How Does the New Fiscal Cliff Legislation Affect my Estate Tax Planning?

On January 2, 2013 the American Taxpayer Relief Act of 2012 was enacted, avoiding the so-called “fiscal cliff.” In addition to income tax changes, the law contained provisions on estate taxes which certainly did avoid something very cliff-like. Had the law not been enacted, the federal estate tax exemption would have reverted to $1 million per person. The “exemption” is the amount that passes free of estate tax. Under the last change to the estate tax law in 2010, the exemption had been at $5 million (See 5 Important Facts About the New Estate Tax). Avoiding this significant (i.e., cliff-like) change in the estate tax exemption was an important feature of the new act.

The new law preserves the federal estate tax scheme which has been in place for the past two years into the foreseeable future. Each person continues to have approximately $5 million that can be given away free of estate taxes. The only real change in the new law is that the highest estate tax bracket increased from 35% to 40%. Assuming your estate planning was appropriate last year, there should be no need to change it as a result of the new legislation.

Portability

The new law also continues the portability provisions which have been in place since 2010. (See 5 Important Facts About the New Estate Tax). These provisions allow the surviving spouse to be able to use their deceased’s spouse unused $5 million exemption. Thus, a married couple’s total exemption exceeds $10 million when indexed for inflation. The portability provisions make the use of credit shelter or bypass trusts unnecessary for federal estate tax purposes. Prior to portability, these types of trusts were the only technique to preserve the deceased’s spouse tax exemption.

State Estate Taxes

Unfortunately I have some bad news for my local readers in Maryland and the District of Columbia. Maryland and the District still have separate estate taxes which have only a $1 million exemption. Thus, if you have a taxable estate (including life insurance) in excess of $1 million, state estate taxes are still a concern even if they are not federally. Moreover, the portability provisions are still only federal law. As a result, credit shelter or bypass trusts still may be needed in Maryland and the District if married couples want to be able to use both of their exemptions. (See The 5 Most Important Reasons to Have a Will).