The 2010 Estate Tax Election

As we have reported previously in our Blog, the estate tax law for 2010 and 2011 has changed fairly dramatically with the passage of new legislation in December 2010. When Congress enacted a comprehensive tax package in June 2001, it included a provision that would eliminate the estate tax in 2010 but would re-institute the tax in 2011 at 2001 rates. Under those rules, the estate tax was set to return to a $1 million exemption per estate with a maximum estate tax rate of 55% on a person’s assets over the $1 million mark. Under the 2010 legislation, Congress increased the exemption for 2011 and 2012 to $5 million, and it reduced the maximum estate tax rate to 35%.

As a part of the 2001 legislation that eliminated the estate tax for 2010, Congress also included a moratorium on the step up in basis that has historically been offered to assets when someone dies. Under the law prior to 2010, when someone dies, any asset that they own receives a “step-up” in the basis of the asset equal to the value of the asset on the Decedent’s date of death. For instance, if Jack purchased 1,000 shares of Exxon stock in 1971 at $10/share and the same stock was selling at $75/share on Jack’s death in 2010, Jack’s family would receive the stock with a basis of $75/share, the value on his date of death. When they later sell the stock, they would pay capital gains only on the increase in the value after the date of death.

Because there was no estate tax in 2010, there was also going to be no step-up in basis, which could be costly to some taxpayers. When Congress passed the new legislation that increased the exemption amount for 2011 and 2012, they also included a provision that allows estates of persons who died in 2010 to elect to stick with the law that was passed in 2001 or to choose to apply the law applicable to 2011 and 2012. This gives those estates an opportunity to calculate which method would result in the lowest overall taxes and thereby save them the most money.

This new tax election stands to provide a substantial benefit to many of the estates of persons who died in 2010. Because the new law was not enacted until December 2010, Congress has allowed an extension for tax returns being filed for those estates. If you are set to receive an inheritance from an estate of someone who died in 2010, please contact us if you need more information about these potential tax issues.