Prepaid Estate Tax

Senator Jon Kyl is currently contemplating an option that allows people to prepay their estate tax before they die. While we don’t know exactly how such a proposal would work, here’s one possibility: Bob creates a “prepayment trust” into which he can transfer any assets he chooses.  Over five years, Bob pays a 35% capitals gains tax on the appreciation, and the assets’ bases would become their values on the date of transfer.  When Bob dies, the trust goes to his heirs without incurring any estate tax.

This provides two tax breaks: Bob’s basis in the assets transferred to the trust is not taxed, and any subsequent appreciation is taxed at the preferential capital gains rate. The following are some potential disadvantages:

• People with liquid assets are benefited while those with illiquid assets are not.
• As long as the capital gains rate is below 35%, the nation’s wealthiest families would receive a windfall at a time when the nation faces huge deficits.
• This approach won’t simplify the tax. In fact, many wealthy families would have to hire financial analysts to choose which assets to put into the trusts.

See Bob Williams, An Estate Tax Deal:  Pay Now, Die Later, Christian Science Monitor, May 20, 2010. 

Special thanks to Joel Dobris (Professor of Law, UC Davis School of Law) for bringing this to my attention.