Tax Relief, Unemployment Insurance Authorization, and Job Creation Act of 2010 – A Summary and Statutory Analysis of Key Estate Planning Provisions

Print Friendly, PDF & Email

Authors:
Adrienne Penta, Esq., Brown Brothers Harriman
Kerry L. Spindler, Esq., Goulston & Storrs, PC

On December 17, 2010, President Obama signed the Tax Relief, Unemployment Insurance Authorization, and Job Creation Act of 2010 (the “TRA”) into law. The TRA extends a number of the Bush tax cuts and benefits under the Economic Growth and Tax Relief Reconciliation Act of 2001 (“EGTRRA”), the Jobs and Growth Tax Relief Reconciliation Act of 2003 (“JGTRRA”), and the Tax Increase Prevention and Reconciliation Act of 2005 (“TIPRA”), and also introduces additional cuts. Effective for only two years, the TRA is a temporary fix to the uncertainties raised by the sunset of the relevant provisions of these acts (now scheduled to occur after December 31, 2012).

Following is a summary and statutory analysis of the TRA provisions that most affect estate planning.

SELECT ESTATE, GIFT AND GENERATION SKIPPING TAX PROVISIONS

(1) Federal Estate, GST and Gift Tax Exemption Amounts. The TRA increases the individual exemption amounts from federal estate, GST and gift taxes to $5M. The $5M estate and GST tax exemption amounts are retroactive to January 1, 2010 and remain in effect through 2012. The $5M gift tax exemption is effective as of January 1, 2011 and also remains in effect through 2012. As a result, the gift tax exemption amount remains at $1M for 2010, but beginning January 1, 2011, the estate tax, GST tax and gift tax exemption amounts are unified for the first time ever and through 2012. Unification means not only that the taxes share the same rate and exemption amount, but also that an individual may use any portion of his or her $5 million exemption amount to make gifts (including generation skipping gifts) during life. Any amount not used during life will be available at death.

(a) Statutory analysis of federal estate tax exemption amount. EGTRRA § 521(a) amended Internal Revenue Code (the “Code”) § 2010(c) to increase the federal estate tax exemption amount incrementally from $675,000 in 2001 to $3,500,000 in 2009. EGTRRA § 501(a), however, created Code § 2210, repealing the estate tax for decedents dying in 2010. EGTRRA § 901 scheduled this repeal to sunset on December 31, 2010 and directed that the Code thereafter be applied and administered as if EGTRRA “had never been enacted”. The result would have been a federal estate tax exemption amount of $1M beginning on January 1, 2011.

TRA § 302(a) amends Code § 2010(c) to increase the federal estate tax exemption amount to $5M, and TRA § 101 postpones EGTRRA’s sunset until December 31, 2012. Together, these sections eliminate the one-year repeal of the estate tax (see the discussion below regarding an optional election into the repeal and out of the estate tax for deaths occurring in 2010) and establish a $5M estate tax exemption amount from 2010 through 2012 (with a possible inflation adjustment after 2011).

(b) Statutory analysis of federal GST tax exemption amount. Prior to 2004, Code § 2631(c) prescribed a GST exemption amount of $1M. EGTRRA §§ 521(c) and (e)(3) caused the GST exemption amount to track the federal estate tax exemption amount beginning in 2004. Moreover, EGTRRA § 501(b) created Code § 2664, which caused Subtitle B of the Code (containing the GST tax statutes) not to apply to GST transfers occurring after December 31, 2009, thereby repealing the GST tax with respect to 2010 transfers. EGTRRA § 901 scheduled the GST repeal to sunset on December 31, 2010, after which the Code was to be applied and administered as if EGTRRA “had never been enacted”. The result was that while there was to be no GST tax (and, in fact, no GST tax provisions in effect) in 2010, beginning January 1, 2011, the GST tax provisions were to come back into effect and the GST exemption amount would again track the federal estate tax exemption amount (becoming $1M and adjusted for inflation since 2001 under Code § 2631(c)).

TRA § 301(a) amends the Code to read as if EGTRRA and Code § 2664 had never been enacted, and TRA § 303(b)(2) amends Code § 2631(c) to refer to the federal estate tax exemption amount. As a result, the GST tax exemption amount tracks the estate tax exemption amount without interruption through 2012. The GST tax exemption amount is therefore $5M in 2010 though 2012 (with a possible inflation adjustment after 2011).

