Separating Death and Taxes

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Separating Death and Taxes
by Michael B. Allmon, CPA

The U.S. Congress, encouraged by popular sentiment, tried to separate death and taxes by voting to repeal the estate tax in July. Although it is anticipated that President Clinton will veto that legislation and while an override by Congress appears unlikely at this time, there is no doubt this tax is bound for change and, if George Bush is elected President, likely annihilation.

Once a non-issue to the vast majority of taxpayers due to its focus on upper echelon society, the dreaded estate tax - which ranges from 37 to 55 percent of the value of an estate upon death - is now a startling reality for many more who might be considered average or middle-class Americans. This change is most acute in California, where merely owning a home for a few years can put you in the same estate tax bracket as professional athletes, movie stars and CEOs.

The debate over the estate tax, which was established by Congress in 1916, has intensified dramatically over the past year as Americans' attitudes towards wealth have changed. We live in a land that is occasionally at odds with itself and this tax has always been a good example of that.

I view the estate tax as legalized confiscation - a "success" tax on hard earned assets that have already been taxed once. Saving is the primary way to build an estate and the estate tax directly contradicts the ideal of wealth building through saving, which should never be discouraged by punitive taxation. On the other hand, sincere progressive thinkers believe it is legitimate. Checking and curbing the powerful is a practice with roots in our decisive break with the Old World, the English crown and decadent family dynasties.

There are also side effects that have to be considered in a society that is as interlocked and complex as ours. For example, if the estate tax were to be repealed, what would be the impact on generosity? It might penalize charitable giving because there would be no cause other than pure altruism, to make donations and gifts to non-profits to avoid the estate tax. Treasury Secretary Lawrence Summers estimated that if the estate tax were repealed, charitable giving would be cut by $6 billion a year.

My sense is that the fix is easy. The simplest and fairest way to bring the estate tax back to its original intent to tax the super wealthy, is to raise the current exemption of $1.35 million per married couple to a higher threshold, perhaps $10 million per couple - indexed for inflation - and to reduce the complexity of the law as it is currently proposed.

Regardless of whether it is repealed or not, the estate tax is certain to undergo changes and many Americans will have to make adjustments in planning as a result. Here are some devices that can help people who are doing estate planning or are concerned about the disposition of their assets at death:

  • Form a family business - Actually, a family partnership or legal entity such as an S corporation. Family members can own an interest in the partnership or other legal entity, and the parents contribute assets to the entity as they would gifts to family members. Proper use of this device allows you to potentially avoid the estate tax in the event of your demise. Many parents who have established family businesses to avoid the estate tax don't realize they can also get all their assets back in the event the estate tax is repealed because children in the business could then pass assets back to parents as tax-free gifts.
  • Place your trust in the living - A living trust, that is. Families who place their assets into a living trust avoid probate, the takeover of the estate and the disposition of the assets by county government. Probate is expensive, causes delay of payment to heirs and breaches privacy by making the value of the estate public. The key is to understand the trust and be absolutely certain you transfer the assets of your estate to the trust, otherwise it is useless to your heirs.
  • Where there's a will - Make a will. Even a handwritten will, known as a "holographic will" has legal validity. It doesn't protect you from probate, but a will, if authenticated, will receive consideration from court appointed probate officers. At a minimum, if you have children, name their guardians in the will, or the court will do it for you.
  • Whom do you trust? - Name a Trustee. Naming family members as trustees (executors) of your estate can work, but it isn't advisable. In the handling of money and transactions on behalf of your estate, it is usually better to name someone with money savvy and experience such as your CPA or another professional trustee. This places an objective third party at the helm of your estate and trustees are bound by very strict rules of conduct with regard to your assets.

It's impossible to avoid death, but you might avoid taxes. Whether the estate tax is killed or modified, people should consider the possibility that it could impact them. Whatever the political outcome in Washington, everyone might find it pays to do a little basic estate planning.

Michael B. Allmon, CPA, is founder and principal of Michael B. Allmon & Associates, LLP in Marina Del Rey, California. He is also chairman of the estate planning committee of the California Society of Certified Public Accountants. His e-mail address is [email protected].

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