Another complication could increase the income tax due when a beneficiary sells inherited property. That change, though, won't occur until 2010, and it may be modified before then. Essentially, the taxable profit when selling an inherited asset would, in some cases, be based on the original owner's cost. Currently, all profit is figured from the item's value at inheritance, allowing prior appreciation to escape capital-gains tax. (Capital gains on gifts made before death are already based on the donor's original cost.)

Only about 2 percent of U.S. deaths, or roughly 50,000 estates a year, currently trigger tax--in part because of modest assets, in part because of aggressive planning to avoid tax. Some planners, however, worry that publicity over a reduced estate-tax burden could cause people to avoid estate planning in general, which is an important exercise for arranging orderly disposition and management of assets even without a tax motive.

Whatever your situation, reviewing existing documents can prevent mix-ups. Here's one common trap that advisers warn about: Many estate plans direct that an amount equal to the estate tax exemption--$675,000 this year and $1 million next year--be given to relatives other than the surviving spouse. If that were not done, the exemption would be wasted because it doesn't apply to spouses, who automatically aren't taxed on their inheritance. But an outdated plan that links bequests to that rising exemption could inadvertently leave a lot to others, with little remaining for your spouse.

Also, if your estate will include a large retirement account, you may want to make sure your will specifies how any estate tax will be paid. Unless you arrange differently, the heir to the retirement balance may escape without a tax bite, while other heirs shoulder the entire estate's tax.

States' share. A big imponderable question is how states will react to changes in the federal law. At issue is the way Washington has let states share in the federal estate tax. A portion of the federal take from each estate--the amount varies with an estate's size--is set aside for states to claim. But Congress has decided it's no longer playing Mr. Nice Guy. Starting in 2002, individual states' automatic share of federal estate tax will be reduced, and by 2005 it will be eliminated. "The states were blindsided," says Jonathan Rikoon, an estate attorney at Debevoise & Plimpton in New York.

States that simply pick up the share of federal estate tax allocated to them face a decision of whether to make up for the loss by imposing new estate taxes on their own. About a dozen states already have independent estate tax structures, which could mean extra out-of-pocket tax to residents when the federal credit is lost. A coming tax deduction to replace the credit, though, could help a bit.

One thing you don't have to worry about: the well-being of estate planners. Says Laura Peebles of Deloitte & Touche accountants in Washington, D.C.: "Based on what I have seen so far, I still have a lot of work to do."

Falling tax rates

The estate tax will disappear in 2010 but could stage a comeback in 2011 unless Congress revises the law.

Previous Page