Gift and estate tax planning in 2021

With the election of President Joseph Biden, coupled with Democratic control of both the House and Senate, we may possibly see changes to the estate and gift tax regime.

Reminder: With a 50/50 Senate split, progressive proposals are limited to the most conservative Democratic senator. Also, unless estate and gift tax changes are included in a budget reconciliation bill, they would be subject to Senate filibuster rules. Due to stimulus legislation expected to take priority over complex estate tax changes, it is unlikely we would see any changes in the estate and gift tax area before October.

As the tax currently exists, each individual has a lifetime credit of $11.7 million — this figure is increased by inflation from 2020’s limitation of $11.58 million. The current exemption will sunset on Dec. 31, 2025, and will return to the Obama exemption of $5 million, adjusted for inflation. The adjusted exemption in 2026 is projected to be between $6 million and $7 million. The maximum gift and estate tax rate is 40% and will increase to 45% in 2026. The tax is imposed on the fair market value of all assets valued at death. Beneficiaries receive a step-up in basis to the fair market value — all capital gains are eliminated.

Biden’s proposal includes:

1. Reducing lifetime exemption to $3.5 million
2. Increasing rate to 45%
3. Eliminating step-up in basis to fair market value on death

It is far from clear if there will be a capital gains tax imposed on death and then beneficiaries will inherit at the fair market value, if there will be an estate tax imposed on fair market value and beneficiaries receive a limited step-up based on taxes paid, or if there will be limited step-up for certain assets (as was done in 2010).

What is clear is that individuals should continue to plan and use the exemptions that currently exist. Many did planning before year-end fearing a retroactive change. While there is no way to predict whether any estate tax changes will be retroactive, most have not been in the past. Even for those who managed to use all of their exemption before year-end, making additional gifts now will use the increased exemption of $120,000.

As part of the Tax Cuts and Jobs Act (TCJA), there is a provision that prevents a clawback of the exemption amount if the exemption decreases either because of the sunset or due to a change in the law. Taxpayers can move forward with planning without the specter of taxes being charged on gifts when the exemption amount changes.