The clock is ticking on your opportunity to take advantage of certain estate planning and gift tax laws that are set to expire at the end of 2025. Careful planning now could allow you to leverage favorable lifetime gifting and estate planning strategies – if you act before the law changes. Director of Estate Planning Rodney Weaver explains how.
Q: Can you give us background on the expected changes to estate tax laws?
In 2017, Congress passed the Tax Cuts and Jobs Act, part of which involved a large increase to the lifetime gift and estate tax exemption, indexed for inflation. In 2022 the exemption limit stood at $12.06 million and for 2023, it’s $12.92 million. These high exemptions are set to expire – or sunset – at the end of 2025 and the exemption limit will most likely be cut in half and adjusted for inflation in 2026. That’s a significant change on the horizon.
Q: Who could be affected by these reduced exemptions?
If the current exemption were to sunset today, the exemption would fall to roughly $6.5 million per person or around $13 million per married couple.
It’s important to understand that your “estate” encompasses just about everything you own, from real estate and vehicles to certain life insurance policies, investments and banking accounts – and even jewelry. When the current limit is cut in half, it will impact a larger group of people, which could include anyone with more than one home, or a boat, a few retirement plans or investments. When you add it up, exceeding an exemption of $6 million to $7 million starts to look a lot more realistic. That’s why anyone with estates near or larger than these amounts should start exploring their options.
Q: The change is nearly three years away – why should people start exploring strategies now?
It’s never too soon to consult with a financial planner, estate attorney and tax expert to start to plan for the potential changes. Most of the strategies involve transferring assets and many involve setting up some form of irrevocable trust, so it can get complicated and it’s important to have your team of experts lined up in advance.
Q: After the 2024 elections, could a new Congress overturn the plan to sunset aspects of the TCJA?
That’s always a possibility. But if you think you will be facing higher estate taxes if the current exemptions do sunset, you might want to start exploring options now. We have clients who are just doing research at this stage, but we also have clients who are creating plans today – but not funding those strategies until sometime closer to when the exemptions will likely sunset and they can get the full benefit of the chosen strategy.
Q: What are some of the strategies individuals could begin discussing with their planners?
For many clients who will pay more tax if the exemption limit sunsets, the goal is to take advantage of the larger exemptions currently in place. The specifics of how to do this will vary with each client’s particular circumstances, and that’s why it’s important to start having this conversation with your planner sooner rather than later. But in general, there are several strategies that could apply, some of which include the below.
- Gifting strategies are one of the easiest ways to start reducing the size of an estate. One approach is to make large gifts to family members while the exemption is high. The entire exemption ($12.92 million) can be gifted to family members without incurring any current gift tax liability (married couples can utilize both spouses’ exemptions and gift $25.84 million). If well planned, large estates can be transferred to either bring about zero future estate tax liability or significantly reduce the amount of future estate tax liability. Gifts can be made directly to family members or into irrevocable trusts for those family members so that the parent/giver can control how and when funds are distributed to children/family members.
- A Spousal Lifetime Access Trust is an irrevocable trust that allows spouses to make completed gifts of nonretirement assets to each other for up to their entire estate tax exemption amount ($12.92 million), with no gift or estate tax liability. The second spouse can also make a gift into the trust for the first spouse of the same amount, thereby shielding a total of $25.84 million from gift and estate tax. Since each spouse is the beneficiary of a trust, while they are both living, they will be able to benefit from the funds in their respective trusts. When one spouse dies, that spouse’s trust will usually begin benefiting the children, not the surviving spouse.
- A Family Limited Partnership or Family Limited Liability Company can transfer certain business assets at potentially discounted values. An FLP or FLLC separates interests in the entity between a general partner (usually parents) who will have full control over business operations and limited partners (children) who can’t conduct business or sell their shares. Because these limited partnership interests have restrictions placed on them, they are able to be discounted – thereby lowering the value of the entity for transfer purposes. Limited partnership interests are transferred to the children at potentially discounted values, which allows more shares to be transferred.
- An Irrevocable Life Insurance Trust is a trust strategy designed to prevent your life insurance from being included in your estate where it would be subject to estate taxation. Since you create the trust, you control how, when and for whom the life insurance death benefit is used after your passing.
All these strategies can get complex and of course must be executed in strict accordance with legal and IRS rules. That’s why it’s absolutely essential that you work with an estate attorney, a tax professional and your financial planner to develop a robust, integrated strategy that will help you preserve your wealth for generations to come.
We are here for you for all of life’s financial moments. Talk with your planner if you have questions about this or any other financial topic.
The information regarding estate planning should not be construed as tax or legal advice and is for general informational purposes only.
Neither Edelman Financial Engines nor its affiliates offer tax or legal advice. Interested parties are strongly encouraged to include your qualified tax and/or legal professionals in these discussions and decisions to help determine the best options for your particular circumstances.