GIFTING IN 2012: GREAT OPPORTUNITY DURING AN UNCERTAIN TIME

With the federal current estate tax exemption amount and rate scheduled to expire at the end of the year, much uncertainly looms as to whether Congress will enact permanent legislation, and if so, what will result. As there are several possibilities, ranging from a $1,000,000 exemption amount to keeping the current exemption amount (and alternative amounts in between), only one thing is certain: no one can possibly speculate what the exemption amount will be in 2013 and beyond. In the meantime, as the uncertainty continues, there is great opportunity (and perhaps unprecedented opportunity) for individuals to utilize this year’s exemption amount ($5,120,000 per individual) to make sizeable gifts during these last five months of the year to ultimately lower their taxable estates. However, gifting is certainly not for everyone as individuals must be financially and emotionally comfortable with divesting themselves of these assets and any and all associated interest/income stream from these assets.

Once the individual has decided he or she is comfortable with gifting, there are several considerations that need to be addressed. First, what assets are most appropriate? Most likely the answer would be highly appreciating assets as they would remove the most possible value from an individual’s estate. Next, what is the best way to make a gift? There are a number of vehicles that can be examined, but one that continues to be an excellent option especially in light of the low interest rate environment is the Grantor Retained Annuity Trust (“GRAT”). The GRAT can be structured to result in almost no gift tax implications and it enables the donor to receive an income stream for a term of years, with the growth passing to the donees.

Gifting during life is more tax efficient than property passing through a decedent’s Will at death, as assets transferred during life shift the future appreciation in the property out of the individual’s estate to the donee. However, one caveat is that gifted property retains carry over basis for income tax purposes. At death, inherited property gets a stepped-up basis for income tax purposes. Any taxable gifts made in calendar year 2012 will need to be reported on a United States Gift (and Generation Skipping Tax) Tax Return (IRS Form 709) and would be due on April 15, 2013. However, no tax will be due to the extent the individual has not utilized his or her lifetime gifting exemption ($5,120,000 or $10,240,000 for a married couple for 2012). New Jersey does not have an independent gift tax.

In addition to the above gifting, every individual has a $13,000 per donee “annual exclusion” amount which is adjusted each year for inflation. This would enable an individual to gift $13,000 ($26,000 for a married couple) to each donee (to any number of donees) without necessitating the filing of IRS Form 709.
Please feel free to contact us for more information and to talk about these opportunities.

Nicole E. Russak, Esq. is an associate attorney practicing in the firm’s Tax, Trust and Estate and Real Estate Departments.

Repeal of the Federal Estate Tax and Carry-Over Basis

Repeal of the Estate Tax for 2010

            Despite our assertion that Congress would never allow a repeal of the estate tax in 2010, we find ourselves in the last quarter of 2010 with just that- no estate tax.  Further, in 2010, there is also no Generation Skipping Tax (“GST”). Unless Congress acts prior to the end of 2010, both the federal estate tax and GST will be reinstated as of January 1, 2011 with an exemption of $1,000,000 per person and a 55% rate of tax.  It should be noted, however, that any applicable state estate tax is still in full force and effect in 2010.  In addition to the major impact of the repeal of the federal estate tax and GST, 2010 brings about several other tax consequences that could impact one’s estate plan.  These will be discussed in greater detail below.

            Although there is still a federal gift tax for gifts exceeding a donor’s $1,000,000 lifetime exemption, the gift tax rate is reduced to 35% in 2010 from 45% in 2009.    

            More significantly, as of January 1, 2010, the “stepped-up basis” rule which applied pre-2010 (property acquired from a decedent through an inheritance was given a new basis of fair market value as of the decedent’s date of death), was replaced with the “carryover basis” rule in 2010.  The new set of rules means that property acquired from a decedent through inheritance will retain the decedent’s tax basis in the hand of the beneficiary, which would most likely result in capital gain when the beneficiary sells the inherited property.  However, there are exceptions to the carryover basis which could help ease the burden of the new set of rules.  First, the new rule permits an increase of up to $1,300,000 in the basis of certain assets owned by the decedent.  Second, there is an increase of up to an additional $3,000,000 in the basis of property passing to the decedent’s surviving spouse. 

