Trust and estate planners are still catching their breath from the 2020 year-end and dealing with the wave of gifting transactions that many clients completed. It seems the ink is not dry on those December transactions and we have to pivot and focus on getting gift tax returns completed.
The 2020 year-end was extremely busy due to a concern that there may be a change in the federal gift and estate tax exemption amount. The federal exemption amount in 2021 is $11.7 million per person (for US persons), and a married couple has $23.4 million of combined exemption. Under current law, the exemption amount returns to $5 million per person (adjusted for inflation) in 2026. There is a concern that the Biden administration and Congress may pass legislation lowering the exemption amount earlier than 2026, and also could make changes retroactive to the beginning of this year. In such an event, a person who made a $10 million gift in February, 2021 thinking that it was entirely within his or her gift tax exemption could turn out to have a made a taxable gift that exceeds the reduced exemption amount.
What should clients do in 2021? Does the concern about retroactive changes to the gift and estate tax exemption amount mean that clients should do nothing or wait and see? We think the answer to that question is no.
For a client whose wealth profile indicates for gifting, it is still good tax planning to undertake a gifting transaction. The “use it or lose it” concept – that is, the idea that it is better to make substantial gifts that use one or both spouses’ $11.7 million exemption while it is available – continues to apply. For example, if the federal government passes tax legislation that reduces the exemption amount and is effective when enacted or a later effective date (a scenario perhaps much more likely than retroactivity), a client who took advantage of the more generous exemption amount in 2021 should be well served.
In addition, a client can make a gift in one of several ways that will take into account a possible change in the law to reduce the exemption amount. For example, a client may incorporate a “defined value” provision in the gift that would adjust the amount gifted to the client’s remaining exemption amount, thus protecting for this possibility.
Gifts are usually structured as gifts to trusts, which have many benefits for clients, including control, investment flexibility, asset protection, long-term family wealth planning and more. This type of planning continues to be important in 2021.