Sunset for Higher Gift Tax Exemptions

With many of the provisions from the 2017 Tax Cuts and Jobs Act (TCJA) set to sunset at the end of 2025, so will the estate, gift, and generation skipping transfer (GST) tax exemptions. The TCJA increased the exemption to $13.61 million for individuals, and $27.22 million for married couples in 2024. However, unless Congress and the President act, these exemptions automatically will be cut in half on January 1, 2026, when the increase in exemption provided in the TCJA sunsets.

If you have a net worth (including life insurance benefits and retirement accounts) greater than $7 million individually, or $14 million as a married couple, you may want to revisit your estate plan and consider transferring assets to your heirs before any potential changes in estate and gift tax laws take effect.

How Gifting Today Could Save Future Tax

A strategy commonly used by high-net-worth families to reduce estate taxes is a trust for the benefit of the donor's children and grandchildren. A gift to a properly structured and administered irrevocable trust removes the donated property from the donor's taxable estate. Such a gift must be reported on a gift tax return filed by the donor for the year of the gift. This gift will use a portion of the donor's lifetime gift tax. Because the federal gift and estate tax exemptions are unified, the gift also reduces the donor's estate tax exemption that will be available to shelter transfers from tax upon the donor's death.

As a result of the unified structure of the gift and estate tax exemptions, a lifetime gift does not necessarily provide any immediate tax benefit for the donor because the value of the property removed from the donor's estate is equal to the amount of gift and estate tax exemption applied to the gift. However, if the property transferred by the donor grows in value between the time of the gift and the time of the donor's death, the post-gift appreciation remains outside of the donor's estate, and thus escapes estate tax at the donor's death. This strategy, a lifetime gift of an appreciating asset to a trust for the donor's heirs is sometimes referred to as an estate "freezing" transaction, because the value of the transferred property is "frozen" for estate and gift tax purposes at the time of the gift.

For individuals or married couples with a net worth exceeding the estate tax exemption, a gift of any size to an irrevocable trust can result in a reduction in estate taxes upon death, as long as the property transferred to the trust grows in value over time.

While a gift of any size may be beneficial as an estate freezing strategy, families who want to capture the increased gift and estate tax exemptions before their sunset in 2026 will need to make gifts with a value greater than half the current exemption amount. Why is this the case? Because federal law tracks lifetime gifts and remaining gift and estate tax exemptions on a cumulative basis. So, a taxpayer who makes a gift of, $1 million in 2024 will have used $1 million of her current and future estate and gift tax exemption, regardless of whether the exemption remains at the current level or is reduced by 50% in 2026. By contrast, if the exemption is in fact reduced by 50% to roughly $7 million in 2026, a taxpayer who made a gift of $10 million in 2024 will have used all of the $7 million available in 2026 and an additional $3 million of exemption available under pre-2026 law.

The structure of the federal estate and gift tax system has always provided opportunities for tax savings for wealthy families who plan well and plan early. The increased exemptions provided by the TCJA enhance those opportunities at least until the end of next year.

For additional questions, please reach out to your Pease Bell tax advisor.