A New Federal Estate Tax Law – What Does It Mean?

As you know, Congress passed a bill, which was signed by President Obama, which increased the lifetime federal estate tax exemption amount to $5.0 million dollars. In addition, Congress added a portability provision, which meant that if the spouse died first and did not use the entire amount at his or her death, that the balance of that amount could be used by the surviving spouse at his or her death. This portability provision does not work in the event that the surviving spouse remarries. That surviving spouse only receives the remainder of the second spouse’s exemption.

In the past, with a much lower exemption amount, estate planners prepared separate trusts for each spouse, with the trust of the first spouse to die splitting into two trusts at death: the marital trust and the family trust. The traditional language used in dividing the assets into the two trusts is that the family trust is funded first with the maximum amount that could pass free of tax. The balance after funding the family trust is placed into the marital trust.

Now that the maximum amount that can pass free of tax is $5.0 million for federal purposes, for estates that are smaller than the $5.0 million, the entire amount of that person’s estate will go into the family trust, with nothing to go into the marital trust. This may mean that the surviving spouse’s unfettered access to the assets in the trust will be somewhat limited. In many cases, there is a trustee other than the spouse who handles the principal distributions from the family trust, so the surviving spouse has to ask another trustee for principal distributions. This may or may not be the optimal solution for the estate plan for this size estate.

As a result, the estate plans that have been drafted in the past need to be reviewed to determine the goals of the family and determine if they are met under the circumstances. For a smaller estate, where the husband and wife each have full control of the assets, it may be simpler to do one joint trust, rather than separate trusts for the husband and wife. This is simple to understand and easy to use.

In addition to the lifetime federal estate tax exemption amount increasing to $5.0 million, the lifetime gift tax exemption and the lifetime generation skipping tax exemption also increases to $5.0 million. This means that gifts that are in excess of the annual limit of $13,000 can be made without tax. This is true on gifts to the grandchildren, as well. This creates many more opportunities to give money or other assets to your children or grandchildren without creating a tax.

With all of these opportunities, the one potential problem is that this new law is a two year law. By the end of that time, Congress needs to do something such as to abolish the federal estate tax, or to set it at the current number more permanently. If it fails to do so, we may end up back at the $1.0 million lifetime exemption amount.