August 2006 – Issue #6
A Welcome 1300 Mile Bus Trip!
Less than a month away, September 5th, I will leave camp on an unescorted trip via Greyhound bus (actually several buses) to Idaho. The beautiful little resort town of Coeur d’Alene, Idaho is home to the Port of Hope halfway house where I am assigned for up to 45 days to “transition” back home and into the community. It is possible I will be transferred to home in Syringa by late September and then officially released from Bureau of Prisons custody on Friday, October 20, 2006. What a relief that will be, and now the past 13-plus months of incarceration seem to have passed rather quickly.
While I definitely look forward to restarting my non-lawyer consulting practice upon release, my first and primary focus will be to enjoy being home at last with wonderful Mary Ann, who has endured so much while being loyal and loving throughout this ordeal. We together thank all our family members and the many friends who have expressed support, most especially those who have visited me here at Lompoc. I have been humbled by the support and prayers of so many, some of who are battling disease and others who are dealing with their own loss of loved ones. The human spirit seems to know no bounds when focused on helping others. This is a lesson I have learned, that is, help others and you help yourself in the doing.
Beginning upon posting of this newsletter, any letters or cards should be sent to our home address. Also, emails can from now on be sent to me at owen@owenfiore.com. During the short time I am at the Coeur d’Alene halfway house, Mary Ann will visit me regularly – although it is 220 miles from our home in Syringa. And also I expect to have 48-hour weekend passes while at the halfway house.
Is Permanent Estate Tax Reform Finally on the Way?
My current work assignment is at Vandenberg AFB, part of the inmate team working in “Horizontal Engineering” – i.e. streets, gutters, sprinklers, landscaping and anything except buildings! Most recently, we have been assigned the task of removing tons of red lava rock in landscaped areas, including borders along the main entrance road (California Ave.) in the base, putting down fabric weed barrier, then spreading gravel and topping it all off with small, medium and large (heavy) river rock! It seems the new base commander likes river rock, and even with a six-figure cost for the gravel and rock alone, wants to “change the look” of the entrance road. I do hope the national economy continues strong to support this kind of thing!
So what does this have to do with Estate Tax Reform? – Well, on the lunch hour, I have taken refuge in reading the House-passed (July 28th) H.R. 5970 – “Estate Tax and Extensions of Tax Relief Act of 2006” (ETETRA) including the Bill itself, Ways & Means Committee summaries, and the Joint Committee on Taxation Technical Summary. The 2-inch thick package of Bill language, detailing its provisions and changes to the Code, was introduced on July 28th, and lo and behold was passed easily by the House of Representatives late the same day! Actually, H.R. 5970 is labeled a conglomeration or “trifecta” of legislation – permanent estate tax reform, changes increasing the Federal minimum wage, and special “goodies” and extenders to convince hold-out Senators to vote for estate tax reform. Out of a budget cost for the total Bill during the period 2007-2016 alone of $310 Billion, $268 Billion is specified as being attributable to the permanent estate tax reform provisions - - which really, as to most American families, is repeal of the Federal estate tax!
My last email newsletter #5, posted July 12, 2006, reported on H.R. 5638, passed by the House with most of the same estate tax reform provisions now in the new Bill, H.R. 5970, including exemption increases, rate decreases, and portability of the exemption of the first spouse to die for married couples. But now in an obvious effort to bring more Democrats into line in the Senate, H.R. 5970 ironically combines into one piece of legislation staged increases over several years in the Federal minimum wage (from the present $5.15 per hour to $7.25 per hour (June 1, 2009)) with elimination of the Federal transfer tax (gift, estate and GST taxes) for all but the most wealthy taxpayers. In addition, the Bill includes numerous (not reviewed here) special provisions to obtain certain targeted Senators’ support for the estate tax changes – e.g. a new 60% deduction for qualified timber capital gains at least through 2007.
The cloture vote on a motion to proceed to vote in the Senate on H.R. 5970 (as in the case of the earlier H.R. 5638) failed in early August to obtain the necessary 60 votes. Then Congress adjourned for its summer recess and the craziness of the coming November elections, dealing with conflicts in the Middle East and beginning more posturing for the next Presidential election in 2008! Will permanent estate tax reform be enacted this Fall? No one can really predict the outcome; however, noted author and tax professor Howard Zaritsky recently stated about H.R. 5970 “I think this bill will be the basis for any reform bill that does pass Congress.” Steve Leimberg’s Estate Planning Email Newsletter #1002 (8/4/06, www.leimbergservices.com).
