For money managers, 2009 may be long remembered as a year drowning in red ink — bank failings, home foreclosures, a stock market plunge, bankruptcies for the giant auto-makers, eye-popping federal bailouts and skyrocketing unemployment numbers.

For estate planners and their clients, the past 12 months may be remembered as the year everyone held their breath.

That breathless anticipation of governmental moves on estate tax law and tax loopholes, along with other tax-saving opportunities now available, has created an atmosphere of uncertainty, according to estate planners.

“A lot of planners are confident they know what’s going to happen, but it hasn’t taken place yet and you can’t be sure it will,” explains Stuart Susskind, a partner with the Cincinnati office of Ulmer & Berne LLP. “The whole atmosphere of uncertainty has created some chaos. Our anxiety is in what we tell our clients to do until there’s some permanency in the legislation. If you move now, the changes could screw up plans and lead to major adjustments.”

Greenebaum, Doll and McDonald PLLC’s Suzanne Land, who specializes in estate planning, health and insurance law, puts it even more succinctly. “With the economic turmoil and without a clear picture for estate planning, it’s been a year of general paralysis,” she says.

The paralysis may soon lift in a flurry of activity, however.

The largest puzzle piece will likely fall into place by the end of the year, as Congress decides the fate of the Sunset Provision, a large part of the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA). The Sunset Provision, which set the level on how much money individuals could protect from federal taxes upon their death, is set to expire on Dec. 31. Significant consequences will follow if Congress doesn’t act.

Also, though they don’t share such a concrete deadline with the estate tax law, loopholes the IRS are considering eliminating from the federal tax code are also part of the uncertainty, as are other opportunities the government is making widely available for the first time.

Taken together as factors in estate planning’s shifting landscape, many have decided a wait-and-see approach is the most prudent stance for 2009.

“People have held off making moves until they know what the lay of the land will be, which is probably the wisest move at this point,” Susskind adds.

Waiting for Sunset

The most eagerly awaited development is Congress’ handling of the Sunset Provision.

Before EGTRRA passed in 2001, individuals could pass along $1 million of assets to their beneficiaries upon their death without being taxed by the federal government. The Sunset Provision increased that limit, while diminishing the tax rate on amounts above that $1 million mark.

But the law was also unlike any bill ever passed before by Congress.

It had a finite lifespan, gradually increasing the tax exemption limits each year to the current $3.5-million-per-individual level ($7 million for married couples), until it was to expire at the end of 2009. At that point, according to the way the law is written, the estate tax would disappear for 2010 — individuals could pass along all their assets, no matter the value, free of federal tax. It would return in 2011, reverting to the pre-EGTRRA. In effect, once the Sunset Provision expired, it would be as if the law never existed.

A return to pre-2001 levels, a $1 million exemption and tax rates up to 55 percent on assets beyond that limit, after years of inflated limits is nearly unthinkable, Land says.

“It would be disastrous for some clients. They would have to consider selling some assets to try to come under that $1 million bar, or suffer the higher taxes,” she adds. Family businesses would be particularly hard hit if no action is taken.

With only three months left before the Sunset Provision expires, Congress has been surprisingly slow to act.

During last year’s presidential campaign, both candidates espoused plans to extend the provisions. Sen. John McCain (R-Ariz.), proposed bringing estate taxes more in line with the current capital gains taxes with a $5 million exemption and a 15 percent tax rate for superseding amounts. President Barack Obama, the Democratic winner, was a proponent of freezing the exemption and tax rates at the current levels, $3.5 million (indexed to inflation rates) and a 45 percent tax rate on assets above that level.

It appeared the course had been set for estate planners.

According to Wood and Lamping LLP’s Mark Reckman, an estate planner and a staple on 55KRC’s radio program “Simply Money,” many breathed a sigh of relief.

“A lot of planners, myself included, put their feet up on their desks and thought it was all over but the ink drying. At this point, we’re not so sure,” he says. “It makes some people nervous.”

Congress has edged toward action, albeit slowly.

In March, the House of Representatives passed a budget resolution that incorporated Obama’s proposals, and the Senate has offered their own budget with Sunset Provision plans that would increase the exemption to $5 million and set the tax rate at 35 percent. But neither resolution has seen much movement. Several other bills have been proposed to deal with the Sunset expiration as well with varying limits and tax rates, but consensus among planners is that Congress will move to enact Obama’s plan, which was conditionally included in the administration’s latest budget.

