THE REPEAL OF the federal estate tax, included in the $1.35 trillion tax cut, will make estate planning more complicated than ever for many, experts say.
Over the next 10 years, the amount of assets individuals can shelter from estate taxes rises and the top tax rate declines. The estate tax is fully repealed in 2010, but the law carries a "sunset" provision under which the tax will reappear in 2011 unless Congress takes action.
Lawyers and other estate planning experts warn not to count on Congress' keeping the tax repeal. A decade from now, aging baby boomers will begin straining Social Security and Medicare programs, some say. And the projected federal budget surplus may not appear.
Given more pressing financial needs, experts said, politicians will have a hard time arguing in favor of a tax break that affects less than 2 percent of Americans. So, do you bank on the tax repeal, but carefully step off curbs for the next 10 years so you live to see it? Do you plan as if the repeal won't happen and consider it a bonus if it does? Or, as one accountant joked, do you write 10 contingency wills and tear one up each year during the phase-out?
"You really can't know what version of the tax law you are going to die under," said Laura Peebles, a director at Deloitte & Touche in Washington.
The law raises all sorts of complicated situations, experts say.
"If in 10 years I'm on life support and I'm very wealthy, there would be a strong temptation to pull the plug if [my children] thought the estate tax was coming back into effect in a few weeks," said Andrew Pike, a professor at American University's law school. "It's a horrible thing to envision, but the law has created an incentive to murder.
"I'm joking, of course, but it shows the craziness of the way they are doing things," Pike said.
But for the time being, it is the law, and many people will need to plan for potential consequences.
Those who won't need to worry about taxes have smaller estates. Right now, an individual can protect $675,000 from estate taxes.
Starting next year, estate taxes won't apply to persons with assets of up to $1 million. Married couples, with good planning, will be able to shelter twice that amount.
The exemption per person will rise to $1.5 million in 2004, $2 million in 2006 and $3.5 million in 2009. (If the estate tax returns in 2011, the exemption falls again to $1 million.)
Along with the higher exemptions come lower estate tax rates. Today, the top rate is 55 percent, but drops to 50 percent next year. Thereafter, the top rate falls one percentage point a year until reaching 45 percent in 2007, where it will remain until the repeal.
Individuals with assets of more than $1 million need to review how the phase-out will affect them and what changes need to be made, experts said. Trusts, life insurance and other estate-planning tools that individuals already have in place will still be needed, although in some cases they may need revising, experts said.
The first step is to contact your lawyer or accountant in a few weeks - time to adjust to the new law - to make sure the language of your current will and other estate documents still accomplish your goals, Peebles said.
Many individuals' wills, for instance, create a trust for the children to be funded at the full exemption with the rest of the assets going in another trust for the surviving spouse, she said.
But with exemptions rising substantially, it's possible a parent may end up leaving as much as $3.5 million to children, perhaps far more than intended. Or, if the parent wants to leave new exemption amounts to children, that needs to be indicated, too.
"You need to make sure your heirs know that, and you didn't neglect to change something. Especially in second-family situations, a will that isn't updated for current tax law is a recipe for litigation," Peebles said.
For those who buy life insurance to pay estate taxes, policies will still be needed in the next decade if your assets are large enough to be taxed. Some experts suggest buying convertible term insurance, which will provide coverage for a certain period and can be converted to a permanent policy if the repeal doesn't happen.
Keep good records when purchasing appreciable assets because paperwork will be needed to determine any capital gains taxes for heirs, experts said.
Today, those inheriting stock, for example, can use the market value of the shares at the time of the owner's death as the new cost basis. That's the price used to figure capital gains or losses when the stock is sold.
Once the repeal takes effect, heirs must use the deceased's cost basis. And not knowing, say, the price Uncle Joe paid for General Electric shares in 1930 can lead to a heftier tax bite. "It's kind of like if you get on a turnpike and you lose your ticket. They assume you started at the beginning," said Bruce Bigelow, senior vice president for external relations at Hood College in Frederick. "They assume the cost basis is zero."
