Even though it may be half of what it used to be as a result of the implosion of our economy over the past eighteen months or so, it is time to look at your estate to ensure the "i's" have been dotted and the "t's" have been crossed.
Sure, it has been difficult to open your investment statements lately. Many have found it easier to just put the mail in a drawer and hope it was all a dream. Estates have been cut in half and we are not out of the woods yet, but this is a perfect time to revisit your estate planning to ensure that your goals and objectives are still on track.
The Future Of Estate Taxes
Financial planners, estate attorneys and legislative gurus are all bustling about the future of the estate tax. As many already know, under the current legislation (known as the Economic Growth Tax Relief Reconciliation Act of 2001 or EGTRRA), the federal estate tax has changed almost annually over the past few years and will phase out of existence entirely next year. But if things do not change in Washington, it comes back with a vengeance in 2011 at thresholds known prior to E.G.T.R.R.A. Currently, the exclusion for estate taxes rests at $3.5 million ($7 million for married couples) and the top tax rate stands at 45%. In 2011 the exclusion drops back to $1 million ($2 million for married couples) and the top tax rate rises to 55%.
Most experts agree that with the economic crisis that is still underway and the budgetary challenges occupying the current administration and congress, estate taxes are here to stay - at least for the time being. Legislation has already been introduced keeping the exclusion at current levels and marrying the lifetime gift tax exemption to the exclusion. It is still too early to know the ultimate fate of this proposal or any others bound to be proposed in the coming months. However, those in the know believe that proactive tax planning is still an important reason to revisit your estate plan.
Outdated Plans May Alter Your True Intent
As mentioned above, the federal estate tax has changed significantly over the past few years. If you engaged in estate planning pre-EGTRRA, then it is vital you revisit that plan.
Why? One example is the Credit Shelter Trust (CST). A very common technique employed by estate planners pre-2001 was the use of the CST - a mechanism drafted into a person's Will designed to capture that individual's Unified Credit amount (lifetime estate tax exclusion) so that it would not be forfeit at their death. This tool is still an important one, but often the language in older Wills might direct that an amount equal to a person's Unified Credit would pass into the CST and only the remainder would go directly to the surviving spouse. While this may have been fine in 2000 when the Unified Credit was $1 million, today it may not be exactly what you want. For instance if your estate was $8 million in 2000, $1 million would have gone into the CST and $7 million would have passed to your surviving spouse at your death, estate tax free as a result of the unlimited marital deduction (spouses that are both US citizens may pass an unlimited amount to one another during life and at death without any estate tax consequences). Now it is 2009, and your estate may be worth only $4 million after the recent decline in net worth that has effected almost everyone. If you did not modify the language of your Will, $3.5 million would pass into the CST at your death and your surviving spouse would be left with only $500,000 - probably not your true intent.
Decoupled = A Need To Plan
Before EGTRRA, a credit was allowed in the calculation of the federal estate tax for taxes paid to any state as a result of death, subject to the limitations spelled out in Internal Revenue Code (IRC) Section 2011. As a result, many states limited their estate tax to the amount of that federal estate tax credit, essentially having the federal government share a portion of its estate tax revenue with the states at no additional cost to the estate of the deceased individual. EGTRRA changed the game.
Beginning in 2002, this federal estate tax credit was phased out entirely by 2005. Now with the new IRC Section 2058, a deduction from the value of the gross estate is allowed for the total amount of tax paid to any state as a result of an individual's death. As a result of the phase out of the credit, many states (18 so far) chose to "decouple" their estate tax legislation from the federal credit as to avoid the eventual elimination of their estate tax revenue.
The question remains, why is this important? Some may be thinking that they are not going to be effected by estate taxes now that the federal lifetime exclusion is at $3.5 million. Married couples may be resting comfortably if their estate is below the $7 million mark. After all, even the IRS says that under the current thresholds only about 2% of Americans will be effected by federal estate taxes. However, as a direct result of the decoupling, many states have exclusion amounts well below the current federal level. While you may end up owing no federal estate tax, without proper planning your state may take a hefty chunk away from your heirs.
New Jersey made significant revisions to its estate tax law on July 1, 2002. The Garden State imposes an estate tax designed to absorb the maximum federal credit in existence prior to 2002. In New Jersey, only $675,000 of an estate is exempt from taxation even though the federal level this year is $3.5 million. New Jersey also has an inheritance tax that is imposed at graduated rates for property having a total value of $500 or more passing to a beneficiary. Grandparents, parents, children (step-children and adopted children included) and their issue are exempt from this inheritance tax.
Taxes Are Just One Reason
While the effort to avoid unnecessary taxation is an important motivation for sitting down with professionals to craft your estate plan, there are many other non-tax related reasons to ensure what you mean is actually what is carried out. Clarity is vital. While being vague may add to your mystique during your lifetime, it can wreak havoc after your death if you employ that characteristic within your estate documents. An example is a well meaning father who finally gave in to his daughter's pleas not to cut her estranged brother entirely from his Will. The phrase he employed was "and to my son Timothy, I leave 25 percent of my estate". While initially pleased that her father gave in to her wishes, the two and a half years she spent in an out of court while her brother contested the value of every single asset to ensure he got his 25 percent left her emotionally and financially devastated. This could have been avoided with a dollar bequest instead of a percentage.
Leaving assets outright to children also may serve to sabotage your intended goals and objectives. They may be better served by placing assets in Trust for their benefit. The Trust could distribute income to them on a regular basis and provide for access to principal for certain things such as healthcare, education, maintenance and support. The Trust may also serve to safeguard their inheritance from outside creditors and litigants as well as ensure that your wealth ultimately benefits just your bloodline. You might even try to impart your values by mandating charitable work in order to receive distributions from the Trust, or incentivize a strong work ethic by offering to match a certain amount of every dollar they earn through their own enterprise.
An experienced estate planning professional can offer guidance as to the nuance that can be employed through your estate documents.