(c) Statutory analysis of federal gift tax exemption amount. Prior to EGTRRA, the federal gift tax exemption amount tracked and was equal to the federal estate tax exemption amount. When EGTRRA § 521(b)(1) amended Code § 2505(a), it set the federal gift tax exemption amount at $1M, irrespective of the federal estate tax exemption amount. EGTRRA did not repeal the gift tax in 2010, unlike the estate and GST taxes, and EGTRRA § 521(b)(2) set the gift tax exemption amount to remain at $1M in 2010. EGTRRA § 901, however, did cause the gift tax provisions to sunset on December 31, 2010 and for the Code to be applied and administered thereafter as if EGTRRA “had never been enacted”. The result was that beginning January 1, 2011, the federal gift tax exemption amount would again track the federal estate tax exemption amount, and would become $1M beginning January 1, 2011.

TRA § 301(b) amends Code § 2505(a) to read as if EGTRRA § 521(b)(2) had never been enacted. This eliminates EGTRRA’s special provision for a 2010 gift tax exemption amount and bases the gift tax exemption amount for 2010 gifts on the $1M federal gift tax exemption amount. TRA § 302(b) also amends Code § 2505(a) so that the gift tax exemption amount once again tracks the estate tax exemption amount for gifts made after December 31, 2010. Therefore, the gift tax exemption amount is to increase to $5M for gifts made in 2011 and 2012 (with a possible inflation adjustment after 2011).

(2) Federal Estate, GST, and Gift Tax Rates. The TRA effectively unifies the federal estate, GST and gift tax rates and in each case causes the top marginal rate to be 35% from January 1, 2010 through 2012.

(a) Statutory analysis of federal estate tax rate. EGTRRA § 511 amended Code § 2010(c) and over several years reduced the top marginal estate tax rate from 55% in 2001 to 45% beginning in 2007. As discussed above, EGTRRA § 501(a) also created Code § 2210, which repealed the estate tax for decedents dying in 2010. EGTRRA § 901 scheduled this repeal to sunset on December 31, 2010 and directed that the Code thereafter be applied and administered as if EGTRRA “had never been enacted”. Therefore, beginning on January 1, 2011, the federal estate tax was to return with a top marginal rate of 55%.

TRA § 302 amends Code § 2001(c), setting the top marginal estate tax rate at 35% (applicable to amounts greater than $500,000), TRA § 302(f) applies the 35% rate to the estates of decedent’s dying after December 31, 2009, and TRA § 101 postpones EGTRRA’s sunset until December 31, 2012. Together, these sections create a 35% estate tax rate that is effective from 2010 and through 2012.

(b) Statutory analysis of GST tax rate. Pursuant to Code § 2642(a), the GST tax rate tracks and is equal to the federal estate tax rate. EGTRRA did not change this. However, as discussed above, EGTRRA § 501 did create Code § 2664, which caused subtitle B of the Code (containing the GST tax statutes) not to apply to GST transfers occurring after December 31, 2009, thereby repealing the GST tax with respect to such transfers. Meanwhile, EGTRRA § 901 scheduled the GST repeal to sunset on December 31, 2010, after which the Code was to be applied and administered as if EGTRRA “had never been enacted”. The result was that while there was to be no GST tax (and, in fact, no GST tax provisions in effect) in 2010, beginning January 1, 2011, the GST tax provisions were to come back into effect, and the GST tax rate would again track the federal estate tax rate (becoming 55%).

TRA § 301(a) amends the Code to read as if EGTRRA and Code § 2664 had never been enacted. Alone this would have caused the GST tax rate to track the federal estate tax rate without interruption through 2012, but, as discussed later in this summary, TRA § 302(c) sets a special GST tax rate for 2010. As a result, the GST tax rate is 0% in 2010 and 35% in 2011 and 2012.

(c) Statutory analysis of federal gift tax rate. Prior to 2009, the federal gift tax rate tracked the federal estate tax rate under Code § 2502(a). However, under EGTRRA § 511(d), a separate 35% gift tax rate was created for gifts made in 2010 (as compared to no estate tax in 2010). EGTRRA § 901 scheduled this 35% gift tax rate to sunset on December 31, 2010 such that beginning on January 1, 2011, the gift tax rate would again track the estate tax rate as if EGTRRA had “never been enacted” (becoming 55%).

