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Death and Taxes
By Edwin G. Fee, Jr.
If the only certainties are death and taxes,
then why is there so much uncertainty about the future of the federal estate
tax? The Economic Growth and Tax Relief Reconciliation Act of 2001 (the "Act")
made substantial changes to the federal estate and gift taxes. Although the
Act itself is clear, the future of the federal estate tax is anything but.
The federal estate tax exemption amount increased
from $1,500,000 in 2005 to $2,000,000 in 2006. The maximum rate is 46 percent
in 2006, and it will drop to 45 percent in 2007. The exemption will increase
to $3,500,000 in 2009. Under the Act, the estate tax would be repealed in
2010.
In contrast to the estate tax, the gift tax will not be
repealed in 2010. In addition, the current $1,000,000 gift tax exemption
will not increase any further. The maximum gift tax rate is the same as the
maximum estate tax rate. Upon repeal of the estate tax, the maximum gift
tax rate is scheduled to be 35 percent.
Although the Act makes drastic changes, those
changes will be reversed in 2011 unless Congress enacts further legislation
prior to that time. The Act "sunsets"
in 2011 due to a rule that requires 60 votes (out of 100) in the U.S. Senate
in order to alter revenue beyond a 10-year period (the Act passed the Senate
in 2001 with only 58 votes). In 2011, the estate tax would be reinstated with
a maximum rate of 55 percent and an exemption of $1,000,000, and the maximum
gift tax rate would become 55 percent again.
It is extremely unlikely that Congress would
allow the estate tax to disappear in 2010, only to reappear in 2011. There
are several alternatives to this scenario. Congress might muster enough votes
to make the repeal permanent. Republicans in Congress have advocated this
position since prior to the 2000 election, and permanent repeal has a great
deal of popular support. Before the estate tax exemption increased from $675,000
to $1,000,000 in 2002, less than 2 percent of the estates of individuals
dying each year paid estate tax. Despite the small amount of estates that
actually paid the tax, polls at that time indicated that 17 percent of the
public thought that their estates would pay the tax. Furthermore, a majority
of the public favored repeal of the estate tax. In every session of Congress
since 2001, the House of Representatives has voted overwhelmingly in favor
of full repeal. Such legislation has repeatedly failed to garner the necessary
60 votes in the Senate.
Another alternative would be for Congress simply
to reenact the 2001 legislation in 2006. This would allow the sunset to occur
in 2016, rather than 2011. Politically, it would be much harder for Congress
to allow the reappearance of the federal estate tax after it has been repealed
for six years. In theory, Congress could continue to push back the sunset
date periodically.
For several years, Democrats in the Senate have
advocated a compromise short of full repeal. The estate tax would remain
in place with a generous exemption (e.g., $4,000,000 or $5,000,000). More
recently, Republicans in the Senate have suggested reducing the maximum rate
(e.g., from 46 percent to 25 percent). This retreat from advocating full
repeal probably resulted from the realization that full repeal could not
be paid for at a time of massive federal budget deficits. In the summer of
2005, the Republican leadership in the Senate declared that when Congress
returned after the Labor Day recess, the Senate would vote on the future
of the federal estate tax. It looked as if the Senate was about to reach
a compromise.
Then Hurricane Katrina hit, and everything changed.
The Senate vote was postponed for at least two reasons. First, it seemed
insensitive to repeal a tax on some of the wealthiest Americans at a time
when some of the most impoverished were suffering along the Gulf Coast. Second,
huge federal budget deficits would swell even further due to the cost of
reconstruction.
At this point, it appears that resolution of
the debate over the federal estate tax will not occur until either the federal
budget situation improves or Congress is forced to act due to the sunset
provision in the current law. Until then, the future of the federal estate
tax will remain uncertain.
For further discussion of the federal estate
tax, see "The Uncertainty of Death Taxes," Bar Bulletin (Feb. 2003); "Is
the Death of the Death Tax Greatly Exaggerated?" Bar Bulletin (Feb.
2002). For a discussion of the Maryland estate tax, see "New Unimproved Maryland
Estate Tax," Maryland Bar Journal (Mar./Apr. 2005).
Edwin G. Fee, Jr., is a partner with Whiteford,
Taylor & Preston L.L.P., and he is Chair-Elect of the MSBA Estate & Trust
Law Section.
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