With the increase of the complexity of the estate and gift tax laws as a result of the Taxpayer Relief Act of 1997, family-business owners will be forced to update their estate planning documents, plan new strategies for taking advantage of the new laws in the future, share this information with their business partners and plan their strategy.

In case you haven't read about the provisions yet, the following is my interpretation. Remember, this new act in the law makes 824 changes to the tax code.

Family-Owned Business Estate Tax Relief

This family-owned business (FOB) exclusion is applicable to family-owned business interests beginning in 1998. Be careful on this one; it is one of those phase in-phase out clauses.

The maximum FOB exclusion available in any one year will be $1.3 million, less the amount of the credit exemption available that year. For example, in 2006, the FOB exclusion will only be $300,000, but the credit exemption will be $1 million. The FOB exclusion disappears as the personal exemption goes up.

Strategies

• Non-owner spouses will need to own business shares to take advantage of this law. Some families do not allow spouses to own stock, but will have to change and put shares into a special trust that will revert to the children upon the spouse's death.

Among the technical requirements that must be met to gain the FOB Exclusion are:

• Owner/decedent must be U.S. citizen.
• Value of the FOB, plus gifts during his/her lifetime, must total 50 percent or more of the estate.
• Decedent must have owned and materially participated in the business for five out of the last eight years before death.
• The decedent's family must own at least 30 percent of the business.
• The heirs who inherit the business must continue to materially participate in the business for 10 years after the decedent's death. If business interests are sold outside the family during the 10 years, the exclusion will be adjusted downward.
• Not included toward business value are: passive assets, excess cash and marketable securities.

Estate planning

The federal estate (transfer at death) tax and gift tax remain the same, but the amount exempt from taxes will gradually increase the exclusion by less than 3 percent each year for inflation between 1987 and 2006. By the year 2006, the $600,000 exemption will increase to $1 million. After 2006, if the appropriate estate plan is set up and kept updated, the overall exemption available will be $2 million for one couple.

Strategies

• Review your present will and/or living trusts to make sure formulas are added to automatically adjust as the exemptions increase each year.
• Make sure sufficient assets are titled in each individual spouse's name to take full advantage of the exemptions.
• As the exemption increases, changing some jointly held assets to individual ownership may make sense.

Capital gains

Once we only had two rates in effect, now there are seven capital gains tax rates. It gets worse. It lowers the top rate on profits from sale of stocks, bonds and most other investments from 28 percent to 20 percent. There is a newly created 10 percent tax rate for taxpayers in the 15 percent tax bracket. However, lawmakers upped the holding period for most gains from 12 to 18 months. Beginning in 2001, the new top rate on assets purchased after 2000 and held for five years will be 18 percent.

Strategies

• Invest in stocks that tend to appreciate in price and pay small dividends or none. Dividends are taxed as ordinary income.
• To get the new capital gains tax treatment, you must hold on to the asset for 18 months. Avoid frequent trading if at all possible because those profits will be taxed as ordinary income.
• Now that taxes on highly appreciated stocks are less, it makes sense to give the maximum shares to relatives while alive under the gift provisions rather than to wait until death. Remember, estates are still taxed at 55 percent.
• Remember, tax-deferred accounts such as IRAs and 401(k)s will be taxed as ordinary income because they are earnings. Some will be advised to consider keeping stock outside these plans to preserve the capital gains treatment.

Finally, always remember to consult with a CPA, and when you calculate your tax savings, include the CPA's expense.