President-Elect Joe Biden has proposed reducing the lifetime estate and gift tax exclusion. Whether you should act now to preserve the larger current exclusion depends on your personal situation.
The lifetime estate and gift tax exclusion is higher than it has ever been. A person who passed away in 2020 could leave up to $11.58 million to their heirs without having to pay any federal estate tax. With proper planning, a married couple could use their exclusions to shield double that amount from estate and gift tax. This large exclusion is scheduled to return down to $5,000,000 (adjusted for inflation) on January 1, 2026. However, President-Elect Joe Biden has proposed dropping the lifetime exclusion down even sooner, and perhaps to an even lower amount. With the final results of the Georgia Senate races still pending, we do not know if these proposals will become a reality.
Because the large lifetime exclusion may decrease significantly in the near future, it may be wise for those with larger estates to “use it” before they “lose it”. The IRS has stated that the government will not penalize anyone who uses their exclusion for gifts during their lifetime if the limit is later decreased and worth less upon their death. One trade-off is that when appreciated assets, such as investments, are gifted during your lifetime, the beneficiary receives the donor’s basis in the assets rather than a “stepped-up” fair market value basis that they would receive if they inherited the assets upon the death of the donor. Capital gains tax is imposed on the current fair market value over the basis when the asset is sold. Therefore, under current law, it is generally better for income tax purposes for a beneficiary to inherit appreciated assets, rather than receive them as a gift. However, it is uncertain whether Congress, under the Biden administration, will eliminate or place restrictions on an heir’s ability to receive a stepped-up basis.
Use of Trusts
Many people do not feel comfortable making a large gift, due to a loss of control over how the gift is used or loss of access to funds. There are numerous trusts that can be used in gift and estate planning that address these issues. One type of trust that is gaining popularity is called a Spousal Lifetime Access Trust (SLAT). It allows a donor spouse to make use of the current large lifetime exclusion by gifting it to a trust while he or she is alive. The assets are not included in either spouse’s estate but remain accessible to the beneficiary spouse. Another trust that may be popular now, due to extremely low interest rates, is a Grantor Retained Annuity Trust (GRAT). This trust allows a grantor to shield any asset appreciation over the current IRS section 7520 rate (.4% for November 2020) from gift tax over a period of time.
Caution: trusts should be drafted very carefully and are often irrevocable.
Loans and Notes
Some other strategies that allow assets to grow outside of your estate include intrafamily loans and installment sales. These options may be particularly beneficial for families looking to transfer business assets.
It is uncertain what, if any, changes to the estate tax rules there will be under the new administration. However, if you have a large estate, we encourage you to consider the potential impact and, if appropriate for your personal situation, take steps to minimize that impact. Estate and gift planning should always be coordinated with your attorney, financial advisor, and CPA.
If you would like assistance in creating or changing your estate plan, please reach out to your personal Sciarabba Walker contact or email us at info@swcllp.com.