Significant changes to tax rates and deductions are on the horizon due to the expiration of the provisions in the Tax Cuts and Jobs Act (TCJA). Most of the changes to the tax code introduced by the bill went into effect at the beginning of 2018 and will expire on December 31, 2025.
Here’s a look at some changes that might affect you regarding estate planning and how you can prepare for their sunset.
Estate and Gift Tax Exemption
One of the most significant changes will be the reduction in federal estate and gift tax exemptions. Under the TCJA, the exemptions were effectively doubled. As of January 1, 2024, the exemption is $13.6 million and $27.22 million for a married couple. However, these increased exemptions are set to revert to in half to approximately $7 million ($5 million adjusted for inflation) after 2025. Taxpayers in this range may be subject to the estate tax come January 2026.
To take advantage of the current higher exemption limits, you may consider making substantial gifts to heirs or setting up trusts. This could help reduce the size of your estate and minimize potential tax liabilities.
If you anticipate that your estate will exceed the pre-TCJA exemption amount, now is the time to review and potentially adjust your estate plan with your tax advisor.
Strategies for Gifting
Gifting of Non-Publicly Traded Assets
An effective way to transfer wealth is to use assets that qualify for valuation discounts and have long-term growth potential. Utilizing these assets as gifts can help with non-tax benefits such as asset protection, distribution safeguards, and multigenerational wealth protection.
Grantor Retained Annuity Trusts
A Grantor Retained Annuity Trust (GRAT) is an estate planning tool that allows individuals to transfer wealth to beneficiaries while minimizing gift and estate taxes. In a GRAT, the grantor transfers assets into the trust and retains the right to receive fixed annuity payments over a specified term. After the term ends, any remaining assets in the trust are passed on to the beneficiaries, typically family members, without further gift tax consequences. The success of a GRAT relies on the appreciation of the assets transferred; if the assets grow at a rate higher than the IRS's assumed interest rate (known as the Section 7520 rate), the excess appreciation is transferred tax-free to the beneficiaries. GRATs are often used to transfer assets efficiently, particularly when market conditions are favorable for asset growth. However, if the grantor dies before the end of the trust term, the assets are included in their estate.
Spousal Lifetime Access Trust (SLAT)
A Spousal Lifetime Access Trust (SLAT) is an irrevocable trust designed to provide financial benefits to a spouse while potentially reducing the taxable estate of the grantor. In this arrangement, one spouse (the grantor) transfers assets into the trust for the benefit of the other spouse (the beneficiary), while still allowing indirect access to the assets. The trust can provide income or principal to the beneficiary spouse during their lifetime, and upon their passing, the remaining assets are passed to other beneficiaries, often children, free of estate taxes. This strategy allows you to use the full $14 million exemption while the spouse still has access to income and assets of the trust. A SLAT is commonly used in estate planning to take advantage of the gift tax exemption, while maintaining some flexibility for the couple, but it must be carefully structured to avoid potential pitfalls like the reciprocal trust doctrine, which could undo the tax benefits.
We’re Here to Help
By reviewing your estate plan, consulting with professionals, and staying updated on legislative developments, you can mitigate potential tax liabilities and protect your assets for future generations.