Estate Tax: What to Expect from Upcoming Changes

Last year, our team posted an article titled, “A Brief History of the Estate Tax and Potential Implications for the Upcoming Election.” A lot has changed since then, and it’s important to reflect on the predictions and outcomes of the estate tax changes that may occur in the next year.

What is the Current Estate Tax? 

Estate Tax is a tax on your right to transfer property at your death. When our first article was written, there were very few taxpayers that encountered the Estate Tax because the exemption level was at an all-time high. 

Currently, the threshold of estate tax exemption is at $11.7 million at a 40% tax rate. This tax only affects the amount above the $11.7 million thresholds. 

The Tax Foundation provides an example of what the future could look like: 

• “The value of the original asset is $100 million
• The value of an asset after $1 million step-up in basis repeal exemption
• The Capital gains taxed at ordinary rates 39.6% + 3.8% NIIT = 43.4%
• The capital gains tax owed is $42.96 million.
• So, then the value of remaining assets in the estate are:
• Biden’s estate tax exemption ($11.7 million)
• Added to the taxable estate, and estate tax rate (40%)”

Following this example means that with the value of the original asset being $100 million, the total taxes being paid is $61.10 million, with the effective tax rate being 61.1%. 

The Proposed Gift and Estate Tax Exemptions

The current proposal includes a reduction from the current $11.7 million (inflation-adjusted for 2021) threshold to a $5 million (inflation-adjusted) threshold proposed to start on January 1, 2022. The 40% estate and gift tax rate did not change, and the changes will not be retroactive if this proposal goes through. 

What to do before the proposed tax plan goes into effect

There is a short period of time before any tax changes go into effect. As you begin planning for the next year, think about where you may want to adjust your portfolio to account for these potential changes. 

Because the proposed tax plan is not retroactive, any gifts that end before 2021 will not be subject to the updated tax structure. There are also a few things to consider while you plan.

What is a Grantor Trust?

Grantor Trusts are trusts that separate the Grantor and contributor for both estate tax purposes and income tax purposes. The Grantor would be considered the “owner” of the trust for income tax purposes, transactions between trusts, and they are considered “disregarded.” This means that assets sold or exchanged with the trust will not trigger income tax consequences. 

However, this Grantor Trust must be established prior to the new plan going into place in order to be grandfathered into the current tax plan. 

QRPT, GRATs, and CLATs

The use of life insurance trusts, Grantor Retained Annuity Trusts (GRATs), Qualified Personal Residence Trusts (QPRTs), and Charitable Lead Annuity Trusts (CLATs) may also be affected by this updated tax plan. It’s important to ask your wealth advisor what trust options may be affected by the updated tax plan in 2022, in order to take advantage of the current tax plan while you can. 

Will the estate tax changes affect me?

The estate tax of those worth $11.7 million or more (individually or $23.4M jointly) is a federal tax that will affect those taxpayers. Any updates to the federal estate tax will affect all states. 

However, some states also charge a state estate tax. The Tax Foundation reports that the states that have an estate tax in 2021 include: 

• Oregon
• Minnesota
• Illinois
• Maryland
• Vermont
• Connecticut
• New York
• Rhode Island
• Massachusetts
• Maine
• Hawaii
• Washington, D.C. 

As you look to plan for your family’s future be sure to consider the implications of updates to tax plans. Do you have a strong strategy for your family’s future? Get started on your strategy by reading our article, "Generational Wealth: Transform Your Strategy to Make It Last."