The tax overhaul passed in December may look similar in some ways to previous years, with extensions of certain tax cuts. However, when it comes to estate planning, the new tax rules have major ramifications for families. For example, starting in 2011, couples can add the unused estate tax exemption of their spouse (up to $5 million) to their own estate tax exemption, meaning they can transfer up to $10 million tax-free to family and heirs.
This new ability to transfer assets is called “portability”. The new tax laws, like the old ones, allow individuals to give an unlimited amount to their spouse (as long as the spouse is a US citizen) with no tax applied, either through lifetime gifts and or through an estate plan. Under previous tax laws, however, “without proper planning, when the second spouse died anything above the exempt amount not going to charity would be taxed,” says Deborah Jacobs of Forbes. “In other words, the first spouse’s exemption would be lost.”
Previously, bypass trusts (also called family trusts) addressed that problem: funds in the trusts aren’t taxed, since they are covered by the first spouse’s tax-exemption amount, and they don’t count as part of the surviving spouse’s estate. With the new laws, though, couples may be able to harness this portability with more simple estate plans, like what lawyers call “I love you wills” (where each spouse leaves all their assets to the other).
Should you and your spouse abandon more complex estate planning tools in light of the new tax laws? Not necessarily. It all depends on your situation. If you have children from previous marriages, own a business, are in debt, or have complicated wishes for your estate distribution, other estate planning tools may be more advantageous. You may also live in a state that still has its own estate tax and lower exemption limits without portability provisions. Furthermore, unless Congress makes the new tax law permanent, it only applies to those who die in 2011 or 2012. This means that in order for you and your spouse to ultimately transfer the current exemption amount of up to $10 million tax-free, you would have to change your estate plans if the tax laws change.
On the other hand, it’s always good idea to check over your estate plan often, to take advantage of the best options available. Talk to an estate planning attorney to find out how to update your estate plan to take advantage of the new estate tax laws.