Summary: The economy, the estate tax, investment markets are all making planning feel like the roller coasters at Cedar Point.

√ Wide Net. “Wealthy” folk need to watch the developments and stay flexible. Wealthy is in quotes because the next episode of the estate tax may nail many who don’t feel particularly rich (think “AMT”). If the exclusion drops to $1M in 2011 (which is what the law provides), and if inflation kicks up in future years as a result of bailout/stimulus spending, the estate tax net will grow wide. Further, states are hurting for revenue and may step up enforcement of their estate taxes and may even enact tougher taxes. Connecticut’s recent liberalization of its estate tax may prove the rarity.

√ Example: Your estate is $5M. Under current law you and your spouse can, with proper planning, avoid federal estate tax on a $7M estate. But if the exclusion drops to $1M your heirs will have quite the haircut. Action Step: Remove asset from your estate now to flexible structures. Do this before inflation kicks in, while asset values are low, while interest rates are low (it makes many techniques more efficient at shoe-horning value out of your estate).

√ Toggle. Chubby Checkers started it with the Twist, now it’s the Toggle. Tom Bergeron next show will be “Dancing with the Tax Attorney.” Grantor trusts are trusts with the income taxed to you. Set up grantor trusts for kids and if estate tax is repealed, or the exclusion stays high, or if the relationship of marginal to lower income tax rates change (so it’s better for the trust to pay income to your kids to be taxed at a lower rate), your trust protector can turn off grantor trust status to save yourself income taxes. If the estate tax grows nastier, keep grantor trust status activated to continue reducing your estate. See CCA 200923024.

√ DAPT. Set up and make gifts and/or sales to a self settled domestic asset protection trust (DAPT) in a state like Delaware which permits you to remain a beneficiary. If you need money because of future economic issues, you are a beneficiary and the trustee can make a discretionary distribution to you. If the estate tax remains burdensome, the growth in those assets should be outside your estate, generating important estate tax savings. You might also be able to realize a significant current state income tax deduction. If Congress acts to restrict this type of planning, hopefully your completed plan will be exempted (grandfathered). While that might be a risk, isn’t doing nothing a bigger risk?

√ 529. Put money in 529 plans for heirs. If the estate tax is repealed, or the exclusion remains at a level that exempts you can take the money back.

√ Convert. Roth IRA conversions can provide important estate tax savings. In 2010 you can convert without the $100,000 adjusted gross income limitation that had prevented many wealthy taxpayers from changing their regular IRA to a Roth. This is a great opportunity for many in that the income tax you have to pay on the conversion will be outside your estate. For info on teleconferences discussing Roth conversions see www.ultimateiratraining.com.

√ Insurance Trusts. Too many people own insurance in their own name (or set up a trust but never reviewed its operations with their estate planner to be sure its done right). That means the insurance is in your taxable estate. You may have been unconcerned in light of the talk of repeal and the growing exclusion. A $1M exclusion will change all that. If you transfer your insurance to a trust you must survive 3 years for it to be out of your estate. Act now to get the 3 year period tolling. The cost relative to the potential benefit in this new estate tax environment is miniscule.

√ Insurance. Buy insurance! Consider a cheap term policy with some conversion options. This can provide flexibility and security. Example: Your estate is $3M. No tax. Next year Congress reduces it to $1M. You have a stroke and are no longer insurable. Bam! How is that tax going to be paid? A term policy now, while your health permits it, locks in the ability to convert to a permanent policy to use to cover the estate tax if needed.

√ Basics. Don’t forget the basics. Most of you haven’t forgotten, you’re just ignoring them…big mistake! Update your powers of attorney and include a generous gift provision with safeguards. If you become incompetent next year as a result of health problems or an injury, and the exclusion is reduced to $1M, your heirs won’t be able to make large gifts to reduce the estate tax. Don’t get lulled into thinking that your current power works. It’s a different world than just a year ago.  

√ Income Tax. Income and estate tax planning is inextricably intertwined. Expect income tax rates to increase on upper middle class and upper class taxpayers at minimum. This changes how you plan. Most people plan to defer income to later years, and especially retirement years, on the theory that they will be in a lower income tax bracket. This may never happen. Try this on for some perspective: According to the US Census Bureau median family income fell in 2008 to $50,303 (lowest since 1997).  The wealthiest 10% of Americans earned more than $138,000. So about $140k puts you in the vice! Who do you think the government will have to squeeze for tax revenue?

√ Planning Yoga. Get flexible. Consider planning steps that can be undone, or at least modified, if the eventual tax legislation, or future economic developments, impact you other than as anticipated. Will the recovery have “U”, “V”, “W” or other shape? Have some of the pundits watched too much Sesame Street?