Ethan R. Okura

As you may know, President Obama cut short his vacation in Hawaii to return to Washington D.C. and deal with the problem of the fiscal cliff. For those of you who weren’t aware, the fiscal cliff refers to a sharp decline in the budget deficit based on increased taxes and reduced federal government spending that was projected to start in January 2013. This cliff was expected to result in a mild economic recession and an increase in unemployment.

The American Taxpayer Relief Act of 2012 was passed by Congress on January 1, 2013 and signed into law on January 2, 2013 by President Obama. This new law is held out to be a temporary solution to the problem of the fiscal cliff.

First a little background on what elements of the fiscal cliff relate to estate planning. This story goes back at least as far as July 2001, when President Bush signed the Economic Growth and Tax Relief Reconciliation Act (“EGTRRA”) of 2001. In 2003, Bush signed the Jobs and Growth Tax Relief Reconciliation Act of 2003 (“JGTRRA”) . One notable aspect of these Bush tax cuts was the elimination of the estate tax (also called the “death tax”). Starting in 2005, the estate tax exemption was raised and kept on increasing until 2010, when there was no estate tax. However, EGTRRA contained a sunset clause, which means the law was to expire on December 31, 2010, and would go back to the way it was before July 2001.

In late December of 2010, just before the sunset clause was to take effect, President Obama signed into law the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010. This was designed to be a temporary solution as it extended some of the Bush tax cuts for 2 years—with its own sunset provisions at the end of 2012. However, instead of eliminating the estate tax completely, it provided for a $5,000,000 exemption from estate and gift taxes for 2011, a $5,120,000 exemption for 2012, and it delayed the sunset provision for 2 years. It also introduced portability of the estate tax exemption between spouses.

If Congress and President Obama had not passed this new law last week, the estate and gift tax exemption would have automatically reverted to just $1,000,000 per person, with the estate tax rate for most estates at 55%.

Changes brought by the American Taxpayer Relief Act of 2012

With this new law passed by President Obama last week, Congress has reached a compromise which permanently locks in the $5,000,000 exemption for estate and gift tax, as adjusted for inflation (until they decide to change it again). The top gift and estate tax rate increased from 35% to 40%.

The new law also made permanent the portability of unused estate tax exemption from a deceased spouse to the survivor as long as an estate tax return is filed for the deceased spouse and an election is made to carry over the unused exemption to the surviving spouse. The filing of the estate tax return is required to utilize the portability even if no estate tax is owed for the death of the first spouse.

Another change in 2013 is the increase in the amount of the annual gift tax exclusion from $13,000 to $14,000 per recipient, which can be gifted each year without using any of the $5,000,000 lifetime exemption.

Finally, those who are over age 70½ may make charitable contributions from their IRAs of up to $100,000 as a “charitable rollover” and not have to claim the distribution from the IRA on their income at all. This is advantageous for those who donate large amounts to charity and might otherwise be phased out on how much they can deduct from their income for charitable contributions.

Although the new law is supposedly a “permanent” change in the law because it overcomes the sunset provisions of previous laws, these laws could always be changed at any time if Congress decides that it needs to actually address the budgetary problems faced by the Federal Government at some point in the future.

Therefore, for those of you who have an estate larger than $1,000,000 and are concerned about estate taxes, but didn’t get around to transferring assets in 2012, we have a little more time to implement a variety of gifting strategies.

For those of you with estates smaller than $1,000,000, you may still want to consider taking advantage of the opportunity to gift some of your assets (such as your home) if you are concerned about the threat of nursing home costs.

As always, please consult with a qualified attorney to determine whether any of these suggestions are appropriate for your situation.