A decade of uncertainty about federal estate tax exemptions and rates ended on January 1, 2013 with the passage of the American Taxpayer Relief Act of 2012. The act made “permanent” the $5 million per person Estate Tax Exemption. (Although politicians call this law “permanent,” it is obviously no more permanent than any other piece of tax legislation and is subject to the whims of the American political process.)
The Estate Tax Exemption, simply put, is the amount individuals can give away, during lifetime or at death, without paying federal estate taxes. The Act set the Exemption at $5 million per person with future adjustments for inflation. The inflation-adjusted rate for 2013 is $5.25 million. The Act also made permanent a tax rate of 40% on any amount over the $5 million exemption.
This long-overdue exercise of fiscal responsibility ends a decade of uncertainly that has made it extremely difficult for lawyers, accountants, and financial advisors to advise clients on estate and financial planning, as shown by the shifting Exemption since 2001.
Year Exclusion Amount Maximum Tax Rate
2001 $675,000 55%
2002 $1 Million 50%
2003 $1 Million 49%
2004 $1.5 Million 48%
2005 $1.5 Million 47%
2006 $2 Million 46%
2007 $2 Million 45%
2008 $2 Million 45%
2009 $3.5 Million 45%
2011 $5 Million 35%
2012 $5.12 Million 35%
2013 $5.25 Million 40%
In short, it has been difficult to do the “planning” aspect of “estate planning without a reasonable degree of certainty about whether a client’s estate will be subject to estate tax.
The new law means that individuals and married couples in California need not worry about estate taxes if they are reasonably sure that their estate will not exceed $5 million at their death. (California does not have an estate or inheritance tax, though 21 states and the District of Columbia do; California residents with substantial assets outside of California should be mindful of the applicable law in the states where they own assets.) Because real estate in certain areas of Contra Costa County and other Bay Area counties has often appreciated rapidly, clients should be mindful of the value of their real estate holdings if their estate approaches $5 Million.
The increased Exemption also means that many married couples may not need the “A-B” Trusts commonly used prior to 2001. These trusts, designed to mitigate estate taxes when the exclusion was $600,000, may now be “overbuilt” for married couples in long first marriages. If your trust is more than 10 years old, now is a good time to have it reviewed.