Current exemptions and tax rates on inheritances, donations and generational transfers could be affected by the adoption of new tax legislation
US plan for President Biden’s families would eliminate base increase in case of death
The For the 99.5% bill includes provisions that could significantly affect the way wealth is transferred and restrict widely used estate planning techniques.
Under new administration, proposed tax legislation has been introduced that could have a significant impact on personal and estate tax planning. While it is not clear if, or when, any of these proposals will be enacted, it is vitally important to be prepared and plan ahead.
While many provisions enacted under the Tax Cuts and Jobs Act of 2017 expire in the next few years, changes could occur sooner if any of the recently proposed laws are enacted.
The American Families Plan, announced by the Biden administration, aims to close tax loopholes that are believed to allow high net worth individuals to avoid inherited wealth tax. The For the 99.5% Act, sponsored by Sen. Bernie Sanders and Representative Sheldon Whitehouse, aims to reduce the planning strategies used primarily by 0.5% of wealthy Americans to avoid tax.
Current law in 2021
The current tax exemption on estates, gifts and generational transfers (GST) is $ 11.7 million per person, with a maximum tax rate of 40%, which is expected to “extinguish” at the end of the day. end of 2025 to pre-2018 levels at around $ 6. million dollars ($ 5.6 million adjusted for inflation). An annual exclusion of $ 15,000 per donee / per year is also available to individuals, with no limit as to the number of donees. On death, some assets receive a âstagingâ of the base cost, which means that its base becomes its value at death. This may result in the elimination of taxable gains on inherited assets. Capital gains and dividend tax rates are currently 23.8% (including tax on net investment income), and the top personal income tax rate is 37 %.
Proposed changes as part of the U.S. plan for families
As part of its American Families Plan (the Plan), the Biden administration proposed removing the base increase. While it has not been specified how this will be implemented, it will most likely mean that upon death, a capital gains tax would be imposed on any unrealized gains that exceed $ 1 million. Under the current law, if a person buys a stock for $ 10, never sells it, and the stock is worth $ 100 when the person dies, the $ 90 gain is never taxed, and the base of l The share in the hands of the heirs will be increased (or “raised”) to $ 100.
Under the plan, the $ 90 gain would be taxed, but only if and to the extent that the total gain of all unsold assets exceeds $ 1,000,000. Therefore, if a person purchases a business for $ 250,000 and is worth $ 2,000,000 upon death, the untaxed gain would be $ 1,750,000, of which $ 750,000 would be subject to income tax. capital. The $ 1 million exemption is intended to exclude small estates and would not apply to charitable donations. The $ 250,000 exemption for principal residence gains would remain in place and add to the $ 1 million. Exceptions would apply to some family businesses and farms, with a 15-year payment plan allowed for illiquid assets. It is not clear whether this would replace or supplement the imposition of an inheritance tax on large estates – potentially subjecting estates to historically high effective tax rates.
Additionally, capital gains and dividend tax rates could reach 43.4% (39.6% plus 3.8% net investment income tax) for those with gross income greater than $ 1 million (although it has been suggested that this threshold could be as low as $ 400,000). The top marginal rate for people earning over $ 400,000 would also be increased to 39.6%.
The estate tax exemption was not addressed as part of the plan, although it has been suggested that Biden offer a cut to $ 3.5 million. The plan has a proposed effective date of January 1, 2022.
Proposed changes under the 99.5% Act
At the end of March, the For the 99.5% law (the law) was presented to Congress and proposes several changes that could significantly affect the way wealth is transferred, including:
- Reductions in exemptions and increases in tax rates. For gifts and estates occurring after December 31, 2021, the law would reduce inheritance and gift tax exemptions from their current high level and increase the top tax rates as follows:
- Gift tax exemption reduced to $ 1 million
- Estate transfer and generation leap tax exemption reduced to $ 3.5 million
- Inheritance tax rate:
- $ 3.5 million to $ 10 million: 45%
- $ 10 million to $ 50 million: 50%
- $ 50 million to $ 1 billion: 55%
- $ 1 billion and over: 65%
- Discounts on annual exclusion gifts. Beginning in 2022, the law would reduce the annual exclusion to $ 10,000 per year / per donee and limit the donor to $ 20,000 in total annual exclusion donations. These limits will severely restrict an individual’s ability to give gifts without using their lifetime exemption.
- GST Tax Planning Limits. The GST tax is imposed on transfers of wealth to generations two or more distant from the donor, in addition to the gift or inheritance tax. However, like the gift and inheritance tax, an exemption is available. Trusts can be structured to maximize the use of this exemption to pass wealth down through generations without being subject to the GST. The Act, however, proposes to reduce the GST exemption and cap the term of trusts that are GST-exempt at 50 years – presumably assessing the GST at the end of the period at the same rate as estate tax. This amendment would come into force upon promulgation.
- Limits on appraisal discounts. Currently, restricted business interests can be discounted due to the lack of negotiability and minority interests, allowing a greater amount of assets to be transferred at a lower inheritance tax cost. The law proposes to eliminate or reduce allowable discounts for businesses that are not actively engaged in a trade or business, thereby reducing planning for family entities frequently used in estate planning to effect an efficient transfer of wealth. . This amendment would come into force upon promulgation.
- Changes to the taxation of irrevocable grantor trusts. Irrevocable grantor trusts remove assets from an individual’s taxable estate, but are structured so that the individual is deemed to own the assets of the trust for income tax purposes. By forcing the settlor to pay income tax, it leaves the trust property intact, while further reducing the settlor’s taxable estate. The law would require that settlor trusts be included in the settlor’s taxable estate on death, and any distributions to beneficiaries would be subject to gift tax. This proposal would also apply to insurance trusts, which would not only affect the ultra-rich. This amendment would come into force upon promulgation.
- Changes to Annuity Trusts Retained by Grantor (FREE). FREEs are a common planning technique for transferring capital gains on assets outside the taxable area. A zero charge allows a transfer with little or no tax on donations due. The Libres pays the settlor an annuity for a certain period (generally two years), and the appreciation of the assets of the trust which exceeds the applicable rate is transferred from the taxable patrimony to the beneficiaries. The shorter term allows for greater leverage to capture market rises, without having to account for the inevitable decline. The law would require a minimum ten-year period of the GRAT and would require that a gift tax be assessed on the greater of $ 500,000 or 25% of the value of the property used to fund the trust. This would eliminate the most beneficial aspects of using this type of planning.
Considerations for the coming year
If any of these tax proposals are passed as currently suggested, common estate planning techniques used to effectively and efficiently transfer wealth to future generations will be significantly restricted or eliminated. We continue to monitor the progress of these proposals, but since the changes should not be retroactive, it is now time to consider taking advantage of existing provisions and tax rates.