2012 Update: Estate Planning and Taxation

Changes in Illinois Estate Tax Legislation

Window of Opportunity May Close at the Federal Level

New Illinois Power of Attorney Forms

Recently enacted laws at the federal and state levels provide tremendous insight on the importance for estate planning documents to have the flexibility to weather the storm of changing tax regimes. Out of date estate planning documents may have unintended results–and could be very costly. It is critical that you have your documents reviewed to ensure that they incorporate new legislation. Similarly, other circumstances may warrant updating your documents–birth of children, grandchildren, marriage, divorce, asset protection concerns for beneficiaries, acquisition of additional assets, or new philanthropic intentions.

Illinois Legislation – “Decoupling” Continues in 2012 and Beyond

In December, 2011, Governor Quinn signed Illinois Senate Bill 397 into law and amended the Illinois estate tax exemption for 2012 going forward. Specifically, the Illinois estate tax exemption for 2012 is $3.5 million, and $4 million for 2013 and beyond. Prior to 2009, Illinois estate tax law typically followed the federal law, with some exceptions. For example, if the federal estate tax exemption was $1 million, the Illinois estate tax exemption was also $1 million. In this respect, the Illinois exemption was “coupled” with the federal exemption. For 2012, however, Illinois has officially “decoupled” with the Illinois exemption at $3.5 million and the federal exemption at $5.12 million.

As a result of this decoupling, absent proper planning, for Illinois residents with outdated estate plans, an Illinois estate tax may be due on the first spouse to die, even if no federal estate tax is due. In the state of Illinois, tax rates on taxable estates can be as high as 16 percent and clients with outdated estate plans may be subject to $364,245 in taxes to the state of Illinois upon the first spouse’s death. For example, for decedents who die in 2012, the credit shelter trust would be fully funded with $5.12 million and qualify for the federal estate tax exemption amount. However, of the $5.12 million, only $3.5 million would pass estate tax free at the state level in Illinois. The balance of $1.62 million ($5.12 – $3.5 million) would be subject to taxation in the state of Illinois.

We have developed a solution to prevent these types of unintended tax consequences by allowing the executor to make a marital deduction election as to a portion of the credit shelter trust for Illinois purposes only. The credit shelter trust would be fully funded with $5.12 million and qualify for the federal estate tax exemption. The executor then makes an election as to assets worth $1.62 million in the credit shelter trust to qualify for the marital deduction only for Illinois purposes and postpone the payment of taxes until the surviving spouse’s death. This allows our clients to maximize the federal and Illinois exemptions without being subject to either federal or Illinois estate tax on the death of the first spouse. This “decoupling” requires some documents to be updated to allow for special marital trust planning in Illinois and provides an example of how updating your existing documents may result in $364,245 of estate tax deferral.

2012 Federal Legislation – Window of Opportunity Closing?

On Friday, December 17, 2010, President Obama signed the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (“the Act”) into law. The Act effectively reinstated the estate and generation-skipping transfer (“GST”) taxes and fixed the federal estate tax exemption amount at $5 million per person with a maximum estate tax rate of 35 percent. The $5 million exemption per person is adjusted for inflation in 2012, and, as adjusted, is $5.12 million in 2012. The Act also increased the lifetime gift tax exemption from $1 million to $5 million, unifying the gift tax with the federal estate tax exemption. However, the provisions of the Act are scheduled to expire at sunset on December 31, 2012. Without further congressional action, under the current code, the lifetime gift tax exemption, estate tax exemption and GST exemption are scheduled to revert to $1 million. For this reason, individuals contemplating gifts are encouraged to take advantage of the increased thresholds before they potentially disappear.

Gift Tax: For gifts made prior to December 31, 2012, the estate and gift tax exemptions have been reunified with a $5.12 million federal estate tax exemption, a $5.12 million gift exemption and a $5.12 million generation skipping transfer exemption.  Furthermore, for transfers made in 2012, the gift tax rate and GST tax rate is 35 percent.  In contrast, in 2009, the federal estate tax exemption was $3.5 million, the lifetime gift exemption was only $1 million, and the gift tax and GST tax rate were significantly higher. Therefore, 2012 provides a unique opportunity for creative transfers of wealth across multiple generations.

Portability: The Act allows for “portability” between spouses of the maximum estate tax exemption in 2012. Specifically, a surviving spouse can elect to take advantage of the unused portion of the federal exemption of his or her predeceased spouse, thereby providing the surviving spouse with a larger exclusion amount; however, the deceased spousal exclusion amount would only be available to the surviving spouse if an election was made on a timely filed estate tax return. If the surviving spouse is predeceased by more than one spouse, the exclusion amount available would be limited to the lesser of $5 million or the unused exclusion of the last deceased spouse. Furthermore, it is uncertain whether the tax regime for 2013 and beyond will allow for such portability; therefore, clients are still encouraged to utilize traditional estate planning tools to leverage use of each spouse’s federal exemptions.

New Illinois Power of Attorney Forms

New Illinois statutory forms for the power of attorney for healthcare and property became effective July 1, 2011. Powers of Attorney, often referred to as “disability documents,” come into effect during your lifetime in the event of incapacitation and terminate upon death. The Powers of Attorney allow you to elect someone to act as your agent in the event you are unable to make healthcare or financial decisions on your own. They are instrumental in the case of an emergency and are important for anyone over the age of 18 to have in place. This has become an increasing issue for college students as parents wish to ensure that in an emergency they have access to the necessary medical information.

Powers of Attorney forms are statutorily driven whereby states often provide guidance on language to incorporate or even provide a sample form. While the statutory forms are often easily accessible, if they are not properly executed, they are deemed invalid; therefore, clients are encouraged to work with an attorney to ensure proper execution so that their wishes can be respected.

The main purposes for the changes to the Powers of Attorney (both for property and healthcare) are to make instructions more easily understandable and to expand the protection for the principal (the one designating these powers to a named individual agent). The documents also elevate the standard of care for agents from “due care” to “acting in good faith using due care, competence and diligence.” In addition, each form includes a revocation of all prior powers of attorney to avoid any confusion regarding an agent’s authority to act in the cases where multiple powers of attorney have been executed. Lastly, the new power of attorney for healthcare incorporates language that comports with HIPAA (“Health Information Portability and Accountability Act”) privacy provisions to ensure that an agent will have access to the principal’s healthcare records to make informed medical decisions. Everyone over the age of eighteen should have Powers of Attorney in place. For those with existing Powers of Attorney, it is advisable to execute new power of attorney documents using the updated forms.

We would be happy to review your existing documents in light of the new laws and changes in circumstances. Please contact us to make certain your estate plan accurately reflects your testamentary intentions and incorporates the necessary tools to maximize the transfer of wealth.

This Chuhak & Tecson, P.C. communication is intended only to provide information regarding developments in the law and information of general interest. It is not intended to constitute advice regarding legal problems and should not be relied upon as such.

Client Alert authored by: Lindsey P. Markus