Estate Planning Update and Opportunities in Light of Tax Reform

January 22, 2018

On December 22, 2017, President Trump signed Public Law No. 115-97, more commonly known as the “Tax Cuts and Jobs Act” (the “Act”), into law.

Below we have provided a brief summary of several important changes from the Act that may impact your estate planning. These include:

Temporary Increase of Applicable Exclusion Amount and GST Exemption. While the estate tax was not eliminated, as some had hoped, the Act doubled the amount of wealth that escapes federal transfer taxes. As of January 1, 2018, the new law exempts approximately $11 million dollars for individuals and $22 million dollars for couples (the exact amount depends on an as yet undetermined inflation adjustment) from estate, gift, and generation-skipping tax (“GST”).  This means that a married couple can now transfer approximately $22 million dollars during life or upon death, gift, estate and GST tax free.  Importantly, however, this aspect of the law sunsets on December 31, 2025, at which time the exemption will revert to prior law ($5.5 million indexed).

Consider Making Lifetime Gifts. If you can afford to do so, you should consider using this additional $5.5 million exemption ($11 million for a married couple) before it is reduced by making outright gifts or, preferably, a gift to an irrevocable “dynasty” trust.  A dynasty trust is a generic term for a trust that can last multiple generations through the combined application of the GST exemption and gift tax exemption to transfers to such trust.  A gift to a dynasty trust will shift future appreciation and secure the use of the additional applicable exclusion amount and GST exemption notwithstanding the eventual sunset of the new law.1 Additional leverage of the increased exemption can be utilized by making loans or selling assets to grantor trusts.

Married persons will want to consider designating one’s spouse, as well as one’s descendants, as beneficiaries of such a trust so as to maintain maximum flexibility.  Single clients and some married clients may want to create a self-settled spendthrift trust in states like Delaware in which one can remain a discretionary beneficiary of one’s own trust.

In addition, those clients who have existing trusts where GST exemption has not been previously allocated may want to consider making a late allocation up to the increased GST exemption amount without incurring a GST tax.

Given that these significant increases are temporary we urge you to contact us to schedule a timely review of your estate plan.

Basis Opportunities. If your wealth is below the increased exemption amount and you have made gifts of assets that have significant appreciation, you may want to consider whether to unravel those gifts in order to obtain a step up in basis at death.  But caution is needed since, as noted, the Act sunsets in 2026 when exemptions are set to revert back to 2017 levels.

If you have parents with more modest means, consider gifting low basis assets to them in order to obtain a stepped-up basis upon their deaths.

Need to Review Current Wills. The estate plan of many married couples is often crafted using a formula clause providing that the maximum federal estate tax exemption amount should pass to a "Family Trust" (also known as a "Credit Shelter Trust") upon the death of the first spouse and the balance of the estate should either be distributed outright to the surviving spouse or, alternatively, pass to a "Marital Trust".  Such a plan was designed to ensure that no federal estate tax would be due until the death of the second spouse, while at the same time taking maximum advantage of the available federal estate tax exemption.  Now that the federal estate tax exemption amount has increased to more than $11 million the formula clause may not work as originally intended. 

In addition, formula clauses tied to the federal estate tax exemption amount could also lead to a significant New York estate tax liability (see next Article).

Clawback. The Act directs the Treasury Secretary to prescribe whatever regulations may be necessary to carry out the purposes of calculating estate tax with respect to differences between the basic exclusion amount in effect at the time of the decedent’s death and at the time of any gift made by the decedent. It is not clear at this time whether there will be a “clawback” of the increased applicable exclusion amount or GST exemption if the donor dies after the Act sunsets.

Step-Up Basis is Preserved. The Act continues to permit appreciated property to pass to heirs at death with a “stepped-up” income tax basis.

1Note that Connecticut residents should gift with caution as transfers over $2.6 million in 2018 will be subject to gift tax.  Since New York does not impose gift tax and currently limits the estate tax exemption to $5.25 million, clients who make lifetime gifts of their full Federal exemption will effectively avoid New York estate tax on twice the state exemption.