In December, President Trump signed into law what is commonly referred to as the Tax Cuts and Jobs Act. This legislation, which is mostly effective as of January 1, 2018, is the first major reform to the federal tax code since 1986 and affects almost every individual and business taxpayers in some way or another. For individuals, the top tax rate has temporarily dropped from 39.6% to 37% and the standard deduction has nearly doubled. Personal exemptions are repealed and the mortgage interest deduction is limited to interest on a mortgage of $750,000 or less per married couple. The AGI limitation for deductions of cash donations to public charities increased from 50% to 60% and the deduction for alimony payments was repealed (for divorces or separations executed after December 31, 2018). Corporate tax rates have dropped from a 35% top rate to a permanent 21% flat rate, a 20% deduction is now available for certain pass through entity income and the corporate AMT has been repealed.
The new tax act also increased the federal estate and gift tax exemption amount. Specifically, for lifetime gifts and the estates of any decedents passing between January 1, 2018 and December 31, 2025, the estate tax and GST tax exemption amounts were increased to $10 million per person, adjusted for inflation occurring after 2011 (expected to be about $11.2 million for 2018). The marginal transfer tax rate remains at 40%.
Although the gift and estate tax will now affect fewer families, the provisions are temporary and it is possible that future lawmakers may attempt to reduce the total exemption amount before it sunsets at the end of 2025. There may be some planning opportunities families want to take advantage of now so that they are well positioned should the exemption revert back to the “old” levels in 2026. For instance, they may want to make lifetime gifts to family members or GST exempt trusts for their benefit in order to shield such amounts and all future appreciation of such gifts from future estate tax (note that the new law directs the IRS to issue regulations dealing with the possibility of a “claw back” situation (i.e., if the exclusion amount is reduced in the future and a decedent has made gifts in excess of the exclusion amount in effect at the time of his or her death). It is unclear what these regulations will look like and therefore planners should consider this unknown variable when planning under the current exclusion amounts).
Further, even if they no longer have a taxable estate, there are still many reasons our clients may want to do current wealth transfer planning, such as setting up a proper business succession plan for a successful family business, asset protection planning, trust planning for children or grandchildren, or planning for special needs family members.
Congress also created an additional planning opportunity for families with young children under the new tax bill’s provisions regarding 529 plans. Funds invested in a 529 plan will continue to grow tax-free and can be withdrawn to pay qualified higher education expense. The new tax law expanded these benefits for 529 plans to allow tax-free withdrawals of up to $10,000 per child per year for private elementary and high school education expenses, including tuition and books (the amount that can be used for college education expenses remains at the full tuition amount). Current law allows individuals to contribute five years’ worth of annual gift tax exclusions into one year of contributions. For example, in 2018, an individual could gift up to $75,000 ($15,000 annual gift tax exclusion amount times 5 years) to a 529 plan, allow it to grow tax-free and then use the funds to pay for private elementary and high school education expenses. This could be a great way for parents or grandparents to move assets and the future growth of those assets out of their estates and to allow such amounts to grow tax free and be used for future education expenses. Because many states allow state income tax deductions for 529 plan contributions, the gift may also reduce the overall income tax burden of the transferor.
As you can see, there are many planning opportunities for both businesses and individuals under the new tax bill. We look forward to helping all of you navigate your specific questions and circumstances in the new year.