Effective January 1, 2018, the Tax Cuts and Jobs Act (TCJA) significantly increased your lifetime gift, estate and generation-skipping transfer tax exemptions. These exemptions will return to their pre-TCJA levels after 2025 (unless Congress acts before then to change this). As you consider your long-term financial goals and review your estate plan to make sure it still makes sense (families expand and asset values change!), consider the wealth transfer opportunities these increased exemptions offer. And, as always, make sure you have made your annual exclusion gifts for 2018!
Annual Exclusion Gifts
If you have not made your 2018 annual exclusion gifts (gifts that can be made without using any of your lifetime gift tax exemption), do not delay! The 2018 annual gift tax exclusion amount is $15,000 per donee ($30,000 per donee for married couples). The 2019 annual gift tax exclusion amount will remain at $15,000 per donee ($30,000 per donee for married couples). To qualify, annual exclusion gifts must be made (and checks cashed) by December 31. This is a “use it or lose it” opportunity with a fast-approaching deadline!
Using Increased Exemptions
Under the TCJA, your 2018 gift, estate and generation-skipping transfer tax (GST) exemption amounts are each $11,180,000; these exemptions will increase to $11,400,000 as of January 1, 2019 and return to $5,000,000 (indexed for inflation) after 2025.
- The IRS recently issued proposed regulations addressing “clawback” concerns. These proposed regulations clarify that making lifetime gifts using your increased exemptions under the TCJA will not cause adverse estate tax consequences if you die after 2025 when your exemptions have returned to pre-TCJA levels.
- Increased exemptions must be used before 2026 or they will be lost. If you are married and you and your spouse, together, are contemplating making gifts in excess of $5 million but less than $15 million (indexed for inflation), then in order to maximize the use of your combined exemptions, you and your spouse should not split gifts. To illustrate, if you make a $10 million gift and you and your spouse split the gift (or each of you makes a $5 million gift), each of you will have used $5 million of your $10 million (indexed) exemption. After 2025, when the exemptions return to $5 million, neither spouse will have any exemption remaining. On the other hand, if one of you makes the $10 million gift (and the gift is not split), then after 2025, the other’s $5 million exemption will still be available to cover future gifts.
- If you do not plan on making taxable gifts that will use your full increased GST exemption, consider allocating part or all of your excess GST exemption to irrevocable trusts created prior to 2018 that are not exempt from GST. For example, many insurance trusts created when the exemptions were much lower were drafted to distribute on the insured’s death to his children and are not exempt from GST. If a power holder can alter such a trust to allow the trust property to be held for the insured’s children, and on a child’s death, for the child’s descendants, GST exemption can be allocated to the trust. Taking this approach would allow you to make use of your increased GST exemption without making an additional gift.
Gifting Using Low Interest Rates
- Applicable federal rates are higher now than last year but are still low. Consider wealth transfer planning options that take advantage of the current rates to transfer assets – especially assets that are likely to appreciate – to lower generations with little or no gift tax.
The TCJA also increased the standard deduction and limited SALT (state and local tax) deductions, reducing the number of individuals who will itemize their income tax deductions for 2018 through 2025. For those who will no longer be itemizing their deductions, consider charitable giving strategies to maximize the income tax benefits of your philanthropy.
The TCJA increased the standard deduction to $12,000 for taxpayers who are single or married filing separately and $24,000 for married couples who file jointly (up from $6,350 and $12,700, respectively), and limits SALT deductions to $10,000 per return ($5,000 per return for married couples filing separately). If you itemized deductions under prior law but anticipate taking the standard deduction for the foreseeable future, annual charitable giving will generally be less cost effective than before the TCJA, since charitable gifts are not deductible if you take the standard deduction. To maximize income tax savings of charitable gifts under the TCJA, consider the following alternatives:
- QCDs: If you are over 70½ and make charitable gifts, consider making a Qualified Charitable Distribution (QCD) from an IRA. With a QCD, up to $100,000 of your IRAs, in the aggregate, can be given to one or more public charities annually. Although QCDs are not technically deductible against your gross income, they are not included in your taxable income either, effectively making the entire gift deductible for federal (and in most cases, state) income tax purposes. Any amount given (up to the $100,000 limit) counts against the minimum annual distribution you are otherwise required to receive for the applicable year. Note that QCD’s can be made only from IRAs (and not other retirement arrangements). QCDs are particularly valuable for individuals who bump up against their deduction limitation in making charitable gifts (50% of adjusted gross income for gifts to public charities (60% if all charitable gifts are cash gifts to public charities)).
- Bundling Charitable Contributions: If you are accustomed to making a gift of $10,000 to a charity every year, consider the tax benefits of making a $30,000 gift to that charity every third year. Under this approach, the couple would toggle between itemizing deductions for years in which they make a bundled gift to charity and taking the standard deduction in other years, maximizing tax savings. For example, a married couple with a 35% marginal tax rate, mortgage interest of $5,000, state property and income taxes of $10,000, and annual contributions of $10,000 to charity would have aggregate itemized deductions for the three year period of $75,000 ($25,000 annually). The couple would itemize deductions because their annual deductions ($25,000) exceed the $24,000 standard deduction. Over three years, their overall tax savings would be at most $1,050 (35% of the extra $3,000) over what they would have paid had they not itemized their deductions. If, instead, the couple contributes $30,000 to a charity in 2018 to cover their contributions for the three years, their aggregate deductions for the three year period would be $93,000 (itemized deductions of $45,000 for 2018 and the standard deduction of $24,000 for each of 2019 and 2020), resulting in a potential tax savings of $6,300 (35% of the extra $18,000) over what they would have paid if they had not bundled charitable contributions in 2018. If you would like to get the tax benefits of bundling contributions but would prefer for the charity to receive contributions annually, establishing a donor advised fund may help you accomplish your charitable and tax objectives.
Tax laws are always subject to change and now, more than ever, the income tax implications of wealth transfer opportunities must be considered.