What's New in 2011?

The new year brings sweeping changes to the Estate Tax Law. In the past three years we went from a $3.5 million Estate Tax exemption (the amount a person can pass Estate Tax free) and a 45% top rate, to no Estate Tax at all in 2010, to the new $5.0 million exemption and 35% top rate in 2011. This new law then expires on December 31, 2013, at which point the Estate Tax will revert to 2002 levels, with a $1.0 million exemption and a 50% top rate. That is, unless Congress acts in time, and extends the current 2011 law, or creates something completely new.

In addition, beginning this year, estates can now apply the unused Estate Tax exemption left by a predeceased spouse who dies in 2011 or later. For example, under the new rules, if a man dies in 2011 and leaves $2.0 million to his children, his surviving spouse can then apply the remaining $3.0 million of his Estate Tax exemption to her estate, effectively allowing her to pass $8.0 million Estate Tax free.

To make matters even more complicated, heirs of people who died in 2010 now have a choice of applying the 2010 Estate Tax rules (no Estate Tax, but generally limited to $1.3 million of stepped-up basis on appreciated assets) or the 2011 Estate Tax rules ($5.0 million Estate Tax exemption per person, but unlimited stepped-up basis on appreciates assets).

So, what should you do in 2011?

First of all, stick with the basics. A basic estate plan in California, appropriate for the vast majority, will include a Living Trust, Pour-Over Will, Durable Power of Attorney, and an Advanced Health Care Directive.

A Living Trust has been and will remain the cornerstone of California estate planning. In short, a properly drafted and funded Living Trust will avoid probate, an extremely costly and prolonged court process to otherwise administer an estate. Note that Probate is required with or without a Will. The main difference is that a Will directs how an estate is to be distributed and who will be the executor. Without a Will, California law and the court makes this determination. In either case Probate is required, and a Living Trust is still generally the best way to avoid the expensive and time consuming probate process.

It is also a good idea to review a Living Trust now and then, to address any changes in ones family, assets, and the law. In particular, many couples have AB Trusts (or ABC Trusts), which require the family trust to split into multiple and generally irrevocable shares upon the first to die. While there are perfectly legitimate reasons to have this type of trust, many couples, especially those who bought trusts from the so-called trust mills who peddle trusts at free seminars, would be better served in light of the new Estate Tax laws with a simpler trust that doesnt require division upon the first to die. Once the first spouse dies with an AB Trust, it is too late to undo this potentially devastating consequence.

In addition to a Living Trust, Californians need a Pour-Over Will which acts as a back-up to the trust in case an asset is inadvertently left out of the trust. A Durable Power of Attorney is needed to appoint someone to make financial decisions in case of incapacity, potentially avoiding court supervised Conservatorship. An Advanced Health Care Directive, available from many doctors offices, hospitals, and on-line, gives direction regarding medical and personal care decisions (including end of life care), and appoints a health care agent to make decisions and supervise care in case one becomes incapacitated.

Any review and update to an Estate Plan should be done with the new 2011 Estate Tax law in mind, but also with the consideration that it is a temporary law, set to expire in two years. Politics aside, does anyone really want to bet on what Congress and the President might do in 2013? In that sense, Estate Planning has become a guessing game, balancing what is happening now and what might happen in the future.

Finally, charitable giving should still be encouraged, and not just for the internal satisfaction we all feel by being charitable. With the uncertain future of the Estate Tax laws, charitable giving is still an excellent way to minimize potential estate and income taxes. Charitable gifts can be leveraged through mediums such as Charitable Remainder Trusts to take advantage of certain tax laws, preserving an income stream, while at the same time benefitting ones favorite charities.

These days the only certainty in Estate Planning seems to be further uncertainty. The best advice is to keep in touch with your professional advisors, keep your Living Trust up to date, focus on basics, and plan for the present with an wary eye on the future.