The Estate Tax

Estate tax is imposed on the transfer of the taxable estate of every decedent who is a citizen or resident of the United States. Many types of lifetime gift are also taxable, and estate tax is calculated on the amount of the taxable estate plus the amount of taxable gifts, less tax paid on gifts during life.

Low value estates are exempt from taxation. Until 2003, the limit above which tax applied was US$1m; under the 2001 Economic Growth and Tax Relief Reconciliation Act the limit was increased to US$1.5m for 2004 and 2005, to US$2m for 2006-2008, and to US$3.5m in 2009. There are also some exclusions for gifts.

Rules governing the valuation of gifts are, needless to say, highly complex. There are some exemptions for gifts between spouses.

The information given here is a highly abbreviated version of the Tax Code, for general information; please refer to a tax professional for accurate information.

Until 2001, the rates of estate and gifts tax were as follows:

The 2001 tax-cutting legislation prescribed reductions in the maximum rate of tax as follows:

The estate tax is abolished completely for the year 2010, but reinstated as from 2011 with a top rate of 55% and the pre-2001 exemption level of US$1m. People joke that they will keep well away from their heirs in 2010!

Many people believe that the estate tax costs more than it raises by suppressing investment and generating unproductive tax avoidance activity. Some countries have abolished it altogether and others are considering doing so. Of the countries that still have an estate tax, the US has the third highest rate at 46%.

According to the Cato Institute: 'A . . . cost of the estate tax is the damage that it causes to saving, investment, and business activity. The need to pay an estate tax bill can result in heirs liquidating or selling family businesses because such businesses are often asset rich but cash poor. The estate tax damages the economy when it destroys ongoing, job-producing businesses simply to fund added government consumption.'

Former chairman of President George W. Bush’s Council of Economic Advisers, Greg Mankiw, noted that as a tax on capital, the estate tax likely reduces US productivity and wages. He concluded that “repeal of the estate tax would stimulate growth and raise incomes for everyone.”

Under George Bush, work continued in Congress towards a permanent abolition of the estate tax. In March 2008, a United States Senate committee held a hearing to explore alternatives to the estate tax, and to consider proposals for a transition towards a new type of estate tax regime. The hearing, orchestrated by Senate Finance Committee Chairman Max Baucus (D-Mont), continued the finance panel’s review of the federal estate tax system, in anticipation of the scheduled expiration of current estate tax law in 2010-2011. Baucus, who supports full repeal of the estate tax, pledged to work toward an improved and simplified system to address the current system of taxation of assets transferred from one family member to another in life and at death. In particular, he asked what rules should be considered for transition to a system that better serves family-owned businesses, including ranchers and farmers in rural states.

“I’m interested in simplifying the estate tax, which continues to unfairly burden family-owned businesses like the farms and ranches in my home state of Montana and around the country. People plan their estates and if we move to a different system, we need safeguards in place to make that transition go smoothly," Baucus commented.

Responses from witnesses at the hearing included a suggested tax credit that would be issued for prior taxes paid under the current system, and the idea of deferring at the time of transfer assessed taxes on assets such as land and livestock, until such time as the assets are sold. Another suggestion was moving to an income inclusion system, which would count transferred assets as income, and tax them as such.

However, President Obama made it abundantly clear before his election that he intended to reverse the Bush-era estate tax legislation, and a provision to reinstate the death tax at 45% for 2010 was tucked away in his budget, in a footnote on page 127. In the end, however, the death tax was repealed for decedents dying after December 31, 2009 and before January 1, 2011. The rate will revert to a swingeing 55% in 2011. The threshold exemption foreseen by the budget would be USD3.5 million (USD7 million for married couples), as in the existing legislation, but there’s no provision for inflation adjustment.

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