The estate tax is the first of the taxes that make up the transfer tax system along with the Gift Tax and Generation Skipping Tax. Reduced to its simplest form, the estate tax is a transfer tax on property at the death of the owner as it is transferred to another. The tax is paid by the estate of the decedent and not the recipient.

The estate tax was first enacted in 1916 and has been amended numerous time thereafter. Since it only applied at death it could be avoided by making gifts during lifetime and thus Congress imposed a Gift Tax in 1932 taxing gifts made prior to death. In 1976 Congress combined the estate and gift tax into one unified system with one tax rate and exemption amount thus eliminating an advantage of making life time gifts over transfers as a result of death. Important terms are

  • Maximum Tax Rate – The maximum rate at which the estate will pay the tax
  • Applicable Exclusion – The amount of property that a person can transfer free from tax
  • Unified Credit – The amount of the tax on the property subject to the applicable exclusion
  • Tentative Tax – The total tax due before applying all applicable credits
  • Gross Estate – The total value of the estate on the date of death or the total value six months after death if an alternate valuation date is used
  • Marital Deduction – Property that is transferred between spouses free from tax

As a result of the Economic Growth and Tax Reconciliation Act of 2001 (EGGTRA) Congress modified the transfer tax rates and applicable exclusion amounts. The estate tax rates and exclusion amounts are as follows:

Year Maximum Tax Rate Applicable Exclusion Amount
2001 55% $675,000
2002 50% $1,000,000
2003 49% $1,000,000
2004 48% $1,500,000
2005 47% $1,500,000
2006 46% $2,000,000
2007 45% $2,000,000
2008 45% $2,000,000
2009 45% $3,500,000
2010 0% Complete Exemption
2011 35% $5,000,000
2012 35% $5,120,000
2013 40% $5,250,000
2014 40% $5,340,000
2015 40% $5,430,000

The applicable exclusion amount is a combined exclusion for estate and gift taxes. Therefore, if you make gifts during your lifetime that meet or exceed the exclusion amount then the exclusion for estate taxes will be reduced or eliminated accordingly.

Under the terms of EGGTRA it was scheduled to expire December 31, 2010 and as of January 1, 2011 the rates and exclusion amounts were slated to revert back to the 2001 figures. However, due to the newly enacted Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010 the maximum rate is 35% and the applicable exclusion is $5,000,000 for years 2011 and 2012.

If a taxpayer died in 2010 there is no estate tax however the basis rules were dramatically altered for 2010. As a result, the capital gains tax could be quite large for those who receive your property even though the property is not subject to the estate tax. Under the new law, an estate of a person who died in 2010 may now make an election to avoid the estate tax and keep a modified basis rule or choose to pay an estate tax under the 2011 rates and avoid the modified basis rules. Depending on many facts, including the nature of the property in the estate the election can be a smart choice.

The estate return must be filed within nine months after death unless the estate applies for an automatic six month extension.

A vital function of any estate plan should be the reduction or elimination of the estate tax. Working with an experienced attorney can produce a plan that takes full advantage of all the available options to achieve the best tax result possible. Some the tools used to reduce estate taxes are:

While the estate tax as presented herein appears fairly straightforward, in actuality the rules, regulations and law are arduous, complex and subject to strict compliance requirements. Therefore, any actions taken in furtherance of estate tax planning should only be undertaken after consultation with an experienced attorney.