As the tax law sunset nears, review savvy gifting solutions

Things to know before estate tax laws sunset in 2025.

On January 1, 2018, the Tax Cuts and Jobs Act (TCJA) added provisions to the tax code to reduce income tax burdens. Many, however, weren’t permanent. That’s why December 31, 2025, will be an important day, with 23 provisions scheduled to sunset. Significant provisions scheduled to expire include the reduction of individual income rates, the increased AMT exemption and phaseout threshold, and the increased standard deduction. Unless Congress acts, many people will see a tax hike.

But for high-net-worth families, nothing is drawing attention like the possible end of the TCJA’s favorable estate tax changes. Specifically, the provision that increased the estate and gift tax exemption from $5 million to $10 million. If nothing happens on Capitol Hill, the exemption will return to pre-TCJA levels in 2026.

Temporary clarification

The estate and gift tax exemption use the same exemption amount, but at different times. The gift tax exemption is first used during your lifetime. The remaining amount is the estate tax exemption. The remaining amount if any, is then used to reduce or eliminate federal estate tax. But what about gifts made between 2018 and 2025? Does their protection vanish in 2026?

The IRS has proposed additional tax relief for families who could have a larger-than-expected tax consequence as a result of large lifetime gifts made during this time frame. The proposals clarify that most individuals who leverage the increased exemption won’t be affected after 2025.

Under a special rule, an estate can compute its tax using the larger exemption amount for gifts made during your lifetime or the exemption amount corresponding with the date of death. So if you make large gifts before 2026, you won’t lose the larger exemption’s benefit after sunset. But, of course, it helps to consult your tax professionals for definitive guidance.

In the meantime …

If your estate is likely to exceed $6 million per spouse, you might ask your advisors about:

Below-market loans

These loans, to children or a trust, use minimum interest rates published by the IRS and can shift wealth gift-tax-free from parent to child. Hypothetically, a parent could create a five-year interest-only loan at the current applicable federal rate of only 1.87% with all principal due at the end. The child will pay the income and principal under the terms of the note. At the same time, the child could then invest the funds and potentially earn. a higher percentage in gains. Under the properly structured note, the transaction is not subject to gift taxes.

Grantor retained annuity trusts

A trust to which the donor transfers assets and retains a right to a series of fixed annual payments over a set term. To the extent the trust assets grow beyond the IRS monthly “hurdle rate,” (4.2% in June) there can be an effective wealth shift to the beneficiaries. The annuity can be structured so there is a small gift tax or even a nontaxable gift to the trust. 

Sales to intentionally defective grantor trusts

The donor sets up a trust, gifts some assets and then sells other assets to that trust in exchange for a promissory note. Under current law, the grantor is deemed to own the trust’s assets and pays income taxes on trust income from the grantor’s personal assets. Transactions between a grantor and grantor trust are not recognized for federal income tax purposes, and the grantor’s income tax payments each year, in effect, become tax-free transfers to the trust beneficiaries.

The best gifting plans are often executed over time, which there’s not much of between now and 2026. Still, the right strategy could help your family make the most of what they have.

Next steps

• Ask your advisors about:
  • Ways to leverage giving
  • Assuring your income stream
  • Remaining in control of some assets

Raymond James does not provide tax or legal services. Please discuss these matters with the appropriate professional.