One of my clients is an avid stamp collector. He has decided that upon his death, his modest collection will go to his granddaughter who grew up learning about and loving his hobby during their summers together.

Individuals pass more to their heirs than just real estate and money – a significant portion of wealth that is inherited comes in the form of art, jewelry, heirlooms and collections.

The difficulty in determining the value of these items and the fluctuations in tax law between this year and next are proving to be tricky for estate planning and estate settlement.

If an inherited asset that is appreciated in value is sold, the profits likely are subject to the capital gains tax. In previous years, capital gains taxes were measured based on the value of the item at the time of the of the original owner’s death under a step up in cost basis.

But, because the step up in cost basis has been suspended this year along with the estate tax, the capital gains tax against 2010 heirs will be measured based on the original owner’s purchase price – not the item’s current value – unless the estate’s executor includes that item as part of the $1.3 million step up that all estates get.

This could be a valuation and tax nightmare for my client’s granddaughter should my client die in 2010. The capital gains tax for collectibles is 28 percent. And many rare objects will require evidence of provenance and proof that taxes were paid on previous sales.

If you have rare collectibles or heirlooms that you intend to pass on, have the items appraised (every five years is recommended) and keep any papers of provenance and purchase in an accessible file. With the return of the estate tax in 2011, you might also consider donating rare collectibles to a museum or other charity, which would allow you to deduct a portion of their value from your estate leaving more to your heirs.

My client’s collection likely holds more sentimental value for his granddaughter than economic, but her grandfather’s pride in his stamps and meticulous record-keeping will protect her from terrible tax confusion when his collection finally becomes hers.

James D. Perry

In 2008, the federal government collected in excess of $25 billion on individual estates via the estate tax, sometimes called the “death tax.” It’s been six months since the tax lapsed as part of legislation enacted under President George W. Bush in 2001.

Now, the death of one American billionaire, oil magnate Dan L. Duncan, is casting a spotlight on how much the federal government is not collecting.

Duncan’s fortune was estimated to be worth $9 billion, ranking him as the 47^th wealthiest person in the world. Had he died in December 2009, any part of his estate not left to his surviving spouse would have been taxed at a rate of at least 45 percent – at most, $4 billion for the federal government.

The House and Senate failed to come to any consensus last year on legislation that would have prevented the repeal. But, the Senate Finance Committee wants to reinstate the estate tax – the only question being whether the final legislation on the matter will include provisions to collect on the estates of those who have already died this year.

Advocates of the tax point out that the U.S. is home to more than 50 of the world’s billionaires over the age of 80, and claim that the repeal amounts to an unconscionable tax break for the ultra-wealthy in very lean times and historical income disparity. Opponents argue that the tax is unfair because it taxes the same income twice – once when it is earned and again when it is passed on to heirs.

Lawyers agree that any attempt to apply the tax retroactively to the Duncan estate will be met with well-funded legal opposition and arguments that a retroactive tax is unconstitutional.

Congress has another six months to figure out what to do with about Tax-Free 2010. The tax returns at a rate of 55 percent in January 2011.

James D. Perry

There are a lot of things to look forward to in 2010, but those of us in estate planning and probate law were hoping for one last act of 2009 – Congressional action on the Death Tax.

The Death Tax officially died at midnight, December 31, 2009 meaning that any taxpayer dying in 2010 will not have to pay taxes on his or her estate. It will resurrect itself on January 1, 2011 at Clinton-era levels exempting only the first $1 million with a 55 percent tax rate.

Despite the appealing zero percent tax rate against estates, the hidden danger lies in recent changes to the capital gains tax laws. Heirs face heavy capital gains taxes on the sales of any inherited assets, which may potentially be more costly overall than the death tax.

President Barack Obama and members of Congress have indicated that they want to freeze the levy at 2009 levels ($3.5 million exemption, 45 percent tax) instead of letting it expire.

The House voted in December to put this plan into law. The Senate, though, declined to act until a more permanent solution was found.

It’s expected now that the Senate will take action (when, we’re not sure) and apply any new tax law retroactively. That move may face legal challenges and it still doesn’t help those looking to put into place a responsible estate plan.

Without government action, it is difficult for estate planning lawyers to properly advise clients.

Until this is resolved, all eyes are on The Hill.

James D. Perry

A few weeks ago, I wrote about the expected death of the “death tax” due in 2010.

The $1.35 trillion tax cut package passed in 2001 included provisions for the estate tax rate decrease and the estate value exemption increase over time with the estate tax disappearing entirely in 2010. However, it would return in 2011 to a 55% tax rate and an exemption only on the first $1 million of an estate.

The question still remains, though, as to what Congress plans to do about it.

Congress could allow the law to stand meaning anyone who dies in 2010 doesn’t have to pay taxes on their estate. But, this doesn’t seem likely because of the tremendous impact it would have on the Treasury’s coffers.

Congress could pass legislation in the next two months to prevent the repeal from taking place, either extending current tax rates and exemptions, or putting forth a new plan. President Obama proposes a permanent estate tax of 45% exempting the first $3.5 million of an estate ($7 million for married couples).

Or, they could let 2010 come and pass a law that will be applied retroactively. Estate taxes aren’t due until nine months after the date of death making September 2010 the latest Congress has to make a decision. However, that could mean that the government may show up at your door, hat in hand looking to collect on the dearly departed’s estate long after you’ve filed the final tax returns.

