As many people are aware, Congress is considering changes to the federal tax code to support President Biden’s Build Back Better spending plan. As of this writing, on September 22, 2021, no bill has been enacted.
Concerned taxpayers and their advisors should pay attention to these potential developments as they may affect their present estate plan. The legislative outcome is not yet clear, but we are monitoring the following proposals:
- Timing of Enactment: Many, but not all, of the changes are proposed to be effective on January 1, 2022, which will give taxpayers and their advisors limited time to implement strategies and changes to estate plans. It’s expected that any transfers made to irrevocable trusts in the form of gifts using the present federal gift tax exemption ($11.7 million per person or $23.4 million per married couple) must be completed, including funding, prior to the enactment of any legislation.
- Estate and Gift Tax Exclusion Amount: Effective January 1, 2022, the federal estate and gift tax exclusion will be cut in half to about $6.0 million after adjustment for inflation. In essence, the new law may accelerate the sunset provision (i.e. roll-back) currently scheduled to take place in 2026.
- No “Clawback”: In the face of the potential of reduced exclusions amounts for estates and gifts as of January 1, 2022, grantors/donors may consider lifetime gifts this year totaling up to $11.7 million ($23.4 million for a married couple) for federal tax purposes. Such grantors/donors will not be faced with the IRS undoing the excluded gifts in the event that they die on or after January 1, 2022.
- Large Individual Retirement Accounts: IRAs with balances exceeding $10 million will face accelerated required minimum distributions, thereby subjecting such distributions to ordinary (increased) income taxes.
- Surcharge on High-Income Trusts and Estates: A new 3% income tax surcharge will be assessed on modified adjusted gross income above $100,000 for estates and trusts.
- Transactions for Grantor Trusts: The new legislation may include changes to the taxation of grantor trusts (trusts where the grantor retains certain powers over assets of the trust and the grantor remains subject to income taxation). This may affect what, if any, grantor trusts will remain as viable estate planning vehicles for individuals. In advance of any enactment, individuals would be advised to accelerate their planning. It appears that these changes will be effective on the date of enactment and that grantor trusts currently in existence will be grandfathered under the new law. These grantor trusts include grantor retained annuity trusts (GRATs), intentionally defective grantor trusts (IDGTs), qualified personal residence trusts (QPRT), irrevocable life insurance trusts (ILITs), and others.
- Elimination of the Stepped-Up Basis: There was a concern that new legislation might eliminate the Stepped-Up Basis available when a taxpayer dies, which allows for the heirs/beneficiaries of a deceased person to receive assets of the decedent on the basis of the value of the asset as of the date the decedent dies. The most recent proposal does not include the elimination of the Stepped-Up Basis. This appears to be welcome news for individuals who may hold appreciated assets until their death.
- High-Earners and Roth IRA Conversions: The proposal eliminates conversions of traditional IRAs to Roth IRAs for taxpayers that exceed $450k per year filing jointly, $400k filing as single, and $425k filing as head of household effective for tax years after December 31, 2031. All taxpayers will be unable to convert after-tax money held in an IRA or qualified plan to a Roth account (a so-called back-door Roth conversion) effective as of January 1, 2022 under the current proposal.
All of the discussed changes, as well as others related and unrelated to estate and trust taxation, are subject to further change. Individuals should discuss their plans with their advisors to determine how the proposed bill will affect their estate plans.