2011 Inheritance and Gift Tax Surprise

One year ago this column discussed the state of confusion in Inheritance Tax laws. The Federal rules in 2009 were different from the rules in 2010, and there was yet another set of rules of rules for 2011. Congress finally took action just before Christmas and here is the present they delivered.

First, they said that the Federal Estate Tax exemption was increased to $5 Million, and the Gift Tax exemption was also increased to $5 Million. That’s high enough so I doubt any readers will have to worry about the Federal Estate tax or gift tax. In addition, they said that if one spouse dies, the amount of the exemption that is not used by that spouse can be used by the second spouse to die. In effect, that means every husband and wife has a $10 Million exemption for Federal Estate tax. And since Connecticut has a $3.5 Million exemption from its Succession Tax, that probably means almost everyone can stop reading this article right now, and go to sleep without worrying about estate taxes.

But this is Congress, after all, so there is a catch. The law only lasts for two years through December 31, 2012. After that, the Federal exemption gets reduced to $1 Million. And the Federal Gift Tax exemption gets reduced to $1 Million also. This is still high enough so most people will never have to worry about Estate taxes, but for those with expensive homes, that $1 Million threshold may not be that far off.

When people come into my office for Estate Planning advice, they always ask “Isn’t there some amount, such as $10,000, that I can give away?” The answer is yes, but here is a more complete explanation. The Gift Tax laws state that in 2011, any individual can give away up to $13,000 per person to as many people as they want. So a husband can give away $13,000 to each of his children, or to anyone for that matter, and so can his wife. Once that is done, the “gift” is effectively out of their estate. And there is no gift tax to the giver or the receiver. So a couple can give away $26,000 per child without any tax consequences to them or their children.

There is another catch, however. This is a tax law, and has nothing to do with Medicaid (Title 19) rules. Even though there are no taxes to pay by anyone, unless 5 years go by before the husband or wife needs Title 19 to pay for home care, or nursing home care, the gift to children or anyone else may cause a penalty period, during which time Medicaid will not pay for care.

It is critical to get competent advice on how the Gift Tax rules differ from the Medicaid rules, so that gifts to children do not end up disqualifying a parent from needed care to stay at home.

All in all, the Federal Gift and Estate Tax exemptions now mean that most of us will not have to worry about Inheritance or Gift Taxes for two full years. For those of us planning on being around for more than two years, it probably makes sense to review tax and asset protection plans with a knowledgeable professional.