It’s hard to imagine the alternative, Reckman agrees.

“Really, they have no choice. There’s plenty of blame to go around. Bush waged a trillion-dollar war with no money, and Obama wants to have a trillion-dollar health plan with no money. They’ve got to come up with that money somehow, and it’s unlikely they’ll let the Sunset expire,” he says. “Sadly, taking it from dead people is one of the softest touches in the book.”

Repercussions don’t end with setting those levels on the Sunset Provision. On the positive side for estates, several of the proposed bills offer “portability” for the tax exemptions. In that case, which planners think could come into play, married couples could transfer some of their exemption to maximize protection. For example, if one spouse’s assets came under the $3.5 million exemption, they could transfer their unused exemption amount to the other spouse.

If the Sunset Provision is renewed with a lower exemption, other negative effects come into play. For one, many clients will have to restructure joint trusts they set up with the previous exemption levels.

“With that unified credit so high, it’s become popular for couples to set up joint trusts and still fall under the exemption,” Reckman explains. With a lower exemption level, some of those trusts will exceed the exemption and have to be reworked into separate trusts, he adds.

That may be a boon to the estate planning industry, meaning more work for planners, but it will mean headaches for their clients.

“We’d have to rewrite a lot of trusts. I don’t think anyone’s interested in gaining business that way,” Reckman says.

Closing Loopholes

As planners wait for the Sunset resolution, they also have an eye on new federal proposals to close loopholes already on the books.

One move that the IRS is considering would dampen recent enthusiasm for Grantor Retained Annuity Trusts (GRATs), an estate planning tool that allows individuals to give away assets while still drawing an annuity payment for a fixed number of years. Fairly new on the estate planning scene, GRATs have become very popular in recent years with short terms and the possibility of discounted tax liabilities.

“It’s a great product if you have assets that appreciate in value, because it gets it out of your taxable estate,” Reckman says.

As an example, he explains, if you have $100,000 of stock and put it into a GRAT, giving it to a beneficiary, you get a percentage of the value for a fixed number of years — the shorter the term the better. After that term, the asset goes to the beneficiary and may have appreciated beyond the original value, lessening their tax bite.

But the IRS is looking at setting a minimum term for the annuity period of GRATs.

“The discussion is for a 10-year minimum, which takes away that quick benefit,” Reckman says. “If you die before the GRAT is up, all that money comes back into your taxable estate. The only way for a GRAT to work is to outlive the income period, so the 10-year term is less attractive than shorter terms.”

The IRS is also taking a hard look at another estate planning tool that has exploded in recent years, the Family Limited Partnership (FLP). Using this tool, parents can pass along a business to beneficiary children yet still retain control of it as a general partner. Though they can own only 1 percent of the business by statute, they still control the company, and the value of the asset is no longer in their estate. The tax liability for the “gift” to their children could also likely be covered by the unified exemption set forth in Sunset.

In essence, they can transfer a large chunk of their estate — often at an extreme discount to their children, and with little tax consequences.

FLPs have become the IRS’ top target recently, deemed to be an abusive tax shelter, as Forbes magazine estimates that individuals were using them to essentially discount the value of their estate by up to 90 percent — meaning billions in losses for the federal government.

“The IRS sees it as an attempt to create an artificial discount that’s created just to reduce the government’s take,” Susskind explains. “In reality, the discount that FLPs created doesn’t really exist in the real world. It’s a loophole, and they’re moving to close it.”

Though only in the discussion phase, planners agree the IRS could move quickly to end FLPs, and are discouraging clients from setting them up.

Not All Bad News

Not all the news coming from Washington and estate planners’ offices is ominous, though. While Congress decides the fate of the Sunset Provision and the IRS clamps down on tax shelters, there are new opportunities opening to lessen Uncle Sam’s claim on estate taxes.

One comes from the bad news on the economic front.

Because assets, including stocks and real estate, have such a deflated value in the current economy, the time is ripe to pass along those assets to your beneficiaries, Land says. They’ll suffer less tax liability now, rather than when their value increases again.

But the biggest news by far, planners agree, is the opening of Roth Individual Retirement Accounts to a wider audience.

