Federal
On January 9, 2009, H.R. 436 was introduced in the U. S. House of Representatives. The major components to this proposed legislation that could impact your estate planning include:
(1) an extension of the $3,500,000 applicable exclusion amount beyond 2009, effectively eliminating the repeal of the estate tax in 2010. The maximum marginal rate would remain at 45%.
(2) a change to the valuation rules to eliminate the minority and marketability discounts on entities, such as family limited partnerships or limited liability companies, that own "passive" or non-business assets, such as stocks and bonds. These marketable securities would be valued as if they were gifted at fair market value to the transferee, and without any discount.
(3) disallowance of minority ownership discount for any interest in an entity controlled by a family. Thus, parents who have transferred a majority ownership position in their closely-held family business to their children will no longer be able to benefit from a discount on their estate tax return for their minority ownership interest.
These changes would become effective after the date of the legislation which is expected to be sometime this year.
Illinois
On January 20, 2009, House Bill 255 was introduced in Springfield. This legislation would allow married couples with estates more than $2,000,000 to set up a QTIP trust to take advantage of marital tax deductions to defer estate taxes until the death of the surviving spouse. A QTIP trust is a trust established by one spouse that requires that all of the trust income be paid to the spouse during his or her life but restricts the spouse’s access to the principal and the ability to direct its ultimate disposition. Illinois does not allow a marital deduction for transfers to a QTIP trust.
At the present time the $3,500,000 federal estate tax exclusion amount is greater than the $2,000,000 Illinois exclusion. Thus, a surviving spouse whose wife or husband dies in 2009 will suffer a $209,000 Illinois estate tax payment on the $1,500,000 differential in order to fully fund the credit shelter trust in the amount of $3,500,000, the federal exclusion amount.* If the surviving spouse’s estate is eventually subject to federal estate taxes, the beneficiaries will be better off paying the much lower Illinois estate tax at the first death in order to avoid the higher federal estate tax rate on $1,500,000 – 45%, or $675,000 – for family beneficiaries.
The proposed Illinois QTIP legislation could allow the estate of the first spouse to die to be funded at $3,500,000 without paying Illinois estate tax. The qualifying condition is that the $1,500,000 differential be held in a QTIP trust subject that would only be included in the survivor’s estate for Illinois estate tax purposes, not federal estate tax purposes. At least 11 other states have adopted this kind of legislation that allows estate tax on the death of the first spouse to be deferred until the death of the second spouse.
In the event the QTIP legislation is not enacted, a gifting strategy would help lower the Illinois estate tax. As an example, a spouse, who has not utilized his or her $1,000,000 lifetime gift tax exclusion, could establish, during his or her lifetime, a $1,000,000 irrevocable credit shelter trust with cash or high basis assets, and then, with $2,000,000 of the remaining federal exclusion amount of $2,500,000, create a $2,000,000 credit shelter trust at the time of his or her death. The assets transferred to the irrevocable gift trust would not be subject to Illinois estate tax of the spouse who created the trust; and the survivor will have the benefit of the two trusts created by the decedent – the $1,000,000 irrevocable gift trust and the $2,000,000 testamentary credit shelter trust. The survivor will not suffer any Illinois estate tax on the assets of either trust and the decedent would have used $3,000,000 of his $3,500,000 applicable exclusion amount at the time of his death. This strategy removes $1,000,000 from the surviving spouse’s subsequent Illinois-taxable estate, at a tax savings of $80,000, and use of $1,000,000 of the available federal exclusion amount saves $450,000 in federal tax in the decedent’s estate. The aggregate tax savings are $530,000.
Alternatively, if the surviving spouse is willing to suffer some Illinois estate tax at the first death, the $1,000,000 irrevocable credit shelter trust could be combined with a $2,500,000 testamentary credit shelter trust, which would cause $500,000 to be subject to Illinois estate tax at a cost of $129,000 as the price to pay for fully using the $3,500,000 federal exclusion amount. The federal estate tax savings in the estate of the survivor will be $675,000 (45% x $1,500,000). The aggregate tax savings are $546,000 ($675,000 less $129,000).
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Please do not hesitate to contact us if you have any questions about the proposed changes in the estate tax laws or how to address them vis-a-vis your estate plan including, but not limited to, the purchase of insurance to cover what will undoubtedly be increased estate taxes. Since these laws are expected to be enacted this year, there is no profit in delay.
* There is no tax on a tentative taxable estate of $2,000,000. For planning purposes, the tax on a tentative taxable estate of $2,500,000 is $129,000, for a tentative taxable estate $5,000,000 the tax is $352,000, and for a tentative taxable estate of $10,000,000 the tax is $927,000.