2010 ESTATE PLANNING TAX ALERT

The 2010 New Year has heralded in a time of uncertainty for estate planning. Contrary to what most legal commentators expected, Congress did the unthinkable -- let the final provisions under The 2001 Economic Growth and Tax Relief Reconciliation Act phase in. These changes along with changes in the Connecticut estate tax create a time of uncertainty for transfer tax planning in 2010. This is of particular concern for individuals where estate tax planning strategies have been included in their estate planning (will and/or trust) documents.

Some of these important changes are highlighted as follows:

1. The federal estate tax (tax on your right to transfer property at death) is repealed for 2010. Unless Congress takes further action, however, the tax returns at a 55% rate (plus a 5% surtax on certain large estates) with a $1,000,000 million individual exemption effective January 1, 2011.

2. The federal generation-skipping tax (tax on your right to transfer property to beneficiaries more than one generation removed) is also repealed for 2010. Unless Congress takes further action, however, the tax returns with a $1,120,000 million individual exemption effective January 1, 2011.

3. The federal gift tax (tax on your right to make lifetime gifts to beneficiaries) exemption remains at $1,000,000 million in 2010 and 2011. The current rate of 35% returns to 55% in 2011 unless Congress takes further action.

4. The Connecticut Legislature past legislation increasing the exemption from the Connecticut estate tax to $3,500,000 million and reducing certain marginal tax rates effective January 1, 2010. Attempts to delay these enactments were vetoed by the Governor.

5. The current federal step-up income tax basis (basis is generally the initial acquisition cost with certain adjustments) rule for assets received from a decedent (beneficiary’s basis equals fair market value of property on the date of decedent’s death) is repealed for 2010 and is replaced by a carry-over income tax basis system (beneficiary’s basis equals the lesser of the decedent’s basis or the fair market value of property on the date of decedent’s death). Basis is important for purposes of determining the taxable gain or loss on the future sale of an asset. A new $1,300,000 million general step-up basis adjustment will be available to a decedent’s beneficiaries as well as a $3,000,000 million step-up basis adjustment for certain transfers to a surviving spouse. The federal step-up income tax basis rules are scheduled to go back into effect in 2011.

It was not generally anticipated that Congress would let the federal estate tax repeal or implementation of the carry-over basis rules go into effect. Federal legislation is likely in 2010, but will depend on Congress’ ability to find a compromise position. It is possible that such legislation will retroactively restore the federal estate tax with some exemption level and return the old step-up basis rules. How courts will interpret any retroactive application creates additional uncertainty for your estate planning. How the Connecticut budget deficit is resolved could also effect changes to the Connecticut estate tax.

These changes and uncertainty make it difficult for planning purposes and pose risks for certain estate plans. It is recommended that individuals with moderate and large estates review their estate plans, particularly those where tax planning provisions were included to minimize the impact of death taxes. Consideration should be given to the following when reviewing current estate plans:

1. With the repeal of the federal estate tax, individuals with estate tax planning provisions in their documents with formula clauses tied to the federal estate tax funding a separate marital share (exclusively for the surviving spouse and exempt from tax) and a separate credit shelter share (generally for surviving spouse and family and sheltered from tax by the decedent’s exemption amount) could cause unintended results. How will courts and taxing authorities interpret these clauses which reference federal estate tax terms no longer in effect? The result could be an overfunding of the credit shelter share or the marital share with unintended estate tax results. Individuals may wish to explicitly provide in their documents for the contingencies a) if the federal estate tax is not in effect on the individual’s death and not retroactively reinstated within a specified period and b) if the federal estate tax is in effect on the individual’s death or retroactively reinstated within a specified period.

2. With the repeal of the federal generation-skipping tax, individuals with generation-skipping tax formula clauses in their documents funding exempt and non-exempt trust shares could likewise cause unintended results. Individuals may wish to provide in their documents for the contingencies a) if the federal generation-skipping tax is not in effect on the individual’s death and not retroactively reinstated within a specified period and b) if the federal generation-skipping estate tax is in effect on the individual’s death or retroactively reinstated within a specified period.

3. With an increase in the Connecticut estate tax exemption, individuals with estate tax planning provisions in their documents designed to maximize the use of the individual’s exemption could cause an overfunding of the credit shelter share which could diminish the availability of assets to a surviving spouse. This could also waste available step-up basis adjustment if a carry-over basis income tax basis system is in effect. Individuals may wish to minimize the funding of the credit shelter share and maximize the use of available basis adjustments.

     4.     Gather income tax basis information on assets and consider strategies to maximize the use of available basis adjustments 
             to achieve a step-up basis on assets transferred at death. Provide authority and indemnity for an executor to allocate basis
            adjustments amongst assets. Individuals may wish to explicitly provide in their documents for the contingencies a) if no step-up 
            basis is in effect on the individual’s death and not retroactively reinstated with a specified period (carry-over basis in effect) and b) 
            if step-up basis is in effect on the individual’s death or retroactively reinstated within a specified period.

If you think these issues may apply to you, we suggest you call your legal advisor today.

IRS CIRCULAR 230 DISCLAIMER: Tax advice, if any, contained within this letter is not intended to be used, and cannot be used by any taxpayer, for the purpose of avoiding Federal tax penalties that may be imposed on the taxpayer under the Internal Revenue Code.

USAGE DISCLAIMER: Recipients should not act on any information contained herein without consulting with legal counsel.