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New Jersey estate tax changes

As a result of a change to New Jersey law, the New Jersey estate tax will be calculated on the basis of the Federal estate tax law that was in effect on December 31, 2001. The effect of this change is that the New Jersey estate tax may now be imposed following the death of either spouse, where no New Jersey estate tax may have been imposed under prior law. This change may affect your estates and you should consider changing your Wills.

Under the revised law, a New Jersey estate tax of $33,200 will be imposed upon a predeceasing spouse's estate where the predeceasing spouse's estate had a value of $1 million and this amount is not left to the surviving spouse. This could be the case under your existing Wills if a bypass (family part) trust is to be funded under the predeceasing spouse's Will with an amount equal to the Federal applicable credit amount available to the predeceasing spouse's estate.

The New Jersey estate tax on the predeceasing spouse's estate can be avoided by limiting to $675,000 the amount passing to the bypass (family part) trust established under the predeceasing spouse's Will. However, limiting the funding of the bypass (family part) trust may result in a larger Federal estate tax following the surviving spouse's death.

How much should be placed in the bypass (family part) trust? Should its size be limited to $675,000, with a view towards preventing the imposition of the New Jersey estate tax on the predeceasing spouse's estate? Or should the trust be funded to the full extent of the increasing Federal applicable credit amount ($1 million to 3.5 million)? The answer is not simple, particularly since the value of your assets may change, and the amount of the Federal applicable credit amount is currently scheduled to increase, and may be changed by future legislation.

Under current law, the Federal applicable credit amount is scheduled to be as follows: for decedents dying in 2003 - $1 million; 2004 and 2005 - $1.5 million; 2006, 2007 and 2008 - $2 million; for decedents dying in 2009 - $3.5 million. Under current law, the Federal estate tax will be repealed as of January 1, 2010. However, the repeal is subject to a "sunset" provision that will effectively return the estate tax for descendants dying on or after January 1, 2011 with the amount that can pass estate-tax free set at $1 million.

Under your current Wills, the full Federal applicable credit amount may be added to a bypass (family part) trust established under the predeceasing spouse's Will. This would cause the New Jersey estate tax to be imposed upon the predeceasing spouse's estate to the extent that the bypass (family part) trust exceeds $675,000. As the Federal applicable amount increases (as scheduled), the New Jersey estate tax imposed on the predeceasing spouse's estate will correspondingly increase. While the full funding of the bypass (family part) trust may attract the New Jersey estate tax in the predeceasing spouse's estate, the Federal estate tax imposed on the surviving spouse's estate may be reduced.

The strategy for dealing with the dilemma is to add flexibility to your Wills. Your Wills could be changed to incorporate a qualified disclaimer which would permit the surviving spouse, within nine months following the death of the predeceasing spouse, to fine tune the planning based upon facts available at that time. Under this approach, the surviving spouse would make the decision regarding the funding of the bypass trust. The surviving spouse would decide if any assets are to be added to the bypass trust and in what amount. The surviving spouse might decide to fully fund the bypass trust, recognizing that this might attract the New Jersey estate tax, with the hope that the Federal estate tax would be reduced following the surviving spouse's estate. Alternatively, the surviving spouse might decide to avoid the New Jersey estate tax by funding the bypass trust with not more than $675,000 of assets, recognizing that this might increase the amount of the Federal estate tax following the surviving spouse's death. In order to implement this approach your Wills need to be changed and the surviving spouse would need to file a qualified disclaimer.

Another method of adding flexibility to your Wills would be to establish a qualified terminable interest property trust (Q-TIP Trust) in your Wills. This approach relies upon an election to be made by your executor. The decision as to whether to avoid the New Jersey estate tax on the death of the predeceasing spouse or maximize the use of the applicable Federal credit amount following the death of the surviving spouse would be placed in the hands of the executor of the estate of the first spouse to die. In order to implement this approach, your Wills need to be changed and your executor would need to make the appropriate election.

Either a disclaimer activated bypass trust or Q-TIP Trust would allow a decision to be made following the death of the predeceasing spouse as to whether to avoid the New Jersey estate tax on the death of the predeceasing spouse, or to utilize the full Federal applicable credit amount to possibly reduce the Federal estate tax following the death of the surviving spouse. With either approach, the decision can be made following the death of the predeceasing spouse when timely information is available about the value of the assets and the estate tax.

With the Federal applicable credit amount scheduled to increase, this is also an appropriate time to review the ownership of your assets to confirm that the manner in which you own your assets is coordinated with your estate planning documents. Generally, each spouse should own, in his or her separate name assets (other than jointly owned, retirement, insurance or other assets that pass by beneficiary designation or operation of law) with a value approximately equal to the Federal applicable credit amount. As the Federal applicable credit amount increases, the separately titled assets should be adjusted. This may require the transfer of assets between spouses.

This is also an appropriate time to consider whether the funding of a bypass trust with an amount equal to the increasing Federal applicable credit amount is consistent with your intentions.

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