Proposed Tax Legislation Could Have a Significant Impact on Your Estate Plan | Manatt, Phelps & Phillips, srl
The two bills currently under consideration are commonly referred to as “for the 99.5% law,” which was introduced by Senators Sanders and Whitehouse, and the “Taxation and Fairness Promotion Act. 2021 ”or“ the STEP law ”, presented by Senator Van Hollen et al. Each bill proposes several technical changes to the Internal Revenue Code. The details of these proposals are too detailed to cover in this newsletter, but we provide a summary of what we believe to be some of the more notable changes below. Please note that these proposals are separate from and in addition to the “Made in America tax plan” recently outlined by the Biden administration. This plan deals primarily with corporate income tax and is not discussed in detail in this bulletin.
Proposed changes affecting estate plans
Bills Sanders and Van Hollen both propose changes to federal tax law that not only could disrupt existing estate plans, but could also have a significant impact on future estate planning. These changes, if enacted, would affect not only the amount that every US citizen is able to pay without inheritance tax on death (commonly referred to as “inheritance tax exemption”) and the rates of inheritance tax. matching estates, but would also reduce the effectiveness of many common estate planning techniques.
Property tax exemption and rate
Bill Sanders proposes to reduce the amount of the inheritance tax exemption to $ 3.5 million. This would reduce the amount of the exemption by over $ 8 million (the current exemption is $ 11.7 million). Additionally, the Sanders Bill would increase estate tax rates, creating a series of graduated rates with a maximum tax rate of 65%. The following example illustrates the impact of these changes:
The estate of someone who died today leaving assets valued at $ 11 million would pay no federal inheritance tax under current law (assuming the person had not made any taxable donations before). Under the changes proposed by the Sanders Bill, that person’s estate would pay approximately $ 4.7 million in federal inheritance tax, unless that same person “inherited” an exemption from tax. a previously deceased spouse, or that the estate be passed on in a manner that qualifies for an estate. tax deduction (for example, to a surviving spouse or to a charity).
If a decrease in the exemption amount is passed, most families will need to reassess the effects of federal estate tax when making decisions about their estate plans.
In addition to changing the inheritance tax exemption, Bill Sanders also proposes to reduce the lifetime gift exemption to $ 1 million. At present, the amount of the gift tax exemption is the same as the amount of the inheritance tax exemption, which essentially allows an individual to use all or part exemption of $ 11.7 million on donations made during his lifetime rather than waiting to use it upon death. Lifetime giving strategies can be an effective and efficient way to use the exemption amount, if implemented correctly with the right assets. This reduction in the gift tax exemption would limit the effectiveness of many lifelong giving strategies.
The Sanders Bill would also place limits on certain types of donations eligible for the annual exclusion of donation tax (currently $ 15,000 per recipient), limiting each donor of an annual donation to a cumulative amount equal to the double the annual exclusion. This would apply to gifts to irrevocable trusts or other transfers of property that cannot be immediately liquidated by the donee. These changes could disrupt estate plans which include a model of annual donations to trusts, especially irrevocable life insurance trusts.
Recognition of death assets for certain trusts
Under applicable tax laws, assets that are included in an individual’s estate for federal estate tax purposes receive what is known as an “increase in base” for tax purposes. Income. This means that beneficiaries who inherit the property are not required to pay income tax on any capital gain incorporated into the property, and a beneficiary’s base in the inherited property, for the purposes of the income tax, is adjusted to fair market value at the time of death. . This essentially eliminates any capital gain at the time of death, so the beneficiary only has to pay income tax on gains accrued after the date of death.
The Van Hollen Bill would require the estate to recognize the gain on the property passed on at death, as if the property had been sold, which would make the gain subject to income tax at that time. The bill would also result in the recognition of gains on property transferred by life donation (either direct or in trust) and would require certain trusts to periodically pay capital gains tax on the property in trust.
Other changes: Cedant trusts, FREE, valuation rules, generation leap transfers
The bills include a number of other changes relating to specific estate planning techniques, including ceditor-kept annuity trusts (FREEs), trusts often referred to as “ceditor trusts” and the rules relating to transferor. valuation of family companies, LLCs and partnerships for gift and inheritance tax purposes. Bill Sanders also proposes changes to the application of the Skip Generation Transfer (TPS) tax exemption. It is not possible to cover the details of these proposals here, but be aware that they could significantly decrease the effectiveness of some estate planning techniques in many cases.
When will these changes occur?
At this time, it is not possible to know for sure if and when these changes may occur. None of these bills has been passed by the Senate. They may never be adopted or may be amended before they are adopted and sent to the House for consideration. It is important to note that some changes are drafted to apply retroactively, to January 1, 2021. However, the proposed reduction in gift and inheritance tax exemptions, as currently drafted in the bill Sanders, would not apply until January 1, 2022. If this bill is finally enacted with this effective date with respect to these exemptions, this would encourage taking advantage of the currently higher exemption amount by making donations before the end of this year (although, due to the Van Hollen exemption bill, it may be best to carefully consider the type of asset used to make these donations, so as not to transfer any goods with a significant latent gain).
In addition, other proposals relating to transferor trusts, FREEs and valuation rules are currently being drafted to come into effect immediately after the promulgation date and (in the case of certain proposals relating to transferor trusts) may provide for “acquired rights” for trusts created before the date of promulgation. Therefore, in some cases, those who might benefit from these estate planning arrangements may consider implementing them before any new law is passed.
What you might want to do
Given the number of changes proposed in the Sanders and Van Hollen bills and the uncertainty as to whether they will be passed, with or without amendment, it is not possible to make a general statement on how individuals should react. to these proposals. Estate planning always requires an analysis of the individual situation and goals of each client, but this is especially true when it comes to this bill. It is likely to have a disparate impact on a particular individual or family depending on their level of wealth, the assets involved, and the extent to which a prior estate plan has been put in place.