So the fiscal cliff disaster has been averted and all is well...until the potential calamity brought about by the sequestration scheduled in March. But until we reach the next cliff, let's review several of the important estate planning developments brought to us by the American Taxpayer Relief Act of 2012.
Estate tax exemption. From 2001 to 2012, the estate tax exemption steadily increased from $675,000 to $5.12 million (with the aberration of no estate tax in 2010). However, without a last minute deal, the estate tax exemption would have reverted to the Clinton-era exemption amount of $1 million. Not even the Democrats, who were proposing a $3.5 million exemption, would have wanted that. Chalk up a minor victory for the Republicans who got the estate tax exemption to remain at $5 million. After adjusting for inflation, the amount increases to $5.25 million for 2013. This amount is "permanent", meaning there is no sunset date and the exemption is good for the foreseeable future...until Congress changes it again.
Estate tax rate. No fiscal deal would've resulted in the top estate tax rate going from 35% to 55%. Congress met in the middle and agreed to a 40% top tax rate for amounts in excess of the estate tax exemption.
Portability. Under the Tax Relief, Unemployment Reauthorization and Job Creation Act of 2010, portability was created to give the surviving spouse the ability to use the deceased spouse's unused estate tax exclusion amount. For example, if a husband dies and uses only $1 million of his $5 million exemption, the surviving spouse can elect to take the deceased spouse's remaining $4 million unused exemption and tack it on to her own $5 million exemption for a $9 million estate tax exemption. The fiscal cliff deal makes portability "permanent". In order to make this portability election, the personal representative of the deceased spouse's estate must file an estate tax return, even if no estate tax is due.
Investment income tax. For individuals earning $200,000 or more or couples making $250,000 or more, an additional 3.8% tax on net investment income will be levied. Net investment income includes a) interest, dividends, annuities, royalties and rents, b) gains attributable to the disposition of property and c) income and gains from a trade or business, but only if such trade or business is a passive activity with respect to the taxpayer or involves trading in financial instruments or commodities.
Individuals have to pay the tax on the lesser of the net investment income or the excess of their modified adjusted gross income. For estates and trusts, the tax applies to the lesser of undistributed net investment income or the the excess of adjusted gross income over the highest income tax bracket for estates and trust, which is $11,950 in 2013.
Samuel K.L. Suen is an attorney based in Honolulu, Hawaii specializing in estate planning, probate, conservatorship and guardianship matters.
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