As your family gathers to celebrate the holidays, and the gifting spirit is in the air, you may be considering updating your estate plan. Legislators have provided gifts of their own just in time for the holidays—increased transfer tax exemptions and exclusions allowing you to leave more money to your loved ones in a tax efficient manner.
What are Transfer Taxes?
“Transfer taxes” generally refer to three types of taxes: estate taxes, gift taxes and generation-skipping transfer (“GST”) taxes. The estate tax is a tax on the property you leave to loved ones at your death. Gift taxes may apply to gifts you make during your life, and GST taxes may apply to gifts you make during your life or upon death to those who are more than one generation below you, such as your grandchildren.
The effect of each of these taxes is mitigated by certain deductions, exclusions and exemptions allowed by state and federal law. For example, gifts to your spouse and charities are generally not subject to estate and gift taxes. Moreover, estate and gift tax exclusions and the GST tax exemption allow you to make gifts of a certain amount to other beneficiaries free of transfer taxes.
Increased Exemptions and Exclusions for 2018
The IRS recently updated certain exclusions and exemptions to reflect inflation adjustments required by law. Starting in 2018, you may now leave up to $5,600,000 (increased from $5,490,000) to individuals (other than your spouse in most cases) free of federal estate, gift, and GST taxes. In 2018 you may also now make annual gifts of $15,000 (increased from $14,000) per recipient per year before using any of your $5.6 million lifetime gift/estate tax exclusion. This allows families to pass a significant amount of wealth free of any federal transfer tax consequences.
In 2017, Minnesota passed a law increasing the Minnesota estate tax exemption from $1,800,000 to $2,100,000. The Minnesota estate tax exemption is scheduled by law to increase by $300,000 each year until it tops out at $3,000,000 in 2020. Beginning in 2018, the Minnesota estate tax exemption grows to $2,400,000. Minnesota does not impose gift or GST taxes. However, gifts made within three years before your death will be included in the value of your estate for estate tax purposes.
In addition, federal and Minnesota rules allow for certain special exemptions and valuation deductions to further protect small businesses and family farms so that your successors are not required to break up the business or farm to pay transfer taxes. However, you must meet very specific requirements to tax advantage of these special rules for small businesses and family farms.
Transfer Tax Changes in the GOP Tax Plan
The IRS inflation adjusted figures for 2018 discussed above may be moot due to the U.S. House and Senate’s passage of sweeping changes to the federal tax code. Both the House and Senate’s version of the bill will increase the federal estate and gift tax exclusion and GST tax exemption to $11.2 million per person ($22.4 million per married couple), indexed for inflation.
There is one major distinction, however, between the two versions of the tax bill. Under the House version, the federal estate, gift and GST tax will be repealed in 2025. By contrast, the increased estate and gift tax exclusions and GST tax exemption under the Senate version will sunset after 2025 and revert back to the current exemption and exclusion amounts, indexed for inflation.
Before the tax cuts are final, the House and Senate must reconcile the two versions of the bill, including resolving the discrepancy on long-term treatment of estate, gift and GST taxes. If House and Senate Republicans are able to reconcile the versions, it is a near certainty that it will be signed into law by President Trump, and at least for the near future, clients will benefit from greatly increased federal estate and gift tax exemptions.
While these state and federal rules provide great benefits to families wishing to pass wealth to future generations, the benefits are often not automatic. Getting the most out of transfer tax deductions, exemptions and exclusions requires careful planning and up to date tax formulas with the help of experienced estate planning attorneys and often other tax and financial professionals.