Earlier this month, the IRS announced the cost of living adjusted (“COLA”) amount of the exemption applicable to transfers in 2020 that are subject to gift, estate, and generation-skipping transfer (“GST”) taxes (i.e., “transfer taxes”). The transfer tax exemption has been in¬creased by $180,000 from $11,400,000 for 2019 to $11,580,000 for 2020. For surviving spouses, the maximum gift and estate taxes exemption was increased from $22,800,000 for 2019 to $23,160,000 for 2020, depending on the predeceased spouse’s unused exemption at the time of his or her death and if portability of such unused exemption is elected by timely filing an estate tax return for the predeceased spouse (portability of the GST tax exemption is not available).
Unlike income taxes, the transfer tax rates remain the same for 2020 since they are not subject to COLA changes. Thus, 40% will still be the rate of tax on taxable transfers that exceed the exemption. The amount of the gift tax annual exclusion will also remain the same at $15,000 since its COLA increases are computed more conservatively.
The transfer tax exemption is applicable to both a person’s cumulative lifetime “taxable gifts” and that person’s “taxable estate” computed at death. The 40% tax rate will be applied to the sum of a person’s cumulative amounts of taxable gifts and taxable estate that exceed the transfer tax exemption then in effect. Thus, if an unmarried person (without a predeceased spouse’s unused exemption) dies in 2020 with a $15,000,000 taxable estate after making $5,000,000 of cumulative taxable gifts within the prior years’ exemptions, that person’s estate tax will be $3,368,000. A similar computation is employed for purposes of computing the GST transfer tax in the case of transfers to the “transferor’s” grandchildren (and their descendants) and other persons who are equivalent to being in two or more generations below that of the “transferor”.
The increased transfer tax exemption for next year serves as a reminder that this is a great time for wealthy persons to consider reducing their and their families’ transfer taxes by making taxable gifts. The current COLA transfer tax exemption amounts are much higher than they used to be (e.g., the exemption was $5,490,000 in 2017) but they are not scheduled to last indefinitely. This is because the presently written law provides that these exemptions will expire at the end of 2025, after which they will revert back to the prior law’s much lower COLA adjusted exemption amounts that are less than half of what it is in effect now. Also, the IRS recently announced that there will be no recovery of the tax benefit with respect to persons who have taken advantage of their high transfer tax exemptions between 2019 and 2025 when the amount used is greater than the exemption amounts applicable for years after 2025. Another reason for taking advantage of the high exemption amounts is now that a future Congress and President may impose greater taxes on wealth transfers by reducing the transfer tax exemption amount to a much lower level (e.g., $3,500,000) and/or increasing the transfer tax rates on amounts in excess of the exemption.
There are many ways of structuring gifts to take advantage of the current transfer tax laws and exemption in an efficient manner. In addition to outright gifts of cash and publicly traded securities, proven techniques can be used to leverage the transfer tax exemption and reduce taxable valuations that will result in a greater shifting of wealth with reduced or no transfer taxes. These include fractional share gifts, retained interest gifts, and defined value low interest installment purchases by gran¬tor trusts. Under the right circumstances, clients making and implementing a plan now will save substantial transfer taxes later.