the website of
Lisa Nachmias
Davis,
Attorney at Law - Elder Law, Estate Planning & Probate, Nonprofit Organizations
Suite 805
New Haven, CT
06510
203-776-4400
Fax: 203-774-1060
or 776-4411
2009 TAX ALERT - CONNECTICUT
January 1, 2009. Happy New Year! In the midst of the dreadful financial situation, there appears a glimmer of good tax news. Effective January 1st, the federal estate tax exemption has reached $3.5 million, and the incoming administration no longer seems bent on putting it back to 2001 levels, when it was only $1 million. In fact, the Obama administration recently endorsed proposed legislation freezing the exemption at $3.5 million.
Paradoxically, this good news at the federal level may have unintended negative tax consequences for your estate -- assuming that the recession has left you with more than $2 million between you. The problem is the disconnect between the federal and state exemptions. Although the federal exemption is now $3.5 million, the Connecticut exemption was set at $2 million starting in 2005 and seems unlikely to change. This disconnect may result in $100,000 to $229,000 in Connecticut estate tax, payable 9 months after the first of you dies.
Here's why:
An estate plan often includes trusts designed to minimize taxes, by "sheltering" assets from the federal estate tax payable when the second of you dies. These trusts may be in your wills, or revocable trust agreements. Although no tax is due when you leave your assets to your U.S. citizen spouse, doing so exposes them to tax at the time of your spouse's later death -- with amounts in excess of the federal exemption taxed at 45% and amounts in excess of the state exemption taxed at 5-16%. For this reason, your will or revocable trust agreement may include a trust or "Fund" established when the first of you dies, whether it is called a "credit shelter trust," a "bypass trust," "fund A," or some other name. Assets owned by the first person to die pass into trust at that person's death and thus escape tax at the time of the second person's death.
So far, so good. But your documents may describe what goes into the trust as "the largest amount that may pass free of federal estate tax," or something similar. As of 1/1/09, that amount may be up to $3.5 million -- more than the amount that can pass free of Connecticut estate tax. If, therefore, you own more than $2 million in your sole name that does not pass to your spouse by beneficiary designation and you die first, more than $2 million may pass to the trust. Result = tax. Even one dollar over $2 million will result in a Connecticut estate tax of over $100,000.
What to do? There are three ways to solve the problem -- and I leave aside the fourth possibility that you might have invested your assets with Bernie Madoff, leaving nothing to worry about! The three choices:
- Rearrange assets: Ensure that you do NOT (either of you) have assets in excess of $2 million in either's sole name, except for assets that pass by beneficiary designation to a spouse. Remember when your lawyers advised you to divide your assets so that each of you had "at least" a certain amount in your sole name? This is the opposite advice -- make sure that you have no more than $2 million in your sole name except for assets that pass by beneficiary designation to your spouse. Instead, take the excess and put it into a joint account, or alternatively, ensure that the account "transfers on death" to your spouse. If your house is owned in only one person's name, or is owned jointly as "tenants in common," sign a deed re-titling the house in joint names "with rights of survivorship."
- Example: Bob has a $1 million IRA naming Susan as beneficiary, a $2 million brokerage account, and a $10,000 checking account. Susan has $1.9 million. Bob should put Susan's name on the checking account, and just in case the market recovers and his brokerage account grows, he might also want to withdraw something from the brokerage account and deposit it to the checking account, or even transfer something to a new account owned by Bob and Susan, "jointly with rights of survivorship."
Of course, you will
have to monitor the situation closely -- you should each still try to
keep $2 million or less separate, in order to shelter that amount in
your trust if you are the first to die. To rearrange assets may be the
best choice when you have combined assets of $4 million but your
holdings are lopsided, with one person currently owning more than $2
million.
- A quick trust amendment: A
simple change of sentence will address the situation, by limiting the
amount passing to the trust to "the maximum amount that will pass free
of federal and state estate tax." That phrase was redundant last
year, when both exemptions were $2 million, but it is now
essential. More will be exposed to federal tax when the
second person dies, but that may not matter, depending on the size of
your estate.
- Let it
be? If you have significant assets, you may
want to leave things
alone. The Connecticut tax is only 5-16%, while the federal tax
is 45%. It may be worthwhile to pay Connecticut tax at the time
of the first person's death if this will reduce federal tax payable at
the time of the second person's death.
- Example: Maria and Tony have a combined estate of $10 million. Limiting what passes into trust at the first person's death to a "mere" $2 million will expose an extra $1.5 million to tax at the 45% federal rate on the second person's death. If Maria and Tony "let it be," there will be an extra $229,000 when Tony dies (first), but only $1,562,500 when Maria dies after Tony (total: $1,791,650). By contrast, if they amend their trusts, then Maria doesn't have to pay $229,00 when Tony dies, but their children will have to pay $2,450,000 when Maria dies. Therefore, their children will be $658,350 richer if Maria and Tony leave things alone, even if Maria does have to pay the $229,000 earlier. Maria and Tony are in their 90s -- they may want to leave their trust agreements as they are.
- Multi-Trust Plans. If you were planning to leave everything in trust anyway, there may be more complex options, which you might consider if your wealth is over $5.5 million. It's better to discuss those in person.
For further information on estate planning, send email to me at davis@sharinglaw.net, or write to me at the address shown. I can only provide general information, and will not provide advice about a particular case without a formal engagement. Writing to me does not create an attorney-client relationship.
DISCLAIMER: THIS INFORMATION IS NOT PROVIDED AS LEGAL ADVICE AND CREATES NO ATTORNEY-CLIENT RELATIONSHIP. NO ENDORSEMENT IS INTENDED BY ANY REFERENCES HEREIN. PLEASE CONSULT YOUR OWN LEGAL AND FINANCIAL ADVISORS BEFORE TAKING ANY ACTION.
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Lisa
Nachmias Davis
Attorney at Law
129
Church Street, Suite 805
New
Haven, CT 06510
Phone:
203-776-4400
Fax:
203-774-1060 or 776-4411
davis@sharinglaw.net