It's a morbid thought but potentially useful: If you're wealthy, 2010 is a cheap year to die.
By a legal quirk, federal estate taxes don't exist this year. Congress could still change the law and apply a tax retroactively, but so far, those who die can pass their assets on to heirs without sharing the proceeds with Uncle Sam. That's a windfall for the wealthy, who previously paid a pretty hefty tax of around 45 percent on assets over $3.5 million ($7 million for couples).
It's not good news for everyone, though. The law also specifies that in 2010, capital-gains tax, which usually carries a rate of about 15 percent, kicks in on assets that have appreciated, tax free, over $1.3 million. So estates worth between $1.3 million and $3.5 million, which were previously tax free, could pay taxes this year. (Estates worth more than $3.5 million also pay the capital-gains tax, but that's a much lower tax than the typical estate-tax rate.)
The bottom line for anyone who might inherit significant amounts of money this year is that not only is 2010 potentially the cheapest time to die; it's also the most confusing. "It's a total mess," says certified financial planner Michael Reese.
Another complicating factor is that at any time, Congress could change the rules. In fact, most estate planners thought that Congress would enact a law before 2010 arrived, to prevent the current situation. According to the tax information firm CCH, while fewer than 2 percent of estates pay estate tax, the tax generates billions of dollars in revenue each year, making it a valuable source of government funds. Even if lawmakers vote to apply estate tax in 2010 later in the year, they could backdate it so that it applies to individuals who have already died. Legal scholars disagree about whether Congress can retroactively apply the tax, so it could create controversy and, ultimately, generate lawsuits from people protesting the tax.
Reese, owner of Centennial Wealth Advisory in Traverse City, Mich., says that anyone with a net worth of more than $1.3 million should consult a tax accountant to figure out how to navigate 2010 estate taxes. And because capital-gains taxes require knowledge of the original value of assets, he suggests gathering as much information about them as possible. "It's a lot harder [for your heirs] to collect that information when you're dead," he says. Sites such as www.bigcharts.com make it easy to look up the historical value of stocks.
Giving away money while you're still alive (you can give away $1 million tax free over your lifetime) could also help reduce the tax burden, as can a variety of more sophisticated strategies such as setting up trusts or family limited partnerships. Anyone with enough money to pursue such avenues should probably sit down with a tax expert.
Marianne Kayan, a tax associate at Buchanan Ingersoll & Rooney in Washington, says that since most estate plans were created without anticipating 2010's lack of estate tax, the heirs of clients who pass away in 2010 could discover some unintended consequences. It's possible, for example, that assets would not go to a surviving spouse, if the estate plan was phrased to give the maximum amount that can pass free of federal estate tax to another beneficiary, for example. In 2010, that would be all of the money in the estate, and nothing would be left for the other heirs—including a spouse.
For heirs who find themselves struggling to make sense of the laws and strategies in the wake of a death in the family, Bruno Graziano, senior estate-tax analyst for CCH, says it's possible to correct problems. For example, if an estate unintentionally gave away all its money to one beneficiary, that individual could formally "disclaim" it so the funds could go to the correct person.
That, of course, depends on the cooperation of all parties involved, which doesn't always happen following a death, especially when a lot of money is at stake. "But hopefully in a situation where there is a really unfair aspect, where someone was disinherited or greatly benefited who wasn't supposed to, the parties could hopefully work that out," says Graziano. Still, he adds, "it's much simpler to do it ahead of time."
Clarified on 3/17/2010: An earlier version of this story, which previously suggested that all assets over $1.3 million were subject to the capital gains tax, has been clarified.