The Biden Administration recently released its fiscal 2024 revenue proposals which address many radical changes that would significantly impact high net worth individuals. While it is impossible to predict what will actually get passed, especially given that the House and the Senate are nearly equally divided between the parties, it is imperative that possible changes in the law continue to be closely monitored.
Below is a summary of the most salient provisions of the revenue proposals that would affect current trusts and estates laws and impact high net worth individuals:
Transfers of Appreciated Property
Under current law, there is generally a carryover basis for gifts and a basis step-up for transfers at death.
The Administration proposes to eliminate the carryover basis for gifts and basis step-up at death. Instead, transfers of appreciated property by gift or upon death would be treated as realization events. The capital gains tax at death would be deductible against the estate tax.
Various exceptions would facilitate the administration of the tax. These include deferral for transfers between spouses, an exemption for transfers to charity, a limited exclusion for gain on the sale of a principal residence, an exclusion for gain on the sale of tangibles, and the Section 1202 exclusion for qualified small business stock.
The Administration also proposes to have assets in a trust or partnership be marked to market every 90 years beginning from January 1, 1942, so that the first possible recognition event would be on December 31, 2032.
There would be a $5 million per person exclusion on property transferred by gift or at death, indexed for inflation after 2023. There would be portability between spouses for this exclusion.
The tax on appreciated assets other than liquid assets could be paid over 15 years.
This change would be effective for gifts after December 31, 2023, for persons dying after December 31, 2023, and for property owned by trusts and partnerships on January 1, 2024.
Clients should consider making gifts at this time, in order to use all or a portion of their lifetime gift tax exemption amounts, before carryover basis is eliminated and the exemption amount is eventually decreased.
Grantor Retained Annuity Trusts (GRATs)
Under current law, it is possible to create a short-term GRAT in which the remainder interest has little or no value (called a “zeroed-out GRAT”). These and other types of GRATs are a particularly attractive planning technique.
The Administration proposes that a GRAT would be required to have a minimum term of 10 years, and a maximum term equal to the life of the annuitant plus 10 years. The remainder interest must have a value at least equal to the greater of 25% of the value contributed to the GRAT or $500,000, but not more than the value of the assets contributed.
Under the proposal, the annuity payments could not decrease during the GRAT term, and the grantor would be prohibited from engaging in a swap of any assets held in the trust.
This proposal would be effective upon enactment.
Clients should consider creating GRATs now, to take advantage of the benefits of existing law.
Under current law, the grantor trust rules for income tax purposes are not the same as the rules for inclusion in the gross estate for estate tax purposes. Accordingly, it is possible to create a trust that is a completed gift for gift tax purposes, is not included in the estate for estate tax purposes, but which is a grantor trust for income tax purposes. This results in use of the grantor trust being one of the most valuable estate planning techniques available.
The Administration proposes that if a taxpayer creates a grantor trust that is not fully revocable, sales between the grantor and the trust would be taxable, effective for sales on or after the date of enactment.
In addition, the grantor’s payment of the income tax on the trust’s income and gains would be treated as a taxable gift, effective for trusts created on or after the date of enactment.
Importantly, the proposed overhaul of the grantor trust rules introduced by the proposals could eliminate the benefits of valuable estate planning techniques such as spousal lifetime access trusts (SLATs), grantor retained annuity trusts (GRATs), qualified personal residence trusts (QPRTs), qualified subchapter S trusts (QSSTs), life insurance trusts (ILITs) and sales to defective grantor trusts (IDGTs). Clients should consider creating and funding some of the aforementioned vehicles, utilizing valuation discounts and using their gift and generation-skipping transfer (GST) tax exemptions now, before they possibly lose them.
Valuation of Promissory Notes
Under current law, taxpayers may be able to take inconsistent positions as to the value of a promissory note. A taxpayer may sell an asset for a note with interest at the applicable Federal rate, and subsequently claim a valuation discount for the note.
