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Estate Planning and the Taxpayer Relief Act of 1997

This article was edited and reviewed by FindLaw Attorney Writers | Last reviewed March 26, 2008

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CLINTON SIGNS TAX BILL

On July 29, 1997, President Clinton signed the Taxpayer Relief Act of 1997. The Act provides for changes to many different areas of the tax system. This newsletter will highlight some of the changes which I believe are most important to you.

ESTATE TAX EXEMPTION INCREASES

There is an old saying which goes: "There are only two constants in life, DEATH AND TAXES.

Uncle Sam tried to change that saying with the Taxpayer Relief Act of 1997. The new estate tax law provides for an increase in the estate tax exemption amount. By 2006, each US Citizen will be able to transfer $1,000,000 free of gift or estate taxes.

The exemption will increase as follows:

  1. 1998: $625,000
  2. 1999: $650,000
  3. 2000: $675,000
  4. 2001: $675,000
  5. 2002: $700,000
  6. 2003: $700,000
  7. 2004: $850,000
  8. 2005: $950,000
  9. 2006: $1,000,000


There is no provision for indexing the exemption.

Therefore, when the exemption reaches $1,000,000, unless the law is changed, the exemption will remain at $1,000,000.

This is in contrast to the $10,000 annual gift tax exclusion which after 1998, will be indexed annually for inflation. Therefore, the $10,000 will increase with inflation. The new law also indexes the $1,000,000 Generation Skipping Transfer Tax to inflation as well.

In addition, if you own a "qualified family owned business" (the requirements include that at least 50% of the decedent's estate consists of a family owned business) you may exempt from estate tax up to $1,300,000. As the personal exemption rises, the exemption for the business decreases so that at no point may more than $1,300,000 be exempt from Federal Estate Tax. For example, if a person died in 1998 the personal exemption would be $625,000 and qualified family owned business exemption would be $675,000 yielding a total exemption of $1,300,000. If the same individual dies in 2006, the business exemption would be $300,000 because the personal exemption would be $1,000,000, yielding a total exemption of $1,300,000.

Therefore, as you can see, you will not receive the full benefit of the personal exemption unless you survive until the year 2006.

EXCLUSION FOR GAIN FROM INCOME ON SALE OF RESIDENCE

Possibly the change to the capital gains tax for the sale of principal residences will have the greatest immediate income tax impact. The new law eliminates the rollover deferral on the sale of a primary residence as well as the one-time $125,000 exclusion on gain for homeowner age 55 and older. Losses are still non-deductible.

Instead, the new law provides for the exclusion from gain from income up to $250,000 per person ($500,000 for taxpayers filing jointly) on the sale of a principal residence. There is no minimum age requirement to take advantage of the new law.

There are some requirements which the taxpayer needs to meet in order to benefit from this law:

  1. The exclusion can only be used once every two years and the house must have been used as a principal residence for at least 2 of the 5 years before the sale.
  2. Neither spouse must be ineligible for the exclusion because of the once-every-two year limit.
  3. Both spouses must have used the house as a principal residence for at least two of the previous five years.


CAPITAL GAINS CHANGES

The changes to the capital gains laws are somewhat more complex than the rules of selling a principal residence.

It is no longer a question of whether the sale produces a short-term or long-term gain. Now there is a mid-term gain, as well as different rates for assets purchased after the year 2000.

A short-term gain is still a gain on the sale of a capital asset which was owned for less than a year. The tax on such a gain is at ordinary income tax rates.

The mid-term gain is one in which a capital asset is held between one year and eighteen months and is sold for a gain. The rate is taxed at a maximum of 28%.

A long-term gain is one in which a capital asset is owned for a period longer than eighteen months and sold for a gain. These gains are taxed at a maximum rate of 20%.

If you were to buy a capital asset after the year 2000 and hold it for at least five years, the tax rate would be 18%.

In addition, if you are in the 15% tax bracket, your long-term capital gain rate will only be 10%.

HOWIE-TORIAL

I have touched, superficially, on a few topics of the tax law changes. This information is general in nature.

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