            There are certain requirements to the basis adjustment rules outlined in the foregoing.  For example, none of the decedent’s assets may have a basis adjusted above fair market value.  Further, the Executor, in his/her sole discretion, elects which assets are to receive the basis adjustment.  Finally, there is an additional tax return required to be filed for the allocation of the basis adjustment to property acquired from a decedent, if the fair market value of the property exceeds $1,300,000 or if the decedent acquired property by gift, except in certain cases.  This form is due with the decedent’s final income tax return.

            The repeal of the estate tax is not as good as it might have seemed due to the additional filings and taxes.  Moreover, a sunset back to $1,000,000 applicable exclusion amount in 2011 with a 55% tax is even less desirable.  Please feel free to contact us for more information and to talk about addressing these changes.

Nicole E. Russak, Esq.

HEALTH CARE REFORM SERIES – PART 2

Health Care Reform – Additional Tax on High Income Earners

 By: Jill F. Rosenfeld, Esq.

 Part 2 – New Tax on Investment Income.

 Beginning in 2013, a new 3.8% tax will be assessed on investment income earned by individuals who are assessed the 0.9% increase on wages discussed in Part 1 of this series (i.e,. thresholds of $250,000 for married filing jointly, $200,000 for singles and $125,000 for those married filing separately). Investment income includes interest (except municipal bond interest), dividends, rents, royalties, capital gains on sales of investment instruments and bonds, taxable portion of insurance annuity payouts (unless from company pension), passive income from rents and businesses the taxpayer does not actively participate in and taxable gain on the sale of a home over the $500,000 exclusion ($250,000 for single filers).

 For example: if a married couple has Adjusted Gross Income (AGI) in 2013 of $400,000 consisting of $200,000 in wages and $200,000 in investment income, they will owe an additional $5,700 in Medicare taxes ($400,000 AGI – $250,000 threshold = $150,000 x 3.8%).

Attractive Wealth Transfer Opportunity in a Depressed Economy

Attractive Wealth Transfer Option in a Depressed Economy

              Now is an opportune time for individuals to take advantage of low interest rates when reviewing their estate plans.  One option that is available now, but may become limited by legislation pending in Congress, is known as a “Grantor Retained Annuity Trust” or a “GRAT”.  A GRAT is a trust into which a client/grantor transfers assets and retains a right to receive, at least annually, an annuity payment for the term of the GRAT. At the end of the GRAT’s term, the remaining assets pass to designated beneficiaries, tax-free.

             Since the interest rate used to value the transfer to the trust, known as the 7520 rate, is currently 3.2 %, the GRAT is an attractive option for clients looking to transfer wealth to younger generations.  The low interest rate results in a lower threshold for the productivity of the assets.  If the assets in the GRAT grow at a rate greater than the 7520 rate, there will be assets at the end of the GRAT’s term to pass to the beneficiaries and therefore, gift and estate tax savings during the client’s life and at the client’s death. To put it simply, the lower the 7520 rate, the larger the potential tax-free gift at the end of the GRAT’s term. The 7520 rate changes monthly, and as stated above, for April 2010 is 3.2 %. 

             GRAT terms can run for any duration, but generally, the longer the term of the GRAT, the smaller the gift.  The risk, however, is that the grantor could die during the GRAT term.  If this occurs, all trust property will likely be included in the grantor’s estate for estate tax purposes.  Notwithstanding, if the grantor did in fact pass during the term, he or she would be no worse off than if the grantor did nothing.  Hence, nothing ventured, nothing gained.

             Setting up a GRAT can trigger a taxable gift which will require a gift tax return to be filed to report the gift.  We try to minimize the gift associated with the transfer by adjusting the duration and annuity amount.  It is possible to have a close to “zeroed out GRAT” which means that the value of the gift to the GRAT is de minimis. 

             To summarize the above, a GRAT is an excellent wealth transfer option in a low interest rate environment because it is easier to outperform the 7520 rate than in a high interest rate environment.  However, there is pending legislation in Congress which if passed, would have the result of limiting some of the advantages of the GRAT.  The proposed legislation would impose a requirement of a minimum ten year term on the GRAT, thus making it a less viable option for sick or elderly clients.  Additionally, the proposed legislation would require that the “gift” element of the trust be greater than zero, thus eliminating the close to “zeroed-out GRAT”.  Since the proposed legislation may soon become law, anyone considering a short-term GRAT should act fast.

             Please feel free to contact us for more information.

             Nicole E. Cleenput, Esq.