Federal Estate Tax Strategies To Consider Before It’s Too Late

Prepare now for big changes in the federal estate and gift tax exemption.

By Keith K. Grissom
Keith Grissom
Keith Grissom

Under current law, in 2023 individuals are able to give away during their lifetime, or pass along to others at their death, up to $12.92 million in assets, or $25.84 million in assets for a married couple, without causing any federal gift or estate taxes. This lifetime exemption from gift and estate taxes, technically referred to as the “basic exclusion amount,” is unified, meaning that gifts made during life that reduce the lifetime gift tax exemption will also reduce the individual’s estate tax exemption at death. Any amount given away during their lifetime or passed to another at their death in excess of this amount will be taxed at rates of up to 40%.

There are, however, ways to make gifts without using the lifetime exemption. In 2023, each individual may gift up to $17,000 per calendar year to any number of individuals or qualifying trusts without incurring a gift tax. This is called the “annual exclusion.” Married couples can currently gift up to $34,000 per donee, gift-tax-free. Like the lifetime exemption, the annual exclusion is indexed for inflation, with an expected increase next year to $18,000 per donee.

In addition, payments made to cover tuition or medical care expenses for someone can be made without using the lifetime exemption or annual exclusion.

Gift splitting is an option

Suppose a grandmother decides to gift $17,000 to her granddaughter in 2023 for her granddaughter to use however she wants. There are no gift tax consequences to this transfer. What if instead the grandmother gives the granddaughter $20,000 in 2023 for use however she wants? In that case, grandmother will have used $3,000 of her lifetime gift and estate tax exemption (reduced to $12,917,000), with the balance being covered by the annual exclusion. She will also be required to report the gift on a gift tax return.

Let’s instead assume that the grandmother and grandfather each give $10,000 to the granddaughter. Neither the grandmother’s nor grandfather’s lifetime exemption will be used, as the gifts will be covered by the annual exclusion and neither will be required to file a gift tax return. In the example above, where only the grandmother makes the $20,000 gift, if she files a gift tax return for 2023 and she and the grandfather consent to “split” the gift, then the result will be the same as though each gave half the gift, allowing the grandmother to preserve her lifetime exemption.

No matter which spouse actually made the gift, the gift-splitting option allows one spouse to make gifts using both spouses’ annual exclusions, for a total gift of $34,000. The IRS looks at the totality of a married couple’s gift, as long as the gift-splitting section is filled out on the gift tax return, which requires the signature of the other spouse.

Marital deductions

Transfers between spouses or to certain trusts for spouses, made during life or at death, can also be gift and estate tax-free due to the unlimited marital deduction.

The current lifetime gift and estate tax exemption amount is a result of the 2017 Tax Cuts and Jobs Act (TCJA), which doubled the lifetime estate and gift tax exemption amount from $5.6 million to $11.18 million for individuals, indexed for inflation after 2018. Due to a sunset of the TCJA, this increased, or “bonus” exemption, will disappear beginning January 1, 2026, with the gift and estate tax exemption at that time being reduced to $5 million, adjusted for inflation, unless the higher exemption is extended by Congress.

Currently, it is believed that the lifetime exemption beginning in 2026 will be around an estimated $7 million per individual. Consider that the loss of additional lifetime exemption from $12.92 million to $7 million would result in an increase in estate taxes of $2,368,000, assuming a 40% rate.

As a result of the sunset, there is an incentive to use the bonus exemption now while it is still available. Otherwise, you lose it. This can be illustrated by the following examples.

The power of SLATs

A commonly used estate planning technique to use the lifetime exemption is the creation of a “spousal lifetime access trust,” or SLAT. With a SLAT, the donor spouse creates and funds a trust for the other spouse, with the donee spouse having the right to receive distributions during life. Sometimes a SLAT is created to take advantage of the unlimited marital deduction. However, a SLAT can instead be designed to use all or a portion of the donor spouse’s lifetime exemption while it is available, allowing the assets to continue to grow outside of the donor’s (and the donee’s) taxable estate. As long as the spouses remain married, the donor spouse may still be able to indirectly benefit from the donee spouse’s ability to use the SLAT assets.

