Tax Law Changes Highlight Need for Estate Planning
Changes to U.S. tax law will affect estate planning and it is important to review and update estate planning documents.

October 26, 2011 /24-7PressRelease/ -- Tax Law Changes Highlight Need for Estate Planning

Late last year, Congress made some major changes to U.S. tax law. Most notably, it raised the estate tax exemption to $5 million starting in 2011. Prior to the change, the limit had gradually risen from $1 million in 2002 to $3.5 million in 2009. Estates were entirely exempted from the estate tax in 2010.

The changes should have Americans, even those who don't consider themselves "wealthy," rethinking their estate planning arrangements.

Retirement Savings May Still Be Taxed

Most Americans will not be affected by the estate tax changes because most will not transfer estates of over $5 million to their heirs. However, that does not mean that they are escaping tax liability.

Heirs may still have to fork over a good portion of their inheritance to Uncle Sam if the estate contains money from tax-protected retirement accounts such as 401(k)s and IRAs. These assets are known as "income in respect of a decedent," or IRD --essentially income that was earned but never officially received and taxed. Heirs will have to pay income tax on any money received from these accounts.

Heirs inheriting from estates over $5 million may be double-taxed, paying both estate tax and income tax on IRD. They should be aware of a little-known federal income tax deduction for estate tax paid on IRD.

Many financial experts recommend that Americans take proactive estate-planning steps to reduce the amount of their estate that qualifies as IRD. For example, they could convert their retirement savings to a Roth 401(k), which would allow them to pay taxes now instead of passing that liability to their heirs. Others recommend moving the money into an irrevocable life insurance trust, which is not part of a taxable estate.

Gift Tax Exemption Also Raised

At the same time it increased the estate tax exemption, Congress also raised the lifetime gift tax exemption to $5 million. This means that Americans can now freely give away up to $5 million of their own money without passing tax liability on to the recipients.

For those with estates over $5 million, the gift tax exemption can be a good way to pass along assets while avoiding estate tax liability. Others may simply wish to see their money enjoyed by their loved ones while they are still alive.

However, the $5 million exemption is only in place for 2011 and 2012, so it may be wise to make these large gifts now.

Good Estate Planning Is Imperative

U.S. tax law is an ever-changing minefield of liabilities and exemptions. Americans who are planning to pass on even a modest estate to their heirs would be wise to consult with an experienced estate planning attorney who can help determine the best course of action.

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