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Potential Changes to the Gift and Estate Tax Laws

by Phil Levin, Esq. on November 1st, 2020
Potential Changes to the Gift and Estate Tax Laws

We hope this edition of Estate Planning Matters finds you and your family all well and safe.

In this newsletter, we want to share with you potential changes to the gift and estate tax laws that may occur after the upcoming election.

We trust you will find this information useful in your practice and invite you to share Estate Planning Matters with your clients and colleagues who may be interested in practical trust and estate planning strategies to protect and preserve their assets.

Democratic presidential nominee Joe Biden has provided some information about his plans to modify the tax treatment of decedent estates. He has signaled that he supports raising estate taxes and changing the taxation of capital gains on assets owned by a decedent upon their passing.

Gift and Estate Tax Exemption

The first change proposed would be to increase the estate tax. Currently, the gift and estate tax exemption amount is at an all-time high: $11.58 million per person and $23.16 million for a married couple in 2020. These amounts are indexed annually for inflation.

The Trump tax cuts doubled the exemption from prior levels, but only until they sunset to take place on January 1, 2026. If Vice President Biden wins the presidency, the sunset of the Trump gift and estate tax exemption amount could be retroactive to the beginning of 2021, which is why some individuals are seeking to use their exemptions by year end.

In other words, Vice President Biden’s proposal would reduce the exemption to its pre-Trump tax cut level of $5.49 million per person and $10.98 million for a married couple, adjusted annually for inflation. Any amounts above this lower exemption amount would be subject to a flat 40% estate and gift tax rate.

There is also speculation that the gift and estate tax exemption amount might be reduced to the $2.5 million per individual and $7 million for a married couple, which levels were proposed by the Obama administration. These modifications to estate tax exemption transfer tax amounts are also very likely to be passed by Congress if the Democrats also win control of both the Senate and the House.

Step-Up in Basis

The second proposed tax law change would repeal the present “step-up in basis” rule. Under current law, the income tax basis of appreciated assets owned by a decedent at the time of death generally are increased (stepped-up) to their fair market value on the date of death.

The current basis step-up laws enable a client’s beneficiaries to sell inherited assets without the imposition of any capital gains income taxes on all appreciation that occurred during the decedent’s life.

Therefore, repeal of the step-up in basis rules could prove very costly to heirs when they decide to sell inherited assets which have appreciated in value, and which assets would be exposed to federal capital gains taxes.

As a result, some individuals may wish to consider triggering capital gains prior to the end of the year — especially because of the possible loss of the stepped-up income tax basis and because Vice President Biden has proposed to increase the top capital gains tax rate to 39.6% (the same as his proposed top ordinary income tax rate).

Use it or Lose it

Although none of us have a crystal ball to know exactly which changes in tax law will be passed by Congress and signed into law by a future President, nor can we control or be certain what estate tax transfer laws will be in effect upon our passing, strategic gifting prior to a change in the law could have a significant positive effect on the overall tax liability faced by your family.

Gifting assets now, either outright or in trust, while the exemption levels are still at their historic highs, essentially allows you to “lock in” these high exemption amounts.

Prudent and well accepted estate planning techniques may also allow you and your clients to leverage this significant lifetime exemption amount by also using valuation discounts and other wealth transfer planning strategies which may be especially effective in our current low interest rate environment, coupled with any decrease in asset values.

In some cases, it might make sense to plan for a gifting transaction now but wait to execute this strategy until we know the results of the November presidential election. One way to establish a more flexible result would be to sell assets now for a promissory note, rather than gifting the assets, with the intent to forgive the note after the election if a reduction in the gift and estate exemption seems very likely to occur.

While there are a number of possible estate planning techniques which you and your clients may implement in 2020, a popular technique among our married clients is the Spousal Lifetime Access Trust (SLAT). A SLAT is an irrevocable trust that allows an individual to give assets to his or her spouse and/or their descendants. The beneficiary-spouse may receive distributions of income and principal from those assets, typically at the discretion of the trustee.

In essence, by establishing a SLAT, clients can remove the assets from the grantor-spouse’s estate while still affording access through the beneficiary-spouse, as long as the parties are married and the beneficiary-spouse is living. The potential access may well indeed provide married couples more certainty and peace of mind when making large gifts, while enjoying the benefits of utilizing relatively high transfer tax exemption amounts currently in effect.

Currently, it is uncertain how the results of the Presidential election will impact estate tax transfer tax reform in our country.

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