Congress is Coming After Your Legacy and Estate Plan: What You Should Know and Do Now

The push for higher taxes has begun, and estate taxes are among the first in line. Millions of people who haven’t had to worry about estate and gift taxes in recent years need to rethink their plans.

Congress first went after your legacy and estate plan in 2019 in the Setting Every Community Up for Retirement Enhancement (SECURE) Act in which the Stretch IRA was eliminated. It turns out that was only the first step in dismantling middle-class estate plans.

We knew from the 2020 political campaigns that tax increases were likely to be on the agenda in 2021 and 2022. In recent weeks, detailed proposals have emerged. We still don’t know exactly which changes Congress will pass, but the range of possibilities has narrowed significantly, and it is time to plan and act.

During the campaign, President Biden proposed eliminating the step-up in tax basis after death. Recently, a group of Democratic senators pro-posed taxing estates on capital gains exceeding $1 million that accrued during the decedent’s life. In addition, Sens. Bernie Sanders and Sheldon Whitehouse introduced the “For the 99.5% Act” of substantial changes in estate and gift taxes.

The bill would reduce the lifetime estate tax exemption to $3.5 million and the gift tax exemption to $1 million. The gift tax exemption amount would not be indexed for inflation, guaranteeing that over time it would affect many middle-class families.

The exemption for the generation-skipping tax on gifts and bequests to grandchildren also would be reduced. The top estate tax rate would rise to 65%. There would be a major change in the annual gift exclusion amount.

Currently, a person can give up to $15,000 each year to a person without any gift tax consequences. A married couple jointly can give $30,000 per person. These gifts can be given to as many people as desired each year, and the amount is indexed for inflation.

Under the For the 99.5% Act, the annual gift exclusion amount would be unchanged and still would be indexed for inflation. But, it would be limited to only $30,000 annually for gifts to a trust. Currently, an individual can make a tax-free gift to a trust equal to $15,000 per beneficiary and contingent beneficiary. If the beneficiaries were the three children of the individual, a tax-free gift of up to $45,000 could be contributed to the trust each year.

Under the proposed law, only $30,000 would qualify for the annual gift tax exclusion, no matter how many beneficiaries the trust has. Many longtime estate tax reduction strategies would be prohibited.

The For the 99.5% Act would eliminate the discounts on gifts and bequests for minority interests and for lack of marketability. Strategies such as grantor retained annuity trusts, family limited partnerships and many more would be curtailed or eliminated.

The good news is that the changes wouldn’t be retroactive as many financial advisors had feared. But many of the changes and prohibitions would take effect as of the day the law is enacted. You won’t be able to wait until the law is enacted and then decide what to do. If you want to avoid the effects of the law, you have to get the paperwork done be-fore the law is enacted.

To an extent, the proposals are the opening bids in the negotiation process that will lead to a final law. But clearly, increasing estate and gift taxes is a priority in the Capitol.Families that don’t have to worry about the taxes under current law could see significant portions of their estates taxed under a new law.

Strategies that didn’t seem worthwhile in the past might save significant tax dollars if put in place before a new law is enacted.The response of too many people to such proposals in the past has been “I’ll wait and see what happens.” Waiting is not a good idea with your estate planning, especially now.

Many people learned in 2020, during the COVID-19 pandemic, that an updated estate plan needs to be in place at all times.Instead of waiting, take the right actions now.

Of course, be sure the key estate planning documents are in place and up to date. Update your will for any changes in your family, place of residence, financial situation or goals. If you have a living trust, make sure legal title to all assets you want controlled by the trust has been transferred to the trust.

Review your choice of trustee and determine if the choice still is appropriate or if there now is a better candidate. Also, review the power of attorney and advance medical directive and any similar documents to be sure they reflect any changes in your life.

Then, reconsider the details of your plan. The potential for reductions in exempt amounts, an increase in estate and gift tax rates and elimination of many estate tax reduction strategies mean many plans should be revised during 2021.

First, establish how much of the estate you need to maintain your standard of living under different scenarios.

Then, consider strategies that would maximize the family’s after-tax wealth under the potential changes.An easy strategy is to make gifts to children and grandchildren. When the estate tax exemption was much lower than it is now, middle-class families were advised to routinely make gifts up to the annual gift tax exclusion of $15,000 to each of their children and grandchildren to the extent they could afford it.

Consider making those gifts now, either directly or through trusts, to remove property from your estate.The proposal also would decrease the exemption for the generation-skipping tax, which imposes taxes on gifts and bequests directly to grandchildren and later descendants.

It will be more expensive to make such gifts if you wait. The For the 99.5% Act proposes a double whammy to a key strategy.

When the lifetime exemption was lower, many families could increase after-tax wealth by creating irrevocable life insurance trusts (ILIT).

The life insurance benefits would be tax-free and would pay the estate taxes or increase the legacy to children and grandchildren.

The proposal would significantly restrict the ability to make tax-free annual gifts to the trust to fund the insurance premiums.

The gifts might be taxed, greatly reducing the benefit of the ILIT. A good strategy now is first to create an ILIT to ensure a tax-free inheritance for your loved ones. Then, to the extent you can, prefund the insurance premiums.

Use today’s high lifetime gift tax exemption to get the money in the trust. If you wait, those gifts to pay the premiums could be subject to gift taxes in the future. An alternative in the future that would work under the current proposal is to use a vehicle other than an ILIT. The life insurance could be owned by a partnership or LLC that is jointly owned by family members.

Or, family members other than you could jointly own the policy. Then, you could make annual gifts under the gift tax exclusion to pay the premiums.The proposed law would allow valuation discounts only for non-business assets.

Currently, when less than a majority ownership of an asset is given or bequeathed, a minority discount is applied to reduce the value for estate and gift tax purposes. When the asset isn’t publicly traded, a lack of market-ability discount also can be applied.

The discounts allow assets to be removed from the estate at lower estate and gift taxes.

But the proposed law would allow the valuation discounts only for non-business assets, which is vaguely defined. Any strategies that involve valuation discounts, grantor retained annuity trusts, family limited partnerships and more should be implemented soon. Otherwise, the discounts might no longer be available.