On April 3, 2008, Chairman Max Baucus (D-MT) led the Senate Finance Committee in a hearing devoted to areas of reform in the estate, gift, and generation-skipping transfer tax system. This was the third hearing that the Senate Finance Committee has held on estate tax reform. The first hearing was on November 14, 2007 during which four separate individuals (an Iowa manufacturer, a Nevada rancher, Warren Buffet, and estate planning attorney, Conrad Teitell) presented their views on reform or repeal. At the second hearing on March 12, 2008, the Committee heard from three academics on possible alternatives to an estate tax. During the April hearing, the Committee heard from four individuals knowledgeable in the field with proposals for changes to the federal wealth transfer tax system. Testifying were: Dennis I. Belcher (Partner, McGuireWoods LLP), Shirley L. Kovar (Shareholder, Branton & Wilson, APC, San Diego, California), Dr. Roby B. Sawyers (North Carolina State University, Department of Accounting, Raleigh, NC), and Diana Aviv (President and Chief Executive Officer, Independent Sector, Washington, DC). Having heard in March about alternatives to the federal wealth transfer tax system, the Committee looked to the experts on the panel for reform ideas to provide efficiency and simplicity for tax payers and tax planners.
Dennis Belcher proposed several changes to the installment payment provisions provided for under section 6166 of the Internal Revenue Code. The installment payment provisions provide for deferral of estate tax liability attributable to closely held business interests in a decedent’s gross estate. Because of the illiquid nature of many closely held businesses, the installment payment provisions allow a decedent’s family to continue to operate the family enterprise – either to generate the cash needed to pay the tax in installments or to position the company for sale to maximize the value of the decedent’s business. Belcher identified several complications with the operation and interpretation of the installment payment provisions. His recommendations included:
- Modernizing the installment payment provision to keep pace with modern business practices by clarifying the treatment of new forms of business ownership, such as limited liability companies, limited liability partnerships, or business trusts.
- Curing the inadequate treatment of holding companies under the installment payment provisions by clarifying the complex and confusing rules under which a tiered-entity structure qualifies for benefits of the installment payment provisions.
- Improving the definition of passive assets under the installment payment provisions to accommodate the way closely held business owners are conducting businesses and to avoid artificially structured business entities to comply with the rigid requirements of the installment payment provisions.
- Allowing business owners to obtain advance rulings from the Internal Revenue Service on whether the business owner’s estate will meet the requirements of the installment payment provisions.
- Improving the burdensome lien procedures under the installment payment provisions to prevent undue and unnecessary impediments to the assets of the closely held business owner’s successors or estate.
Shirley Kovar, speaking as a practitioner and on behalf of the American College of Trust and Estate Counsel, encouraged the Committee to adopt a plan for portability of the estate, gift, and generation-skipping transfer tax exemptions. Portability of the exemptions would allow husband and wife, in effect, to combine exemption amounts by transferring a deceased spouse’s unused exemption amount to a surviving spouse. Under the current wealth transfer tax regime, taxpayers make use of a “credit-shelter” trust to ensure that husband and wife maximize the use of the estate tax exclusion amount. Kovar suggested in her testimony that this technique – funding two trusts, one with the exemption amount and one with the rest of the estate assets, often with identical provisions – is a step that few estate planning clients would request except for the need to make efficient use of the estate tax exemption amounts. The reasons presented to the Committee for adopting the Portability regime include the following:
- Portability would all but eliminate the need for complicated estate planning for the moderately wealthy ($2-5M). No two- and three-trust plans would be created for the artificial purpose of maximizing the estate tax exemption. The complicated administration of trusts with identical terms, funded by formula to maximize the exemption, would likewise be all but eliminated.
- Adopting the Portability regime would be consistent with current tax policy recognizing husband and wife as a single economic unit.
- A Portability regime recognizes that most married couples want to maximize the use of their exemptions. Doing so by statute, rather than requiring the use of private trust agreements, accomplishes the same result for the most tax payers.
Dr. Roby Sawyers laid out to the Committee the case for the reunification of the estate and gift tax exemptions. Raising the lifetime gift tax exemption (currently, $1,000,000) to equal the estate tax exclusion amount ($2,000,000 for 2008 and increasing to $3,500,000 in 2009) has the following benefits:
- A reduction in the need for complicated estate and gift tax planning created as a result of the decoupling of the exemption amounts;
- Incentives for individuals to make orderly lifetime gifts that are neither motivated by nor withheld because of gift tax considerations;
- Incentives for small business owners to engage in smart business succession planning; and
- Increased transfer of capital to younger generations for important economic activity, including business investment and creation and home buying.
Ms. Aviv called on the Committee to address abuses in the charitable giving area of estate planning. The primary concerns addressed were:
- The need for greater oversight and compliance with existing regulations regarding charitable giving;
- Requiring electronic filing of charitable organization informational returns (Form 990) and estate tax returns (Form 706), which would allow immediate feedback on these returns. Additionally, electronic filing may free-up Internal Revenue Service personnel and resources currently dedicated to reviewing paper returns, for greater oversight.
- Creating a more reasonable calculation for the remainder interest in a Charitable Lead Trust.
A primary purpose of the three hearings was to keep the issue of estate reform on the table in Congress. While many observers do not expect any action to be taken in 2008, estate tax reform is an issue that Congress must confront soon if the consequences of the one-year repeal of the estate tax and the generation-skipping tax (but not the gift tax) in 2010 as provided under current law are to be avoided. McGuireWoods will continue to monitor developments on possible estate tax reform in Congress and will inform subscribers of the developments as they occur.
The full hearing, including the testimony and questions from the Committee, can be viewed online. For more information on the hearing, see the statements of Senators Baucus and Grassley and the full testimony of the experts on the U.S. Senate Committee on Finance website.