Possible Estate Tax Changes

At long last the election is one day away. The barrage of advertising, phone calls and mailings will stop and we will have a new President in 2009. What does that mean for estate planning? I have written in the past that both candidates believe change is necessary. In 2009, the exemption automatically rises to $3.5 million. There is no estate tax for one year, 2010 (although there would be no step up in basis for income tax purposes), and then in 2011 the estate tax exemption reverts to only $1 million.

The candidates realize this law is flawed and needs to be fixed. Obama is on record as saying a $3.5 million exemption amount is appropriate. McCain favors a $5 million exemption amount and lower tax rates. With Democrats expected to pick up seats in both the Senate and the House, and in this financial environment, who knows what the amount turns out to be.

Aside from the exemption amount, however, a major change may be the issue of "portability." Under current law, in 2009 when exemption amounts are $3.5 million, a husband and wife do not automatically receive the benefit of protecting $7 million from estate tax. If all of the assets go directly to the surviving spouse by Will, title or beneficiary designation, the surviving spouse, at the second death, is only able to protect one exemption amount.

E.g., husband has $3.5 million and wife has $3.5 million. Husband dies and all assets are now owned by his spouse. There is no tax at his death but at her death she has $7 million of assets and only one $3.5 million exemption amount. Thus, there is over $1.5 million of tax to pay.

If, however, the husband’s exemption was "portable," even though all of his assets went to his spouse at his death, she would still receive the benefit of $7 million of estate tax protection at the second death. Now, since there is no portability, a married couple only receives the benefit of both exemption amounts if assets are transferred into a credit trust at the first death and the couple’s assets are properly arranged. If there was portability, the major inconvenience and complication of changing titles and beneficiary designations would be avoided.

Although increasing exemption amounts would be a major benefit for affluent individuals, a step that would be just as important and could help even more married couples would be if exemption amounts were portable.