John J. Barton, ASA, CPA

The Tax Cuts and Jobs Act of 2017 (TCJA, or more widely known as the “Trump Tax Reform”) had several benefits for wealthy Americans, one of which was the significant increase in the lifetime individual estate tax exemption from $5.6 million to $11.2 million (for married couples, the joint exemption increased from $11.2 million to $22.4 million). Estates that are valued above the exemption amount are taxed by the IRS at 40.0% on the amount over the exemption; estates below the threshold exemption are not assessed an inheritance tax[1]. These amounts are inflation indexed, so the current exemption is $13.6 million ($27.2 per married couple). This tax rate is significantly lower than the norm in the 1990s, when the IRS taxed estates over $3.5 million at 55%.

Many taxpayers assume that existent tax laws are permanent unless Congress enacts a new tax law, and since the Federal Government is polarized into gridlock, the current tax laws will continue to be the status quo. This is not the case with the lifetime estate tax exemption in the TCJA – the $13.6 million lifetime exemption that individuals enjoy now disappears on December 31, 2025 unless Congress extends it.

The question for wealthy taxpayers and estate planners is what will happen on January 1, 2026.  For many estates, the answer to that question could cost millions of dollars in inheritance taxes. The 2017 tax law states that on January 1, 2026 the lifetime exemption reverts to pre-2017 level, indexed for inflation, which presumably would be approximately $6.8 million per individual ($13.6 million per couple). Estate planners project one of three scenarios to occur by that time. These outcomes will likely depend on which political party controls the White House and Congress:

1. Neither Party unilaterally controls both the White House and Congress. Congress either decides to do nothing or cannot agree on what to do. In this case, the lifetime exemption per individual would, as stated above, revert to approximately $6.8 million, or $13.6 million per couple, which is one half the current exemption.

• The Republican Party controls both branches of government. In this case, the expectation is, at the very least, the current higher lifetime exemptions ($13.6 million per individual) will remain in place. There is also the possibility that the GOP would move to repeal the entire estate tax system in which case all inheritances would be tax-free at the federal level.

• The Democratic Party controls both branches of government – The lifetime exemption reverts to pre-2017 levels, as stated in #1 above, or, as proposed by President Biden and Bernie Sanders in separate plans, reverts to the 1990s level of $3.5 million per person ($7.0 million per married couple).

Maintaining the current lifetime exemption after 2025 would require new legislation by both Congress and the White House. Even though revenues from estate taxes are not a significant part of the government’s budget, the optics on eliminating any tax on the wealthy could be harmful to any Congress that sits on a $35.0 trillion federal deficit.

Given the polarization of American politics and the fact that neither the left nor right enjoys a clear majority, it is difficult to imagine both branches of government agreeing on a new tax policy unless one party has unilateral control after the 2024 election. Certainly, a new tax law does not seem to be on the government’s agenda for calendar year 2024. The entire discussion will occur after the 2024 election, and, if recent history is any guide, the federal government will probably wait until the fall of 2025 to begin negotiations.

Clearly, if an estate exceeds $3.5 million (or a marital estate above $7.0 million), the taxpayer should have a gifting plan in place. Unfortunately, banking on one of the above scenarios is akin to betting part of one’s estate on a casino roulette wheel.

To exemplify the risks, let’s consider what would happen with a few estate scenarios.

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[1] Certain assets within the estate could be assessed other taxes. For example, an IRA will be assessed an income tax.

The chart above makes several assumptions:

• Numbers are rounded and expressed in current dollars. If/when the tax law is changed, the dollars would likely be expressed in 2026 dollars, that is, restated for inflation.

• The tax rate on estates remains at 40.0%. Obviously, the government could raise or lower the tax rate, a distinct possibility in a negotiated settlement between the two political parties.

If an individual estate is worth $3.5 million or less, the taxpayer does not have to worry about the estate tax, unless some extreme viewpoint on the left takes hold over the next few years. If the individual estate is worth between $3.5 and $5.0 million ($7.0 to $10.0 million for couples), there is a slight concern that a change in the exemption could trigger a tax. This scenario seems unlikely at this point.

Any individual with an estate that is worth above $6.8 million ($13.6 million for married couples) should be concerned about the potential for a lower estate tax exemption, or a scenario in which the government allows the current law to expire. Unless the federal government actively moves to write a new tax law which extends the current lifetime exemption (or reduces the exemption to some level above $6.8 million), these estates would move from having no tax liability to having a taxable estate.

Any estate that is worth above $27.2 million will most likely see a tax liability unless an extreme viewpoint on the right takes hold. For these estates, the consideration will not likely be if they get taxed, but how much of the estate gets taxed and at what rate.

Two other issues warrant consideration. One is clawback and the other is portability. Clawback is the concern that if a new exemption level is enacted, will the IRS attempt to go back and tax gifts that were made under the old exemption level. For example, assume a taxpayer gifts her entire estate worth $13.6 million to her child in November, 2025. Two months later the lifetime exemption is reduced to $3.5 million. Will the IRS revisit the gift and seek the additional tax? In 2019, the IRS issued its Anti-Clawback Rule, which disallows such lookbacks. Gifts are taxed (or not taxed) under the law in effect at the time of the gift.

Portability concerns marital estates where one spouse dies. For example, if a couple has an estate worth $27.0 million and one spouse dies, does the surviving spouse have an exemption of $13.6 million or $27.0 million? In other words, is the deceased spouse’s unused exemption portable to the surviving spouse?  Under current law, the answer is yes, but the surviving spouse must make the portability election in a timely manner by filing IRS Form 706. Portability therefore, is not automatic. It must be elected. If the surviving spouse does not file Form 706, then his/her exemption would be $13.6 million.

Estate Planning in Uncertain Times

The question is how to plan during a volatile and uncertain political climate. For calendar year 2024 and early 2025 most of us will be thinking about the November 2024 election and its aftermath. Given the political polarity and the effect the election may have on future tax laws, it is difficult for wealth and tax advisors to recommend a cogent estate plan.

Having said this, taxpayers should have planned their options for what they will do under each election scenario. Of course, there is no guarantee that a democratic controlled government will lower the exemption or a republican controlled government will raise the exemption. But waiting until the fall of 2025 to begin thinking about the issue carries the risk that a cohesive tax avoidance plan won’t be completed in time. If the estate contains privately-held corporate stock, or other assets that would need to be valued, these tasks should be completed beforehand. There is a likelihood that professionals in the field – wealth advisors, tax accountants, valuation experts, etc. – will be unavailable if the taxpayer procrastinates too long.

There are numerous options open to individuals and couples with significant estates. Estate freezes, various types of trusts, etc. can be designed to minimize an estate tax liability. If not already in place, a gifting plan to the next generation can be initiated. You do not have to act on a plan this year. But it is wise to design the plan before it is too late. The process begins by contacting your accountant or wealth advisor.