January 2018
In recent years, the federal estate and gift tax exemptions have been steadily increasing. The Tax Cuts and Jobs Act of 2017 supercharged this trend and essentially doubled the exemptions. Now, a married couple can shelter more than $22 million from the federal estate tax
But, under the new law, the estate tax changes are only temporary. The changes are scheduled to expire in 2026.
Many people will now need to revisit their estate plan to change the focus from estate tax planning to reducing income taxes. For others with more wealth, this presents a planning opportunity to take advantage of the increased exemptions.
In 2017, the estate and gift tax exemptions were $5.49 million per person. In 2018, under the new law, the exemptions are now $11.18 million. In future years, these exemptions are indexed for inflation. Similar changes were made to the generation-skipping transfer tax exemption.
With inflation indexing, the gift tax annual exclusion is also increasing. It goes from $14,000 to $15,000 per year, per donee.
Many other components of the estate and gift tax did not change:
- Despite early discussions to the contrary, the step-up in basis of appreciated property at death remains. Importantly, this allows heirs to avoid or reduce capital gains tax for appreciated assets.
- Tax-free gifts can be made for educational or medical expenses, when paid directly to the educational organization or medical provider.
- Business interest valuation discounts for lack of control and lack of marketability are still available.
- Trust planning techniques – such as charitable remainder trusts, charitable lead trusts, life insurance trusts, gift trusts, qualified personal residence trusts (QPRTs), grantor retained annuity trusts (GRATs), and dynasty trusts – all remain viable.
For those with estates over the new exemption threshold, estate tax planning is still prudent. Because the new law is slated to expire, those with estates over the old law exemption should continue to monitor and plan for the estate tax.
All of the trust planning techniques above are strategies for those families to consider. The sooner these strategies are implemented, the more effective they will be by reducing the estate value over time and transferring future asset appreciation to the next generation.
Taxpayers can also lock in the increased exemption amounts by making current gifts. In 2018, an individual with a large enough estate can make gifts totaling $11.18 million without having to pay any gift tax. Depending on the tax basis of such assets, it may make sense to do such gifting now before the tax law expires and the exemptions are essentially cut in half.
For married couples, a surviving spouse can use a deceased spouse’s unused exemption through a process called portability. If one spouse dies during 2018-2025, when the exemptions are doubled, the surviving spouse will want to take steps to ensure that he or she benefits from the deceased spouse’s unused exemption. This is done by making a timely deceased spouse’s unused exemption (“DSUE”) election on the deceased spouse’s estate tax return.
Of course, most families will not owe estate taxes. According to the Wall Street Journal and the Tax Policy Center about 1,700 estates are expected to owe estate tax this year out of an expected 2.7 million deaths. However, planning still remains important for many reasons. First and foremost, a well-thought-out estate plan is necessary to ensure that a decedent’s assets pass as intended with efficiency and protections for the next generation. A comprehensive estate plan selects important fiduciaries such as guardians, executors and trustees. Planning also provides for confidentiality, investment guidance and asset protection.
These families will also want to review their existing plans to remove estate tax provisions from a bygone era. Many old plans will have formula clauses for credit shelter trusts and marital trusts. In many cases, those formulas are now obsolete and may cause inadvertent results. Additionally, income tax planning takes on a heightened importance. Existing plans should be reexamined to ensure that heirs receive the benefits of stepped-up basis whenever possible.