I feel safer knowing that Congress plans to subpoena the aspiring reality-tv stars who "crashed" a White House party. http://www.nydailynews.com/news/politics/2009/12/09/2009-12-09_subpoenas_for_crashers.html
And inquiring into the fairness of the college football Bowl Championship Series (BCS) is a subject of grave national interest that obviously requires immediate Congressional attention. http://www.newser.com/story/75809/house-panel-kill-colleges-bcs-system.html
Fast action in times of crisis -- that's what I look for in the legislative leaders of my country.
I'm sure that these pressing items are the reason that Congress most likely will not find time to pass estate tax reform before January 1, 2010. http://online.wsj.com/article/SB126098351451293981.html
As you may remember, on January 1, 2010, the estate tax goes away. This sounds like great news, doesn't it? US citizens can step back and enjoy this culmination of a decade of constant change in the estate tax laws.
Don't get too comfortable, however.
First, the capital gains tax rules also change effective January 1, 2010. This means that (with exceptions), instead of inheriting assets with a basis of fair market value at the date of death of the person who left you the wealth, you will inherit the assets with the basis of the person who died.
For example, let's say that Aunt Tilly died and left you a share of stock that is trading on the NYSE for $105. You sell the stock for $105. How much would you pay in capital gains tax on that sale? If Aunt Tilly died on December 1, 2009, the answer would be zero. You inherited the stock with a basis equal to the fair market value on Aunt Tilly's death, and you sold it for the same amount. $105 - $105 = $0 capital gain. $0 x 15% capital gains tax rate = $0.
However, if Aunt Tilly dies on January 1, 2010, your capital gain tax depends on what Aunt Tilly paid for the stock. Let's say that Aunt Tilly bought the stock in 1978 and paid $5 for it. Your capital gain would be $105 minus $5 equals $100. At the 15% long-term capital gains tax rate, you would pay $15 in capital gains tax on the sale of this asset.
Big deal, you think? A 15% capital gains tax is much less than a 55% estate tax, isn't it? Not so fast there, cowgirl. Remember that anyone who inherits an asset is subject to the capital gains tax on the sale of that asset, but only people of a certain wealth are subject to estate tax. Also, how will you know what Aunt Tilly paid for that share of stock and when she bought it? What if Aunt Tilly left you a diamond earrings worth $5,000? Or improved real estate worth $200,000? How will you know how much she paid for these assets? The burden is on the person who inherits the asset to prove to the IRS what Aunt Tilly's basis was. If you can't prove Aunt Tilly's basis? The IRS presumes the basis to be zero. $200,000 minus $0 = $200,000 x 15% = $30,000.
Didn't we go through this in the 1970s and it was such a pile of hot mess that it was repealed by Congress? Tax professionals were thwarted in their efforts to calculate a taxpayer's tax liability to the point of impossibility of performance. No one could figure out Aunt Tilly's basis in anything.
Second, the repeal of the estate tax is only for twelve months. On January 1, 2011, the estate tax comes roaring back at 55% for every dollar over $1 million in wealth transferred at death.
I don't know about you, but a lot of my clients are worth more than $1 million dollars. They don't consider themselves to be wealthy, and frankly, neither do I. Let's take a couple who has been married for sixty years. There is a $300,000 life insurance policy on the husband and also on the wife. Their home, bought for $40,000 in 1962, now is worth $200,000. They have retirement savings of $300,000. This couple is worth $1.1 million -- and at the second death, $55,000 will go to the IRS and not to the children.
Sure, I can do fancy estate planning for this couple, split their wealth in half, protect half at the first death, and the remainder at the second death, and thus shelter all of their wealth from estate tax. But this couple doesn't feel they need sophisticated tax planning, and can't fathom splitting assets they have owned together for sixty years. They barely need an estate plan! The life insurance policies and retirement savings have beneficiary designation forms and pass outside probate, and the homestead passes to the children under Florida law.
But for the estate tax, this couple could have a very simple, inexpensive estate plan. However, due to the 2011 estate tax rules, this couple should pay far more than they wish to me to prepare an estate plan they do not prefer, to avoid an estate tax they don't feel they should be subject to in the first place.
Finally, the earliest estate tax returns for people who die in 2010 would be due on September 1, 2010. Congress has gotten very comfortable in passing tax laws that are retroactive. This means that Congress could pass as late as August legislation that affects the estate taxation of someone who died in January. Tax practitioners and their clients will be traversing unstable terrain, with no certainty as to what the tax liability of someone who dies in the early months of 2010 actually will be.
I'm an attorney and a CPA and I have six college degrees. If this tax situation baffles me, how am I supposed to explain it to my clients? Happy Holidays to you, Congress.
Merrell Bailey, Esq., CPA*, MBA, MSTaxation, MSAccounting
Bailey Zobel Pilcher
(*inactive license, Alabama)
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