Tax Changes are Coming. Is Your Estate Plan Ready?
Although none of us can predict the future, the current state of the American economy and American politics lead many to believe that tax increases are headed our way, many of which affect our legacies. Even if our economy begins moving again and the U.S.’s Executive and Legislative branches maintain the status quo after the elections in November, change is still written into the current tax laws that could also have an impact on your estate plan. This article will review the current laws that affect estate planning, the current state of our economy, the proposals being made by politicians for tax law increases, and what you can be doing now if you have concerns.
Current Estate and Gift Tax Law
With the passage of the 2017 Tax Cuts and Jobs Act, the Federal Estate and Gift Tax exemption, which is the amount of assets that each person can give away, during lifetime or at death, free of tax, was increased from $5 Million to $10 Million, with increases for inflation. In 2020, each person can give away up to $11.58 Million in assets without having to pay a federal gift or estate tax. Unless Congress passes another tax law prior to 2026, this exemption is scheduled to “sunset” back to $5 Million. With increases allowed for inflation, the exemption for gifts or bequests made after December 31, 2025 will be approximately $6 Million.
IRS passed “anti-clawback” regulations in late 2019 that state that gifts made in excess of $5 Million between 2018 and 2025 will not be subject to additional tax if the taxpayer dies after 2025. For example, John makes a gift of $10 Million in 2020 when the exemption is $11.58 Million, and the entire gift is sheltered from gift tax. If John passes away in 2026 when the exemption is only $6 Million, the amount of the gift that exceeds the exemption ($5.58 Million) will not be taxed pursuant to the regulations.
In addition to the gift and estate tax exemption, taxpayers currently benefit from another tax break known as the step-up in basis. Assume that John from our previous example inherited Exxon stock from his father when the value of the stock was $20,000. John’s basis in the stock is $20,000. Twenty years later, that stock is worth $50,000. If John were to sell that stock, he would have to pay a capital gains tax on the difference between $50,000 and $20,000. Even so, current tax law provides for a maximum tax rate of 20% on capital gains. If, instead of selling the stock during his lifetime, John leaves the stock to his children at death when the stock is valued at $50,000, his children would receive a step-up in basis from $20,000 to $50,000 and would not have to pay a tax if immediately sold. They would only have to pay a tax on any appreciation above $50,000.
The American Economy
The United States has steadily increased the federal debt since 2000. The debt-to-GDP ratio has also increased, and according to the most recent Financial Report of the United States Government (fiscal year 2019), the current fiscal policy is not sustainable. The projections in the report assume that the provisions of the Tax Cuts and Jobs Act are permanently extended – meaning no reduction in the gift and estate tax exemption. The report states that making fiscal policy sustainable over the next 75 years would require some combination of spending reductions and receipt increases that equals 3.8% of GDP. Delaying any kind of fiscal reform for just 10 years would require spending reductions and receipt increases equal to 4.5% of GDP.
In 2019, the U.S. Government spent $4.4 Trillion and the budget deficit was $984 Billion. The measures taken in response to the coronavirus are expected to triple the projected budget deficit for 2020 to $3.5 Trillion.
Proposals for Tax Law Change
Some politicians have proposed that the gift and estate tax exemption be reduced to $3.5 Million. Some have proposed that the step-up in basis be eliminated, that the capital gains tax be paid at the time of the transfer, and that the favorable tax rates on capital gains be eliminated. Going back to the example of John and his Exxon stock, not only could he have diversified his portfolio over the years as his financial advisor has been encouraging him to do, but under this proposal, the $30,000 in gain that he has in that stock will now be subject to tax, either at his death or when he gives it away.
What Should You Be Doing Now?
Please try to avoid the temptation to wait and see who wins the election in November. Any changes are expected to happen quickly and there may not be enough time to put an effective plan in place if you wait. If you have or expect to have assets valued at $3.5 Million or more, or you own a highly appreciated (or appreciating) asset or business, we recommend that you make an appointment right away to have your estate plan reviewed.
Ask Kit Kat: Elk Back in Kentucky
Hook Law Center: Kit Kat, what can you tell us about elk being back in Kentucky, the first time in almost 175 years?
Kit Kat: Well, I always love it when there is a happy outcome in nature! And that was what has happened. Elk, at one time, were quite plentiful in Kentucky. That was back in the late 1700s when Daniel Boone lived there. Mr. Boone said he found “everywhere abundance of wild beasts of all sorts, through this vast forest.” Then, land development, coal mining, and hunting gradually eliminated buffalo, turkey, whitetail deer, river otters, bald eagles, and quail. The last elk was killed before the Civil War. However, thoughtful individuals in present-day Kentucky decided to intervene. With coal mining in decline, there were large tracts of land sitting idle. What to do with the land that was scarred by strip mining and mountaintop removal? Over time, conservationists realized these abandoned coal areas with their mountaintops sheared off offered a more gentle landscape. As the areas became green again, they offered the perfect environment for the re-establishment of a host of species.
The process began in 1944 when the Kentucky Department of Fish and Wildlife was established. Whitetail deer around the time of the Great Depression numbered about 1,000. Today, there are more than 1 million. Hunting license fees, tourism, and the sale of rifles, ammunition, and other gear have generated income to the state on an annual basis of $550 million. This was followed by a project in 1997 by the Rocky Mountain Elk Foundation to airlift more than 1,500 elk to Kentucky from the western United States. It was ambitious to say the least, but the project was a huge success! The place where the elk were released was in eastern Kentucky, a vast, largely sparsely populated area where coal mining had taken place. The sheared-off mountaintops were transformed into gentle plateaus—perfect for the elk to graze. Elk usually consume about 40 pounds of vegetation per day, so they need a mix of landscapes. There are now approximately 13,000 elk spread over the 16 counties of coal country. The elk are thriving, and so are the previously impoverished areas. With hunting fees and tourism, it is estimated that elk bring in about $5 million to the local economies. In 2022, Boone Ridge will open, furthering this trend. It is a 12,000-acre property, which is a nonprofit nature preserve. Consultants have estimated that it will entice more than 1 million visitors annually and generate over $150 million to the local economy.
Now isn’t that a wonderful way in which our beloved wildlife thrive, and human visitors get to enjoy them! (Oliver Whang, “Elk Return to Kentucky, Bringing Economic Life,” The New York Times, June 30, 2020)