As the end of 2012 approaches and the bus appears headed off the “fiscal cliff,” one estate planning strategy seems to be taking center stage among more affluent taxpayers.
Expiring Tax Cuts
For two years we have known about the expiration of the temporary reduction in the maximum estate tax rate, the temporary increase in the estate and gift tax exemption from $1,000,000 to $5,000,000 plus, and the reduction in that exemption as of December 31, 2012. Those temporary changes will expire, unless Congress acts, leaving affluent taxpayers questioning whether to use the apparently vanishing opportunity to make gifts of all or a substantial part of the current $5,120,000 exemption before the reduction occurs. It seems unlikely that the estate tax will be addressed even if other aspects of the “fiscal cliff” are avoided through last minute legislation by the lame-duck Congress.
Whether and when the new Congress will deal with the estate tax and gift tax issue next year is uncertain. If on our experience in 2010, when it took nearly the full year to “repeal and repeal” of the estate tax which had taken effect on January 1, 2012, is an indication we could be waiting many months. Furthermore, if and when Congress does act the action could be shaped dramatically by the result of today’s election. After the election we may have a better idea of the likelihood and direction of change, but we will still be guessing as to the magnitude and timing of any change, and we won’t know before the end of 2012.
What Can Be Done?
How can an affluent taxpayer evaluate the advisability of making large gifts in the waning hours of 2012 in order to capture the scheduled disappearance of approximately $4,000,000 of exemption? As with any tax planning the “tax tail” shouldn’t “wag the dog,” meaning that a person should only give what he or she identifies as a clear excess of assets above the donor’s projected needs and wants. This is true whether the exemption is $1,000,000 or $5,120,000. If needs and wants potentially require $5,120,000, then only excess above that amount should be considered to be given away, regardless of the amount of the exemption.
If assets exceed projected needs and wants by more than $1,000,000, a person is potentially a candidate for 2012 gifting. There is no reason to make gifts of less than $1,000,000 under this strategy, because if the exemption is, in fact, reduced to $1,000,000, gifts totaling less than $1,000,000 will merely reduce the remaining $1,000,000 exemption. Note: This statement assumes the taxpayer has used none of the exemption. If part of the exemption has been used, substitute the difference between the amount used and $1,000,000 in the above sentence. None of the potentially disappearing $4,000,000 plus of exemption will be captured unless at least the first $1,000,000 is (or has been) used.
This brief overview of some important considerations associated with the scheduled changes to the estate and gift tax is by no means comprehensive. Always seek the advice of a competent professional when making important legal and financial decisions.