TIME IS RUNNING OUT FOR…2020 ESTATE AND GIFT TAX YEAR END PLANNING OPPORTUNITIES

10/12/2020 | Articles & Alerts, News & Resources

Introduction

Drastic changes to the estate tax laws may be on the horizon. The pending outcome of the upcoming presidential and congressional elections, set against the backdrop of an ever mounting national debt, has fueled speculation that the amount of wealth which can be protected from the federal estate, gift, and generation skipping transfer (“GST”) taxes may be sharply reduced. These exemption amounts, which were increased (until the end of 2025) as part of The Tax Cuts and Jobs Act of 2017 (the “TCJA”), may be lowered upon the start of the next Congressional term and a potential new administration 2021. 

The COVID-19 pandemic has led to increased expenditures and reduced revenues to the federal government. Reducing the exemptions from a federal estate, gift, and GST taxes can offset the losses sustained by the federal government. These taxes only impact the wealthiest Americans, which makes the exemptions and tax rates an easy target. While clients are always encouraged to review their estate planning periodically, now, in particular, is an ideal time to do so to make sure you are able to identify and take advantage of any opportunities that may (temporarily) be available to you.

Reduction of Estate and Gift Tax Exemption Amounts

The federal estate, gift, and GST tax exemption amounts were temporarily increased under the TCJA and are set to expire on December 31, 2025, unless extended by Congress or repealed by legislation enacted prior to this date.

For 2020, the federal estate and gift tax exemption is $11,580,000 per individual. Each individual can, therefore, give away $11,580,000, and married couples can give away up to $23,160,000 tax free. The GST tax exemption also increased to $11,580,000 per individual. If you made taxable gifts previously, those would reduce the amount of available exemption. These exemption amounts are indexed for inflation going forward and are therefore expected to continue to increase until they expire, at which point they will revert to the pre-2017 exemption amounts ($5,000,000 per individual, indexed for inflation from 2011). With a 40% estate and gift tax rate, the opportunities afforded by the current increased exemption cannot be ignored for clients who feel certain that, given the value of their assets, they will own assets in excess of the current estate and gift tax exemption amount when they die.

There has been some discussion that legislation will be introduced to revert these exemption amounts to the pre-2017 exemption amounts prior to the end of 2025, or be reduced even further. In anticipation of the 2025 sunset (or sooner repeal), some clients may wish to “lock in” the benefit of the increased exemption amounts. To do so, however, an individual must give up to the increased exemption amount ($11,580,000). For illustration purposes, assume the pre-2017 exemption amount is $6 million per individual and the 2020 exemption amount is $11 million per individual. If an individual gives away $5 million (the difference between the pre-2017 and 2020 exemption amounts) in 2020, he or she will be deemed to have only utilized the first $5 million of his or her $6 million exemption when the exemption amounts revert, rather than the excess $5 million exemption amount which existed at the time of the gift. This leaves the individual with only $1 million remaining exemption when the exemption is reduced to $6 million.

Married couples who are hesitant to make lifetime gifts up to both of their current increased exemption amounts may consider having only one spouse make an $11.58 million gift to lock in the benefit of at least one spouse’s excess exemption. Upon a subsequent reduction in the exemption amounts, only one spouse would, therefore, “lose out” on the increased exemption gifting opportunity.

In addition to the above-mentioned lifetime exemption amounts, each individual has an annual exclusion amount, which can be utilized for gifts up to $15,000 per donee each year without using any of the donor’s federal estate and gift tax exemption (assuming certain requirements are met). A married donor may gift up to $30,000 per donee if the couple elects to “split” the gift. Individuals who can afford to do so should always take advantage of their annual exclusion from the estate and gift tax.

Planning Opportunities Presented by the Increased Exemptions Coupled with the Economic Impact of COVID-19

The recession caused by COVID-19 has resulted in generally depressed asset values and historically low interest rates. In general, we encourage clients to look for assets whose values are expected to appreciate when deciding which assets would be the ideal candidate for gifting. Since gifts are valued on the date of the gift for tax purposes, subsequent appreciation after the date of the transfer is not subject to estate and gift tax. For now, valuation discounts for lack of marketability and control can also be taken to further reduce the value of certain fractional interests in closely held businesses, including those which own real estate, to reduce the value of the gift.

There are a number of gifting strategies that can be implemented to minimize these transfer taxes, including making lifetime gifts or intra-family loans, selling assets in exchange for a promissory note bearing the currently low interest rates, creating multi-generational “Dynasty Trusts” to benefit several generations without incurring additional estate or generation skipping transfer taxes at each generation, establishing family limited partnerships or creating Grantor Retained Annuity Trusts (“GRAT”), or Charitable Annuity Trusts.

One additional strategy applicable to married couples would be to create what is known as a spousal limited access trust (“SLAT”). A SLAT is an irrevocable trust created by one spouse for the other spouse’s benefit during his or her lifetime. The beneficiary-spouse can receive financial assistance from the SLAT in a manner that shelters the assets (and growth thereon) from his or her creditors and keeps it out of his or her taxable estate. The grantor-spouse who establishes the SLAT has the ability to identify the recipients of the SLAT assets at the beneficiary-spouse’s death, thus ensuring the assets gifted to the SLAT remain in the family or only benefit those beneficiaries chosen by the grantor-spouse.

Conclusion

With only three months left in 2020, we encourage those of our clients who would benefit from these estate and gift tax reduction strategies to at least begin laying the groundwork for gifting now. For example, you may consider creating and funding a trust with a nominal amount now, and then you can decide whether to make a substantial transfer of assets after the election or closer to the end of the year. That way, the receiving trust is already in place. If you choose not to fund the trust with additional assets, it can easily be terminated.

If you would like to discuss the potential impact that reduced exemptions could have on your estate planning, we encourage you to contact us as soon as possible so that there is enough time to craft a strategy specific to your personal and financial circumstances and make sure all of the required steps for implementation can be completed.

To schedule time to discuss this client alert or have questions about its content, please contact the attorney with whom you regularly work or one of the attorneys listed below.With only three months left in 2020, we encourage those of our clients who would benefit from these estate and gift tax reduction strategies to at least begin laying the groundwork for gifting now. For example, you may consider creating and funding a trust with a nominal amount now, and then you can decide whether to make a substantial transfer of assets after the election or closer to the end of the year. That way, the receiving trust is already in place. If you choose not to fund the trust with additional assets, it can easily be terminated.

If you would like to discuss the potential impact that reduced exemptions could have on your estate planning, we encourage you to contact us as soon as possible so that there is enough time to craft a strategy specific to your personal and financial circumstances and make sure all of the required steps for implementation can be completed.

To schedule time to discuss this client alert or have questions about its content, please contact the attorney with whom you regularly work or one of the attorneys listed below.

Maury B. Reiter, Managing Principal                   
mreiter@kaplaw.com                                                            
610-941-2476         

Thomas D. Begley, III, Principal 
tbegley@kaplaw.com
856-675-1553

Devin S. Fox, Associate
dfox@kaplaw.com
610-941-2529