Treasury/Obama Administration Fine Tunes Proposals

The Treasury’s “General Explanation of the Administration’s Fiscal Year 2010 Revenue Proposals” (May 11, 2009) includes estate and gift tax-related proposals to
• require that the adjusted basis of property received by gift or from a decedent be reported consistently with the values used for transfer tax purposes;
• greatly expand the scope of Code Sec. 2704(b) , so that other restrictions on the use or control of the assets in a partnership or other family-owned entity would be ignored in valuing such assets for estate or gift tax purposes; and
• require that all GRATs have a term of not less than ten years, effective for trusts created after the date of enactment.

The idea concerning the GRATS would be bad news, and is a new formulation. The other ones have been discussed previously, and are not unexpected.

Negotiations Could Mean Estate Tax Finalization Soon!

Members of a House and Senate conference negotiating committee have reportedly worked out a compromise resulting in keeping the estate tax at 2009 levels (individuals could exempt $3.5-million from taxes ($7-million for couples), with amounts above that taxed at the present 45 percent rate). This is essentially the House version of the legislation, with the most recent Senate version for inclusion in their budget scenario (as noted in this blog) was for a possible exemption of $5 million per individual and a 35% rate of tax.

This is the result which we have been expecting.

Of particular interest is that it appears possible that the full House and Senate may vote on the budget blueprint soon.

It still appears likely that some additional provisions will be included, such as indexing the exemption for inflation, “portability” (preventing the inadvertent loss of the pre-deceasing spouse’s $3.5 million exemption) and integration of the estate and gift tax exemptions and credits.

Senate Finance Committee Chair Introduces Estate Tax Reform Bill

S. 722, 111th Cong., 1st Sess. (March 26, 2009), introduced by Senate Finance Committee Chairman Max Baucus (D-Mont.), contains an extensive section on estate tax reform. The bill initially makes permanent many of the provisions of the tax law, including the 10- 25- and 28-percent individual income tax rates, the 15-percent top tax rate and the 5-percent rate for middle- and low-income taxpayers on long-term capital gains and dividends,  and indexes several key exemption levels (such as the alternative minimum tax exemption). Title III of the bill would also:
* make the estate, gift, and GST taxes permanent;
* reunify the gift tax and estate tax, creating a $3.5 million gift tax exemption;
* make permanent the 45-percent top estate, gift, and GST tax rate bracket;
* make permanent the $3.5 million applicable exclusion amount;
* index the applicable exclusion amount, gift tax exemption and GST exemption for inflation after 2010;
* increase and index certain exemptions for family farms and businesses to the $3.5mm level; and
* make the unused applicable exclusion amount of the first spouse to die available to the surviving spouse (known as “portability”).

The Will Doctor notes the following:
1) this proposal conforms to what the administration has been pointing towards, and what the professional consensus has suggested, but:
2) this omits, at present, other tweaks to the estate and gift tax techniques such as valuation discounts, GRAT remainder provisions, and alteration of annual exclusion rules-good news for those still in the estate tax danger zone after application of a $3.5mm exemption per spouse.

Kyle Bill in Senate Passes, But Amounts to Posturing for the Big Debate

On April 2, 2009 the Senate voted 51 to 48 to adopt Amendment #873, co-sponsored by Blanch L. Lincoln (D-Ark.) and Jon Kyle (R-Ariz.). The Amendment looks to:

(1) Lower the Estate Tax Rate to 35 percent,
(2) Raise the Estate Tax Exemption to $5 million, indexed for inflation,
(3) Unify the Estate and Gift Tax Credits, and
(4) Provide for portability of the Exemptions between spouses.

Confusingly, the Amendment does the above “provided that such legislation would not increase the deficit over either the period of the total fiscal years 2009 through 2014, or the period of the total fiscal years 2009 through 2019.”

Of Course, we figure that any tax reduction would increase the deficit, so it makes no sense that a bill would be passed which would not have effect-it likely represents a republican/conservative attempt to reinforce and clarify their position during the debates which will surround this issue in coming months (or years). So: we can take this as simple posturing, but it represents a view of the fall back position of the formerly powerful advocates of estate tax repeal.

