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The State of Estate Tax

By Mark Prendergast
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There has been much debate over the current and future state of the Federal estate tax. Congress was close to extending the estate tax exemption and rate from 2009 into 2010, but as of the end of 2009 no changes were passed and the estate tax is repealed in 2010. In early December 2009, the House of Representatives passed legislation to make the 2009 terms permanent into 2010 and beyond. However, the bill did not make it through the Senate, where it was blocked by the majority who reportedly wanted more generous conditions.

"Estate tax is the levy on the value of property changing hands at the death of the owner, fixed mainly by reference to its total value. Estate tax is generally applied only to estates whose value exceeds a set amount, and it is applied at graduated rates.

An estate tax was first instituted in the United States in 1898 to help finance the Spanish-American War; it was repealed in 1902 but permanently reimposed in 1916, initially to help finance mobilization for World War I. Methods of avoiding estate tax (e.g., gifts and trust funds) were largely foiled by the U.S. Tax Reform Act of 1976." Encyclopedia Britannica

As it stands at this printing, the $3,500,000 exemption and 45% tax rate above that amount for 2009 is repealed in 2010 --- meaning no estate tax will be imposed for any person passing away in 2010. As per the Economic Growth and Tax Relief Reconciliation Act of 2001, the estate tax exemption will be enforced again in 2011 with a $1,000,000 exemption and a 55% tax on assets above that mark.

Year Estate Tax Exemption Tax Rate after exemption
2009 $3,500,000 45%
2010 No Estate Tax No Estate Tax
2011 $1,000,000 55%
2012 To be determined To be determined

If estate tax in 2010 remains repealed, it is not necessarily a plus for most Americans and will affect more than the less than 1% of the population with estates of value over the former exemption amount. While there will be no estate taxes per se, there will be capital gains taxes to be paid by heirs of estate assets. With an estate tax in place, the value of assets in an estate is determined as of the date of death --- thus creating a new cost basis. This "step-up" in basiswill not happen, thus requiring that any capital gain tax be assessed based on the original cost basis of the asset. This will mean that heirs themselves will be faced with potentially more taxes rather than the bulk of the taxes being paid by the estate prior to distribution.

There is speculation that in early 2010 Congress will ratify a bill that continues the 2009 exemption/rate and retroactively impose the estate tax to the beginning of the year. That remains to be seen.

"There are plenty of instances where Congress has changed tax laws retroactively, but this one is particularly high-profile," said George K. Yin, a tax professor at the University of Virginia Law School and former head of the Congress' Joint Committee on Taxation. "Since Congress has had so much difficulty around a permanent estate tax solution to begin with, there's no reason to think a retroactive solution would be less controversial."

Beneficial or not to new estates and their heirs, we enter 2010 with no estate tax this year.

Back to the Trusts & Estates page.