Guiding clients on estate planning issues has been highly frustrating to most CPAs for the past year, thanks to the failure of Congress to resolve fundamental questions about the federal estate tax. Unfortunately, the next several months may involve more of the same - but CPAs can still guide clients during this era of uncertainty.
If Congress does nothing, federal estate tax law in 2011 will revert to its state prior to the 2001 and 2003 Bush tax cuts, which, among other changes, cut the estate tax rate to 45 percent from 55 percent, and raised the exemption, in steps, from $1 million to $3.5 million, and eliminated the tax entirely for 2010, while limiting (in 2010 only) heirs' ability to have a stepped-up basis in inherited assets.
The steps CPAs take in advising clients on estate tax issues may vary according to their own expectations of what Congress will do - and when. Opinions vary - except, generally, on the prospects for a retroactive reinstatement of the tax for 2010.
"At this stage, I don't think anybody believes retroactivity is going to happen," says Martin Shenkman, CPA, JD, a Paramus, N.J.-based estate planner. That conclusion comes despite a public outcry following the July death of New York Yankees owner George Steinbrenner. Some were angered at the prospect that his estate would escape an estimated $600 million tax bill due to the timing of his death. (See Opinion, page 9.)
But the bigger issue today isn't 2010, but 2011 - and beyond. Will Congress stand by as the exemption drops back to $1 million, and the rate jumps to 55 percent? And when the gift tax, currently 35 percent, synchronizes with the 55 percent estate tax rate?
"The consensus is that Congress will not let [the pre-tax cut regime] kick in," stated Cynthia Turoski, CPA/PFS, CFP, the Albany, N.Y.-based managing director of Bonadio Wealth Advisors. She added that it's quite possible that Congress will postpone action on the matter well into 2011 to maximize campaign contributions from those arguing for one side or the other of the issue. Contributions will dry up, she reasons, when the issue is resolved, so CPAs and their clients may have to sweat it out until late 2011, when the 10-month post-death deadline for estate tax returns draws near for early-2011 decedents.
But will the exemption immediately revert to the 2009 level of $3.5 million?
"If I were a betting person," said Larry Peck, a New York-based estate planning attorney, "I would bet that it will come back to $3.5 million. That's what President Obama wanted, and many Republicans want to eliminate the estate tax permanently." By Peck's reasoning, restoring the $3.5 million exemption could be the easiest compromise between an uneasy partnership of fiscal conservatives and liberal congressmen on one side, and ideological conservatives who consider the estate tax an immoral "death tax."
Shenkman, however, envisions another scenario. He predicted that the rate will be reset at 45 percent, but that the exemption will start at $1 million in 2011, and gradually rise over time. He also opined that Congress will attack several popular estate-planning techniques in a scramble for revenue.
But should CPAs play the role of legislative forecasters? Predictions are one thing, but when it comes to advising clients on estate plans, some prefer to play it safe and assume the worst.
Alan Kahn, CPA, of AJK Financial Group in Syosset, N.Y., is one such person. "All year long, the know-it-alls have been telling me, 'It's going to change.' Why would Congress do anything when they're desperate for revenue if they can raise taxes by doing nothing?"
Thus Kahn's position is, "Plan based on the exemption going to $1 million. If they end up raising it to $3.5 million, so much the better, then you can change things accordingly."
And where do clients fit in?
Some are more tuned into the issue than others. Shenkman, for example, said that many of his clients are like the proverbial deer in the headlights: "They're burned from the recession, the stock market decline, and angry about the absurdity of Congress' leaving the law so uncertain."
The consequence, he said, is that those who need to make changes in their plans may understand that "intellectually," but remain "hesitant to proceed."
Turoski's clients are reacting in a somewhat different way. While they're not interested in having her perform a quick fix responding to gyrations in the estate tax landscape, they're very focused on non-tax aspects of their estate plans.
Turoski's client base includes many business owners. Many are concerned about their ability to pass the enterprise on to their children, and to help the child (or children) most competent to run the business gain control of it, without shortchanging other children. Her clients also worry about the size and timing of making inheritances available to children to avoid sapping their motivation to be responsible for their own economic security.
"We flowchart out everything to show what would happen, where things would go, if it went into effect tomorrow. The client will often look at it and say, 'No, I don't want it to go that way. I didn't realize they were getting that much money.' We just play out the practicalities and help them think about the real-life situation in all these scenarios," Turoski said.
DEATH AND TAXES
Still, the tax dimensions of an estate plan cannot be ignored by CPAs - particularly if other advisors are also involved in the process covering the non-tax angles.
As noted, when Shenkman imagines the future, he sees an inexorable chipping away of currently available estate-planning techniques. For example, he believes that grantor retained annuity trusts will be "restricted significantly in the near future."
In a recent newsletter distributed to his clients, he alerted them of the possible need to move "quickly," assuming a GRAT is appropriate to their situation. "Consider whether there is an advantage to you in using longer than a two-year GRAT to lock in today's low interest rates," he wrote.
Along similar lines, Shenkman encouraged clients considering the use of Crummey trusts of the possible need to move briskly, as he has heard "rumblings" about possible future restrictions on the use of that vehicle. A Crummey trust gives beneficiaries the ability to withdraw funds for a brief period. "This allows the gift to qualify for the annual gift tax exclusion" ($13,000 in 2010), Shenkman said.
Yet another timely estate tax tip Shenkman is suggesting to clients - predicated on the federal exemption dropping to $1 million and staying close to that level for the next several years: Gift the vacation home to your kids to remove it from the estate now. This would be most attractive, he suggested, if the value of the vacation home (probably lower than what it once was due to the real estate crash) is less than whatever remains of the client's $1 million lifetime gift tax exemption. But even if some of the gift would be subject to the gift tax, the 35 percent rate applicable for 2010 will jump to 55 percent next year, unless Congress changes things, he said.
Some of Turoski's wealthy clients who know they need to start downsizing their estates have also been interested in taking advantage of what she calls the 2010 gift tax "sale." "They know the estate tax will be back shortly and undoubtedly would be throughout their lifetime," she said.
At the same time, she added, they have been reluctant to act on the 2010 repeal of the generation-skipping transfer tax "for fear it will be reinstated retroactively."
Some classic estate-planning techniques can be adaptable enough that clients do not need to second-guess Congress to move forward. For example, the basic credit shelter trust, which allows couples to maximize their utilization of the federal exemption on a combined basis, can be built around a formula (e.g., the amount of the federal exemption at the time the trust takes effect), instead of a specified dollar amount.
"The most important thing," said Peck, "is to keep the documents flexible." While doing so "makes the drafting a bit more complicated," he said, "it means that whatever happens, you're covered." Because New York is among the states with its own estate tax, Peck made sure that his local clients would have been able to use their credit shelter trusts to plan around that potential liability.
Finally, the assumption that the federal estate tax will return in 2011 in one form or another has prompted Kahn to focus on clients' life insurance coverage. Some permanent life policies can be an attractive and tax-efficient mechanism to cover the estate tax bite. Kahn has found that some clients' older life policies can be replaced through a non-taxable Section 135 exchange with more competitive contracts featuring higher death benefits for the same premium rate.
Said Kahn, "It's just another avenue we need to review to help clients protect their estate with the resources they already have. That's especially important in this area of uncertainty."
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