Where does this idea come from? Throughout your life, you pay taxes on your income, and this includes investment income, even though you make investments with assets that you have left over after paying income taxes.
Of course, there are also property taxes, sales tax on your purchases, and somewhat hidden taxes on things like energy, communication, hospitality, gasoline, alcohol, tobacco, etc., etc., etc.
Whatever you have left to pass along to your loved ones after you pass away is a remainder that you still have in your possession after paying all of these taxes throughout your life. The people who feel that the estate tax is unfair wonder why your death should also be a taxable event.
Apparently, this logic made sense to a majority of legislators until 1916. This is when the estate tax was first enacted. At first, people would give gifts to their loved ones to avoid the estate tax. This did not sit well with tax minded lawmakers, so a gift tax was enacted in 1924.
The other side of the argument won out in 1926, and the gift tax was repealed. However, the respite was relatively brief, because the gift tax was reenacted in 1932. This tax has been in place ever since, and the estate tax and the gift tax were unified in 1976.
To fast forward to more recent history, we will take a look at the evolution of the estate tax parameters over the last few years. The estate tax exclusion is the amount that you can transfer before the estate tax would be applied. This figure is sometimes called the credit or exemption.
In 2009, the estate tax exclusion was $3.5 million, and the maximum rate of the tax was 45 percent. Provisions contained within the Bush era tax cuts allowed for a total repeal of the estate tax for the 2010 calendar year. There have always been people who want to do away with the estate tax, and many hoped that this was a harbinger of things to come.
The legislative measure that allowed for the repeal in 2010 was going to expire at the end of that year. If no new legislation was passed that impacted the estate tax, the tax would have returned with a $1 million exclusion and a 45 percent top rate in 2011.
Things did not play out that way, and this is a good thing for those who are not particularly anxious to pay an estate tax. At the end of 2010, a piece of legislation that has come to be called the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 was passed. Among other things, this measure set the estate tax exclusion at $5 million for 2011 and 2012, and the top rate was set at 35 percent.
You may remember the so-called “fiscal cliff” situation that was upon us at the end of 2012. If the government did not take some type of action, there were a slew of different financial consequences that were going to negatively impact the country.
Part of situation was the impending expiration of the aforementioned tax relief act that was passed at the end of 2010. As it applied to estate planning, the 2010 scenario was replicated. If no action was taken by Congress, the exclusion would have been $1 million in 2013, and the top rate of the tax would have been 45 percent.
Once again, this unsavory prospect was averted, because the American Taxpayer Relief Act of 2012 was passed in the eleventh hour. This act retained the $5 million inflation-adjusted exclusion, but the maximum rate of the estate tax was raised from 35 percent to 40 percent (even though the act is called a tax relief act). In 2016, the exclusion has risen to $5.45 million.
These parameters are theoretically permanent, but in reality, they can always be changed due to legislative mandate. The White House has proposed budgets that would reduce the exclusion to $3.5 million, but the current political climate in Washington, D.C, makes such a reduction extremely unlikely.
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Whether you are exposed to estate taxes or not, you should educate yourself about relevant laws when you are planning your estate so that you can make sure that you preserve what you have earned for the benefit of your family. There are some factors that many people do not know about, and a great deal can be lost if you act in an uninformed manner.
The best way to get educated is to consult with an experienced and qualified estate planning attorney. If you would like the assistance of our firm, please call us at (916) 437-3500.