Many consultants saw a flurry of gift and estate tax planning in the final quarter of 2020. Smart high net worth clients gave gifts before the year end to secure the substantial amount of exemptions available ($ 11.58 million in 2020 and $ 11.7 million in 2021). . These exemptions are slated to expire in late 2025, but the Biden government has expressed a desire to reduce the exemption amounts significantly much earlier.
The result of the Georgia Senate runoff on January 5, 2021 confirmed that the Democrats control the Senate (with the groundbreaking vote by Kamala Harris) as well as the House of Representatives and the Presidency. This new reality has made tax laws far more likely and has led customers who previously reluctant to give gifts to reconsider this decision.
Giving gifts is now more complicated than it was two months ago, due to the possibility of retroactive tax legislation. While it may seem unfair to many, it is possible for Congress to legislate retrospectively in the same year, and that could happen this year.
It is important for practitioners to advise clients on this risk and also on options for potential risk mitigation. For example, a customer can give a gift to a QTIP Marital Trust and later check whether or not to make a QTIP election.
Another option is for a customer to give a trust a gift that includes a formula assignment clause, provided that any gifted amounts in excess of the customer’s tax exemption (as finally determined for gift and estate tax purposes) are given to an incomplete gift Trust are passed on. The incomplete gift trust can give the customer the authority to allocate the excess gift assets to their spouse, thereby avoiding the application of gift tax. If a customer is unmarried, the excess gift amount may be given to a Grantor’s withheld Annuity Trust (“GRAT”) rather than an incomplete gift trust.
A similar option is to include a formula in the referral documents. For example, a customer could cede an LLC interest with a value equal to their remaining gift tax exemption, as eventually established for federal gift and estate tax purposes. While these specific types of formula gifts have not been tested, the documents could be written to match the one described in Wandry v. Commissioner (TC Memo 2012-88) come as close as possible and the formula used in Nelson v. Commissioner (TC Memo 2020-81).
Practitioners should ensure that their clients are well informed about the gift options and the risks associated with each of those options. 2021 promises to be another busy year for gift and estate tax advisors!