Estate Tax issues

The Estate Documents Set is designed specifically for persons whose total estate is worth less than the federal Estate and Gift Tax Exclusion.

The reason for this limitation is that if your estate is presently or likely to grow above this limit, you may need estate tax planning. We will very briefly look at the topic here.  If you are above or near this estate size, I suggest you consider estate tax planning.

• Overall Structure

The Federal Estate Tax system taxes all gifts during one's lifetime and disbursements upon death. Basically, this means that you should keep track of all gifts during your lifetime, add that total up, and then at your death the gross value of your estate is added to that amount.  The resulting figure is known as your taxable estate. Federal law imposes a tax upon this amount.

WARNING: Congress is likely to make changes to the estate and gift tax provisions during 2009 and California probably will as well.

• Lifetime Exclusion

 As of 2009, each person has a lifetime estate tax exemption of $3.5 million. Each person also has lifetime gift tax exemption of $1.2 million.

In practice, this means that you can make gifts of up the amounts shown during your lifetime and/or at death to other persons or organizations without paying any federal estate tax. In other words, you add up the value of all your gifts during your life and whatever you pass upon death to arrive at the total.

• Annual Exclusion

In addition, you can make a gift during your lifetime of up to $13,000 per year, per person, to any number of people. This permits a very large transfer of assets during your lifetime without any federal estate or gift tax liability.

• Included Assets

For estate tax purposes, the gross estate includes all property or interest in property before reduction by debts (except policy loans against insurance) and mortgages, or administrative expenses. Included in the gross estate are items such as real estate, tangible and intangible personal property, certain lifetime gifts made by the decedent, property in which the decedent had a general power of appointment, the decedent's interest in annuities receivable by the surviving beneficiary, the decedent's share in community property, life insurance proceeds (even though payable to beneficiaries other than the estate), inherited property of the surviving spouse, and, with certain exceptions, joint estates with right of survivorship. It may come as a surprise, but you must also include the payoff value of any life insurance. This often puts an estate in range of the need for estate tax planning.

There are a number of other inclusions that can markedly increase the size of a taxable estate.  Again, if you are in the vicinity of the exclusion amounts listed in the table above, please discuss with me how to value your estate.

• Tax Basis Step-up Issues

One of the consideration for estate planning is the tax status of property distributed upon a person's death.  This is a complex topic and we cannot treat it in depth here.  The new tax law significantly alters the rules for basis step up. We urge you to consult an attorney or CPA in this regard. some definitions:

• Basis - the original cost of an asset plus certain additions, used to calculate the taxable profit of the asset upon sale.
• Step-up (or down) of basis - The increase or decrease in basis given at the death of the owner.  Usually, the new owner's share of the asset is given a new basis, usually the fair market value at date of death.
• Community property - California is a community property state with extensive provisions for ownership rights. 

There are differences in the step-up in basis depending upon the form of ownership of the asset.  Property owned by an individual receives a step-up in basis to the current market value at the date of death.  Where property is held in joint tenancy, only the share paid for by the deceased joint tenant receives the step-up in basis. The other portion retains the original basis.

Community property, however, is treated differently.  The entire asset is given a step up in basis upon the death of one married partner.  This can be a significant benefit to the surviving spouse.

To illustrate, consider an asset purchased for $100,000 by A and B, a married couple. A dies and the asset has a fair market value of $200,000 on the date of death. The difference in treatment of joint and community property looks like this:

Joint		Community
A's share receives NO step up in basis	B's share retains its basis at $50,000	A's share receives a step up in basis to $100,000	B's share retains its basis at $50,000
After A's death, B sells the asset for $200,000
B's basis = $100,000		B's basis is $150,000
Taxable gain= $100,000		Taxable gain = $50,000