An end of year deal was recently struck between Congress and President Obama to extend the Bush tax cuts for two years.  The new law also provides estates up to a $5 million exemption from paying federal estate tax ($10 million exemption for couples), and set the estate tax rate at 35 percent.  The law also unifies the estate, gift and generation-skipping transfer tax exemptions at $5 million.

One significant change is that the estate tax exemption may now be shared between spouses.  In other words, if the first spouse to die does not use all of their $5 million exemption, the unused balance may be used by the estate of the surviving spouse.

This increased exemption level is great news for a lot of small businesses and family farms that would otherwise have to sell off much of their land or large pieces of capital equipment required to continue the business in order to pay the death taxes.

Interestingly, the new law setting the estate tax exemption at $5 million at a 35 percent rate is applied retroactively to January 1, 2010.  Heirs of loved ones who have died in 2010 will now have to elect whether they want to proceed under the new $5 million exemption, or pay no estate tax, but a limited step-up in the cost basis of inherited assets.  Choosing the latter may cause some relatively small estates to be subject to capital gains tax on inherited assets.

You might be thinking that your estate is nowhere near $5 million, so you don’t really need to think about possibly doing any estate tax planning down the line.  Don’t be so sure.

If Congress does nothing, in 2013 the estate tax will revert back to a $1 million exemption at a 55 percent tax rate.  Uncle Sam looks at ALL the assets passing on your death, including any life insurance, in determining if your estate owes estate tax.  Many folks have a lot more insurance than other assets in their estate and adding the insurance to their estate will bump many above that $1 million level.

The new law does not change the $13,000 annual exclusion amount for gifts.  Couples can give combined gifts of up to $26,000 per year under the annual exclusion.


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