We enter 2010 with an unprecedented estate planning situation. Beginning on January 1, we entered a period of no federal estate and generation skipping transfer (GST) taxes. Over the course of this decade, with ever increasing budget deficits few, if anyone, might have expected that Congressional delays and inaction would result in a repeal of estate and GST taxes. Whether estate taxes remain repealed for the balance of 2010 is something few can predict. Certainly, if no action is taken we will enter 2011 with a return to taxes as we knew them in 2001, with a $1,000,000 unified credit exemption equivalent and up to 55% graduated rates.

In the face of this uncertainty clients may be frozen into inaction. Few may be willing to take on the time and expense of any planning until there is greater certainty. However, it is important that clients understand that inaction may present other issues:

• Many estates were written with formulas that split assets between children and spouses in such a manner as to take advantage of the federal applicable exemption to zero out estate taxes at the first death. In a period of no federal estate taxes, the marital deduction may have little or no effect and spouses may effectively be disinherited.

• Without estate taxes, we are in a period where certain assets do not receive a “step-up” or “step-down” to the date of death value. Instead, assets receive what is known as “Carryover Basis.” This means an owner’s basis will carry over to his or her heirs.
These heirs will now face capital gain taxes on these assets if sold at a gain. Only a small amount ($1,300,000 plus $3,000,000 if to a spouse) is eligible for an increased tax basis. As under prior law, certain assets including, but not limited to, pre-tax amounts in pension and profit sharing plans do not qualify for a basis adjustment. This means many more families that were never affected by federal estate taxes may find themselves affected by this new tax regime.

• We are also in an era of historically low interest rates and where many assets are still depressed in value from the 2008 economic crisis. This may be a period where clients should seriously consider discounted gifting techniques such as Grantor Retained Annuity Trusts (GRATs). In particular there is the potential for legislation to remove short to mid-term GRATs, thereby making decisions about these planning devices particularly time sensitive.

It is impossible to tell what action Congress may take relative to federal estate taxes or if any 2010 legislation might be retroactive to the beginning of the year. However, it is important for clients to examine their planning. To help, we offer the attached model client letter to help your clients consider planning sooner, rather than later. As always, we are available to help you with any client planning and we will keep you up to date with events as they develop.