Taxed to death no more

The fate of the inheritance tax in Indiana went from a slow, lingering demise over the next decade to sudden death in the biennial budget lawmakers approved this session.

“My clients are very happy about it,” said Valparaiso estate and transactional attorney Michael B. Miller. “They hate the death tax.”

But Miller feels at least a twinge of loss. No more filling out Indiana Inheritance Tax Return IH-6, no more figuring taxes due from heirs based on their relationship to the deceased or exemptions for heirs also based on relationship, and other variables.

“I’m a Sudoku person, a person who likes to do puzzles, so for me it was kind of fun,” said Miller, who also holds an accounting degree. “That part of my practice is going to disappear.” After a moment of reflection, he said, “I guess I won’t miss it.”

There’s been no notable mourning for Indiana’s inheritance tax, which had been scheduled to gradually phase out by 2022. Lawmakers made the repeal of the tax retroactive to the start of the year, so inheritances are not subject to the tax if the grantor died after Dec. 31, 2012.

But attorneys say clients shouldn’t treat the end of the inheritance tax as a reason to forgo estate planning. Paul Kraft, co-founder and senior principal of Frank & Kraft P.C. in Indianapolis, is concerned that some people may wonder what’s left to do now that the tax is gone.

“Clients still really need to have the assets valued as of the date of death,” Kraft said. “That’s still going to be very important.”

Kraft said failing to do so could unwittingly subject beneficiaries to federal tax liabilities. He provided an example: Suppose someone’s parent purchased stock for $10 many years ago but the stock is now worth $100 per share. If the stock isn’t properly valued at the time of the parent’s death, a beneficiary who inherits the stock could face federal capital gains taxes on $90 per share.

“Hopefully clients won’t be lulled into a false sense of security now that the Indiana inheritance tax is gone,” Kraft said. “Death-tax reduction was one of many reasons to do estate planning. There are many, many other reasons people need to realize it’s important to do estate planning.”

Anne Hamilton chairs the Estate Planning and Administration Section of the Indianapolis Bar Association and is of counsel at Kroger Gardis & Regas LLP. She said one of the biggest changes she sees from the elimination of the tax is a greater ability to leave inheritances for people regardless of their relationship.

Indiana’s inheritance tax divided beneficiaries into three classes, and the tax burden was lowest and exemptions highest for immediate family such as children, parents, grandparents and grandchildren. Extended family – nieces, nephews, aunts and uncles, for instance – were taxed at a moderately higher rate, and those who paid the highest inheritance tax were more distant relatives and unrelated beneficiaries.

The highest tax rate on inheritances from immediate family (Class A) was 10 percent for inheritances in excess of $1.5 million, and the first $250,000 was exempt, according to Indiana Department of Revenue spokesman Robert Dittmer. Heirs with distant or no relationship (Class C) faced a minimum rate of 10 percent and a top rate

of 20 percent on sums greater than $1 million, yet only $100 was exempt from taxation for heirs in that class.

Hamilton said the end of the tax probably will change some clients’ decisions about their estates. Some may opt to include a neighbor who provided care, for example.

“It allows the clients to focus without being so concerned about the estate being reduced by taxes,” Hamilton said. “As planners, it allows us to really focus on what they want to do rather than what they ought to do to save taxes.”

Hamilton

Kraft said elimination of the estate tax will help same-sex couples and unmarried couples, who in the past faced the highest tax rate and received the lowest exemptions. “It probably benefits that population more than anybody,” he said.

Hamilton said she had a client who paid estimated inheritance tax after receiving a benefit from a non-probate estate of a grantor who died in February. The client will be entitled to a refund because the tax was eliminated retroactively. Such occurrences are likely to be rare, attorneys said, because the deadline for estate valuation is nine months after a grantor’s death, so most filings would not yet have been made.

Miller said for most clients, the inheritance tax wasn’t likely to alter their wishes or planning. “I don’t think most decisions are tax-driven. Even most charitable decisions aren’t tax-driven, but certainly it just lifts a cloud over an additional expense that was looming in their minds.”

Indiana’s elimination of the inheritance tax puts it in the majority of states that don’t have tax on inheritances or estates. According to Forbes, Indiana was one of just eight states with an inheritance tax in 2013. Two others – Tennessee and Delaware – are repealing the tax later this year or in coming years. Twelve states had an estate tax or a combination of estate and inheritance taxes.

Elimination of the tax relieves potential burdens for a large group of Hoosiers whose estates were below the federal estate-tax exemption threshold of $5.25 million. Dittmer said that a record 26,000 Indiana inheritance tax returns were filed in 2009, a number that was projected to decline to 16,000 returns this year. The level of scrutiny on those returns is much higher than others.

“Practitioners and (Department of Revenue) staff not only have to have a good working knowledge of inheritance tax statutes, regulations and caselaw, but also probate, trust and property law,” Dittmer said. “The department audits every inheritance tax return regardless of the amount of an individual’s gross estate. Some audits are relatively straightforward while others are very complex.”

The inheritance tax on average raised $158 million annually between fiscal years 2006 and 2012, Dittmer said, but it was projected to bring in far less in the years ahead because of increasing credits and inclusion of more people in the class with the lowest rates. The tax had been projected to raise $126 million in FY2013, he said, and less annually beyond that.•