Death & Taxes

Quirks in the 2001 Tax Act

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By Roy Lewis
June 8, 2001

Death is easy. Taxes are hard.

And it's likely that you won't find anything much more difficult to comprehend than the new 2001 Tax Act. It reportedly makes 441 changes and adds 14 sections to the Internal Revenue Code. The new law's complexity, however, is matched by its quirkiness. 

Phase in... and in... and in...
We're all used to seeing new tax laws that take a while to implement. We're used to seeing changes taking place (or being phased in) over a few years. But the new law imposes phase-in times that stretch over quite a few years -- 10 years in some cases. That's unprecedented.

So we now have a law that will have different effects on different people over a long period of time. You might just think that you can put your finances on autopilot and bask in the glow of the phase-in period. But it won't be that easy. You'll have to be proactive in your planning in order to take maximum advantage of this extraordinary phase-in period.

Now you see it, now you don't
In order to make the bill fit within certain budget constraints, many of the tax provisions will "sunset" in 2011 unless Congress (either the current Congress or some future Congress) takes action to make the legislation permanent. So it's very possible that virtually all of the tax benefits will disappear in 2011. The Congress in place in 2010 could institute one of the largest tax increases in the history of the United States simply by doing nothing. This assumes, obviously, that nothing has been done by any prior Congress to make the tax cuts permanent. So enjoy the cuts while you can. They may not be around after 10 years.

AMT (A Miserable Tax)
While the new legislation made some minor modifications to the dreaded Alternative Minimum Tax, some AMT increases are on the horizon. Beginning in 2004, many tax credits that we all use to reduce our taxes will not be allowed for AMT purposes. So it's possible that, unless this issue is addressed by Congress, many folks will actually have a tax increase buried in the tax bill. While you might not know beans about the AMT, if AMT relief is no longer applied to many of our most popular credits (such as the child tax credit, the dependent care credit, education credits), you might receive a very nasty surprise.

The estate tax loop
The estate tax will be repealed completely in 2010. However, this repeal will last for only one year. As discussed above, the estate tax repeal provisions will "sunset" in 2011, which will put the estate tax back into place as it existed before. So while the estate tax "exemption" will rise to $3.5 million in 2009, and estate taxes will be repealed completely in 2010, it's quite possible that in 2011 that the estate tax "exemption" will fall back to the $1 million level again when the law is automatically repealed. So you can rest assured that the matter of estate taxes will be revisited by some future Congress. But who knows what the political landscape will look like when Congress does decide to revisit this hot-button issue?

Sound complicated? Well, you ain't seen nothing yet. Once estate taxes are fully repealed in 2010, a modified carryover basis rule immediately goes into effect. At that time, death becomes an income tax problem as opposed to an estate tax problem. The basis of assets received from a decedent will carry over from the decedent, rather than be stepped up to fair market value at the date-of-death as is now the law. There are some exceptions and legislative additions to basis of certain property. But the rules are really extremely complicated. Again, it's not something that you'll have to worry about immediately. But just understand that, unless some future Congress makes some changes, beneficiaries of folks that die in 2010 will have completely separate rules regarding carryover basis than the rest of us. Wow.

The tax rebate and you
Heck, even something as simple as the rebate checks can get tricky. As you have read, single filers will receive a $300 rebate later this year. Head of household filers will receive $500, and married folk will receive $600. This "rebate" is really an advance refund check, representing the difference between the 15% rate and the new 10% rate for the first $6,000 of income for single filers ($12,000 for married filers, and $10,000 for heads of households). The advance refund checks will be sent to all taxpayers who are eligible based on their 2000 returns. Trusts and estates, nonresident aliens, and taxpayers claimed as dependents are not eligible for an advance refund.

And there's the rub: How about if you were a dependent in 2000, but are not a dependent for 2001? Will you receive a rebate check? Nope... I don't think so. How about if you used various credits to reduce your tax liability to zero -- will there be a rebate in your future? Likely not. How about taxpayers who may have had very little income and no tax liability in 2000, but are now back on their feet? Rebate? I'm afraid not. Divorced in 2000? Well I hope that you're still on speaking terms with your ex-spouse, because if you receive a rebate check, it'll likely be a joint $600 check that you'll have to split in some fashion. File an extension for 2000? You may still receive a rebate check, but likely not until much later in the year, or perhaps in 2002 depending upon when you actually filed your 2000 tax return.

Well, I don't know about you, but I'm convinced that we've got a tiger by the tail here. It's still not clear how many of the provisions will be handled administratively. It's also not clear how many of the laws and rules will interact with laws and rules currently on the books. But it'll certainly be interesting. Stay tuned. 

Roy Lewis lives in a trailer down by the river and is a motivational speaker when not dealing with tax issues, and he understands that The Motley Fool is all about investors writing for investors. You can take a look at the stocks he owns as long as you promise not to ask him which stock to buy. He'll be glad to help you compute your gain or loss when you finally sell a stock, though.

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