Originally published in Wealth Point, August 2018
With the increased exclusion amounts for estate taxes, now may be an opportune time to reexamine your estate and trust plans to take advantage of the new tax reform. We encourage you to speak with your advisor about how these new tax laws may impact your wealth plan. What if you had the opportunity to double the amount you can give to your loved ones without tax implications? This is a question that we have been discussing with many clients when it comes to their trust and estate planning.
With the passage of the Tax Cuts and Jobs Act in December 2017, the lifetime exclusion amount for estate, gift, and generation- skipping taxes was doubled to $11.18 million this year (from the $5.49 million that was available in 2017). This means that you can pass up to the $11.18 million in assets without being hit with taxes—and your assets can be gifted during your lifetime or transferred at death. Assets that exceed the $11.18 million exclusion amount are taxed at 40%. It’s important to note that this increased exclusion amount is not permanent; unless Congress acts to extend this higher exclusion, it will sunset on January 1, 2026.
Given the temporary nature of this increased exclusion amount, it’s worthwhile to consider if you should gift the assets now versus waiting until you pass. Let’s consider two questions that may help in your evaluation and discussion of potential estate plan changes.
In general, the greater the expected appreciation, the more value there is in gifting today. This is especially true if your net worth is nearing the exclusion amount or is expected to reach the exclusion amount at your death. For example, if you have
real estate investments that are poised for exponential growth in the coming years, giving it away today may be an advantageous approach. Similarly, if your business is in its early stages, it may be best to give it away today, rather than gifting ownership in the business after it has matured.
The growth potential of your assets is key since this increases your net worth. Upon your death, every dollar that exceeds the exclusion amount will be taxed. By removing potential high growth assets from your estate while they are still lower in value, you will allow for future appreciation to grow outside of your estate, thereby eliminating unnecessary estate taxes.
When you gift assets (such as qualified stocks, real estate or other capital assets) to your beneficiaries, these assets get a “step- up” in basis upon your death, meaning the value of your assets is readjusted to reflect the change in market value at the time of the inheritance. This is significant because the step-up in basis effectively eliminates the tax on gains. For example, if you have a piece of property that is worth $3 million at the time of your death and its cost basis is $50,000, the basis would be stepped up to $3 million. Your beneficiaries could sell the property with no recognition of gains.
If you have assets that have a low-cost basis, it may be better to leave these assets to pass to your beneficiaries after your death, rather than gifting them during your lifetime. This is especially true for assets that already have a low-cost basis, have appreciated significantly, or may not appreciate greatly between now and the time of your passing.
Once the decision to gift has been made, you need to consider whether to gift the assets outright or via trust. On rare occasions, an outright gift may make sense. Let’s say, for example, you’re considering giving $10,000 to your child as a birthday gift or providing $30,000 for a down payment on a house.
For most other scenarios, using a trust to gift your assets is a better approach. Oftentimes, beneficiaries may not manage or spend those gifts responsibly, or your heirs may be too young to handle significant wealth. Even with beneficiaries who are well-equipped to manage their wealth, a trust can help protect your beneficiaries from unexpected risks. For example, a gift trust can help you control the timing, conditions, and distribution amounts.
Utilizing a trust can also help mitigate taxes. A grantor trust, designed to provide tax- free growth to beneficiaries, and a dynasty trust, which allows you to pass assets to multiple generations free of estate taxes, are particularly beneficial in today’s high exclusion environment. We encourage you to speak with your advisor about whether your estate and trust plans would benefit from these recent tax changes.
Past performance may not be indicative of future results. Therefore, no current or prospective client should assume that the future performance of any specific investment, investment strategy or product made reference to directly or indirectly, will be profitable or equal to past performance levels. All investment strategies have the potential for profit or loss. Changes in investment strategies, contributions or withdrawals may materially alter the performance and results of your portfolio. Different types of investments involve varying degrees of risk, and there can be no assurance that any specific investment will either be suitable or profitable for a client’s investment portfolio. Historical performance results for investment indexes and/or categories, generally do not reflect the deduction of transaction and/or custodial charges or the deduction of an investment-management fee, the incurrence of which would have the effect of decreasing historical performance results. Economic factors, market conditions, and investment strategies will affect the performance of any portfolio and there are no assurances that it will match or outperform any particular benchmark.
This document may contain forward-looking statements including statements regarding our intent, belief or current expectations with respect to market conditions. Readers are cautioned not to place undue reliance on these forward-looking statements. While due care has been used in the preparation of forecast information, actual results may vary in a materially positive or negative manner. Forecasts and hypothetical examples are subject to uncertainty and contingencies outside Mercer Advisors’ control.
You are leaving the Mercer Global Advisors website and will be redirected to the Science of Economic Freedom (SOEF) website. SOEF is brought to you by Mercer Advisors Inc., the parent company of Mercer Global Advisors Inc., and is not involved with investment services. Mercer Global Advisors Inc. is an SEC-registered investment adviser headquartered in Denver, CO.
The Science of Economic Freedom website should not be construed by any consumer and/or prospective client as Mercer Advisors’ solicitation to effect, or attempt to effect, transactions in securities, or the rendering of personalized investment advice for compensation, over the Internet. Furthermore, information on the SOEF website should not be construed, in any manner whatsoever, as the receipt of, or a substitute for, personalized individual advice from Mercer Advisors.