So what are the key provisions of H.R. 5970 as to the Federal transfer tax? There are several key provisions, at least one of which not having as yet received much publicity. They are, in summary form, as follows:
1. Reunification of the Federal Transfer Tax.
Gift, estate and generation-skipping transfer (GST taxes are now reunified, and thus a common unified credit effective exemption amount and a common rate table (both set forth below) will apply to cumulative taxable transfers by a taxpayer during lifetime or at death. Beginning in 2010, the new exemption equivalent amount is referred to as the “basis exclusion amount”, rising from $3.75 million in 2010 (the year under existing law of one-year repeal of the transfer tax) to $5 million in 2015, which beginning in 2016 is indexed for inflation.
As to the unified rate structure, after 2009, the transfer tax rate will be the then applicable long-term capital gains rate (15% now, scheduled to go up to 20% in 2011 unless the lower rate is extended) up to the cumulative asset value level of $25 million. The rate on the excess, if any, reduced will be from 40% in 2010 down to 30% in 2015 and thereafter.
Section 101 of the Bill, setting out in Code language the above provisions, is titled “Reform and Extension of Estate Tax After 2009”. Subsection 101(f) states: “The amendments made by this section shall apply to estates of decedents dying, generation-skipping transfers, and gifts made, AFTER December 31, 2009.” Note the obvious planning imperatives of such deferred beneficial transfer tax legislation!
Following is the post-2009 transfer schedule of basic exclusion amounts and rates (note that the 40%-30% column of rates applies only to the cumulative taxable amount over $25 million):
Estate and Gift Tax Basic Exclusion Amount and Estate
and Gift Tax Rates for Years after 2009Calendar Basic exclusion Highest estate and
year amount gift tax rates2010 $3.75 million 40%
2011 $4 million 38%
2012 $4.25 million 36%
2013 $4.5 million 34%
2014 $4.75 million 32%
2015 $5 million 30%
Years after 2015 $5 million indexed 30%
for inflation
2. Portability Between Spouses Of Unused Unified Credit of Deceased Spouse.
Again, the Bill per Section 102 thereof establishes transfers made after December 31, 2009 as the effective date for the new “portability” provision. This provision clearly is intended to apply only to gift and estate transfers; and, as stated in footnote 7 of the JCT Technical Explanation, portability is not available for GST tax purposes.
As to non-GST taxable transfers during life or by reason of death, a surviving spouse, in addition to the “basic exclusion amount” (see above), may use the aggregate deceased spousal unused exclusion amount as an add-on to the surviving spouse’s own exclusion. The JCT Technical Explanation contains helpful examples confirming that multiple predeceased spousal transfers cannot exceed the basic exclusion amount – which would in 2015 and subsequent years be $5 million, plus any inflation adjustments.
An election on a timely filed estate tax return for the estate of the deceased spouse with an unused exclusion amount must be made, which then subjects that issue to audit.
So do attorneys have a duty to go back to clients to discuss trust plans, e.g. including bypass trust provisions to maximize the use of unified credits of married couples, especially where the bypass trust was included “solely” for tax purposes? An interesting question that, if H.R. 5970 is enacted this Fall, will have to be answered.
3. Other Provisions, Effective After 2009.
The most important of these provisions is the so-called “guarantee”, as it is put by the JCT Technical Explanation, of “stepped-up” income tax basis at death for appreciated assets. The modified carryover basis provision of the 2001 Act would have come into effect only in 2010 – and, as many years ago, the possibility of carryover basis caused considerable concern among tax practitioners. So now, with the possibility of substantially higher exemption equivalents – easily up to $10 million in 2015, etc., AND still carryover basis (and only a 15% estate tax rate for estates up to $25 million, considered on a cumulative transfer basis from September, 1976), for all but the most wealthy, the Federal transfer tax is virtually dead! But that result still requires appropriate planning, including the review and updating of many plans if H.R. 5970 becomes law.
Several other provisions are included in the Bill, such as (1) making permanent the State death tax credit repeal and eliminating a deduction for State death taxes, where applicable; (2) making permanent the repeal of the family-owned business deduction; and (3) making permanent the 2001 Act, as revised in 2002, provision defining which trusts shall be treated as gifts for transfer tax purposes.
A Few “Tidbits” – Food For Thought
1. Widely reported in the general and tax press recently was the leaked IRS plan to dump (called a Reduction-in-Force, or “RIF”) nearly 1/2 of the present 345 Estate Tax Attorneys, the IRS personnel auditing estate and gift tax returns. See, for e.g. The N.Y. Times, July 23, 2006, “I.R.S. Will Cut Tax Lawyers Who Audit The Richest”, and the point-counterpoint editorial pieces in USA Today for July 31, 2006, with IRS Commissioner Mark Everson somewhat defending the cuts by stating “… I’d rather audit the wealthy while they still have years to live and more returns to file.” He appeared to mean that IRS resources should be spent on auditing wealthy taxpayers, especially those involved in “abusive tax shelters.” Of course, the real question here is whether some taxpayers and possibly even advisors might be tempted to play for even higher stakes in the “audit lottery”, especially with use of entities and lifetime transfer techniques.
