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The Federal Estate Tax system is undergoing a
dramatic change under recently passed legislation. It is still
a "unified" tax on
all gifts during one's lifetime and disbursements upon death until
the year 2010 when the Estate tax will be terminated and gift taxes
will be at the highest rate for income taxes. It is easiest to understand
the present system as an exclusion -- you are entitled to exclude from federal taxation an estate worth the
amounts in the following table:
Tax
Year |
Estate
and Generation Skipping Transfer Tax DEATH transfer exemption |
Highest
Estate and Gift Tax Rates |
| 2002 |
$1 million |
50% |
| 2003 |
$1 million |
49% |
| 2004 |
$1.5 million |
48% |
| 2005 |
$1.5 million |
47% |
| 2006 |
$2 million |
46% |
| 2007-2008 |
$2 million |
45% |
| 2009 |
$3.5 million |
45% |
| 2010 |
No taxes |
Gift taxes at
top individual tax rate |
Lifetime Exclusion
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. Starting
with the year 2010, the exemption no longer exists and there are no
estate taxes. Gifts during life are taxed at the highest
individual tax rate.
Annual Exclusion
In addition, you can make a gift during your lifetime of up to $10,000
per year, per person, to any number of people. This permits a very large transfer of
assets during your lifetime without any federal estate tax liability.
Included Assets
All assets in your estate are figured at their net market value as of
the date of the transfer by gift or upon death. That means that you take the market value
and subtract secured loans against the asset. For example, a house that has a market value
of $180,000 but a mortgage of $150,000 is worth $30,000 for this purpose.
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.
In addition, the IRS will include the FULL value of any joint property of
which you were an owner. It is then up to the other joint owner to prove that they paid
for part or all of the asset. to the extent they can show such proof, your estate is
reduced in value.
Tax Avoidance
There is a basic rule of thumb to apply -- if you own it is taxable. There are many
exceptions to this rule, but most are not available without elaborate planning and
expensive fees.
One exception is relatively easy -- give it to charity (an IRS tax exempt organization)
and it is not included in your taxable estate. this may not be practical if you need to
provide for those who survive you. However, several devises are available to accomplish
both goals. These are methods that (1) allow for you to enjoy the income from the asset
during your life and then give it to charity upon your death and (2) allow you to
designate someone to enjoy the income after your death, the asset going to the charity
upon their death.
There are other devices and methods of dealing with estate taxation and we urge you to
consult a professional in this regard. Our Estate Documents Sets are 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. If you are
above or near this estate size, we suggest you consider estate tax planning.
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 a step up in basis to
$100,000 |
B's share retains its basis at $50,000 |
A's share receives a step up in basis to
$100,000 |
B's share receives a step up in basis to
$100,000 |
| After A's
death, B sells the asset for $200,000 |
| B's basis = $150,000 |
B's basis is $200,000 |
| Taxable
gain= $50,000 |
Taxable
gain = $0 |
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