Roth IRAs, established by the Taxpayer Relief Act of 1997, allow their owners to withdraw money, free of many of the tax liabilities of traditional IRAs.

“You can build a traditional IRA tax-free, your contributions aren’t taxed, but at age 70 and a half, there’s a requirement that you start taking money out over the rest of your lifetime,” Susskind says. “It requires you take more and more as you get older, and that money is taxed at ordinary income rates.”

Unlike a traditional IRA, where your contributions are tax-free, Roth IRA contributions are taxed. However, if you satisfy IRS requirements, you can retrieve that money at any time and it will not be taxed. In most cases, that front-end tax will be greatly lower than tax rates of the future, Susskind explains.

You can also keep making Roth contributions well beyond the traditional IRA cutoff, and leave amounts of money in a Roth IRA for as long as you live.

To date, Roth availability was limited to taxpayers with an adjusted gross income of under $100,000.

The IRS will soon throw open the doors to Roth IRAs, though. Beginning Jan. 1, anyone, regardless of income level, will be allowed to participate. For one year, you can convert your traditional IRA to a Roth to insulate yourself from higher taxes later in life. You will be liable for an income tax on the money you transfer, but that liability can be paid over two years, from 2011 to 2012.

“It’ll be a one-shot window in 2010 that a lot of people will opt for,” Susskind says. “There are philosophies on both sides, but I think it’s a question of do you pay the taxes now or later? Is it more likely in the future that tax rates will be higher than they are today? If that’s true, and I think it is, then it makes sense to convert your traditional IRA to a Roth and pay the taxes now.”

It’s speculation, he admits, though sound when you consider the nation’s tax history.

Throw in Generation Skipping Trusts, Irrevocable Life Insurance Trusts and Pet Trusts — think Schottzie or Leona Hemsley’s pampered pups — and the opportunity to devalue your estate before the tax man comes calling is expanding.

The most important thing to keep in mind, however, is to keep in contact with your estate planner, Land says.

Especially with as many changes as there are in the offering, the slightest oversight when it comes to the federal tax code could open you up to state estate taxes (Ohio and Indiana have them, Kentucky does not) or other tax pitfalls.

“We’re the legal version of dentists, I guess,” Land opines. “Nobody’s glad to come see you, because you’re going to talk to them about death and taxes. But what we do for them is really a good thing for the financial health of their family, which should make them feel relieved in the end.”

Ask The Professionals

William E. Hesch, Esq., CPA, PFS
William E. Hesch Law Firm, LLC

3. If assets are held in the trust name, you will minimize the time and cost to probate the estate and keep your estate private from the public.

Matt McCormick
Vice President, Principal, and Portfolio Manager, Bahl & Gaynor Investment Counsel


Q: How do I rebuild my investment portfolio in this volatile environment?

Review your portfolio and understand what helped and hurt through this market cycle. Did asset allocation, sector selection or stock picks impact your investments? Then, revisit your goals. Do you desire a specific dollar amount? Annual income needs? Or, a required return? Now that you have established your “reward,” you need to determine your “risk.” Would you lose sleep if your portfolio fell another 20 to 30 percent (or more)? Be honest. Finally, consult with several trusted financial advisers and choose one to implement your plan.

Margaret L. Gaither
Senior Giving Strategies Officer, The Greater Cincinnati Foundation

A gift of retirement assets avoids three taxes: capital gains, income and estate tax — a triple hitter! Retirement assets are not part of your probate estate so there is no need to change your will to make a gift of retirement assets. Call your retirement account custodian and ask for a beneficiary designation form to add a charity as a beneficiary. Also, a current gift of highly appreciated assets avoids the capital gains tax you would owe if you sold the asset and gifted cash.

William L. Montague
Estate Planning Attorney,
Greenebaum Doll & McDonald PLLC

Q: Given the drop in the stock market, should I still consider gifting to my children and grandchildren in order to save future estate taxes?

The most important consideration should be your standard of living. If you gift, will it imperil your future standard of living? If you can afford it, you can pass $3.5 million at your death free of estate taxes ($7 million if you are married). If you have less than that, gifting may not make sense. If your assets exceed these levels, this could be one of the best times to gift, because asset values are depressed and interest rates remain low.