The Tax Cuts and Jobs Act of 2017 introduced significant reforms to the Internal Revenue Code, one of the most impactful being a dramatic increase in the federal estate, gift, and generation-skipping transfer (GST) tax exemption (collectively referred to as the Exemption). This Exemption nearly doubled, rising from $5.49 million in 2017 to $11.18 million in 2018. Adjusted annually for inflation, the Exemption has reached $13.61 million in 2024. However, unless Congress acts, it will revert on January 1, 2026, to a base amount of $5 million, adjusted for inflation, estimated to be around $7 million.
Understanding Federal Estate, Gift, and GST Tax Exemptions
Federal Estate Tax Exemption
The estate tax exemption allows individuals to transfer assets to heirs without incurring federal estate tax, provided the total value does not exceed the exemption threshold. In 2024, estates valued under $13.61 million are not subject to federal estate tax. However, amounts exceeding this threshold are taxed at a 40% rate.
Some states also impose estate or inheritance taxes, with rates reaching up to 16%, and their exemptions may differ from the federal level. This adds an additional layer of complexity to estate planning.
Federal Gift Tax Exemption and Annual Gift Tax Exclusion
The gift tax exemption represents the lifetime limit on the value of gifts an individual can transfer without paying federal gift tax. Unified with the estate tax exemption, this means that gifts made during a person’s lifetime reduce the amount available for estate tax exemption upon their death. Any taxable gifts must be reported to the IRS using Form 709.
The annual gift tax exclusion allows individuals to make yearly tax-free gifts up to a specific limit—$18,000 per recipient in 2024, up from $17,000 in 2023. This exclusion does not reduce the lifetime exemption and does not require reporting to the IRS.
Federal GST Tax Exemption
The GST tax applies to transfers made to beneficiaries two or more generations younger than the donor. This tax aims to prevent individuals from bypassing estate taxes through direct transfers to grandchildren or great-grandchildren. The GST exemption allows for a certain value of assets to be transferred tax-free.
Strategies to Maximize the Current Exemption Before 2026
As the scheduled reduction in the Exemption approaches, individuals can take advantage of several advanced estate planning techniques to mitigate future tax burdens.
Lifetime Gifting
Annual exclusion gifts offer a straightforward way to reduce the taxable estate without triggering gift taxes. Additionally, high-net-worth individuals should consider making larger lifetime gifts to fully utilize the current federal gift tax exemption. By acting now, donors can transfer greater amounts tax-free, as the unused portion of the current exemption will not carry over once the exemption sunsets in 2026.
Irrevocable Life Insurance Trusts (ILITs)
An ILIT is a strategic tool for keeping life insurance proceeds out of the taxable estate. The trust owns the life insurance policy, and the grantor makes contributions to cover premium payments. These contributions can often be structured within the annual gift exclusion limits. At the grantor's death, the proceeds are excluded from the taxable estate, minimizing estate and GST taxes.
Dynasty Trusts
For long-term tax savings, a Dynasty Trust can shelter assets for multiple generations. Assets transferred into the trust during the grantor's lifetime are exempt from estate and GST taxes, provided the appropriate exemptions are applied. Any appreciation of these assets within the trust also avoids taxation.
Spousal Lifetime Access Trusts (SLATs)
A SLAT allows one spouse to create a trust benefiting the other while reducing the grantor’s taxable estate. Although the grantor cannot directly access the trust’s assets, the beneficiary spouse can receive distributions, providing indirect financial security for the grantor. Assets transferred to the SLAT, along with their appreciation, are removed from both spouses' taxable estates.
The Cost of Inaction
Delaying action until after the Exemption resets in 2026 could result in significantly higher estate taxes. For instance, an estate valued at $20 million in 2024 could use the $13.61 million exemption, leaving a taxable estate of $6.39 million and generating a tax bill of $2.56 million. If the same estate were taxed under the reduced 2026 exemption of $7 million, the taxable portion would rise to $13 million, increasing the tax liability to $5.2 million. This delay could cost heirs millions in inherited wealth.
Take Action Now
Proactive planning is essential to minimize estate taxes and maximize the wealth passed on to future generations. With less than one year before the scheduled sunset of the current exemption, now is the time to consult experienced professionals. For tailored advice, reach out to a trusted estate planning attorney or financial advisor.
Comments