Important Year-End Tax Planning

By William G. Smith and Brittany E. Cobb

There are a number of steps that can be taken this year to reduce your future estate tax liability, should certain tax proposals be enacted.

Depending on the outcome of the November 3^rd elections, Congress could make immediate and substantial changes to the tax code, including significantly reducing the estate and gift tax exemption amounts and increasing estate, gift, and income tax rates. If these changes are enacted, existing estate and gift tax exemption amounts could be decreased by more than half.

If one of the leading alternate tax proposals were to be enacted, it is possible that lifetime estate and gift tax exemptions could be reduced from $11.58 million ($23.16 million for married couples) this year to $3.5 million ($7 million for married couples), and the gift tax exemption could be reduced even further to $1 million, which was the gift tax exemption during years 2002 through 2010. This reduction in exemption could cost a family in excess of $8 million in additional estate taxes.

Determining what estate and gift tax planning should be done now is a complex analysis that must be tailored to specific assets and needs. Some individuals and families are not in a position to make significant gifts, and all should feel comfortable that they have retained sufficient cash flow for the rest of their lives.

• If individuals have more than enough assets to maintain their current lifestyle for the remainder of their life and feel comfortable making gifts of up to $11.58 million ($23.16 million for married couples), reduced by any previous taxable gifts they have made, and have high-income tax basis assets, then they can easily proceed with making 2020 gifts to the intended beneficiaries (typically to trusts created for their benefit) and using the current gift tax exemptions.
  
  
• For individuals who are not comfortable gifting significant wealth, but are comfortable making transfers with their spouse, transfers to Spousal Lifetime Access Trusts (“SLATs”) should be considered, which take advantage of their remaining lifetime estate and gift tax exemptions, and yet still provide their spouse the ability to access the funds in the event they are needed.

In addition to the estate and gift tax issues described above, the leading alternate tax proposals would increase the top marginal tax rate on long-term capital gains and qualified dividend income from 20% to 39.6%. The proposals would also eliminate the step-up in income tax basis upon death. If enacted, these changes would create significant additional income tax planning concerns.

If an individual owns stock of a closely-held business and has not made significant transfers of stock to family members, now is a good time to do so. The gift tax exemption is as high as it has ever been, interest rates are historically low, and the values of some businesses have been depressed by the pandemic. This planning is most effective for those with a significant amount of high-income tax basis assets, such as cash and some stocks and bonds. If Congress does not take away income tax basis step-up provisions, then those individuals may have the ability in the future to exchange high-income tax basis assets for low basis closely-held stock held in their “grantor” trusts prior to death.

Although the analysis and decisions discussed may be complex, time is of the essence and year-end planning concerns are critical. While taking no action this year is a reasonable option, these decisions should be made based on an understanding that there may be significant tax benefits by acting now. 

Some may prefer to wait until after the election to proceed, but many are predicting the election results might not be known until well after Election Day, leaving insufficient time to craft and implement a comprehensive tax strategy as the year comes to an end. In addition, certain planning, such as SLATs, if created for both spouses, are recommended to be executed at different times, with as much time as possible between executions. Further, banks and other financial institutions need time to set up the necessary asset accounts and to complete the requisite transfers. Therefore, planning discussions cannot wait until December.