2. Buy-Sell Agreement Fixes Estate Tax Value.
In Estate of Amlie, T.C. Memo. 2006-76, the IRS lost in its efforts to use pre-2703 law (still applicable even today) and the anti-buy-sell agreement provision, IRC Sec. 2703, to assess a substantial estate tax deficiency. Amlie is a good example of the strategies that can win against IRS excess in applying Section 2703. Of special interest to valuation appraisers is that one of the positive facts pointed to by the Tax Court in this case was a valuation specialist’s survey of unrelated party comparables in terms of the agreement pricing of equity.
3. 6166 Active Trade or Business.
Rev. Rul. 2006-34, 2006-26 I.R.B. 1171, provides helpful guidelines in determining the presence of an “active trade or business” respecting certain real property interests held by an entity (partnership, LLC, corporation). This inquiry involves a key requirement for the IRC Sec. 6166 extension for payment of estate taxes incurred by the estate of a taxpayer owning an equity interest in the entity. Both safe harbors and non-exclusive factors are identified in the Revenue Ruling, quite an improvement in what can be a troublesome issue to practitioners. For a good review of the ruling, see CCH Financial and Estate Planning’s “Estate Planning Review”, Issue 639 (7/18/06).
4. Dynasty Trusts: Opportunities for Multi-Generational Planning.
The above-stated title to an excellent Q&A article by Dick Oshins, Esq., a Las Vegas nationally known and respected tax lawyer, reminds us of the importance of a broad view of estate planning in terms of the generations of a family to be dealt with in the plan. This article appears in the same issue of the CCH “Estate Planning Review” referred to in Para. 3 above.
5. Circular 230 & Appraisers.
In my newsletter #3, I commented on the June, 2005 changes – and broadening – of IRS Circular 230, titled: “Regulations Governing the Practice of Attorneys, CPAs, Enrolled Agents, Enrolled Actuaries, and Appraisers before the Internal Revenue Service.” My newsletter #3, April 25, 2006, suggested that valuation appraisers are included in the ambit of professionals who are subject to the detailed rules of Circular 230. A good friend of mine, a business valuation appraiser, questioned the validity of this comment. At first, I read again the title of Circular 230, thinking that rather dispositive.
However, in the definitions of who can practice before the Service, and is therefore subject to Circular 230, Lawyers, CPAs, Enrolled Agents and Enrolled Actuaries all are listed, but there is no reference in the applicable sections, namely Sec. 10.2 and 10.3, to appraisers (unless an appraiser sought out enrollment per se – rather unlikely, in my experience).
In point of fact, business valuation appraisers, following their own profession’s standards or practice, are retained by taxpayers and often directly by their legal counsel to provide independent, qualified and expert opinions on valuation of certain assets and entity interests that are involved in gift, estate or GST taxable transfers. So the appraiser does not seem to have to worry directly about the details of Circular 230; however, the story does not end there!
IRC Sec. 6701 provides a $1,000 civil penalty that may be assessed against “any person (1) who aids or assists in, procures, or advises with respect to, the preparation or presentation of any portion of a return, affidavit, claim or other document….” The section further states that this monetary penalty is in addition to any other penalty provided by law – which no doubt includes a determination by the IRS Office of Professional Responsibility to reject the person’s participation in an audit, Appeal or perhaps even court proceeding. In-other-words, even though the appraiser is not directly subject to Circular 230 in spite of the title of the Regulations, the Service has an avenue it can pursue in attacking appraisers who might be perceived by IRS to be “low-balling” gift, estate and GST area appraisals (e.g. large discounts on FLP interests, etc.).
Does the reader think this is far-fetched? If so, the reader is wrong! I personally and successfully several years ago represented two appraisal firms attacked by an IRS Estate Tax Attorney under Section 6701. Further, a Southern California Estate & Gift Tax supervisor presented the 6701 attack option of IRS at a couple of conferences where I was his fellow panelist, and also at a meeting of the American Society of Appraisers. I will discuss what appraisers might do to avoid any real risk of a 6701 attack in a future newsletter.
Conclusion – I thank all my professional friends for their support and encouragement given me on the newsletters I have authored while here at the Lompoc Federal Prison Camp. This has helped me immensely and contributed to my positive attitude about the future. The next newsletter will have a new title, as yet not selected, since “Notes From The Inside” happily will no longer be appropriate.
Thanks to all, and I look forward to my non-lawyer consulting practice kick-off in September. Readers will note that I have removed the Lompoc camp address – email me at owen@owenfiore.com or write to the Kooskia, ID post office address.
Owen G. Fiore
