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Here Comes Estate-Tax Reform—Maybe

Complete repeal, a cherished goal of the Bush Administration is viewed as highly unlikely, if a bill emerges, it will be some kind of compromise measure that preserves the tax but reduces the bite.

The estate tax is back on the agenda in the U.S. Senate. But complete repeal, a cherished goal of the Bush Administration and already a winner in the House, is viewed as highly unlikely. If a bill emerges, it will be some kind of compromise measure that preserves the tax but reduces the bite.

Republicans, led by Arizona Senator Jon Kyl of Arizona, are hoping for a measure that will have a high threshold and rock-bottom tax rates for whatever is left over to tax. That would leave only the wealthiest clients in the estate-tax pool and vastly reduce their tax-planning needs. Democrats, led by Max Baucus of Montana, agree in principle to reform. Without reform or repeal, the estate tax will revert to pre-2000 rules, except with a $1 million exclusion, when the current law sunsets in 2010.

With the midterm elections looming, advocates of the tax cut reckon they are running out of time to get a bill through this year—or perhaps during this presidency. “Both parties understand that they need to get this done and they want to get this done,” says Patricia Soldano, a repeal activist, president of the Costa Mesa, Calif.-based Cymric Family Office Services and a member of Trusts & Estates magazine’s advisory board.

As soon as tomorrow, the Senate is expected to vote on full repeal of the estate tax, which Republicans have branded the “death tax.” The bill has been stuck in committee since April 2005 and was scheduled to be introduced after the Labor Day recess, but was swept off the Senate’s to-do list by Hurricane Katrina.

Given the growing budget deficit, support for full repeal may be even less than it was last spring, when it was clear that there weren’t 60 votes in the Senate. According to estimates by the Urban Institute-Brookings Institution Tax Policy Center, the cost of full repeal would total nearly $1 trillion between 2012 and 2021 ($776 billion in revenue loss and $213 billion in additional debt-service costs). But proponents counter that the estate tax actually dampens the economy, because it forces wealthy people into unproductive tax-avoidance strategies instead of investing in their businesses.

Senator Kyl, the longtime Senate GOP proponent of full repeal, has apparently given up on repeal and has circulated a proposal that would give the ultra-wealthy the next best thing: a huge reduction in the estate tax rate, from 45 percent to 15 percent. Kyl would also raise the marital exemption to $5 million per individual (that’s $10 million for a married couple). Even Soldano, one of repeal’s greatest advocates, now says, “I would be happy if it was 15 percent and $5 million.” But, she adds, “I’m a little worried that may not fly.”

Senator Charles Grassley (R-Iowa) is publicly declaring that there are the 60 votes in the Senate needed to help make Kyl’s proposal law. Baucus is making no public declarations but is believed to favor a $3.5 million exemption with tax rates of around 45 percent.

The Center on Budget and Policy Priorities, a public policy group, is advocating a compromise along those lines: a $3.5 million-per-individual exemption and a 45 percent top rate, which it estimates will reduce the number of taxable estates to 0.3 percent of Americans who will die in 2011 and revenue losses of only 40 percent of the cost of full repeal. The group points out that rising exemptions already have reduced the number of taxable estates to 0.5 percent of all deaths. According to the Urban Institute-Brookings estimates, the $5 million/15 percent solution would incur 80 percent of the costs of total repeal on the federal budget.

Soldano, who is on Capitol Hill this week monitoring the legislation, says the Baucus proposal “won’t fly.” Even Republicans who are willing to compromise won’t go that far. Another close observer, Charles “Skip” Fox, IV, partner in the Charlottesville, Va., office of McGuireWoods LLP, says: “If I had to bet, “I’d bet that some form of Kyl’s proposal will pass. Then it will go back to the House and the [Republican] representatives will grumble a little because they wanted repeal. But they’ll pass reform and the president will sign it.”

And what will that mean? “Everybody will have to look at their estate plans to think of what revisions are needed,” says Fox. “It will mean a very small percentage of people will be paying estate tax and will have to plan to avoid the estate tax.”

But, ultimately, says Fox, “Even if the exemption goes to $5 million, people will still have to plan for tax and nontax purposes…As our population ages a lot of people will have to focus on planning for disability and people who are living longer.” As far as the business of estate planning, for the larger firms and practices, Fox says, “Nothing’s going away.”

On the other hand, according to reports in The New York Times and the Wall Street Journal, even the Republicans’ preferred compromise may fall victim to the 2008 presidential ambitions of Senate Majority Leader Bill Frist. According to these reports, if Frist feels he can’t deliver full repeal—which would ingratiate him with GOP conservatives—he will prevent a reform bill from reaching the floor.

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