Obama Budget indicates extension of 2009 Estate Tax Regime

A footnote in the President’s new budget, “A New Era of Responsibility Renewing America’s Promise,” p. 121, Table S5, fn. 1 (Feb. 26, 2009), is available at http://www.budget.gov.

The summary tables at the end of the budget proposal states that the financial results of the budget are calculated presuming, among other things, that the estate taxes are projected to continue through 2019 and that “[i]n continuing the 2001 and 2003 tax cuts, the estate tax is maintained at its 2009 parameters.

NOTE
This suggests that the President’s fundamental estate tax proposal will be to make the 2009 estate tax rules permanent, with a $3.5 million applicable exclusion amount and GST exemption, $1 million gift tax exclusion amount, a 45 percent tax rate and adjusted basis equal to estate tax values. It still remains to be seen whether Congress decides that further refinements are required, and addresses such questions as portability of the marital deduction, continued deductibility of state death taxes, valuation discounts, and parity between the gift and estate tax computations

Another Estate Tax Reform Bill Introduced in the House

Introduced in the House of Representatives by Representative Mitchell (D-Ariz..), this would reform the estate and gift taxes permanently. The primary provisions of this bill would

* Make the estate and GST taxes permanent;
* Make the applicable exclusion amount permanent at $5 million, phased in as follows:

… For calendar year 2010, $3,750,000
… For calendar year 2011, $4,000,000
… For calendar year 2012, $4,250,000
… For calendar year 2013, $4,500,000
… For calendar year 2014, $4,750,000
… For calendar year 2015 and thereafter, $5,000,000;

* Index the applicable exclusion amount for inflation, after 2015;
* Retie the gift tax exemption to the estate tax applicable exclusion amount;
* Set the top estate and gift tax rate at the capital gains rate for estates of up to $25 million, Repeal the estate tax deduction for state death taxes;and double that rate for estates over $25 million;
* Index the $25 million figure for inflation after 2014;
* Repeal the estate tax deduction for state death taxes;
* Retain the present basis step-up rules; and
* Make the unused applicable exclusion amount of the first spouse to die available to the surviving spouse.

Obviously, this is one of many competing approaches, designed to move the eventual debate. This bill has considerable merit, in the view of the Will Doctor.  However, it seems premature to pick horses in this race just yet. We will keep you informed.

Obama Budget Proposal Affects Taxes

On Feb. 26, 2009, the Obama Administration released a document titled “A New Era of Responsibility: Renewing America’s Promise.” It is the Administration’s preview of its fiscal policies and planned major budgetary initiatives. In effect, it’s an overview of the full FY 2010 budget expected to be released this spring.

The document reveals the major tax initiatives that the Administration will push for. These are a combination of revenue-raising “loophole closers” (most of them aimed at businesses), some favorable tax changes for businesses, higher taxes for “higher income individuals,” and tax cuts for other individuals.

The tax changes the Administration’s proposes to push for include the following (in each case, the year in parenthesis indicate when the change is proposed to begin):

Tax Changes For Business

Make the research tax credit permanent (2010).
Expand the net operating loss carryback (2011).
Eliminate capital gains taxation on small business (2014).
Repeal LIFO (2012).
Codify the economic substance doctrine (2009).
Require information reporting for rental payments (2010).
Tax carried interest as ordinary income (2011).
Reinstate Superfund Taxes (2011).
Repeal all of the following oil and gas tax breaks: expensing of intangible drilling costs; deduction for tertiary injectants; passive loss exception for working interests in oil and gas properties; manufacturing deduction for oil and gas companies; and percentage depletion (2011).

Tax Changes for Higher Income Individuals
These changes would be proposed to apply to taxpayers earning over $250,000 (married) and $200,000 (single):

Reinstate the 36% and 39.6% top tax rates (2011).
Reinstate the personal exemption phaseout and limitation on itemized deductions (2011).
Impose a 20% tax rate on capital gains and dividends (2010).
The Administration’s document separately discusses a proposal to limit the tax rate at which higher-income individuals can take itemized deductions to 28%, with no indication of when this change would take effect.