Effective January 1, 2011, TRA § 302(b) restores Code § 2502(a) to its pre-EGTRRA language. The result is that the 2010 gift tax rate remains 35% under EGTRRA § 511(d), and in 2011 and 2012 the gift tax rate is also 35%, tracking the 35% estate tax rate pursuant to the TRA.

(3) Portability of Estate Tax Exemption Amount. For the first time ever, a surviving spouse is allowed to receive the unused portion of a decedent spouse’s federal estate tax exemption. This concept, called “portability”, permits a surviving spouse’s estate tax exemption amount to be increased by the amount unused by the deceased spouse. The estate of the first spouse to die must file a timely estate tax return in order to elect portability and preserve the unused exemption, even if the estate would not otherwise be required to file. Portability is effective with respect to deaths in 2011 and 2012. Portability is not cumulative in that it applies only to the surviving spouse’s last deceased spouse.

TRA § 303 amends Code § 2010(c) to create portability of the federal estate tax exemption amount between spouses. Moreover, TRA § 302(b)(1)(A)’s amendment to Code § 2505(a) has the effect of permitting a surviving spouse to use a deceased spouse’s unused exemption (in addition to his or her own exemption amount) for the purpose of making lifetime gifts in 2011 and 2012.  Portability does not apply to the GST tax.

(4) Deduction for State Death Taxes. A federal estate tax deduction for state death taxes actually paid remains in effect through 2012.

EGTRRA § 531 amended Code § 2011 to terminate the state death tax credit with respect to the estates of decedents dying after December 31, 2004 (see Code § 2011(f), originally Code § 2011(g)) and also created new Code § 2058 to permit a state death tax deduction in its place. EGTRRA § 501(a) scheduled the deduction to be repealed with the estate tax for 2010, while EGTRRA § 901 scheduled the repeal to end after December 31, 2010 and directed that the Code thereafter be applied and administered as if EGTRRA “had never been enacted”. The result is that there was to be no estate tax and no state death tax deduction with respect to 2010 deaths, and beginning January 1, 2011, the state death tax credit was to return with the estate tax.

The TRA does not affect the state death tax deduction or credit except for TRA § 101’s postponement of EGTRRA’s sunset until December 31, 2012. As a result, the state death tax deduction does not sunset on December 31, 2009, and instead remains effective for 2010 through 2012.

(5) Basis Step-Up. Property passing as a result of a death occurring on or after January 1, 2010 through 2012 receives a step-up in basis.

Pursuant to Code § 1014, the basis of property passing at death is the fair market value of the property at the date of the decedent’s death. Under EGTRRA §§ 541 and 542, “step-up basis” was generally eliminated with respect to the estates of decedents dying in 2010 in favor of “carry-over basis” for all property. More specifically, the estate of a decedent dying in 2010 was allowed to allocate $1.3M in basis increase to estate property and an additional $3M in basis increase to estate property passing outright to a surviving spouse or into a QTIP trust. EGTRRA § 901 caused §§ 541 and 542 to sunset after December 31, 2010. The result is that estates of decedents dying in 2010 were subject to EGTRRA’s new carryover basis regime, but the estates of those dying in 2011 or later were subject to the prior step-up basis regime under Code § 1014.

TRA § 301(a) amends the Code to read as if EGTRRA and Code §§ 541 and 542 had never been enacted. As a result, the step-up basis regime is effective with respect to estates of decedents dying during 2010, 2011 or 2012.

(6) Change in Gift Tax Calculation Method. The gift tax calculation under Code § 2505(a) includes subtracting the amount of the unified credit available. The amount available is calculated by subtracting the amount of credit already used with respect to prior gifts. Under TRA § 302(d)(2), the gift tax rate applicable to the current gift is to be used to calculate the amount of credit used on prior gifts. The effect of this change is to correct for the situation where an individual earlier paid gift tax at a higher rate, using more of his or her unified credit than he or she would have under the TRA’s 35% rate. The estate tax calculation is similarly changed under TRA § 302(d)(1) (also to account for changing gift tax rates). Although a detailed mathematical analysis of the effects of TRA § 302(d) is beyond the scope of this summary, click here for an excellent examination by Steve R. Akers, Esq of Bessemer Trust.

