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The American Taxpayer Relief Act of 2013

Eric R. Strauss, Esquire
May 2013

In the first two days of 2013, Congress averted the looming “fiscal cliff” by passing the American Taxpayer Relief Act of 2012 (“ATRA”), Pub.L. 112-240. The provisions of ATRA contain several important changes to the law of federal estate and gift taxation that will affect estate planning and estate and trust administration in 2013 and future years, especially in larger estates.

Perhaps of primary importance to estate planners, the $5,000,000 per individual federal estate and gift tax exclusion amount that was enacted for 2011 and 2012 under the Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010, and was due to “sunset” at the end of 2012 (which would have reduced the exclusion to the pre- “Bush tax cut” era exemption of $1,000,000 per individual) is now “permanent”. As adjusted for inflation, the exclusion amount for 2013 is $5,250,000. See Rev. Proc. 2013-15, Sec. 2.13. The maximum estate and gift tax rate was increased from 35% to 40% for gifts made, and decedents who die, after December 31, 2012.

BUT… just when we all thought that a modicum of certainty had been restored to this volatile area of the law, the “permanence” of the $5 million exclusion was thrown into question when the Obama Administration released its proposed 2014 budget on April 10, 2013. In the 2014 budget proposal, the administration proposes to reduce the exclusion amount to 2009 amount of $3.5 million, with no index for inflation, in 2018. The administration further proposes to increase the maximum rate of tax to 45%.

Under ATRA, the Generation Skipping Tax (GST) exemption is also “permanently” fixed at $5,250,000, indexed for inflation.

ATRA preserves the concept of “portability” of the estate and gift tax exclusion of a first to die spouse through the mechanism of the Deceased Spouse Unused Exemption Amount “DSUEA”. Note that portability only applies to the estate and gift tax exclusion, not the GST exemption. For those that are not familiar with this relatively new concept, “portability” allows for preservation of any unused estate tax exemption of a first-to-die spouse by “porting” it to the surviving spouse. “Portability” does not require the use of a traditional credit-shelter or “bypass” trust, but is not automatic. It must be elected on a federal estate tax return filed at the time of the first spouse’s death. Portability will offer meaningful relief for couples who have not engaged in formal estate planning, however, there are several nuances and pitfalls that should be considered before depending upon its use in your estate plan. Many people still choose to use credit shelter trusts in an estate plan for important non-tax reasons that should be discussed with a skilled professional.

ATRA contains significant changes to the income tax rates which also deserve mention. With particular relevance to the use of trusts in an estate plan, the top marginal income tax rate has returned to 39.6%. For 2013, estates and trusts are subject to this rate on undistributed income in excess of $11,950. See Rev. Proc.2013-15, Sec. 2.01. The top income tax rate on capital gains and qualified dividends has been increased from 15% to 20%. In addition, the new “Obamacare surtax” – an additional 3.8% tax, is applied to net investment income for certain taxpayers. For estates and trusts, the tax applies to the lesser of (a) the undistributed net investment income or (b) the adjusted gross income in excess of $11,950. Thus, great care is required in the administration of a trust where it will be even more critical for a trustee to consider the rate of tax that will paid on earnings retained, for example, in a discretionary trust vs. the amount the individual beneficiary would pay if the same earnings are distributed out as taxable income to the beneficiary. A well thought out estate plan requires careful consideration of how much discretion a trustee should be granted to retain vs. distribute trust income.

Also of note, the annual gift tax exclusion, as indexed for inflation, is $14,000 per donor/donee for 2013. This an amount, in addition to other limited exceptions such as certain payments for medical bills and tuition, that an individual taxpayer can gift to a third party without eroding the $5.25 Million estate tax exemption.