During the 2008 recession, many families took advantage of the down markets and leveraged gifting options to reduce taxes. 2020 has once again provided such an opportunity. How long this environment will last is difficult to predict, but with potential tax law changes resulting from the November election (still uncertain as of the writing of this blog post) and market volatility caused by the pandemic, this moment in time may be the best strategic gifting opportunity for years to come.

Advantages of the Current Estate and Generation-Skipping Transfer (GST) Tax Exemptions

Since 2000, the federal estate tax and generation-skipping transfer tax exemptions have steadily increased:

$675,000 in 2000

$1,000,000 in 2005

$3,500,000 in 2009

$10,000,000 in 2017 (indexed for inflation)

For 2020, the inflation adjustment increased the exemption to $11,580,00 per person; in other words, this is the maximum amount a U.S. citizen or resident can give away or die owning in 2020 without paying gift or estate tax.  Alternatively, if an estate were to exceed this limit, a 40% federal estate tax rate would apply to the excess amount.  (The GST tax is in essence a second layer of estate tax for transfers that skip a generation or more.)

In addition to federal taxes, some states do levy inheritance or estate taxes, but many places, such as California, Colorado, and Wyoming, do not.

How Much Wealth Can Be Gifted Without Tax Liability?

The amount you can gift free of tax depends on the current lifetime exemption at the time of the gift or upon your death. If you make lifetime gifts exceeding $15,000 per recipient, you must file a gift tax return and allocate a specific amount of your estate and GST exemptions toward that gift. Significantly, the Internal Revenue Service (IRS) has made it clear that making lifetime gifts when an exemption limit is high will not result in any tax if the exemption is lower when you die. The gift keeps its exemption limit that was current at the time of your gift.

Given the current historically high exemptions and the possibility that these exemptions will be much lower in the future, lifetime gifts that use some or all your exemption are best. Any asset transferred, plus its appreciation from the date of transfer, will not be treated as a countable estate asset since it now belongs to the recipient.

Leveraging Gifts in a Down Market

There are two specific types of gifts typically used to transfer wealth during the current down market:

Making Individual Annual Gifts for the maximum Gift Tax Exemption Amount

2020 has a current annual $15,000 per person limit. This annual gift exemption applies to all gifts made to the recipient during the tax year – including birthday gifts, holiday gifts, and any other gifts during the year. Annual exclusion gifts may be made in the form of cash or any other property, and they may be made outright or in trusts.

Make Lifetime Gifts Using All or Part of Your Lifetime Maximum Exemption

One of the best methods for creating generational wealth is by not gifting cash, but making large lifetime gifts of assets that may increase in value significantly over time. When asset values are depressed, it can be particularly advantageous to make carefully structured, leveraged gifts, usually into protective long-term trusts. As depressed or discounted assets are gifted into protective trusts, the future increase in the value of those assets will be out of the donor’s estate for federal transfer tax purposes.  Further, those protective trusts may allow the family’s wealth to avoid estate and GST tax for many generations.

Capital Gains Tax Considerations

Careful gift planning should take into consideration not only the federal transfer tax implications, but also the impact the gift may have on capital gains tax when the asset is later sold by the donee. Capital gains tax is a specific type of income tax levied on any increase in value from the date the owner acquired the property and the date the owner disposes of the property. The value of the property when the owner initially acquired the property is the owner’s “basis.”

In the case of gifts made by the owner to a donee during the owner’s lifetime, the donee receives the same basis that the donor had. (This is called “carryover basis.”)  In the case of gifts made after the owner’s death (for property included in the owner’s estate), under current law the recipient’s basis in the property is reset at the asset’s value on the owner’s date of death.  This is often called a “step-up” in basis. 

When contemplating whether to make gifts during life or at death, it’s important to compare the implications of capital gains tax with the implications of estate tax. 

Learn More About Gifting Your Assets Intelligently

Estate planning requires careful consideration of tax in all its forms, but also requires consideration of a process and structure to prepare heirs to responsibly grow into the gifts and inheritance they will someday receive.  At Evergreen Legacy Planning, LLP, we help affluent individuals and families strategically protect and enjoy the wealth they’ve worked hard to build.

As experienced members of the WealthCounsel, STEP, the ABA, and other professional organizations, we have decades of proven experience helping individuals create legacies that will last generations. Call us today at (877) 757-8120 or contact us online to schedule a consultation to learn more.