $10 million and $23.5 million would be taxed at 50%.).

• H.R. 96 – Rep. Michael Conaway (TX-11): Increases to $1.85 million the maximum reduction amount for alternative valuations of farmland and other business property for estate tax purposes; and restores after 2009 the estate tax deduction for family-owned business interests and increase such deduction to $2 million. Allows annual inflation adjustments to such increased amounts after 2010.

• H.R. 173 – Rep. John Salazar (CO-3): Excludes from an individual’s estate farmland so long as the land continues to be used for farming. To exclude such farmland from the total estate, the individual must have earned 50% of their gross income from farming in at least 3 of the 5 years from the individual’s last tax year and during 5 of the 8 years prior to the individual’s death the land must have been used for farming. If the land is subsequently sold or no longer used for farming a tax will be applied on the heirs.

• H.R. 205 – Rep. Mac Thornberry (TX-13): Repeals the federal estate, gift and generation-skipping transfer taxes.

• H.R. 498 – Rep. Harry Mitchell (AZ-5): Restores the unified credit against gift tax liability; provides for annual increases in the estate tax exclusion amount between 2010 and 2015 and establishes a permanent exclusion amount of $5 million for 2015 and thereafter; provides for an inflation adjustment to the estate tax exclusion amount after 2015; reduces estate tax rate brackets; and allows a surviving spouse to use the unused unified estate tax credit of a deceased spouse.

• H.R. 2023 – Rep. Jim McDermott (WA-7): Sets a $2 million per-person exemption, indexed for inflation, and imposes a 55 percent top rate.

• H.R. 3524 – Rep. Mike Thompson (CA-1): Prevents the value of inherited farmland from being subject to the estate tax if the decedent’s family continues to own it and farm it.

I do like the attempts to keep working farmland totally or partially exempt from tax; as it benefits non-corporate farmers.

For what its worth, with the hearth-care bill taking up so much time, I wouldn't be surprised to see a one year rollover of the current rates and exemptions.

Thanks to the Wills, Trusts and Estates Prof Blog for the heads up.

Fourth Rell Budget Would Lower Sales Tax; Eliminate Estate Tax

The governor's proposal eliminates the inheritance tax and reduces the sales tax from 6 per cent to 5.5 per cent.   It exempts small and medium-size businesses from the proposed temporary corporate surcharge.
   She called her proposal a "true compromise"  and said she'd prefer not to offer such a budget plan. 

via www.wtic.com

Of course, tax cuts likely mean tax increases elsewhere. Income taxes for people making $500K plus: up. Sin taxes: up

No Tax Break for Burning Down Your House

In 2004, ESPN's Kirk Herbstreit and his wife donated their house to the local fire department for the purposes of fire training.  After the donation, the Herbstreits took a $330K deduction on their tax return.

The IRS audited their return....and rejected the deduction; assessing $134,606 in back taxes and interest.

The IRS position in many of these cases is that the homeowners are donating merely the structure and not the land.  I'm sure the homeowner for his part deeded over the entire interest and would never agree that the land wasn't the part of the deal.

The Herbstreits paid the taxes and interest and are now suing for the return of the money.

CT Democrats propose 30% surcharge on Estate Tax

Something to watch:  Connecticut Democrats are proposing a 30% surcharge on the Connecticut estate tax over the next three years in an effort to shore up the state budget.

Seems a little onerous, especially since the US Congress hasn't acted on the Federal estate tax. 

I could see this surcharge being passed, but I would hope that it would be in conjunction with the raising of the state $2M credit to be in line with the current $3.5M applicable exclusion.

Life Insurance and its affect on Estate Plans

Life insurance is a useful tool to cover estate taxes when an estate tax is likely and a client may not have the liquid assets to cover it.  Many clients own real estate, interests in a family business, or other illiquid assets which the client may wish to preserve for future generations rather than sell to pay taxes.

Enter life insurance. 

But a problem is arising.  Clients have been able to depend on the the interest earned on life insurance plans to pay the annual premiums.  According to a blog post by Professor Paul L. Caron over at TaxProf Blog, the recent downturn in interest rates have decreased the amounts earned which may cause the policy owner to be liable for the premium.  As the Wall Street Journal article (which Professor Carton cites) states, the prospect of lapsed policies due to unpaid premiums is very real and such lapses are expected to increase.

One of the many reasons I appreciate belonging to the   Estate and Tax Planning Council of Eastern Connecticut and having talented and knowledgable insurance people available for help on issues such as this.

Art as a Tax Deduction

Collectors of fine art used to be able to "donate" paintings, sculptures, etc to museums and take advantage so-called "fractional gifting"- a method to avoid capital gains tax.  From what I gather from this WSJ article (subscription possible required), owners of fine artworks could loan out the pieces to a museum for a partial year, take a deduction as part of the reduction in value of the art by the virtue of it being in the possession of the museum, and continue to do so over time until the value was exhausted.

Not so anymore.  The article states that, in light of changes made in 2006 as part of a pension-reform law, the IRS now looks at the value of the painting at the time of the first gift.

The article illustrates the before and after effects as follows:

Here's how it worked: The donor would take a deduction based on the first contributed stake -- say, $4,000 for donating a third of a $12,000 painting. If the collector donated another one-third stake later, and the $12,000 painting had appreciated to $30,000, the next deduction would be $10,000. The donor could continue to take advantage of this until he gave away the entire interest in the artwork, and he could take as many years as he wished to do so.

.....

Today, it doesn't matter if that $12,000 canvas leaps in market value to $30,000; art contributors can't take ever-larger deductions if the donated artwork continues to rise in value. As far as the Internal Revenue Service is concerned, for deduction purposes, the value remains frozen at $12,000, the value at the time of the initial gift. Worse for donors, if the artwork happens to depreciate, later calculations are based on that lesser value.

Additionally, art givers now have only 10 years -- or until the donor dies, whichever comes first -- to hand the work over to a museum for good. Otherwise, the IRS recoups a portion of the deduction, plus interest and penalties.

The downside to all of this?  Donations to museums are down and curators are complaining to their congressional representatives.

The article further delves into other methods of tax planning for artwork:  charitable remainder trusts and donor-advised funds.

Myself?  I'm keeping my "Dogs Playing Poker" print on my office wall.