Estate Tax Back on the Bargaining Table?

In early January, in order to avoid the so called “Fiscal Cliff,” the estate tax exemption was “permanently” increased to $5.25 million, indexed for inflation. In addition, the gift and generation-skipping transfer (GST) taxes were increased to $5.25 million. This law removed almost the entire national population from concerning themselves with the estate tax and allowed people to focus on other aspects of estate planning.

Now, with Obama’s new budget proposal, those permanent provisions are back on the bargaining table. The President’s budget proposes reinstating the estate, gift, and GST taxes to 2009 levels beginning in tax year 2018.

Thus, the estate tax exemption would be reduced from $5.25 million to $3.5 million and will not be indexed for inflation, and the estate tax rate would be increased from 40% to 45%. The gift and GST tax exemptions would be reduced to $1 million.

The portability of unused exemption amounts between spouses would be made permanent, however.

In terms of sophisticated estate planning, the proposal also seeks to eliminate many techniques that are used to reduce estate, gift and GST taxes. For instance, the duration of GST trusts would be limited to 90 years. Currently in Florida GST trusts can last up to 360 years.

Other strategies on the chopping block include valuation discounts and grantor retained annuity trusts (GRATs).

Although the estate tax appeared to be a closed issue, the President has highlighted changes that will no doubt spur debate between democrats and republicans. Without the certainty of permanent legislation, proper planning must account for these proposed changes. Lowering the exemption to $3.5 million and removing the inflation adjustment will produce more taxable estates and people must plan accordingly.

Estate Planning for Young Parents

I have represented many parents with young children in connection with their estate planning needs. Young parents are often just starting out in their careers and haven’t accumulated the same wealth, assets and liabilities that older parents have, however their needs are just as critical (if not more) to plan for.

Typically a young couple will come to me without an estate plan in place. It is common for the couple to have already purchased life insurance, however I have rarely met with a young couple who has coordinated the life insurance and their other assets with their estate plan.

Usually the spouses will name each other as the primary beneficiary of the life insurance and the children as the alternates. When a minor child is named as an outright beneficiary of life insurance, it is very likely that those proceeds would need to be paid to a court-appointed guardian to represent the minor’s interests. The guardianship would continue until the child reaches the age of majority. Guardianships are extremely costly and unnecessary and can easily be avoided.

Any time there is a court process (such as a guardianship) a lawyer is needed, court costs are incurred and the guardian gets paid as well. All of these expenses can quickly deplete the guardianship assets.

For these young parents I have been establishing testamentary trusts in their estate plans which are created at the time of death. However, it is equally important to actually name the testamentary trust as the alternate beneficiary on the life insurance beneficiary designation form. If this step is not taken then the proceeds will bypass the testamentary trust and go to the minor child through the guardianship. If the testamentary trust is named, however, the life insurance proceeds will be distributed to the Trustee and court intervention can be avoided.

A similar structure can be utilized for retirement plan benefits when naming the minor children as contingent beneficiaries, however there are tax consequences that must be addressed in the estate planning documents.

It is also critical to name a guardian for the minor children in the Wills. This is often a contentious issue among the married couple because each spouse typically wants to name his or her family members to serve as guardian. One way to involve both families is to name one family member as “guardian” and another as “trustee.” The guardian will have legal custody of the minor but the trustee will manage the money in trust and make decisions regarding distributions. This not only separates the powers but it involves both families in the minor’s life.

These issues are very important for young parents to consider and although they may not think that their “estates” warrant an “estate plan,” I think their needs are critical to address.