Tax Changes Coming?
With the Democrats marginally in control of the Senate and Congress, and a president ready to do their bidding if given the opportunity, there is a good chance we will see some income and estate tax changes proposed.
Whether or not the Democrats have the votes to make significant changes, and whether such changes would be effective in 2021 or perhaps not enacted until 2022, it is not easy for taxpayers to decide on a proper strategy.
One thing we do know: regardless of any changes in the tax law under the current administration and congress, the current estate tax exemption of about $11.8 million will likely be reduced to about $5.5 million on January 1, 2026, which is only four and one-half years away.
So persons with significant wealth and hence, significant exposure to the forty percent estate tax rate for estates in excess of $11.8 million (which is potentially $23.6 million between spouses) it is worthwhile to consider implementing some estate and tax planning strategies to lock in these current high exemptions.
The first hurdle one must clear in deciding to implement estate tax planning strategies in the current environment must be a willingness to make gift-taxable gifts in excess of $5.5 million.
This threshold must be breached, otherwise, assuming the estate tax exemption drops to $5.5 million, gifts of less than this amount will use none of the exemption amount between the current $11.8 million and the future $5.5 million.
For example, if you make a gift of $5.5 million now, that gift will be gift tax free, but to achieve tax-free status, the gift and estate tax exemption of $11.8 million will be applied against the gift, leaving a remaining exemption of $6.3 million.
The problem is that if the exemption drops back to $5.5 million, the remaining $6.3 million of exemption will disappear because you will have already used the newly-reduced exemption of $5.5 million, leaving none of the excess for future use because of the reduction of the exemption back to $5.5 million.
There are many strategies which could be implemented if you have sufficient wealth to make a gift of the significant amounts required to take advantage of the current $11.8 million exemption.
For example, let’s say between you and your spouse you have $25 million. If you want to at least take advantage of the current high exemption available to one of you, one of you could make a gift of $11.8 million of that one spouse’s separate property.
With such a gift, the spouse making the gift will have no remaining exemption, but the other spouse will still have their full remaining exemption of $11.8 million or perhaps only $5.5 million with the advent of January 1, 2026.
But with this technique, you will have at least taken advantage of the one spouse’s $11.8 million exemption as long as the entire gift is attributed to the one spouse.
If you and your spouse have upwards of say $40 million or more, you could possibly make a near maximum gift of, let’s say, $20 million, tax free and still have $20 million to get by on thereafter.
To make gifting more attractive, we can do the gifting through the use of trusts which will allow you or you and your spouse to retain control of the gifted assets. In addition, use of limited liability companies can strengthen the control you may retain over the gifted assets and can also significantly magnify the effect of the gifting.
There is also talk of eliminating the Internal Revenue Code Section 1014 basis adjustment provisions. This code section states that when a person dies, that person’s assets, such as stocks, bonds, real estate, receive an adjusted tax basis equal to the value of the deceased person’s assets as of the date of death.
For example, if you bought stock XYZ for $100 a share but it is worth $1,000 a share on your death, your heirs inherit the stock with he $1,000 tax basis, i.e. the value of the stock as determined on your date of death, thereby avoiding the capital gain tax on the $900 capital gain which would otherwise have been due if the stock were sold at $1000 per share against a $100 purchase price original basis.
There has been talk about changing this for some time but it is my opinion this change will not happen. The determination of basis at death is so convenient for resetting people’s basis that there would be a huge outcry not only from everyday taxpayers but also from those preparing tax returns, such as certified public accountants and enrolled agents and others who prepare tax returns.
With the difficulty of determining the tax basis for property which may have been held for ten, twenty or more years, elimination of the Code Section 1014 basis adjustment provisions would be very unpopular and would make life much more complex.
So I for one do not expect this tax rule to be changed.
With interest rates at historically low levels, if you have assets with a significant change of appreciating in value, such assets may be sold to a trust for let’s say your children’s benefit, with the trust giving back to you a note payable in payment for the transferred assets. This sale can be structured to avoid current capital gain taxes and the note taken back can have a minimum interest rate of currently only about one-half of one percent (i.e. 0.50%).
If the transferred assets provide a return of more than 0.50%, the return in excess of 0.50% accrues to the benefit of the Children to their trust, thereby reducing the growth in your estate which would otherwise have occurred if you had retained the appreciating assets.
If you have significant assets that you are willing to gift to someone else, giving up your claim to the principal, dividends and interest from such assets, now may be the time to pull the trigger on some major gifting strategies. If this might be you, call us at 702 938 2244 to schedule an in office or telephone appointment.