Other Tax Changes for Individuals

Make permanent the Recovery Act’s refundable $400/$800 “making work pay” tax credit for 2009 and 2010.
Make permanent the Recovery Act’s liberalized child tax credit rules, which under current rules apply for 2009 and 2010 only.
Make permanent the Recovery Act’s “new American opportunity tax credit” for higher education expenses, which under current rules applies for 2009 and 2010 only.
Eliminate the Advanced Earned Income Tax Credit (2010).
Expand the saver’s credit and automatic enrollment in IRAs and 401(k)s (2011).
The Administration’s document also separately discusses a proposal to establish “automatic workplace pensions, on top of and clearly outside Social Security….” Employees would be automatically enrolled in workplace pension plans (unless they opt out).   Those employers not offering retirement plans would be required to enroll their employees in a direct-deposit IRA (but employees apparently would be given an opt-out option).

Got Wealth? Time to Transfer It!

Low interest rates used by the IRS to value interests in property, coupled with precipitous declines in asset values present a unique opportunity for families to transfer their wealth to their heirs on a tax efficient basis.  For example:

• Charitably inclined families can implement a Charitable Lead Annuity Trust (“CLAT’s”), in which your designateed charity receives  a stream of payments for a predetermined period of years, while you receive a charitable income tax deduction, before your children or heirs receive the remaining trust property transfer tax free.  This remainder can be substantial, and studies have shown this technique to have favorable outcomes 92% of the time when interest rates are low, as they are now.
• Long term sales to Grantor Trusts (benefitting your children and grandchildren) offer a way to use the current 2.8% IRS rate on interest due to the selling parent, over ten or twenty years.  Over that time, the property sold (at a discounted value) is VERY likely to appreciate and/or generate income at a considerably higher rate, resulting in wonderful wealth transfer leverage.
• Reverse Freeze Partnerships are a new concept turning old techniques on their head to our advantage, allowing older generation donors to retain “common” growth interests, and Grantor Trusts for the heirs to acquire “preferred” interests, paying substantial dividends which over time transfer all of the wealth with wonderful income and gift tax benefits.
• Grantor Retained Annuity Trusts, or “GRAT’s”, require the payment of the gifted property back to the Grantor, including a very modest amount of interest, which returned property is promptly commited to another GRAT.  Any appreciation in the property exceeding the current rate (around 2%) ends up in the hands of your heirs, transfer tax free.

Of course, these of times of great uncertainty and anxiety which take an emotional toll-making gifting and planning hard to do right now.  But just imagine how smart you will look if you listen to the Will Doctor, and sell your assets to your heirs for an I.O.U. paying 2.8%-fifteen or twenty years from now!

Remember: Congress is thinking of taking away some of these tools which we now use so effectively, including GRATS and valuation discounts on most gifted property.  We are not presently concerned that any such legislation will be grandfathered, so if you act quickly, your heirs may reap large rewards.

Finally: It is still possible that the curent law calling for repeal of estate taxes in 2010 will be left intact-and many older wills and trusts dont make sense without the tax system for which they were designed-so please see your estate planning attorney or the Will Doctor for a check up.

Economic Tsunami Forces a Re-Assessment of Tax Legislation

Huge government expenditures coinciding with precipitous declines in recession era tax receipts are forcing interested prognosticators to look hard at proposals formerly viewed only as long shots, compared to the permanent extension of the 2009 exemptions and tax rates. Overlooked in previous posts was the following:

On January 9, 2009 Representative Pomeroy of North Dakota introduced HR 436.  This Bill has been referred to the House Ways and Means Committee. He has introduced such legislation before without success -there are at least four Bills dealing with the estate tax currently pending in the House.  Pomeroy’s  Bill amends the Internal Revenue Code to: (1) provide for an increase to $3.5 million of the estate tax exclusion (eliminating the phase-in period); (2) impose a maximum estate tax rate of 45% ; (3) restore the phase-out of graduated estate tax rates and the unified credit against the estate tax; (4) set forth estate valuation rules for certain transfers of non-business assets; and (5) limit estate tax discounts for certain individuals with minority interests in a business acquired from a decedent.

