2010 Brings Major Changes to Inheritance Tax

Simply put, an inheritance tax is a tax that the beneficiary must pay on the total value of their inheritance. Inheritance tax is different from estate tax, which is a federal tax imposed on an individual’s entire estate (including cash, investments, cars, boats, real property, art, jewelry, etc.) at the time of their death. The estate tax is paid by the estate itself, and it is the responsibility of the estate’s executor/administrator (appointed by the decedent) to carry out. On the other hand, inheritance tax (a.k.a. death tax) is levied by state governments and is the responsibility of the beneficiary to pay.

Opponents of the estate tax and inheritance tax are already preparing for battle, as the 2001 tax cuts instituted by the Bush Administration (which phased out the inheritance tax rate from 55% to 0% over a 10 year period) are set to be repealed this year.   Many Americans had hoped that the estate and inheritance taxes would be eliminated entirely. Unfortunately, the reimplementation of the inheritance tax means that estates will likely be taxed at the 2009 rates (up to 45%) with an exemption level of $3,500,000 (or $7,000,000 for a married couple).

The table below shows the tax rates for years 2010 and 2011, in comparison to the rates from 2009 (which are recommended for reinstatement by the Obama administration):

Tax Year	Lifetime Gift Tax Exemption	Total Gift and Estate Tax Exemption	Generation Skipping Tax Exemption	Gift, Estate, and Generation Skipping Tax Top Rates
2009	$1,000,000	$3,500,000	$3,500,000	45%
2010	$1,000,000	Unlimited	Unlimited	35%
2011	$1,000,000	$1,000,000	$1,000,000	55%

As the table above illustrates, if the Bush Administration’s tax rates stand for 2010, a person who dies on or before December 31, 2010 may give away an unlimited amount of money from his/her estate without incurring any tax.  However, if the Obama Administration’s proposal to revert back to the 2009 tax rates is approved, any amounts over and above $3.5 million will be subject to a 45% tax in 2010 ? additionally, any amounts over $1 million will be subject to a whopping 55% tax.

There is another change to tax law that could significantly impact the inheritance tax on certain assets (such as stock in a corporation). Rather than calculating inheritance tax based on the assets’ value as of the owner’s date of death, beneficiaries must now base it on the original cost basis of those assets.  This can be very costly if the assets were accumulated over a long period of time and their value has appreciated substantially.  It can also be a challenge to reconcile all the dividend reinvestments, stock splits, and other investment activity that occurred over the years to determine an accurate cost basis. Additionally, when a stock is sold, capital gains tax will be assessed based on its original cost basis. Note that each estate may exempt $1,300,000 of capital gains from this ‘carryover basis’ rule, as it’s called ? and a $3,000,000 exemption applies to assets inherited from a spouse.

The issue of inheritance has created a political chasm between liberals who favor estate and inheritance taxes because they are levied on the wealthier classes, and conservatives who are against inheritance tax because it discourages saving and destroys family businesses.  Many taxpayers believe that it is unfair to impose estate and inheritance taxes on assets that have already been subjected to capital gains tax.

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