How will the new debt limit bill affect the gift and estate tax?

By Julius Giarmarco

Giarmarco, Mullins & Horton, P.C.


On Aug. 2, 2011, President Obama, without public ceremony, signed the Budget Control Act of 2011. The act contains several parts, including a combined increase in the debt limit that will total at least $2.1 trillion, and spending cuts of approximately $1 trillion over a 10-year period (which do not affect Social Security, Medicare or Medicaid).

The legislation itself does not contain any tax law changes. Instead, the act requires that Congress assemble a joint committee (composed of six senators and six House representatives) to make concrete recommendations for reducing the federal deficit by $1.5 trillion over 10 years.

The joint committee has been charged with proposing legislation by Nov. 23, 2011 — including tax cuts. Then, Congress will have to vote on the joint committee report (under a fast-track, procedurally-protected process) by Dec. 23, 2011. Thus, the specific form that deficit reduction will take is unknown.

The act also contains enforcement triggers should the committee fail to recommend a plan, or should Congress defeat the plan recommended by the committee. These enforcement triggers include (1) automatic across-the-board spending cuts that would take effect in 2013; or (2) a process for considering / enacting a constitutional amendment requiring a balanced budget; and/or the potential for expiration of the Bush-era tax cuts.

While no one can really predict what Congress will do, among the possibilities is that it will let the gift and estate tax exemption decrease from $5 million to $1 million; and let the top rate increase from 35 percent to 55 percent on Jan. 1, 2013, as is presently scheduled. Or, perhaps the Republicans will agree to a higher income tax rate to eliminate the hated alternative minimum tax and estate tax.

And, if the estate tax exemption is eliminated, what will happen to the gift tax exemption? The gift tax exemption provides the backstop for the income tax (by minimizing gifts to donees in lower income tax brackets). Thus, Congress could reduce the gift tax exemption to its prior level of $1 million if the estate tax is repealed.

Other possibilities which the president has considered or recommended in the past (but did not find their way into the Tax Relief Act of 2010) include new rules to eliminate or restrict valuation discounts for family limited partnerships and family limited liability companies; requiring a minimum 10-year term for grantor retained annuity trusts, (which substantially increases the mortality risk); and limiting estate tax-free dynasty trusts to 90 years.

While many clients planned on having until the end of 2012 to make their estate planning decisions, the new deadline may be Nov. 23, 2011 (because it’s possible that the effective date of any new tax laws could be the date of the proposal instead of the later date of enactment). Therefore, clients who may benefit from the $5 million gift/estate tax exemption, valuation discounts, zeroed-out GRATs and dynasty trusts should consider acting sooner than later.

THIS ARTICLE MAY NOT BE USED FOR PENALTY PROTECTION. THE MATERIAL IS BASED UPON GENERAL TAX RULES AND FOR INFORMATION PURPOSES ONLY. IT IS NOT INTENDED AS LEGAL OR TAX ADVICE AND TAXPAYERS SHOULD CONSULT THEIR OWN LEGAL AND TAX ADVISORS AS TO THEIR SPECIFIC SITUATION.