Brown & Associates - Attorneys & Counselors at Law, P.L.L.C.

ESTATE TAX CHANGES: NOW YOU SEE THEM, NO YOU DON'T
(12/16/01)

Last week I told you about some of the strange changes that Congress wrought in the Internal Revenue Code, especially as they apply to estate taxes. The changes are almost a "Now you see them-now you don't" story. They include a roller-coaster ride of tax exemptions and a newly created capital gains tax on inherited property.

This week I'd like to continue this discussion and look in detail at the new capital gains tax. The rules are simple. If you inherit property which has grown in value since it was originally acquired, you may have to pay taxes on this gain. For example, if your father intends to leave you a farm which he bought thirty years ago for $25,000.00 and that farm is now worth $150,000.00, you could wind up being taxed on a $125,000.00 gain. That could be quite a shock, especially if you weren't expecting it.

Are There Any Safety Valves or Exceptions To This Rule?

Fortunately, there are a couple of exceptions which can save you from paying capital gains tax. You can inherit $1.3 Million in capital gains tax-free. If you're the surviving spouse, you can shelter an additional $3 Million in capital gains. If, however, the estate is valued at more than $4.3 Million, you will be assessed capital gain taxes on any gains from stocks, real estate, farms, etc.

So What Should I Do?

First, have your Will or Trust reviewed by a competent professional. Most documents that contained tax planning language sheltered the maximum amount allowed by law in a Trust for the family. The income was available to the surviving spouse, but there were restrictions on his or her access to the trust principal.

Unfortunately, under the new law, this standard clause could greatly overfund the Family Trust by up to $3.5 Million while possibly depriving your surviving spouse of needed funds. The money hat winds up in the Family Trust is not available to the surviving spouse, and at the same time is probably more than you would want to have in a Trust for the children. As a result, many of our clients will want to limit the amount going to the family trust or eliminate it altogether.

Next, rethink your gifting strategies. Many of you have been making gifts to your children for years. With more of your estate passing tax-free at your death, you may be less inclined to give money away each year. If you are extremely rich, annual gifts make sense, but for the rest of us, they may become a thing of the past.

Next, be sure you maintain good financial records. Your heirs must be able to determine the basis of your property in order to compute any capital gains. It will be easier for you to reconstruct your records now than it will be for your heirs to do it after you're gone.

If you are married, keep your marriage intact. That isn't always easy to do, but if you can, then you can pass your entire estate to your spouse tax-free. For example, if you are worth $5 Million and you leave everything to your surviving spouse, he or she will not pay any estate taxes at all. Of course, your spouse will need to do some serious estate tax planning in order to minimize taxes in the future, but at least your estate will pass to him or her intact.

As I said at the beginning, this is probably one of the most convoluted, misunderstood, poorly planned, and incomprehensible pieces of legislation ever foisted upon an unsuspecting public. The only way to protect yourself from undesired and unacceptable results is to plan ahead and consult often with estate planning professionals who can help you avoid many of the more dangerous pitfalls.

On the Lighter Side.....

I had to laugh earlier this week when I read a recent decision from Judge Robertson of the Washington DC, District Court. In the case of Citizen's Coal Council v. Babbitt, Judge Robertson issued a Memorandum and Order resolving a dispute. In his Order, he took a shot at the problem of "excessive adversarial behavior among the various attorneys." By that, he meant the attorneys were downright rude to one another. I won't bore you with Judge Robertson's entire opinion, but I thought one of his points, in particular, was very well taken.

Among other admonitions, the Judge stated "The recent heated exchange between Plaintiffs and Intervenor. . . .betrays a startling lack of sense of humor, or sense of proportion, or both, . . . . It is . . .

FURTHER ORDERED that the parties lighten up."

Especially at this time of year, this seems like pretty good advice to me. With the turmoil in Afghanistan, the lingering anger, fear and sense of loss after the World Trade Center and Pentagon disasters, and the general downturn in the Country's economy, it is easy to take things too seriously and to let events affect you in unhealthy ways. We would all probably be better off if we would take Judge Robertson's advice and "lighten up."

To return to the Strategic Planning Articles click here.