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Gift and estate tax planning in 2021

With the election of President Joseph Biden, coupled with Democratic control of both the House and Senate, we may possibly see changes to the estate and gift tax regime.

Reminder: With a 50/50 Senate split, progressive proposals are limited to the most conservative Democratic senator. Also, unless estate and gift tax changes are included in a budget reconciliation bill, they would be subject to Senate filibuster rules. Due to stimulus legislation expected to take priority over complex estate tax changes, it is unlikely we would see any changes in the estate and gift tax area before October.

As the tax currently exists, each individual has a lifetime credit of $11.7 million — this figure is increased by inflation from 2020’s limitation of $11.58 million. The current exemption will sunset on Dec. 31, 2025, and will return to the Obama exemption of $5 million, adjusted for inflation. The adjusted exemption in 2026 is projected to be between $6 million and $7 million. The maximum gift and estate tax rate is 40% and will increase to 45% in 2026. The tax is imposed on the fair market value of all assets valued at death. Beneficiaries receive a step-up in basis to the fair market value — all capital gains are eliminated.

Biden’s proposal includes:

  1. Reducing lifetime exemption to $3.5 million
  2. Increasing rate to 45%
  3. Eliminating step-up in basis to fair market value on death

It is far from clear if there will be a capital gains tax imposed on death and then beneficiaries will inherit at the fair market value, if there will be an estate tax imposed on fair market value and beneficiaries receive a limited step-up based on taxes paid, or if there will be limited step-up for certain assets (as was done in 2010).

What is clear is that individuals should continue to plan and use the exemptions that currently exist. Many did planning before year-end fearing a retroactive change. While there is no way to predict whether any estate tax changes will be retroactive, most have not been in the past. Even for those who managed to use all of their exemption before year-end, making additional gifts now will use the increased exemption of $120,000.

As part of the Tax Cuts and Jobs Act (TCJA), there is a provision that prevents a clawback of the exemption amount if the exemption decreases either because of the sunset or due to a change in the law. Taxpayers can move forward with planning without the specter of taxes being charged on gifts when the exemption amount changes.

All estate planning techniques are available. Deciding which ones to use will require an analysis of the situation for each individual: the type of assets available, the financial situation, whether or not access to the assets are needed or required, and the family situation. However, since the goal is to use the exemption, grantor retained annuity trusts (GRATs) are not the best devices to use since they are usually created in a way that uses no exemption amount.

A popular technique to use for married couples is a spousal lifetime access trust (SLAT). This allows a donor to contribute assets to a trust, use exemption, and still have access to the assets if desired because the spouse is a beneficiary.

However the gift is made, if the full exemption amount cannot be used, the gift must be large enough to exceed the projected exemption amount or nothing has been accomplished. If Biden’s reduction to $3.5 million passes, individuals should plan to give away more than that amount to take advantage of the current larger exemption amount. If nothing is given away prior to any prospective changes to the exemption, all gifts will be limited to $3.5 million. If only $3 million is given away prior to changes, all the individual has accomplished is use of the new exemption; if gifts of $5 million are made prior to any changes, $1.5 million of the “old” exemption has been used and, of course, the “new” exemption is exhausted. Although the full $11.7 million has not been used, the individual has still managed to take advantage of some of the existing large lifetime exemption amount.

The important thing is to make use of as much of the exemption as possible because the only thing that is clear is that it will be reduced.

For more information about this topic or to see how it might affect your tax position, connect with our trust and estate professionals.

The information provided here is of a general nature and is not intended to address the specific circumstances of any individual or entity. In specific circumstances, the services of a professional should be sought. Tax information, if any, contained in this communication was not intended or written to be used by any person for the purpose of avoiding penalties, nor should such information be construed as an opinion upon which any person may rely. The intended recipients of this communication and any attachments are not subject to any limitation on the disclosure of the tax treatment or tax structure of any transaction or matter that is the subject of this communication and any attachments.

Randi Schuster
Principal, J.D., LL.M.
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