July 18, 2009

Inheritance Tax

There is a great deal of intrigue, confusion and misinformation about the Federal Estate Tax, colloquially known as the "Death Tax." This intent of this post is not to advocate for or against the Estate Tax. Rather, this post is to inform readers on the remoteness of the Estate Tax in regards to their estate.

The federal estate tax is imposed on the "taxable estate" of every decedent who is a citizen or resident of the United States. IRC §2001(a). The amount of the "taxable estate" is arrived at by subtracting allowable deductions from the gross estate. IRC §2051. The gross estate of a U.S. citizen or resident for federal estate tax purposes is broadly defined to include all of the decedent's property, real or personal, tangible or intangible, wherever situated. IRC §2031(a). Thus, the Federal Estate Tax applies to worldwide assets. The largest deductions are typically those for mortgages and other debts.

For example, John and Marie Rivera (a hypothetical couple) own a home valued at $2.5M, stocks valued at $500,000, retirement accounts worth $300,000, a savings account worth $100,000 and $100,000 in misc. assets. However, the Rivera have a $500,000 mortgage. Their taxable estate would thus be $3M (I made the math intentionally simple for illustrative purposes).

Even though the Riveras are fabulously wealthy, as they are multi-millionaires, they would not be subject to the Estate Tax if both of them died in 2009. For individuals dying in 2009, the federal estate tax applies to taxable estates of $3.5 million or more, after adjusting for lifetime taxable gifts. IRC §2010(c). According to IRS figures, the current Federal Estate Tax affects only 2 percent of American decedents.

Although the Estate Tax is set to be repealed next year, the current administration has proposed extending the $3.5 exemption. Should no action be taken, the exemption would revert back to $1M level in 2011. EGTRRA-2001 §901. Most likely the $3.5M exemption will be adopted for future years given the wranglings between the two parties.

In case you were wondering, California does not have an Estate Tax. California voters overwhelmingly approved a ballot measure that ostensibly repealed the California Estate Tax in 1982. However through various legislation the California still does exist, albeit the decedent needed to have filed a Federal Estate Tax and died within the years 1982 -2004. Yet for decedent dying after 2004, there is no California Estate Tax