The federal estate tax can take a significant bite out of your legacy if you are exposed. It carries a 40 percent top rate, but most people do not have to pay this tax because there is a rather high exclusion.
This is the amount that you can transfer before the estate tax would be applicable on the remainder. When the Tax Cuts and Jobs Act was enacted in December of 2017, it established a record high exclusion for 2018.
It was $11.18 million at that time, and there have been adjustments to account for inflation since then. At the time of this writing in 2021, the exclusion is $11.7 million.
For the 99.5 Percent Act
There has been a power shift on Capitol Hill, and there is a new administration in the White House. Democrats take a different approach when it comes to taxes on the wealthy.
Senator Bernie Sanders of Vermont has introduced a bill called the 99.5 Percent Act. This measure would reduce the estate tax exclusion to $3.5 million, and it would raise the rate to 45 percent for the first $10 million.
The rate would graduate upward from there, maxing out at 65 percent for estates that are worth more than $1 billion.
You would logically consider lifetime gift giving as a way to get around the estate tax, but there is a gift tax in place to close this loophole. The estate tax and the gift tax have been unified since the 1970s, so the multimillion dollar exclusion applies to lifetime gifts and your estate.
The For the 99.5 Percent Act would limit lifetime tax-free gift giving is just $1 million.
Plus, in addition to the unified gift and estate tax exclusion, there is a separate annual gift tax exclusion. You can use this exclusion to give up to $15,000 to any number of gift recipients in a given calendar year free of taxation before you would use some of your unified exclusion.
This exclusion is used by high net worth individuals to fund trusts and family limited partnerships. Under the terms of this measure, each donor would be allowed to use this exclusion to gift a maximum of $30,000 annually to irrevocable trusts and some flow-through entities.
Even if this bill does not pass, there is going to be a reduction in the estate tax exclusion in the near future. The provision in the Tax Cuts and Jobs Act that established the record high exclusion is going to expire on January 1, 2026.
At that time, the exclusion will go down to $5.49 million, which was the 2017 exclusion. When you digest all this information, you can see that you should consider lifetime gift giving while the exclusion is still at a record high.
Sensible Taxation and Equity Promotion (STEP) Act
In addition to the For the 99.5 Percent Act, there is another relevant measure making its way through the legislative process. The Sensible Taxation and Equity Promotion Act would have a major impact on a very effective tax efficiency strategy.
As it stands right now, inherited assets get a stepped-up basis for capital gains purposes. This means that the basis is reset at the time of acquisition, and an inheritor is not responsible for gains that accumulated during the life of the decedent.
Very wealthy people that are in possession of assets that appreciated considerably during their lifetimes use the stepped-up basis to transfer massive generational wealth in a tax-free manner.
This measure would retain the stepped-up basis for the first $1 million that is transferred, and the remainder would be subject to the capital gains tax.
At the present time, the maximum long-term capital gains rate for the highest income earners is 20 percent. President Joe Biden has proposed an increase to 39.6 percent, so this would be another heavy blow to people that will be transferring appreciated assets.
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