Gift and estate tax planning considerations.

• Author: Lovinger, Sarah

The federal tax system looks to collect revenues from transactions through which value is transferred between parties, whether as income or as a gift. While corporate and individual income taxes constitute the lion's share of total tax revenues, according to IRS statistics, estate and gift taxes contributed approximately $27 billion to the gross revenues collected in 2007, the most recent year available. However, with thoughtful planning, taxpayers can minimize gift and estate taxes while retaining some control of transferred assets by establishing trusts or limited partnerships and using the annual gift tax exclusion.

Gift and estate taxes, which follow one after the other in the Code, are interrelated in concept and calculation. The estate tax, as described in Regs. Sec. 20.0-2, is "neither a property tax nor an inheritance tax" but rather "a tax imposed upon the transfer of the entire taxable estate and not upon any particular legacy, devise, or distributive share."

In general, an individual's taxable estate is determined as the value of the net assets owned by the individual at the time of death reduced by specified exemptions and deductions. To this is added the taxable gifts made during the decedent's life (other than those that are included in the decedent's gross estate). This total is then subject to a graduated tax rate, which currently ranges from 18% to 35%. (The top rate is scheduled to increase to 55% on Jan. 1,2013.)

The gross amount of tax is reduced by gift taxes previously paid or payable, certain credits for foreign death taxes paid, a credit for tax on prior transfers, and the unified credit against estate tax. Estate tax is a liability of the estate, and it is the responsibility of the executor or administrator of the estate to satisfy this liability out of the estate's assets (Regs. Sec. 20.2002-1). Estate tax therefore can significantly reduce the total value passing from the decedent to the heirs.

For most taxpayers, the unified credit offsets all estate tax liability. Under Sec. 2010, the unified credit is described as the amount of estate tax that would be due if the graduated rates identified above were applied to a value equaling the applicable exclusion amount. For individuals who died in 2011, the exclusion amount was $5 million, which equates to a unified credit of $1,730,800. The exclusion amount is adjusted for inflation and increased to $5.12 million for 2012, which equates to a unified credit of $1,772,800 (Rev. Proc. 2011-52). Also, the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010, P.L. 111-312, modified Sec. 2010 to create a portability election that allows a surviving spouse to increase his or her unified credit by an amount equal to the unused portion of the first-to-die spouse's unified credit amount. This is referred to as the deceased spousal unused exclusion (DSUE) amount. The DSUE provision is effective beginning in 2011 as an election to be made on the estate tax return of the first-to-die spouse. To minimize estate tax liability, taxpayers may consider taking steps to reduce their estates so they do not exceed the unified credit.

Gift Tax Strategies

A possible planning strategy for managing the value of a taxpayer's estate is to gift assets over the...