Reform or repeal the transfer tax system?

• Author: Sawyers, Roby B.

The Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA) phases out the estate and generation-skipping transfer (GST) taxes over nine years, followed by a one-year repeal in 2010. The gift tax remains in place during the repeal and is accompanied by a modified-car ryover-basis regime for assets passing at death in 2010. The EGTRRA rein states the estate and GST taxes in 2011. Its provisions create significant uncertainty and complexity for clients in estate and financial planning matters.

In light of this, a Task Force on Federal Wealth Transfer Taxes was formed in late 2001, comprised of representatives from the American College of Trust and Estate Counsel, the American Bar Association's Sections of Real Property, Probate and Trust Law and of Taxation, the AICPA, the American College of "Fax Counsel and the American Bankers' Association. Its purpose was to:

1. Prepare a comprehensive report analyzing technical and transitional consequences of tire EGTRRA changes to the gift, estate and GST taxes; and

2. Examine various alternative legislative measures to eliminate the substantial ambiguity under the current transfer tax system.

The report, Report on Reform of Federal Wealth Transfer Taxes, (1) does not consider policy questions on (1) the economic effects of a transfer tax system as compared to other forms of taxation or (2) whether wealth redistribution is an appropriate tax system goal. The report's central concern is to assess--on the basis of simplicity, compliance and consistency of enforcement--the temporary repeal of the estate and GST taxes, the phaseout period, the continuation of die gift tax after repeal, Sec. 1022's modified-carryover-basis rule and alternatives to transfer tax repeal. While the report suggests options for Congress to consider, it does not make specific regulatory or legislative recommendations.

The report was approved by the sponsoring organizations, published in summer 2004 and distributed to Congress and Treasury. It is organized in four parts, plus an appendix.

Part I considers issues pertaining to the phaseout period of the estate and GST taxes and their reinstatement in 2011. Part II addresses issues arising from the retention of the gift tax after reduction and ultimate repeal of the estate and GST taxes. Part III discusses issues stemming from implementation of the modified-carryover-basis rule that takes effect on repeal of the estate and GST taxes. Part IV identities issues resulting from the current estate, gift and GST tax law and suggests alternative ways of resolving them through modifications to the current wealth transfer tax system. The Appendix evaluates alternatives to the system, including replacing it with (1) an accessions tax, (2) an income-inclusion system or (3) a deemed-realization system. Some of the issues included in the report are discussed below.

Part I: Planning under a Lengthy Phaseout Period

The estate and GST taxes' lengthy phaseout period causes financial and estate planning complexities and uncertainties. The EGTRRA's treatment of gift and GST taxes during the phaseout period further exacerbates these problems. If Congress chooses to make repeal permanent, alternatives discussed include reducing the phaseout period and reunification of the estate and gift tax systems during this period, coupled with immediate repeal of the GST tax. Such repeal would have minimal revenue effect, because, in most situations, taxpayers will not find it difficult to deter imposition of the GST tax until the end of the phaseout period.

Temporary repeal: The one-year estate tax repeal and the introduction of the modified-carryover-basis rule create uncertainties, inequities, complexities and planning difficulties. Congress could promptly make the repeal permanent or reinstate the estate tax. An extension of the repeal period, without making it permanent, would not substantially improve the uncertain tax climate. If repeal remains in place for one year, Congress could allow personal representatives of the estates of decedents who die in 2010 to...