There is a great deal of criticism against this tactic – most noting the difficulty of such retroactive tax collection on a deceased individual’s divvied up estate. It may even be unconstitutional.

Whatever Congress decides, it’s a decision best made sooner than later.

James D. Perry

Right now, 2010 is a year to die for.

Those who die in 2010 won’t be taxed on their estates, although their heirs will have to pay capital gains taxes on inherited assets when they sell them.

Unless President Obama and Congress work quickly to stop it, the estate tax – sometimes referred to as “the death tax” – will be dead for one year come January 1, 2010. However, it will return with a vengeance in 2011 to the pre-Bush levels of 55% on the first $1 million of an estate.

Since 2001, the tax rate has decreased steadily and the estate value exempted has increased. As per legislation passed that year as part of President George W. Bush’s $1.35 trillion tax cuts, the estate tax is set to disappear entirely in 2010 for just one year.

President Obama proposes a permanent estate tax of 45% exempting the first $3.5 million of an estate ($7 million for married couples). Congressional Republicans want to see the repeal go into effect as planned, though political analysts don’t see that happening. There is a push for Congress to vote to exten the 2009 rules through 2010, essentially punting the issue of a permanent fix until next year.

However, the compromise promoted by Senators John Kyl (R-Ariz.) and Blanche Lincoln (D- Ark.) is gaining a lot of support from lobbyists for small business, agriculture, manufacturing, and other industries. Under that plan, the permanent estate tax rate would be 35% exempting the first $5 million.

Congressional focus is still on health care, but this is certainly one issue to watch as the year winds down.

James D. Perry

I have a 75 year-old client* who is the trustee of his aunt’s trust. He had a stroke before the final tax return on his aunt’s estate was due and ended up filing the return nine months late. Approximately $20,000 was due in taxes, and nearly $10,000 was assessed in penalties.

Mercifully, because of the circumstances of his illness, it’s likely that the IRS will simply drop the penalties. Currently the law gives the IRS broad discretion to waive penalties where the taxpayer can show he or she made a good faith effort to obey the tax law.

However, under a new tax provision included in a health care bill before Congress, that discretion may be wiped away.

James M. Peaslee of the Wall Street Journal writes that the provision has escaped public notice because it is buried so deeply in the bill under a section dealing with abusive tax shelters. The language is unforgiving for those who deliberately fail to file their tax returns, but it is downright merciless for the “honest but errant” taxpayer, slapping Aunt Jane and her heirs with fees they don’t deserve.

Peaslee points out that similar changes to the penalty system in the past caused too many headaches for the IRS and taxpayers alike, prompting Congress to backpedal on discretion limitations. But not before tax professionals and taxpayers struggled for years trying to comply.

If this bill passes with that provision in tact, family members, estate administrators, and trustees aren’t going to get any sympathy from the IRS when their loved ones die.

James D. Perry

(*)Details have been changed to protect confidentiality.

 Yesterday in an article for The Wall Street Journal, Jonathan Weisman reported that once President-elect Obama takes office next week, Democrats in Congress will act quickly to end the repeal of the federal estate tax that’s scheduled to take place on January 1, 2010.

In his article, Weisman summarizes the interesting history of the forces behind President Bush’s 2001 legislation that led to the gradual increase of the estate tax exemption from $1,000,000 to the current $3,500,000 exemption. The article also reports that if the current exemption is locked in for the next 10 years, then only about 2% of estates will be subject to the estate tax and the U.S. Treasury will lose around $324 billion more than if the estate tax exemption is allowed to revert back to the pre-2001 amount of $1,000,000 - what it’s currently scheduled to do in 2011.

What does this mean for you and your family?  If you are like most of my clients, you will be more than covered by the $3,500,000 exemption –at least until the economy improves, houses start appreciating in value at double digit rates, and the stock market shoots up about 60%.

When all of those good things happen you can start to worry about estate taxes if you want.  As for me, I take the  Bobbie Mcferrin approach,  ”don’t worry, be happy” –  it’s estate tax repeal that is dead, not you.

As we welcomed in the New Year we also welcomed in the largest exemption from federal estate taxes ever - the new exemption is $1,500,000 more than last year’s exemption, which is the largest year to year increase ever.

That’s right, the federal estate tax exemption now stands at a whopping $3,500,000, meaning that married couples who take advantage of the AB Trust system can combine their exemptions and pass $7,000,000 on to their loved ones free from the federal estate tax. A single person can pass $3,500,000 without estate tax. This will eliminate the worry about federal estate taxes for most people.

The new year also brings an increase in the annual exclusion for gifting from $12,000 to $13,000, but the lifetime gifting exclusion still remains the same as it has been for many years - $1,000,000.
What’s in store for 2010, the year in which the federal estate tax is scheduled to completely vanish? Only time will tell.

Still don’t be lulled into thinking you don’t need to create an estate plan or review and update your existing estate plan because the estate tax is a non issue, or the economy is in the tank.

I believe the time is ripe to get back to the basics and understand what estate planning really is supposed to be - a systematic approach to making a plan for what happens to you and your property in case you become mentally incapacitated and making a plan for what happens to your loved ones and your property after you die.

That’s it, and while there’s nothing revolutionary about it, over the next few weeks I’m going to be blogging about some basics about estate planning that apply to most everyone. Keep in touch.