The Administration proposes to require that the discount rate of the note for estate and gift tax purposes be limited to the greater of the interest rate of the note or the applicable Federal rate for the remaining term of the note.
The proposal would be effective for valuation dates on or after the date of enactment.
Under current law, taxpayers are often able to take advantage of discounts for lack of control and lack of marketability when transferring interest in closely-held entities, real estate, and other personal property.
The Administration proposes to require that intrafamily transfers of partial interest in property in which the family collectively owns at least 25% be valued based on the interest’s pro rata share of the collective fair market value of the interests held by the taxpayer and the transferor’s family members.
In the case of an interest in a trade or business, the passive assets would be valued separately from the trade or business assets.
This provision would apply to valuations as of a valuation date on or after the date of enactment.
Clients should consider making gifts of closely-held businesses, commercial real estate and other assets for which they can currently receive valuation discounts in order to use all or a portion of their lifetime gift tax exemption amounts now, before the ability to take valuation discounts is largely eliminated and the exemption amount is eventually decreased.
Administration of Trusts and Estates
An estate may elect special use valuation to reduce the value of the estate by up to $1,310,000. The Administration proposes to increase this limit to $13 million, effective for estates of decedents dying after the date of enactment.
There is a special estate tax lien for 10 years from the date of a gift, or from the date of death. The Administration proposes to extend the lien during any deferral or installment period for unpaid estate and gift taxes.
Trusts do not presently have to report the value of their assets. The Administration proposes to require trusts with an estimated value over $300,000 or gross income over $10,000, in each case indexed after 2024, to report their value.
Annual Exclusion Gifts
Under current law, each taxpayer can gift up to $17,000 per donee on an annual basis without being subject to gift tax or using any portion of the taxpayer’s lifetime federal gift tax exemption.
The Administration proposes to limit the total annual exclusions for certain transfers to $50,000 per year.
This limit would not provide annual exclusions in addition to the annual per donee exclusion. Rather, it would be a further limit on those amounts that otherwise would qualify for the annual per-donee exclusion. Thus, a donor’s transfers in the new category in a single year in excess of a total amount of $50,000 would be taxable, even if the total gifts to each individual donee did not exceed $17,000.
This proposal would reduce the ability to use the annual exclusion for most gifts in trust or of interests in most closely-held entities.
This proposal would be effective for gifts made after December 31, 2023.
Taxpayers will have an opportunity to make annual exclusion gifts not subject to these limits until the end of 2023.
Generation-Skipping Transfer (GST) Tax Exemption
Under current law, each U.S. taxpayer has a GST exemption in the amount of $12,920,000 for 2023. It is scheduled to drop to one-half of its current level, indexed for inflation, beginning in 2026.
The common law rule against perpetuities (the amount of time during which a trust can continue to exist) is lives in being plus 21 years. Some states have a 90-year statutory rule against perpetuities. To date, approximately one-half of the states have either repealed their rule against perpetuities or lengthened the permissible period of time under the rule against perpetuities, in some cases to as long as 1,000 years.
By allocating GST exemption to a trust that can continue for many generations (or in perpetuity), a substantial amount of wealth can be placed out of the reach of the transfer tax system for a very long time (or forever).
The administration proposes that the GST exemption would be limited and only apply to (a) direct skips and taxable distributions to beneficiaries no more than two generations below the transferor, and to younger generation beneficiaries who were alive at the creation of the trust, and (b) taxable terminations occurring while any person described above is a beneficiary. The provisions resetting the transferor upon the payment of GST tax would not apply, and existing trusts would be treated as having been created on the date of enactment. These proposals would eliminate the ability of dynasty trusts to continue to exist without being subject to transfer tax.
Please contact Paul at email@example.com if you would like to schedule a meeting to further discuss the foregoing.
DISCLAIMER: We provide the information in this email for general information purposes only, and these materials do not constitute legal or other professional advice. We do not accept any responsibility for any loss that may arise from reliance on the information contained herein. No reader should act or refrain from acting based on information contained in this email without seeking advice of counsel.