Byrd Droppings: Estate Tax Repeal?
You’ve undoubtedly heard the good news – over Memorial Day weekend, Congress repealed the estate and generation skipping taxes and enacted a host of income tax reduction measures. President Bush quickly signed the legislation into law. The bad news is that the estate tax repeal and all of the other tax reduction provisions will self-destruct at the beginning of 2011.
In this and subsequent columns, I’ll explain what Congress did and did not do. Plus, I’ll provide some thoughts about the impact on your estate planning. This legislation is a classic example of political sausage making. So, I caution my tender-stomached readers to take some antacid before continuing.
The starting point is a provision buried on page 291 of the legislation and, accordingly, obscured from many reporters and constituents. The entire “Economic Growth and Tax Relief Reconciliation Act of 2001” is subject to the Senate’s so-called “Byrd rule,” which “sunsets” legislation after 10 years. “Sunset” means that the entire legislative package expires after 10 years.
The reason is that the requisite 60 Senators did not vote to override the Byrd rule. So, on January 1, 2011, we will have a rebirth of the income and estate tax law as in effect before this legislation. We will experience a terrific dream for about 10 years and then wake up to the old reality. Perhaps the rebirth should be called a “sunrise.”
(Named after Senator Robert Byrd, the 1990 Byrd rule actually was well-intentioned because it keeps the Senate from enacting long-term spending and deficit-enhancing bills without the approval of a greater-than-majority vote. However, in this case, I am reminded of what inevitably happens if you stand on a dock throwing bread crusts to seagulls in the air above you.)
Shoot the Byrd
So, the estate tax is repealed after December 31, 2009. The Byrd rule restores current law effective for deaths after December 31, 2010. So, start planning now. Die in 2010 and there is no estate tax. Screw up your timing by dying before or after 2010, and Uncle will get his due.
You and your advisors will want to shoot this Byrd due to the confusion and complexity that it creates. Congress undoubtedly will sort this out over the next 10 years, although permanent estate tax repeal is but one of an infinite number of possibilities. In the meantime, dealing with the uncertainty of virtually certain law changes in the interim will ensure with certainty that your advisors will be able to provide college education for their children and grandchildren. I will present more thoughts on interim planning and expectations later in this column series.
Gift Tax Survives
Don’t expect to circumvent this silliness by giving everything away during 2010. Congress had the foresight to prevent that planning. It did not repeal the gift tax – ever. This is particularly odd because, in the beginning, Congress enacted the estate tax and decided that it was good. It took Congress several years to figure out that even stupid people could avoid the estate tax by making gifts while alive. So, it enacted the gift tax. Over a half century later, Congress decides to have gift tax, but no estate tax. Weird!
I have heard no social policy rationale for a gift tax and not an estate tax. In fact, Congress simply needed to reduce the cost of responding to the popular rallying cry (that it created) to repeal the “Death Tax.” Since Congress did not rally the people around the evils of taxing gifts, it conveniently decided to keep the gift tax.
New Rates and Exemptions
Subject to possible different interpretations by the IRS, the chart is my attempt to illustrate the estate, gift and generation skipping tax rates and exemptions, along with the family business exclusion.
Family business owners actually get no overall estate tax exemption increase until 2004. The reason is that in the current law, $1.3 million family business exclusion phases down as the estate tax exemption phases up. So, the 2002 increase in the estate tax exemption to $1 million is offset by a decrease in the family business exclusion to $300,000.
Beginning in 2006, the estate tax exemption consumes all of the lower estate tax brackets. So, if you die in 2006 or later years, every dollar of your estate over the exemption will be taxed at the highest stated percentage. Similarly, in 2010, there effectively will be a flat 35% gift tax rate because the $1 million exemption will consume all lower gift tax brackets.
Some commentators have indicated that the top gift tax rate is tied to the top income tax rate beginning in 2010. The statutory language actually fixes the gift rate at 35%. Although 35% is consistent with the new law’s income tax rate reductions, the gift tax rate actually is not tied to the income tax. Given Congress’ proclivity to raise, rather than lower income taxes, that may be a good thing.
Rates and exemptions are only a part of the story. Stay tuned next month for more on this landmark legislation. [table omitted]