The Wall Street Journal has an October 23, 2009 article entitled "Will The Estate Tax Disappear? Changes in the Way Inherited Assets Are Valued Could Cost Heirs and Cause Hassles."
A copy of the article can be found at: http://online.wsj.com/article/SB10001424052748704224004574489581033118194.html?mod=WSJ_hpp_sections_personalfinance#articleTabs%3Darticle
By way of background, in 2001, the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA) was enacted to provide for a 10 year federal estate tax phase-out plan. From 2002 through 2009, the portion of an estate exempt from federal estate tax was gradually increased from $1 million to $3.5 million and the federal estate tax rate decreased from 50% to 45% until the magical year of 2010 when the federal estate tax would disappear for one year.
Under current law, the federal estate tax is scheduled to reappear in 2011 with a much lower federal estate tax exemption of $1 million and a maximum federal estate tax rate as high as 55%, unless legislation is passed to change the law. Notably, the federal gift tax remains in existence in 2010, despite the non-existence of the federal estate tax, with gift tax rates equal to the highest individual income tax rate (expected to be 35% in 2010).
The point raised in the WSJ article is the "step-up in cost basis" that all assets receive when an owner dies. The way the law is currently written, if the estate tax goes away, so does the step-up in cost basis. According to the article, that's where the problem lies.
Step-up means that the property heirs receive is valued as of the date of death. The WSJ article gives an example where if Grandma leaves a grandchild stock selling for $75 a share that was bought in 1970 for $2 per share -- the heir's "cost basis" in the stock is $75. If the grandchild then sells the stock for $80, the taxable gain is $5 per share.
However, if Congress fails to extend the current system for 2010, then at the owner's death all assets would retain their original cost, called "carry-over basis." Under this system the heir's stock would have a cost basis of the original $2 per share rather than $75. If he then sells the stock at $80, the taxable gain would be $78 instead of $5—a huge difference.
Now for the bigger question: is Congress going to allow the estate tax to disappear in 2010?
Although the House and Senate have introduced numerous bills addressing federal estate tax reform, the four main bills to watch are (1) the Pomeroy Bill (H.R. 436), (2) the Baucus Bill (S. 722), (3) the Mitchell Bill (H.R. 498) and (4) the McDermott Bill (H.R. 2023). Further, another source of possible changes to the federal estate tax can be found in the Treasury’s recently released General Explanations of the Administration’s Fiscal Year 2010 Revenue Proposals (the “Greenbook”), which reflects the Obama Administration’s revenue proposals and contemplates federal estate tax reform.
Although nothing is certain -- except death and taxes -- it is anticipated that Congress will pass legislation before the end of the year to continue the current federal estate tax exemption of $3.5 million per individual and a maximum federal estate tax rate of 45% for one more year until a more permanent bill is passed in 2010.
In fact, the House and Senate versions of the 2010 budget resolution (H. Con. Res. 85 and S. Con. Res. 13) both as proposed by the respective Budget Committees and as passed by the House and Senate respectively, allow for 2009 estate tax law to be made permanent.
Overall, I predict that we can expect that the federal estate tax will not disappear in 2010, but will continue in its present form with some modifications.
Posted by Henry Moravec, III. Should you have any questions regarding your own situation, you can e-mail Hank Moravec at hm@moravecslaw.com or call him at (626) 793-3210. The firm website is http://www.moravecslaw.com/