Suppose a donor spouse creates and funds a SLAT in 2023 with $9 million, leaving $3,920,000 in available lifetime exemption. In 2026, when the lifetime exemption is reduced to $7 million, the donor spouse will have no lifetime exemption remaining. In fact, the donor spouse will continue to have no lifetime exemption until inflation adjustments cause the lifetime exemption amount to exceed $9 million, assuming that the lifetime exemption will continue to adjust for inflation. However, the donor spouse will have benefitted from using an additional $2 million in bonus exemption.

When both spouses create SLATs

What if both spouses intend to create a SLAT for the other? Things can get a bit more interesting. Say the husband creates a SLAT for the wife with $6 million in assets, and the wife funds a SLAT for the husband with $6 million in assets. In 2026, when the lifetime exemption has been reduced to $7 million, the husband and wife will each have $1 million in lifetime exemption remaining ($2 million total) and will have sheltered $12 million in assets from estate taxes.

Consider instead that the husband funded a SLAT for the wife in 2023 with $12 million in assets. The wife does not fund a SLAT for the husband. In 2026, the husband will have no exemption available. However, the wife will still have her full $7 million lifetime exemption available and $12 million sheltered from estate taxes, meaning that an additional $5 million over the prior example would be available to shelter assets in the future from estate or gift taxes.

The same concept should be considered for spouses using gift splitting. For example, consider the same situation as above, except that in 2023, the husband funds a trust for the grandchildren using $12 million of assets and the wife consents to split the gift on a gift tax return with her husband. As a result, each will have used $6 million of lifetime exemption and each will be left with $1 million of lifetime exemption in 2026. If, however, the husband and the wife didn’t split the gift, then the wife would still be left with the full $7 million available in 2026.

‘Clawback’ concerns

What if someone dies after 2025 with the lifetime exemption being reduced but having used the bonus exemption? Fortunately, the IRS has indicated in guidance that even if the lifetime gift and estate tax exemption decreases, any previously used exemption will still be respected at death. In other words, with a few exceptions, there will be no “clawback” of the previously used gift tax exemption at the donor’s death, even if the donor made gifts during life in excess of the available estate tax exemption amount at death.

In addition to the federal estate taxes, a number of states impose their own estate and inheritance taxes. Currently, 17 states and the District of Columbia impose an estate or inheritance tax, with exemptions among the states varying greatly. As a result, additional planning to coordinate state taxes and exemptions with the federal taxes and exemptions should be considered.

Keith Grissom, an officer at Greensfelder, counsels businesses and individuals on matters including estate planning and closely held business succession planning. Keith’s experience includes addressing income, estate, generation-skipping transfer and gift tax issues related to estate planning and trust administration.

Latest news

Affluent Women Influence 85% of Charitable Giving Decisions: BofA

Younger generations, including millennials and GenZ, show growing philanthropic influence with a spotlight on climate change causes.

Insurer Cigna to Pay $37 Million to Settle Medicare Charges

The company submitted false information that increased its Medicare Advantage payments, the U.S. government says.

Texas Investment Firm Settles Madoff Charges

A U.S. government lawsuit accused it of fraudulently obtaining payments meant to compensate victims of Bernard Madoff's massive Ponzi scheme.

Financial Planning: Progress But a Long Way to Go

The profession is still struggling with a lack of diversity and confusion over what planners do for clients, say industry leaders.

Financial Planner Accepts Industry Honor

Ross Levin, a longtime financial planner, accepted the P. Kemp Fain, Jr. Award today at the Financial Planning Association's annual conference.

Student Loan Payments Threaten Retirement for Many Older Americans

Not only young professionals but seasoned employees are feeling the weight of student loan payments, which are resuming in October