Tax Planning

Adjustments in inheritance tax planning on the horizon

Related Practices and Jurisdictions

Friday 17th September 2021

Late in the evening of September 10th, the House Ways and Means Committee released an extensive tax package. The most published components are the increase in the top tax rates for ordinary income (to 39.6 percent) and capital gains (to 25 percent). But there are also two main components of inheritance / gift tax.

Every person has an “exemption” from inheritance / gift tax, which can be claimed either during their lifetime or in the event of death. That exemption is currently $ 11.7 million per person. A 40 percent state estate tax (in addition to an applicable state estate tax) may be levied on estates in excess of the exemption. According to current law, the exemption is to be reduced by 50 percent in 2026. However, the new proposal would postpone the 50 percent reduction date to January 1, 2022, so that individuals only have until the end of 2021 to take advantage of the current exemption. To use this, a person would have to donate more than $ 5.85 million by the end of 2021. Those with sufficient assets would ideally give gifts to take advantage of their entire $ 11.7 million exemption.

Second, the proposal would essentially eliminate one of the most useful estate tax planning techniques available: the deliberately flawed Grantor Trust, or “IDGT”. Many trusts used in estate planning such as (For more information on SLATs, see here.) An IDGT is a type of trust that is owned by the grantor for income tax purposes but is outside the grantor’s estate for inheritance tax purposes. This is beneficial because the donor can 1) give de facto tax-free gifts by paying the IDGT’s income tax liability, and 2) sell assets to the IDGT (often at a discounted value) without creating a realization event for income tax purposes. The new proposal would result in the property of an IDGT being “returned” to the testator’s estate for inheritance tax purposes, thereby nullifying the usefulness of the IDGT. However, the new proposal would consist in IDGTs created and funded before the bill is passed (i.e. when it is signed by the President), but not in terms of post-consumer contributions.

Finally, the proposal would eliminate the use of valuation haircuts for gifts (other than gifts from equity interests in active companies). This would eliminate the ability to “take advantage” of gifts with these discounts.

All of these are of course only suggestions. They cannot be passed or can be changed significantly before passing. However, if these proposals are adopted roughly in their current form, the impact on inheritance tax planning will be enormous. Because of this, any taxpayer planning to give gifts before the tax exemption is reduced should act quickly for three reasons: 1) to use the additional $ 5.85 million in tax exemption before it expires, 2) to the ability to use an IDGT while it is still possible; and 3) apply any haircuts while they are still available.

© 2021 Much Shelist, PCNational Law Review, Volume XI, Number 260

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