Growing up in my neighborhood in Jersey, the older kids used to offer sage advice to us younger guys. As they sent you to run one their nefarious errands, they’d yell after you, “...and don’t trust nobody.” That nugget pretty much sums up what I tell my clients when it comes to estate planning in the face of promises made by Congress. Out of the myriad proposals offering various forms of estate tax reform, one thing seems certain. The current situation that wipes out the estate tax for 2010 is going to die at the end of the year (pun intended) and nobody is going to do anything to save it.
As Congress returns this week from a much needed vacation from spending money, it will take up the topic of taxes. The extension of the Bush tax-cuts is at the top of the list. The most heated debate will focus on extending the income and capital gains tax cuts for taxpayers earning more than $250,000 annually. Believe it or not, this is a far simpler debate than the one surrounding the estate tax. You’re either for it or against it--you either want to keep the tax schedule the way it is, or you want to increase the tax on the “rich” by returning the tax regime to the Clinton levels. However, when it comes to estate taxes, everybody wants to weigh in with a different proposal. I don’t want to list-- and you don’t want to read--a synopsis of all of the proposals, so here’s the range:
• Leave the estate tax where it is (no estate tax): Ok, here’s my insight on this. Ain’t gonna happen.
• Make the 2009 levels permanent: Return to an exemption on the first $3.5million of assets per person with a top tax rate of 45%. Most estate planning advisors are betting on this, or something close to it, as the winner. It would allow up to $7million per couple to avoid tax while taxing less than 1% of all the estates.
• Let the current estate tax “sunset”: like all the Bush tax cuts, the estate tax schedules will automatically return to the 2001 levels at the end of 2010. The estate tax exemption would return to $1million per person ($2million per couple) with a top tax rate of 55%. I’m not saying this going to happen, but it could. All it would take is for Congress to do nothing--like not agree on a compromise (and these guys can’t agree on what day of the week it is). It would cast a much larger net for estate tax, which might be pretty attractive to a government in search of cash. Most smart guys in the financial world think the thought of returning to the pre-Bush tax days for estate taxes would be crazy. I’m just saying it is Congress we’re talking about and they do crazy very very well.
Without knowing where we’re going to land, let’s focus more on style than substance. That is to say that the wording or design of your basic estate planning documents could have the greatest impact on saving tax dollars.
There are 4 things to remember about designing your plan.
1. This is no time for amateur hour: Never never never draft your own documents; I don’t care what type of computer program you have. I’m not in love with attorneys, but they know how to play the game. And make no mistake about it, this is a game--and you better win it.
2. Take a long hard look at using a revocable living trust: If your estate is large enough to make you worry about the return of the estate tax, it is large enough for you to manage it through a revocable living trust. A living trust will not save you a penny of tax, but it will avoid the expense, delay, and publicity of probate. I could go on about this invaluable tool, but for now I’ll leave it for you do your own research. Just Google “living trusts” and you’ll have plenty to read.
3. Divide your assets between you and your spouse and use testamentary trusts: You’ll want your attorney to craft your document to take advantage of the maximum estate tax credit--whatever it is, and provide for full use of that credit as it increases over the years (that is, if it increases over the years). You can accomplish this through what is known as “testamentary or ‘A-B’ trusts.” But remember, to be fully effective, each spouse must own property separately--not jointly. That way you’ll each get to use your full estate tax exemption.
4. Keep whatever life insurance you have in force--at least until you know what the deal is: Many people make the tragic mistake of letting their life insurance lapse at time when it could be put to a good use--like paying the estate settlement costs. Wait until you see what your estate tax exposure is before you dump your insurance. When you hit the age where you’re considering estate planning, buying new insurance may be pricey or unobtainable. Leave it alone for now.
Hey, before you fall in love with my advice, remember, I am not an attorney or an accountant and I don’t provide legal or tax advice. If anything I said here makes you want to take a closer look, please talk with a qualified legal or tax professional. I’ll keep you posted as the gang in Washington tries to figure it out. In the meantime, remember the warning from the boys from the old neighborhood...