As of January 1, 2013, the Civil Marriage Protection Act legalized same-sex marriage in the State of Maryland. From the estate-planning perspective, the passage of this law clarified many points that had been problematic for same-sex couples including rights of inheritance where there is no will, spousal elective shares, and assessment of Maryland inheritance tax. Importantly, any portion of an individual’s estate passing to a surviving spouse passes free of Maryland estate tax. This exclusion was not previously available to same-sex partners who were not permitted to marry.
Unfortunately, the federal estate tax treatment of estates passing from one Maryland same-sex spouse to another remains in doubt. The Defense of Marriage Act defines marriage as a union between a man and a woman for purposes of federal benefits and application of federal law. Therefore, regardless of how Maryland or any other state defines marriage, the federal government only recognizes marriages between a man and a woman. This applies, of course, in connection with federal tax statutes such as those applicable to the federal estate tax.
The United States Supreme Court will hear the case of United States v. Windsor on March 27, 2013. The issue in Windsor focuses precisely on the constitutionality of the Defense of Marriage Act as it applies to the federal estate tax. The case concerns two New York women who were legally married in Canada. Upon the death of the first spouse, the estate was assessed an estate tax of approximately $360,000 because the surviving spouse was not considered a “spouse” pursuant to the Defense of Marriage Act. If the Supreme Court finds the Defense of Marriage Act unconstitutional, then estates passing to surviving same-sex spouses will pass free of estate tax.
The process of estate planning contemplates many issues, but one of the primary issues is addressing potential estate taxes. All married couples should engage in the estate-planning process to ensure proper distribution of assets in a tax-efficient manner. Having a discrepancy, then, between Maryland tax law and federal tax law makes efficient planning a significant challenge. The federal estate tax does not apply to everyone, but for Maryland same-sex spouses whose net worth exceeds a certain threshold, the forthcoming Supreme Court decision will have a tremendous impact on their estate planning.
Here it is, January 2, and we’ve firmly established that we’re not going headlong over some theoretical cliff. There will be plenty of time to discover all of the unintended consequences and blatant lapses in judgment buried in the new law. Well, maybe not plenty of time, because it seems that Congress has, to some extent, kicked the can down the road and will be revisiting some or all of the recent “changes.”
In any event, my primary professional concern in this kerfuffle has been the fate of the federal estate tax. For two years, estate planners have been telling our clients that there was a limited window of opportunity to use some or all of the $5.12 million gift-tax exclusion that was granted via the last can to be kicked down this particular road. Indeed, many families acted on this advice and made significant gifts and employed advanced planning techniques to benefit their families.
In fact, The American Taxpayer Relief Act of 2012 keeps the current $5.12 million exemption in place. The difference, though, is that the top estate tax rate has increased to 40%. So, was all of last year’s hype and urging to “act now” for naught? The answer is emphatically no.
First and foremost, professional advisors should never recommend making ill-advised gifts solely because the tax code dictates a certain outcome. Part of the planning that goes into making significant gifts should include discussions of whether the proposed gift will both a) benefit the family in the long run and b) not disadvantage the donors in any way. As I always say, the tax “tail” should never wag the dog. Hopefully, all gifts made in 2011 and 2012 in consideration of the increased exemptions were made thoughtfully and carefully.
Second, the increase of the estate- and gift-tax rate to 40% has increased the value of gifts made in 2011 and 2012. Individuals that have taken advantage of the increased exemption over the past two years have just seen the value of their gifts increase solely by virtue of the higher tax rate that won’t be paid at their deaths. For families making significant gifts, the dollar value of that savings is considerable.
The final point I’d like to make is that the maintenance of the $5.12 million exemptions (and Maryland’s $1 million exemption) means that individuals and families should continue to be vigilant in their planning. Those who were contemplating making gifts in 2012, but fell short of the deadline, have a renewed opportunity to consider and complete those gifts. Those who did not consider making significant gifts might now give greater attention to the matter in light of the increased federal estate-tax rate. And those who have not recently reviewed their estate plans should make time to consult with their advisors and see if changes are appropriate.
Let’s see: the stock market moves like a yo-yo on an hourly basis, the national political climate is as clear as mud, and Maryland has seen an earthquake, a hurricane, and flooding all in the span of a few short weeks. Doesn’t seem like a great time to be thinking about significant estate and gift planning? In fact, a combination of factors makes this the perfect time to consider such planning.
After almost an entire year of uncertainty regarding the estate and gift taxes, Congress finally enacted temporary legislation to reinstate the estate tax. Somewhat surprisingly, Congress also dramatically increased the estate and gift tax exemptions to $5 million. Remember that before the “fix,” the estate tax exemption in 2009 was $3.5 million per person and the gift tax exemption was $1 million per person. As with most of what comes from Congress, however, there are positives and negatives to these adjustments. Read more