What is the future of the federal estate tax?
On the campaign trail, President Donald Trump promised to completely repeal the federal estate tax. Now, the president has alluded that the release of his tax reform proposal is on the horizon and commentators expect that he will attempt to follow through on his promise.
Estate planners are among the many groups of professionals curious as to what the plan will entail. Across the country, estate planners are asking the same questions: If President Trump replaces the current estate tax, what, if anything, will take its place? Will repeal of the gift tax accompany the estate tax repeal? And how should we plan for families and individuals during this time of uncertainty?
The current “death tax” taxes estates at 40 percent. However, an estate tax exemption of $5.49 million per individual, and nearly $11 million per married couple, means that less than the top 1 percent of the wealthiest taxpayers in the United States pay any estate tax. Under the current system, the estate tax is not a significant revenue generator for the federal government.
It is uncertain what the federal tax system would look like under the Trump administration. There has been discussion that a Trump tax plan could eliminate the notion of a “step-up in basis” to be replaced by a “carry-over basis.” Currently, the beneficiary of an estate receives a “step-up in basis” as of the date-of-death on the transfer of assets. With a carry-over basis system, beneficiaries would inherit the basis that the donor had in the property and would pay capital gains tax at the sale on the difference between the sale price and the original purchase price.
For example, a decedent leaves shares of stock in a corporation that she purchased in the 1970s at $1 per share to a beneficiary. At the decedent’s date-of-death, the stock is worth $50 per share. With a step-up in basis, the beneficiary would inherit the stock at its current value of $50 per share, and for tax purposes, would act as though $50 was the original purchase price. If the beneficiary wishes to sell the stock at a later date for $70 per share, the beneficiary would pay capital gains tax on the difference between $70 and $50. Under the Trump plan, the beneficiary would pay capital gains tax at the sale of the difference between $70 and $1, the value at which the decedent originally purchased the stock.
President Trump has initially proposed that a “carry-over basis” would take effect on transfers at death in excess of $10 million, with possible exemptions on the transfer of family businesses and family farms. With the highest capital gains tax rate proposal at 20%, this tax system would benefit high-value estates and would have little effect on estates under $10 million.
Alternatively, statements from President Trump and the Republican-controlled Congress suggest that the estate tax may be replaced with a system that either characterizes inheritance as income to be taxed under the income tax or taxes capital gains on death. Capital gains on the death system may result in a system similar to the Canadian system. In Canada, whenever a property is transferred-transfers during a lifetime or transfers upon death-a tax is paid to the federal government. The amount of tax is based on the increase in the value of the property from the time the transferor acquired the property to the value as of the date of the transfer. Implementing a system similar to the Canadian system may be difficult since most Americans are unaccustomed to maintaining sufficient records on the basis of their property at the original date of purchase and to account for additions that might be allowable to add to the basis of property or assets.
Regardless of the future of the estate tax under the Trump administration and into the future, it is important is to have estate planning documents that are flexible and conscious of evolving estate tax, income tax, and capital gains tax issues. If you have a current estate plan, it may be a good time to have an attorney look over your documents to make sure that they will stand up to the changing environment. Michigan does not have a state estate tax, but many states do impose death taxes. If you own property in another state, you might consider how that property is titled and whether the subject property should be transferred to an entity that could help the owner avoid those state death taxes.
An effective estate plan is constructed to plan for both the present and future and includes provisions to address uncertainty. If you are interested in talking to an estate planning attorney at Levine & Levine, please call.