(7) Special Provisions for Transfers Occurring in 2010. The above notwithstanding, the TRA includes special provisions with respect to generation skipping transfers occurring in 2010 and the estates of decedents who died in 2010. These provisions ascribe a 0% GST tax rate to generation skipping transfers made in 2010, permit the personal representative of the estate of a decedent who died in 2010 to choose between the TRA’s 35% estate tax/step-up basis provisions and EGTRRA’s zero-estate tax/carry-over basis provisions, and extend the due dates for filing certain gift or estate tax returns, paying estate or GST tax, or making a qualified disclaimer to no earlier than nine months after the TRA’s date of enactment.

(a) Statutory analysis of 2010 GST tax applicable rate. Under TRA § 302(c), the GST tax applicable rate is 0% with respect to generation skipping transfers made in 2010. The remaining substantive GST provisions remain intact for 2010, including the ability to allocate GST exemption on a timely filed gift or estate tax return to transfers made or deemed to have been made in 2010.

(b) Statutory analysis as to electing out of the TRA. As discussed above, under the TRA, the default estate tax rules for 2010 deaths include a $5 million estate tax exemption amount, a top estate tax rate of 35%, and a basis step-up. However, TRA § 301(c) provides that, as an alternative, a decedent’s personal representative may elect out of the TRA so as to apply EGTRRA’s no estate tax/carry-over basis regime. Instructions from the Secretary of the Treasury on how to make the election are forthcoming. Once made, such election is revocable only with the consent of the Secretary.

(c) Statutory analysis of filing extensions. Under TRA § 301(d)(1), with respect to deaths occurring in 2010 before the TRA date of enactment (December 17, 2010), the due date of estate tax returns, payment of estate tax and for making qualified disclaimers is extended to no earlier than nine months from the date of enactment, resulting in September 19, 2011 as the earliest possible due date (September 17, 2011 is a Saturday). Under TRA § 301(d)(2), the gift or estate tax return due date with respect to generation skipping transfers made after December 31, 2009 and before December 17, 2010 is also extended to no earlier than September 19, 2011.

SELECT INCOME TAX PROVISIONS

(8) Charitable Distributions from an IRA. Through 2012, individuals who are 70½ years of age or older may continue to make qualified charitable distributions from an IRA. An individual may direct up to $100,000 of his or her required minimum distribution from the IRA directly to a public charity. The amount directed will not be included in the individual’s taxable income.

Under Code § 408(d)(8)(F), the ability to make qualified charitable distributions directly from an IRA was scheduled to sunset on December 31, 2010. TRA § 725 postpones this sunset until December 31, 2012, thereby extending this charitable giving technique. [1]

(9) Ordinary Income Tax Rate. The top federal marginal ordinary income tax rate will remain at 35% through 2012.

Over several years, EGTRRA § 101(a) reduced the top federal income tax rate from 39.6% to 35% beginning in 2006. EGTRRA § 901, however, scheduled this rate reduction to sunset on December 31, 2010 and return the top federal income tax bracket to its pre-EGTRRA rate in 2011. TRA § 101 postpones EGTRRA’s sunset until December 31, 2012, thereby extending the 35% top federal income tax rate.

(10) Capital Gains & Dividend Income Tax Rate. The top federal marginal tax rate for long-term capital gains and qualified dividends will remain at 15% through 2012.

JGTRRA §§ 301 and 302 reduced the top tax rate for long-term capital gains and qualified dividend income from 20% to 15% for tax years ending on or after May 6, 2003, and beginning after December 31, 2002, respectively. Although JGTRRA § 303 scheduled these rates to sunset on December 31, 2008, TIPRA § 102 postponed the date of sunset to December 31, 2010. Now, TRA §§ 101 and 102 further postpone the date of sunset to December 31, 2012, thereby extending the applicability of the 15% long-term capital gains and qualified dividend income tax rate.

—-

[1] Pursuant to Massachusetts General Law c. 62, § 1(c), and as discussed in Massachusetts’ Technical Information Release 06-20 dated November 17, 2006, Massachusetts has adopted Code § 408(d)(8) as “in effect for the taxable year”. This “in effect for the taxable year” language causes Massachusetts to also adopt, absent authority to the contrary, the TRA’s amendment to Code § 408(d)(8)(F) and the extension of this technique.