Estates Paying Taxes: Down. Estates Filing Returns: Up

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In 2011, some 3,300 estates will owe federal estate taxes, according to the Tax Policy Center. That’s the fewest in 75 years.

Ironically, however, complying with the tax has gotten more complicated for more taxpayers. The reason: A feature of the law referred to as “portability” enables people to transfer unused estate tax exemptions — up to $5 million per person — from a deceased spouse to his or her survivor, a move that could yield substantial tax savings.

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But in order to retain that unused exemption, says Tax Policy Center’s Roberton Williams, “a surviving spouse must file an estate tax return that specifically provides for portability, whether or not the estate owes any tax. Otherwise, the extra exemption is lost forever.” As a result, predicts Williams, the IRS will be swamped with “many times the number of returns” from estates next year.

The way portability works is simple. For example, if a man dies with an estate with a taxable value of $3 million, his widow can claim the unused $2 million exemption in addition to her own exemptions.

Both wealthy couples with estates worth up to $10 million and those with smaller estates would benefit from holding onto the exemption because the estate tax is scheduled to revert to its pre-2001 level in 2013 with a $1 million exemption and a 55% top tax rate, according to Williams.

Of course, given the political nature of the estate tax, especially as the presidential election heats up, this could change. President Obama has proposed reverting to 2009 levels, which had a $3.5 million exemption and a 45% rate. Republican presidential candidate Mitt Romney, long considered the presumptive nominee, supports abolishing it. Romney’s rivals aren’t fans of the tax either. Former House Speaker Newt Gingrich recently noted that “substantial majorities oppose raising it and back its permanent repeal” even though most Americans don’t pay it.

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The estate tax has been a political hot potato for years. Critics have labeled it a “death tax” and have argued that the levy stymies economic growth, a charge that many mainstream economists reject. The estate tax also has its fans, including Warren Buffett, history’s greatest investor, Vanguard founder Jack Bogle, CNN founder Ted Turner, hedge fund billionaire Julian Robertson, and former Treasury Secretary Robert Rubin.

The U.S. temporarily repealed the estate tax for 2010, creating a huge windfall for wealthy families, including the descendants of New York Yankees owner George Steinbrenner, whose estate reportedly netted a $500 million bonus as a result. The tax was reestablished in 2011 even though Republicans in Congress tried to abolish it when the Bush tax cuts were extended earlier this year.
According to the Center for Budget and Policy Priorities, permanent repeal of the estate tax would increase the deficit by $698 billion over the next 10 years.
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