The Estate Analyst: "H.R. 436 Retains Estate Tax"

In January, Congressman Earl Pomeroy, a Democrat from North Dakota (the sole representative of that state since 1993), introduced legislation to keep the estate tax. (Act surprised.)

H.R. 436 is now before the House Ways and Means Committee and it, or a bill just like it, will undoubtedly be making its way through the legislative process this year. But as opposed to stating a primary reason for the bill, such as maintaining tax revenues, encouraging philanthropy, or some plain old-fashioned "soak the rich" class warfare, the preamble to the bill identifies a long-feared tax nemesis as the primary objective:

"to repeal the new carryover basis rules in order to prevent tax increases and the imposition of compliance burdens on many more estates than would benefit from repeal."

Blame The Carryover Basis

The carryover basis may work in Canada but in the United States it has been the Balrog of tax problems. The last time we tried to switch to a carryover basis in 1976, the transition had to be postponed and revamped and ultimately repealed retroactively.

Implementing a carryover basis embarrassed Congress back then and was poised to do so again. But perhaps H.R. 436 has ingeniously placed it at the forefront as the scapegoat for keeping the estate tax.

Whatever the face-saving motivations, there are certainly ample practical problems with imposing capital gains on property held at death. Estates that would face no transfer tax could have huge taxes on various capital assets and beneficiaries could be forced to sell those assets.

Establishing the cost basis for assets held for many years is incredibly burdensome. Years of estate planning have been based on a stepped-up basis at death, creating unfair burdens on individuals when they can no longer rearrange their estate plans as easily. Even utilizing the home sale exemption for capital gains isn't attractive in light of current residential property values.

His Name Is Earl

Congressman Pomeroy's proposal points out that only a few estates currently face federal estate tax, but vast numbers of estates would face burdens associated with the carryover basis. So instead of simplifying the taxation of estates, the repeal of the estate tax would increase tax burdens and complexity for more estates than it helped.

It took nine years to notice this? But let's look beyond such subterfuge. The estate tax is the focal point here. As had been long foreseen and awaited, Congress will most likely step back from the estate-taxless abyss of confusion and just keep the tax.

Under H.R. 436, the current $3.5-million exemption which was phased in for 2009 would simply continue, with 45% as the top tax estate tax bracket. The unified credit would return and graduated rates would phase out for estates exceeding $10 million.

We have reached the high plateau and it looks like the status quo will continue from here on out. 

A Sleeper Provision

There is a stowaway aboard this repeal of the estate tax repeal. Estate-planning expert Marshall Jones (JD, ChFC, CLU, AEP) of R. Marshall Jones, Inc. in West Palm Beach, Florida, notes that the proposal is a mere six pages and, "as a result of its simplicity, has a high degree of likelihood of passage." However, he identifies a significant provision that has hitched a ride on H.R. 436.

The extraneous provision has to do with the valuation of minority interests in businesses where, for instance, the minority status is created by establishing a family limited partnership.

Although FLPs are not targeted per se, they would be impacted by the legislation, which would deny minority valuation discounts where members of the same family unit retain control of the asset.

Because H.R. 436 could be enacted by midyear, there may be only a few months to properly set up a family limited partnership or otherwise make successful transfers of discountable minority interests. Other limitations in H.R. 436 would apply "look-through" rules to address the valuation of transfers of non-business or passive assets.