By Jeffrey R. Wolfe, Senior Vice President, Manager of Wealth Planning Strategies
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As we wrap up Estate Planning Awareness Week for this year, there’s an elephant in the room among estate planners: the latest tax proposals from the Congressional Ways and Means Committee. There are dozens of proposals including income tax changes, retirement plan changes and the like, but for our purposes we will focus on the gift and estate tax changes.
First, it’s important to note these are only committee proposals. Since these proposals became public in late September, negotiations on these proposals have become paired with the various infrastructure and social relief proposals. Consequently, there is a long way to go before any of these proposals could become law, but there are significant changes offered. Here are some of the key points:
- Cutting the transfer tax exclusion in half starting in 2022. Current law stipulates that the exclusion is to be cut in half January 1, 2026. This proposal would accelerate the date to January 1, 2022. If this passes, the exclusion will be somewhere near $6 million as opposed to the current exclusion of $11.7 million. The tax rate, 40%, will not change.
- Causing “grantor trusts” to be included in the grantor’s estate. This change is rather technical, but it would be a seismic change in planning for families that face a potential estate tax. While this is an overly simple explanation, in short a “grantor trust” in tax jargon is a trust that is out of the estate of the grantor for estate tax purposes, but the grantor holds certain rights that require the grantor to pay the income tax on the trust. That’s important because paying tax isn’t a gift for gift tax purposes meaning the trust beneficiaries, in essence, receive an income tax free trust asset and the grantor lowers the value of their estate by paying the taxes. Moreover, the grantor can enter transactions with the trust that don’t cause income tax consequences. This allows for significant planning opportunities for families facing estate tax. The proposal says that it will “grandfather” any existing grantor trusts, but if transactions/gifts/etc. happen after enactment of the change in the law, that would cause the grandfathered trust to come back into the grantor’s estate for estate tax purposes. This is a game changer. “Traditional” planning strategies like an Irrevocable Life Insurance Trust (ILIT) may be affected by such a change. More complex planning, like the newly popular Spousal Lifetime Access Trust, or Intentionally Defective Grantor Trusts or sales to such a trust would become potentially obsolete.
- Eliminating valuation discounts in closely held businesses. This again is a commonly used technique that would be a game changer for any family-owned businesses and transferring ownership in a tax efficient manner. Discounts for such businesses, often granted for minority ownership or voting restrictions, would be eliminated.
- What’s not proposed? Sometimes you learn more when no proposals are submitted. In this case, the proposals state nothing about reducing/eliminating generation skipping tax (GST) trusts (aka Dynasty Trusts). There was lots of chatter about GST trusts getting limited to as few as 50 years, so it’s good to see this technique should survive for now.
So, what’s the takeaway here? First, nothing has happened yet, so there’s no reason to panic. That said, if you have been considering large taxable gifts, grantor trust planning, or an ILIT, these opportunities may disappear soon. While predicting congressional action is impossible, if any changes are to happen, they will likely happen quickly and at the end of the year. Therefore, review your current plan with your tax and legal advisors and see whether you should act soon.
Benjamin F. Edwards does not provide tax advice; therefore, it is also important to consult with your tax professional for additional guidance tailored to your specific situation.