U.S. estate tax coming back?
If you’re thinking about buying a winter vacation home in the U.S. Sunbelt, keep an eye on what happens in Washington during the next few weeks. The almost confiscatory estate tax, which applies to Canadians with U.S. assets, may be coming back.
The massive tax cuts brought in by the Bush administration included a gradual phasing out of U.S. estate taxes, which were as high as 55 per cent. The process ended this year with the elimination of all estate taxes but the legislation has a sunset clause. If the Bush program is not extended, estate taxes will be reinstated at their original rates on Jan. 1, 2011.
President Obama has resisted a blanket extension of the Bush plan, favouring a targeted extension of the cuts which would benefit only low and middle-income Americans. But now, with a Republican-dominated House of Representatives about to take power, he has been making some conciliatory statements. Whether these will result in an extension of the cuts remains to be seen and time is rapidly running out.
The lame duck Congress, still dominated by Democrats, has reconvened but at this point no one knows what action it will take on the tax issue. There is speculation that a compromise deal will extend all the cuts for another one or two years but that would cost the U.S. government $168 billion in 2011 at a time when the deficit is wildly out of control.
If the estate tax does come back, high net worth Canadians with U.S. assets will need to take steps to mitigate the impact. Those at risk will be people with more than $1 million in world-wide assets of which more than $60,000 are U.S.-based (real estate, shares in American companies, etc.)
One way to reduce exposure is to take out what is called a “non-recourse mortgage” on U.S. real estate. This is a mortgage in which the liability is limited to the value of the property — the lender cannot pursue the homeowner individually for repayment.
A non-recourse mortgage reduces the value of a property for estate tax purposes dollar-for-dollar. So, for example, if you own a $500,000 Sunbelt home with a $300,000 non-recourse mortgage, the value for estate tax purposes would be only $200,000.
These mortgages used to be expensive and difficult to obtain but that has changed. RBC Bank (USA) offers them for up to 60 per cent of the property value at rates which are about the same as those charged for conventional mortgages. However, John Irons, south Florida regional mortgage manager for RBC Bank, stresses these are only considered for “very high net worth” individuals.
If you fall into that category and the estate tax is reinstated, it might be worth applying for a non-recourse mortgage, even if you don’t need the financing, in order to minimize your tax exposure. The proceeds from the loan can be invested and with interest rates so low (currently in the 4 per cent to 4.5 per cent on U.S. mortgages) you stand a good chance of earning a profit on the deal.
This article originally appeared in the Internet Wealth Builder, a weekly e-mail newsletter that provides timely financial advice from some of Canada’s top money experts. For more information about becoming an Internet Wealth Builder member, go here.