Future of the ‘death tax’ Featured

7:00pm EDT January 31, 2007

There has been a great deal of discussion recently about the impact of federal elections on estate planning. After all, the Democrat and Republican parties do have differing philosophies about levels of exemptions, tax rates on the amounts above the exempted levels, the impact on different groups of wage earners, etc. But, regardless of which party is in power at any given time, people concerned about protecting their wealth should plan for their futures without trying to look into a crystal ball to guess what Congress will do — or try to do — to tax their estates.

Smart Business spoke with estate planning specialist attorney Robert McGuire, a partner with Godwin Pappas Langley Ronquillo LLP, to learn more about the impact of political philosophies and legislation on estate planning and what people can do to adapt to it.

Should people be concerned about the impact of the predicted changes in estate taxes based on the changeover in political power in the U.S. Congress?

The situation may not be as bad as a lot of people feared during the heyday of the Republican majority because 2011 is probably not indicative of what we are going to get now with the Democrat majority. Traditionally, the consensus has been that if the Republicans were to lose power, it would result in a severe increase in what is called the ‘death tax.’ Based on recent research about what has happened, that may not be the case.

Does speculation about changes in federal estate taxes play a role in estate planning based on the change in political power in Washington D.C.?

Not to a large extent. The documents involved in traditional estate planning pretty much allow for any eventualities. They tie the wording to whatever Congress decides the exemption level is going to be. So people should do estate planning as they normally would. Wealth management planners will set up plans that will take maximum effect of whatever the exemption level may be.

Will exclusion rates and tax rates above those levels change dramatically in the next few years?

Bear in mind that the exemption level is only one component of the estate tax. That is the exclusion amount that any individual can leave to an heir without estate tax. Right now, that is $2 million, and is scheduled to rise to $3.5 million by 2009. Then in 2010, the estate tax is scheduled to be repealed altogether and return a year later. In 2011, it reverts to a $1 million exemption, which is a significant decrease from what people are used to now.

The second component is the tax rate on the amount above the exemption amount. The Democrats’ strategy will be to impose significant tax rates on the amounts over the exemption level.

Who will those significant tax rates affect?

With the current exemption rates of $2 million per individual, significant tax rate increases above the exemption levels will affect only the top 2 percent of the U.S. population. Even that may go down, since there is some speculation that the Democrats may raise the exemption level to $3 million per individual and the tax rate on the amounts above it to as high as 55 percent. If that were to happen, only 3/10ths of 1 percent of Americans would pay an estate tax. In any case, the amount raised will only be about 1 percent of the overall income tax.

Remember, though, that both the exemption levels and tax rates on the amounts above them are subject to compromise between the two parties. Therefore, estate planning based on the proposed changes would be sheer speculation, which is not viable. That explains why people and their estate planning advisers should plan their wealth management strategies just as they normally would, rather than on what they think might happen.

What should people include in their estate plans to protect against anticipated changes in exemption levels and increased tax rates above those amounts?

The most important thing is to set up proper estate plans that will protect them from opening up their estates to taxes when none are necessary. For example, married couples with estates worth more than $2 million can set up simple estate plans that include Marital Bypass Trusts or Life Insurance Trusts, depending on how much life insurance they have. These trusts enable both spouses to get their exclusion amounts and therefore pass each of their exclusion amounts to their heirs.

If a husband and wife don’t set up a plan properly, then anything over $2 million will be taxed upon the death of the second spouse when it doesn’t need to be. The best way to make sure that doesn’t happen is to consult with estate planning specialists — especially those who do not use crystal balls.

ROBERT MCGUIRE is a partner with Godwin Pappas Langley Ronquillo LLP in the Dallas office. Reach him at (214) 939-4819 or rmcguire@godwinpappas.com