Editor’s Note: This is Part 1 of a series. Stay tuned for Parts 2 and 3.
By Merry H. Balson and Laurie A. Hunter
On January 1, 2013, while the ink on many year-end gift tax transfers was still wet, the 112th Congress passed the American Taxpayer Relief Act of 2012 (the “2012 Tax Act”). The 2012 Tax Act was signed into law the following day, ending more than a decade of estate and gift tax uncertainty. This article summarizes the estate and gift tax provisions of the 2012 Tax Act, discusses the Act’s impact on estate planning, and outlines select income tax provisions affecting planning for individuals.
Phase-Ins and Sunsets: A Brief History of the Federal Estate, Gift and Generation-Skipping Transfer Tax System
The federal tax on transfers at death has been in existence since 1916 and the tax on inter vivos gifts has been part of the federal tax system since 1924, with the exception of a brief hiatus during its repeal between 1926 and 1932. Phased in changes to the unified credit against estate and gift taxes and applicable transfer tax rates have been part of the estate planning practice for over three decades. In 1976, with the passage of the Tax Reform Act (“TRA”) of 1976, Congress created a unified estate and gift tax system and added the generation skipping transfer tax (“GST”). It also phased in increases in the estate tax exemption from $60,000 in 1976 to $175,000 in 1981. The Economic Recovery Tax Act of 1981 (“ERTA”), among many other things, phased in increasing unified credit amounts over six years, increasing exemption equivalent amounts from $175,625 to $600,000 by 1987. The top estate tax rate under ERTA was reduced to 55%, down from a maximum tax rate of 70% prior to enactment. Similarly, the Taxpayer Relief Act of 1997 provided for a phased in exemption equivalent from $600,000 to $1,000,000 in 2006. The TRA ‘97 phase in never fully took effect because in 2001, when the exemption was only $675,000 and the estate and gift tax rate remained at 55% (plus 5% for estates over $10,000,000), the Economic Growth and Tax Relief Reconciliation Act (“EGTRRA”) of 2001 changed the estate and gift tax unified credit and rates yet again. EGTRRA increased the exemption equivalent to $1,000,000 in 2002 and then incrementally through 2009 to $3,500,000, maintaining the gift tax exemption at a flat $1,000,000, decreasing the top rate to 45% by 2009 (which was subsequently accelerated to 2007), repealing the estate and gift tax in 2010 (but a carry-over basis regime) and sunsetting all EGTRRA provisions on January 1, 2011, with the effect of reverting to the law as it existed on January 1, 2001. At the end of 2010, after nearly a year of estate and gift tax repeal, Congress passed the taxpayer friendly Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (the “2010 Tax Act”). The 2010 Tax Act extended EGTRRA’s sunset provisions for two additional years (through January 1, 2013), increased the exemption equivalents to $5,000,000 for estate and gift tax (indexed for inflation starting in 2012) and reduced the tax rate to 35%. The 2010 Tax Act also introduced the concept of “portability,” whereby a surviving spouse could “port” or use his or her deceased spouse’s unused unified credit provided certain conditions were satisfied.
Finally a “Permanent” Tax Bill? After 12 years of planning under a looming sunset, finally there is no automatic sunset date for the 2012 Tax Act (although as noted below, certain extenders are set to expire). The major estate planning provisions include the following:
- The estate and gift tax exemptions remain unified, and will stay at $5 million, but will be indexed for inflation. For 2013, both exemptions are $5,250,000.
- The GST exemption will also stay at $5 million, again, as indexed for inflation. The GST exemption is also $5,250,000 for 2013.
- Portability is permanent. A deceased spouse’s unused estate tax exemption is “portable” if the surviving spouse timely files a U.S. Estate Tax Return (form 706). With certain exceptions, portability allows the surviving spouse to use the deceased spouse’s unused estate tax exemption immediately in addition to their own exemption. Importantly, however, the GST exemption is not portable and any unused portion at the first spouse’s death is lost. The 2012 Tax Act also corrected a technical problem in the 2010 Tax Act to be consistent with Treasury Regulations issued last summer that were favorable to the taxpayer by permitting “tacking on” of more than one former deceased spouse’s unused exemption to the surviving spouse.
- Gift, estate and GST tax rate increases to 40% on the amount over the exemption. The rate was 35% in 2011 and 2012, but had been 45% in 2009.
Additional effects of the repeal of the EGTRRA Sunset. The result of finally repealing the looming sunset provisions of EGTRRA and the strange results from it disappearing “as if it had never been enacted,” are among the following:
- QFOBI is truly gone. The Qualified Family Owned Business Interest deduction, a complicated estate tax deduction that had no effect after 2003 due to the increase in estate tax exemptions, is now permanently repealed.
- The state death tax credit was converted to a deduction, and now stays that way. For Colorado and about half the states, this means no state death tax, but the other half of the states changed their laws to include a state inheritance or estate tax, so continue to check local laws if your clients own real estate outside Colorado.
- GST automatic allocation rules and GST qualified severance rules both remain in effect. These taxpayer-friendly rules are now permanent.
This is Part 1 of a 3-part series. Stay tuned for parts 2 and 3.
 Pub.L. 112-240, H.R. 8, 126 Stat. 2313 (2013).
 The estate tax was enacted by the Revenue Act of 1916 (39 Stat. 756). The gift tax was first put in place by the Revenue Act of 1924 (43 Stat. 253), repealed by the Revenue Act of 1926 (44 Stat. 9), then reenacted by the Revenue Act of 1932 (47 Stat. 169).
 Pub. L. 94-455, H.R. 10612, 90 Stat. 1520 (1976).
 Pub. L. 97-34, H.R. 4242, 95 Stat. 172 (1981).
 Pub. L. 105-34, H.R. 2014, 111 Stat. 787 (1997).
 Pub. L. 107-16, H.R. 1836, 115 Stat. 38 (2001).
 See Sec. 901, Sunset Provisions of EGTRRA.
 Pub. L. 111-312, Title III, H.R. 4853, 124 Stat. 3296 (2010).
 Id., Sec. 303.
 Rev. Proc. 2013-15, Sec. 2.13, 2013-5 IRS 444 (January 11, 2013).
 Under I.R.C. Sec. 2631(c), the GST exemption is equal to the basic estate tax exclusion amount.
 Pub.L. 112-240, Sec 101, H.R. 8, 126 Stat. 2313 (2013).
 Id. at Sec 101(c).
 See I.R.C. Sec. 2632(b-c) for deemed GST allocation rules.
 See I.R.C. Sec 2642(a)(3) for qualified severance rules.