On December 22, 2017, the President signed H.R. 1, The Tax Cuts and Jobs Act, into law. The new law, which is generally effective on January 1, 2018, includes many far-reaching changes to the tax code which will impact individuals and businesses in a variety of ways. The changes to the estate and gift tax rules have potentially dramatic consequences for existing estate planning documents.
All estate plans should be reviewed to insure that they do not produce unintended results under the new law.
Here are the estate planning highlights from the final bill, as enacted into law:
|Estate, gift, and GST tax exclusion amount
|$5.6 million in 2018
|$11.2 million in 2018
Sunsets December 31, 2025
|Estate and gift tax rate
|40% – no change
|Basis adjustment at death
|Property owned at death receives a new FMV basis
Increased Estate & Gift Tax Exemption
The increased exemption amount means that a married couple can cumulatively transfer, during lifetime and at death, assets valued at up to $22.4 million without paying any estate, generation-skipping or gift tax. However, the increased exemption amount sunsets on December 31, 2025. In other words, on January 1, 2026, the exemption amount will drop back down to $5 million, adjusted for inflation. Thus, the increased estate tax exemption amount will apply only to individuals who die between January 1, 2018 and December 31, 2025.
Window of Opportunity to Transfer Wealth Before 2026
Although the increased estate tax exemption amount will apply only to the relatively small group of individuals who die during the years 2018 through 2025, the increased gift tax exemption provides an unprecedented window of opportunity to transfer large amounts of wealth through lifetime gifts to all those who can afford to do so. The new law presents the chance to transfer wealth to younger generations in a variety of structured ways with no tax impact. However, this opportunity will not last forever: Individuals must take advantage of the increased exemption amount to make gifts before the December 31, 2025 deadline.
No Change to Basis Adjustment Rules
Perhaps just as important as the increased exemption amount, the new tax law retains the existing rules governing basis adjustment. Currently – and continuing under the new law – all assets owned by a decedent at death receive a new basis equal to the fair market value of the property as of the date of death. Thus, for example, where a house has appreciated in value, this rule allows a surviving spouse to inherit the family home from the deceased spouse and to receive a step-up in the basis of the home to the current fair market value, so that the surviving spouse can sell the home without realizing any capital gain.
The basis-adjustment rule, combined with the increased exemption amount, means that individuals can potentially transfer significant amounts of property at death with minimal or no estate tax or capital gains tax.
Review Your Plan
These significant changes in the estate and gift tax environment warrant a careful review of your revocable estate plan. It is important to make sure that your plan does not result in a distorted or unintended result under the new law.
For example, if your plan provides that your remaining estate tax exemption is to be distributed to your children and the balance of your assets are to be distributed to your spouse, your children would receive up to $11.2 million, perhaps leaving your spouse with significantly fewer assets than you intended. Alternatively, your plan might provide that your estate tax exemption amount is to be distributed to a trust for the benefit of both your spouse and your children, putting them at odds with each other over the distribution of the trust assets. You may have been comfortable with these provisions when the exemption was $5 million, but with an $11.2 million exemption, such provisions may well need to be revised.
In addition, you may want to revise your plan to maximize the tax savings – both estate and capital gains tax – for your spouse, children, or other beneficiaries, by building certain flexible structures into your plan documents.
Given the extraordinary potential for savings of capital gains tax presented by the new rules, it may be worthwhile to review existing irrevocable trusts with an eye toward obtaining a basis adjustment for the assets held in such trusts on the death of the beneficiary. For example, a bypass trust formed for the benefit of a surviving spouse could potentially be included in the surviving spouse’s gross estate in order to obtain a new basis for the assets held in that trust without triggering any estate tax.
Further, given the changes in income tax rates and lack of deductibility of state income taxes, you might want to consider whether moving your irrevocable trust(s) to a state that does not impose state income tax might make sense, given the particular circumstances of the trust structure.
The ink on the new law is barely dry. It will take some time for all parties – taxpayers, professional advisers, and the IRS – to fully understand and interpret the new legislation. However, at this point we can be sure that the new law has substantially altered the estate planning landscape – at least for the next eight years.Because every estate plan is crafted specifically for the particular client, taking into account that client’s circumstances and the applicable laws in effect at the time, we strongly suggest that you contact us to arrange for a review of your estate plan so that we can make any changes that may be necessary in light of the new law.