Other long shot outcomes which have gained some recent credence are 1) an extension of the 2009 regime into 2010, followed by the planned reversion to the transfer tax regime in place prior to 2001, and 2) an intentional failure to amend existing law, with repeal of transfer taxes and implementation of carryover basis for one year in 2010, followed by the planned pre-2001 regime.

The Will Doctor still considers temporary repeal, or a return to the $1 million exemption unlikely-although we should consider the possibility that Congress will fail to act as we expect until doing so retroactively-they could even retroactively act (we hope, to extend the 2009 regime) in 2011, to change 2010 taxes.

We are increasingly concerned that the hoped for and likely extension of the $3.5 million exemption and the 45% rate could be coupled with provisions like HR 436 to:

• Eliminate QPRTs, and possibly GRATs (or making a 10% remainder mandatory);

• Eliminate discounts on non-public enterprises, or on non-business assets;

• Extend family attribution to limit discounts to related family members.

Preliminary Overview Shows Scope of Tax Changes in Stimulus Act Conference Agreement

Late on February 11, Nancy Pelosi (D-CA), Speaker of the House of Representatives, issued a Fact Sheet carrying a preliminary overview of the Conference Report on the American Recovery and Reinvestment Act. Although it lacks details, it is a valuable overview of the key tax provisions that survived the Conference Agreement on the Stimulus Act.

According to Speaker Pelosi, the tax provisions, which make up roughly 35% of the entire stimulus package, include the following:

Tax Incentives for Businesses

o Extended bonus depreciation and increased expensing for making investments in plants and equipment in 2009.

o Longer loss carryback for small businesses, a delay of the 3% withholding tax on payments to businesses that sell goods or services to governments, and a cut in the capital gains tax cut for investors in certain small businesses who hold stock for more than five years.

o Delaying the tax on businesses that have discharged indebtedness.

o Incentives to create new jobs with tax credits for hiring recently discharged unemployed veterans and youth that have been out of work and out of school for the 6 months prior to hire.

Tax Relief for Individuals and Families

o A Making Work Pay credit, consisting of a refundable tax credit of up to $400 per worker ($800 per couple filing jointly), phasing out completely at $200,000 for couples filing jointly and $100,000 for single filers.

o Expansion of the child tax credit (allowing families to begin qualifying for the child tax credit with every dollar earned over $3,000).

o Eased Earned Income Tax Credit rules (tax relief to families with three or more children and increased marriage penalty relief).

o A new, partially refundable $2,500 higher education tax credit.

o A one-year AMT patch.

o An enhanced credit for first-time home purchases with the removal of the repayment requirement.

o A tax deduction for state and local sales tax paid on the purchase of new cars, including light trucks and SUVs.

o Temporary suspension of tax on some unemployment benefits.

o A 60% subsidy for COBRA premiums for up to nine months.

Energy Incentives

o $20 billion in tax incentives for renewable energy and energy efficiency over the next 10 years.

o Three-year extension of the production tax credit (PTC) for electricity derived from wind (through 2012) and for electricity derived from biomass, geothermal, hydropower, landfill gas, waste-to-energy, and marine facilities (through 2013).

o Grants of up to 30% of the cost of building a new renewable energy facility to address current renewable energy credit market concerns.

o Extension through 2010 and expansion of tax credits for home energy efficiency for purchases such as new furnaces, energy-efficient windows and doors, or insulation.

o A tax credit of up to $7,500 for families that purchase plug-in hybrid vehicles.

o Clean renewable energy bonds for State and local governments.

o A new manufacturing investment tax credit for investment in advanced energy facilities, such as facilities that manufacture components for the production of renewable energy, advanced battery technology, and other innovative next-generation green technologies.

Tax Incentives for State and Local Economic Development

o Changes to enhance the marketability for state and local government bonds, which will reduce the costs they incur in financing state and local infrastructure projects.

o A new bond-financing program for school construction, rehabilitation, and repair.