Tax reform made to sweeping changes to the tax code. The notable change to gift and estate tax is the doubling of the lifetime gift tax exemption from $5 million to $10 million, adjusted for inflation. This increased lifetime exemption opens the door for enormous estate planning opportunities. However, this change is only temporary. Click the link below to learn more.
When considering gift and estate taxes, there are two important concepts every taxpayer should be aware of: the lifetime estate and gift tax exemption and the annual gift tax exclusion.
- The lifetime exemption is the total amount of taxable transfers a US citizen can make during lifetime and at death without incurring any gift or estate tax. Any transfers made in excess of the lifetime exemption are subject to estate tax.
- The annual exclusion is the amount that one person may transfer to another each year as a gift without being treated as taxable. Any gifts made in excess of the annual exclusion are considered taxable gifts and count against the donor’s lifetime exemption.
Use of Applicable Exemption Amount to Reduce Estate and Gift Tax
As a result of the Tax Cuts and Jobs Act, the lifetime estate and gift tax exemption has doubled. In 2019, that amount is inflation adjusted to $11,400,000. The increased exclusion is only available for individuals who die or for gifts that are made after 2017 and before 2026. In 2027, this exemption is set to revert back to the original $5 million base amount. The temporary increase presents enormous estate tax planning opportunities for both individuals and couples.
Once an individual’s lifetime gifts or estate exceeds the exemption threshold, all additional taxable gifts or estate value are taxed at the 40% rate. Therefore, any planning that reduces the value of an estate subject to this tax can create large savings. There are two main strategies for taking advantage of the exemption increase; keep in mind that these strategies are often beneficial even without the temporary changes.
The first strategy is to take advantage of the portability election. Portability is an election filed on an estate tax return that allows the transfer of any unused exemption from a deceased spouse to a surviving spouse. This concept becomes especially important for married couples who have an estate that is not taxable under current law, but may be taxable after the temporary exemption increase is over.
The second strategy is to make gifts to individuals or irrevocable trusts up to the maximum lifetime exemption under current law. By making the gifts now, the gifted assets are removed from your estate. Therefore, even after the exemption is reduced back to original levels, these assets will not be subject to estate tax upon your death. It is important to keep in mind that if an asset is given during lifetime, the donee takes the donor’s tax basis (cost). If an asset is acquired from an estate at death, the basis is the value of the asset at the date of death. Therefore, it is important to understand the additional tax consequences and consider asset selection when making gifts during your lifetime.
It is also important to note that the generation-skipping transfer (GST) tax exemption for transfers that are deemed to “skip” a generation, such as gifts to your grandchildren or anyone 37.5 years younger than you, has also doubled and inflation-adjusted to $11,400,000. Like the estate and gift tax exclusion amount, the increased GST exemption amount is only available for transfers made after 2017 and before 2026. However, unused GST exemption does not qualify for portability. Like the estate and gift tax rates, the rate used for calculating the GST tax is 40%. The GST tax applies in addition to the gift or estate tax.
Annual Gift Tax Exclusion
The most common method for tax-free giving is the annual gift tax exclusion. In 2019, this amount is $15,000. Any individual can directly gift $15,000 to any person without reducing their lifetime gift tax exemption amount. Because the annual exclusion is applied on a per-donee basis, a person can leverage the exclusion by making gifts to multiple donees (family and non-family). Thus, if an individual makes $15,000 gifts to 10 donees, he or she may exclude $150,000 from their estate. In addition, married couples may effectively double the amount of the exclusion to $30,000 per recipient.
The annual gift tax exclusion applies to gifts of any kind of property, as long as the gift is of a present, rather than a future, interest. Gifts of appreciated property also could result in income tax savings to the donor, because the recipient would pay the capital gains tax on any sale. Therefore, before giving away appreciated property that is likely to be sold, consider the income tax cost to the recipient.
The increased estate and gift tax exclusion amount for 2019 gives individuals even more opportunities to transfer assets to their desired loved ones without incurring estate and gift taxes. If you wish to take advantage of the planning techniques that are described above, please feel free to contact us at 858-558-9200.