Sunset of the Federal Estate & Gift Tax Exemption
The sunset of the federal estate and gift tax exemption refers to a provision in federal tax law where the exemption amount, which dictates how much of an individual's estate is exempt from federal estate taxes upon death ($13,610,000 in 2024), is set to revert to $5,000,000 (as adjusted for inflation) after December 31, 2025, unless legislative action is taken to extend or modify it.
Changes to the estate tax exemption have been a subject of political debate and legislative action over the years. The Tax Cuts and Jobs Act (TCJA) of 2017 significantly increased the estate tax exemption from previous levels, roughly doubling the amount exempt from taxation. This change is set to expire at the end of 2025, leading to what is often referred to as the "sunset" provision.
The sunset of the estate tax exemption has implications for estate planning, as individuals and families may need to adjust their strategies in anticipation of potential changes to estate tax laws. It also underscores the importance of staying informed about legislative developments and consulting with tax professionals to navigate the complexities of estate planning effectively.
In anticipation of the sunset of the estate tax exemption, individuals and families may consider several estate planning options to mitigate potential tax implications. Some of these options include:
Lifetime Gifting: One strategy is to make use of the current higher estate tax exemption by gifting assets to beneficiaries during one's lifetime. This can help reduce the size of the taxable estate and shift wealth (and future appreciation) to future generations. Gifts can be made outright or through trusts designed for specific purposes, such as education or healthcare expenses.
Irrevocable Trusts: Establishing irrevocable trusts can remove assets from an individual's taxable estate, potentially reducing estate tax liability. Irrevocable trusts can be structured in various ways to achieve specific goals, such as providing for beneficiaries while minimizing tax exposure.
Spousal Trusts and Credit Shelter Trusts: Married couples may utilize spousal trusts and credit shelter trusts to maximize the use of both spouses' estate tax exemptions. These trusts can help ensure that each spouse's exemption is fully utilized, effectively doubling the amount sheltered from estate taxes.
Grantor Retained Annuity Trusts (GRATs) and Qualified Personal Residence Trusts (QPRTs): GRATs and QPRTs are estate planning tools that allow individuals to transfer assets, such as a residence or investment property, to beneficiaries at a reduced tax cost. These trusts can be structured to leverage valuation discounts and minimize the gift or estate tax consequences of transferring assets.
Life Insurance Trusts: Life insurance can be an effective tool for providing liquidity to cover estate taxes or equalize inheritances among beneficiaries. By placing life insurance policies within an irrevocable life insurance trust (ILIT), the death benefit proceeds can be kept out of the insured's taxable estate.
Charitable Planning: Charitable giving can not only benefit worthwhile causes but also provide tax advantages in estate planning. Techniques such as charitable remainder trusts (CRTs) and charitable lead trusts (CLTs) allow individuals to support charitable organizations while potentially reducing estate tax liability.
Regular Review and Updating of Estate Plans: Given the changing nature of tax laws and financial circumstances, it's essential to regularly review and update estate plans to ensure they align with current goals and legal requirements. This includes revisiting beneficiary designations, asset titling, and trust provisions.