January 7, 2013

Estate Planning Under the American Taxpayer Relief Act of 2012

Permanent Estate, Gift and GST Exemptions and Rates

The American Taxpayer Relief Act of 2012 was signed into law on January 2, 2013, and has finally provided a degree of certainty regarding the federal transfer tax system, making permanent the exemption levels from the 2010 Tax Relief Act. This means that the federal estate, gift and generation-skipping transfer ("GST") tax exemptions are all set at $5 million, indexed each year for inflation. The rate for each of these taxes on transfers in excess of the exemption amount increased from 35% to 40%.

Sharing Exemptions

The Act also makes permanent the provisions introduced in the 2010 legislation that allow a surviving spouse to make use of the unused federal estate tax exemption of a deceased spouse. These provisions do not apply to the $1 million exemption from the Massachusetts estate tax (or on similar exemption amounts in other states that impose an estate tax), and do not apply to the GST tax exemption. This provision has the potential to make estate planning simpler for some clients, but in many cases relying on these provisions will not produce optimal tax reduction.

Taking Another Look

While many existing estate planning documents contain formulas which will allow you to get the maximum tax benefits from the newly permanent higher exemption amounts, you should review your estate plan to make sure that the formulas produce the results you want from a personal perspective. For instance, in light of the higher exemption levels:

  • A Family Trust, typically for your spouse and descendants, which previously would have been funded with $1 million will now be funded with $5 million (indexed), effectively reducing the amount set aside for the surviving spouse’s sole benefit.
  • A trust for grandchildren intended to hold assets exempt from GST tax would have held $1.5 million in 2004 or 2005 but will receive $5 million (indexed) if created under the trust instrument of a donor who dies now, potentially reducing the amount available for children.

      In many instances a simple change such as a cap on funding amounts may address this concern, but you also may wish to revise your plan more broadly to take advantage of the opportunities afforded by larger exemption amounts.

      Continuing Opportunity for Lifetime Gifts

        <p">Lifetime gifts continue to be an excellent method of using the newly permanent exemption amounts to minimize overall transfer tax exposure. Benefits of making lifetime gifts include:
        • Allowing recipients to enjoy transferred property during your lifetime.
        • Keeping future appreciation on the transferred property out of your estate.
        • Taking advantage of current tax laws which may be changed by proposals currently before Congress, such as an effort to limit the maximum term of GST trusts.

            Charitable Rollovers from IRAs

                  The American Taxpayer Relief Act of 2012 reinstates and extends until the end of 2013 the IRA charitable rollover opportunity previously available through the end of 2011. The Act permits direct charitable rollovers by taxpayers 70½ or older of up to $100,000 from traditional and Roth IRA accounts to certain charities other than private foundations and donor-advised funds. In order to take advantage of this opportunity for 2012, you must make the distribution by February 2013. This technique allows donors to avoid income tax on charitable contributions that might otherwise be subject to deductibility limits, and it also might lower a donor’s state income taxes in certain states.