No more estate tax melodrama
For the children of a 75-year-old couple who live in the Great Plains, the paperwork dash was a little too close for comfort. Their parents had put off the finishing touches on an estate plan until Dec. 31 last year, their son said. While they had accumulated farmland, cattle, oil leases and banking interests worth $100 million during their married life, they’d just never gotten around to settling how that wealth would be distributed at their deaths.
They weren’t alone in panicked planning. Depending on where Congress set estate tax exemptions this year, even a 5,500-acre Midwest farm could have owed anywhere from $700,000 to $5.6 million in federal estate taxes for deaths in 2013. Turmoil in the fiscal cliff negotiations triggered a flood of farm estate plans and million-dollar gift transfers in the last six months of 2012.
Today many tax professionals are breathing a sigh of relief.
“The good news for everyone is we have permanency in things we never had before,” said Andy Biebl, a CPA with Clifton Larson Allen LLC in Minneapolis who specializes in ag taxation. “Some of the drama we have had every year or two with Congress is now going to be a matter of the past.”
The tax bill passed by Congress New Year’s Day ended a decade of uncertainty in estate planning.
Now planners know that 2013 estates of about $5.25 million will pass free of federal tax and that exemption will be permanently adjusted for inflation.
Equally important is that any unused exemption remains “portable” between spouses, in effect correcting for poor estate planning during life. So, if a wife died first in 2013 with only $2.5 million of assets in her name, CPAs estimate that her surviving spouse could pass an estate of $8 million without paying federal taxes, provided an executor had filed an estate tax return on the first death and made an election.
“That’s huge. Congress gave people like farmers with illiquid estates a tremendous Christmas gift,” said Nick Houle, a CPA with CliftonLarsonAllen, who specializes in family business transfers. Given rapidly escalating land values, that exemption won’t be large enough to erase all taxes, but it gives guidance so families can begin to structure business plans and minimize the damage.
What could have been
The Obama administration had pushed for estate tax exemptions as low as $3.5 million and a hike in estate tax rates on the excess from 35 percent in 2012 to 45 percent in the future. The tradeoff for agreeing to the higher $5 million exemption is that rates on excess amounts will run 40 percent.
That was a good swap for the vast majority of farm families, said Neil Harl, a retired Iowa State University agricultural tax professor. “Rates are no big deal unless you’re a billionaire. For farmers, the size of the exemption was the big deal.”
Lifetime gifting will still make sense for farmland owners whose joint estates exceed $10.5 million or $5.25 million for singles because they’ll want to keep rapidly appreciating farmland from ballooning their estates, said Biebl. That’s because the federal government will assess a 40 percent estate tax on the excess, while heirs would pay a maximum of 23.8 percent on any capital gain when they later sell (or possibly up to 25 percent if the gain encounters some of the new deduction phase-outs).
Couples with net worths of $10 million or less can probably hold up on making lifetime gifts, although they’d need to examine other issues, such as how long the land would be held before being sold, Biebl said.
So much farmland was given away in late 2012 that Harl worried that some farm owners may regret their hasty multi-million gifts, especially if it was property with a low tax basis.
“We had an 87-year-old owner insist she had to make a $5 million gift to her children at year-end, but her tax basis in the land was only about $100 per acre. That land is selling for $8,300 per acre now. Did she know the tax burden she’s foisting on her heirs?” Harl asked.
Owners retain the right to gift tax-free amounts equal to the estate tax exemption while they’re alive, he noted, in essence taking an advance on the $5.25 million exemption now. (They can also gift $14,000 annually to another person free of estate taxes, or $28,000 per donor couple.) What they sacrifice with lifetime gifts is the capital gains forgiveness that would have occurred if property passed post-death.
“Don’t kid yourself. Anybody who thinks their land will never be sold isn’t being realistic,” he said. It can make sense if you have heirs who plan to continue farming and you think farmland values will continue to appreciate faster than inflation, however.
But often, Harl said, “shortly after you breathe your last, the real estate sign goes up.”
The son of the 75-yearolds who finished their estate plan Dec. 31 is just relieved a plan is in place. His elderly parents got estate planning motivation after a health scare in 2012. Worries about escalating estate taxes in the fiscal cliff package finally prompted them to formalize a plan.
“I really needed them to make a decision, whatever it was, or we’d have had to sell almost everything to pay the estate taxes,” the son said. As is, he figured they still need to raise about $15 million in cash to pay their estate tax obligations. That’s stiff, but better than the alternative. — Marcia Zarley Taylor, DTN