Remaining Flexible

by • December 1, 2014 • 2014, December 2014, Expert Advice, Money Matters

When Change is the Only Constant with Tax Law, Portability Should be a Requirement,
Not an Option

Siriusly surfing channels last week en route to a seminar on Saturday, a selection fell on a song by Jose Mari Chan entitled “Constant Change.” The piece contains a bittersweet observation:

The friends we know we meet along the way
Too soon the times we share form part of yesterday
‘Cause life’s a constant change
And nothing stays the same, oh no*

For someone else, the words might have prompted the memory of a lost love, a past career, or a friend who had moved away. But in that car, at that moment, the words of the song signaled the thought of our inconstant tax laws.

You may pity the mind that turns a love song into a tax law lamentation; nevertheless, the transition is accurate: thanks to Congress, the new certainties in life now include death, taxes and… changes in taxes.

As the rules for estate planning change every two to three years, it becomes impossible to predict what values of assets a family can pass to their heirs at the end of days without paying taxes for that transfer. Sadly, it is not Congress that suffers from their political ping-pong, but the people who try to form reasonable programs to protect their property for their progeny. The problem? As the tax-free amount that an estate owner can transfer at death changes, planners lose the ability to accurately predict the necessary terms to insert in a family’s trust.

If the tax free amount (the “Exemption”) is high at the first death, a family may not need (or want) to cause a trust to divide into “A” and “B” trusts at the death of the first spouse. The “Split” is a grand idea if it saves estate taxes, but it can be an unnecessary burden to the survivor, requiring additional useless returns and reports, if the exemption is higher than the value of the estate when the first spouse dies.  Simply asked: who wants to prepare a tax return and maintain accounting for a “B” Trust if there is no tax savings that will come with the added trouble?

How can a family choose between the potential tax savings from dividing the estate if the Exemption is low, versus the unnecessary work and costs of a division if a single Exemption is higher than the family’s total estate? The answer is a principle called the “Portability Option.” A surviving spouse who elects the Portability Option in an estate tax return can choose to postpone or even avoid the process of using the Exemption of the deceased spouse until he or she knows whether the Exemption amount will change from the amount at the time of the first spouse’s death.

Perhaps (maybe even probably), if the tax-free amount never decreases following the first death, the surviving spouse will never need to elect to use the tax-free exemption of the first spouse to die. On the other hand, if the tax-free amount decreases and the family faces a tax at the second death without the exemption of the deceased spouse, the survivor can make use of the portability election to preserve the exemption for the taking of assets at the second death.

We have no way of knowing where the tax-free numbers may land with the changes of presidents and senate mixes; values may rise and fall with the purchase and sale of votes and offices. But the family that utilizes the available planning tools – in this case the portability option, which should be allowed in any trust – will be prepared to meet at least one of the potential changes from future congressional compromises.

Songwriter Jose Mari Chan’s “Constant Change” describes the inevitability of changes in our lives; our job is to be prepared to face its impact on our estate documents, because, in tax law, nothing stays the same, oh no:

Have we outgrown our Peter Pans and wings?
We’ve simply grown too old for tales of knights and kings
‘Cause life’s a constant change
And nothing stays the same, oh no*


 *Constant Change, Copyright Universal Records, 1989, Jose Mari Chan.

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