In December 2010, the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (the “2010 Act”) extended the Bush tax cuts through December 31, 2012 and, among other things, increased the gift, estate, and GST tax exemption amounts to $5.12 million per person in 2012. (For married couples, their aggregate exemptions are twice these amounts.) The 2010 Act also provided for a flat 35% tax rate for any transfers in 2012 that exceed the exemption amount.
Unfortunately, the $5.12 million exemption amount and lower 35% tax rate are set to expire on December 31, 2012, and Congress has not acted to extend (or make permanent) these exemption amounts or the tax rate. If Congress does not act, then effective January 1, 2013, and in future years until changed, the gift and estate tax exemption amounts will decrease to $1 million per person, with only a slightly higher GST tax exemption amount. In addition, the maximum gift, estate, and GST tax rates will increase to 55%. While Congress may act during the remainder of 2012 or sometime in 2013 (and could make any changes retroactive to January 1, 2013), it is uncertain what it will do. For example, Congress could permanently set the gift, estate, and GST tax exemption amounts at only $3.5 million per person, with a flat 45% tax rate.1 This would effectively result in $1.62 million of exemption amount per person “disappearing” after December 31, 2012, potentially resulting in an additional $730,000 of estate tax at death.
If you have not already done so, now is the time to consider whether to make gifts during the remainder of 2012 to utilize some portion or all of your $5.12 million exemption amount. To the extent prior taxable gifts have been made, these gifts would be subtracted from the $5.12 million amount. As suggested below, there are several ways to make gifts of the $5.12 million exemption amount. In this regard, it should be noted if the gift tax exemption is partially or fully utilized in 2012, the amount used will be subtracted from any estate exemption available at death under current law.
Gifting During Remainder of 2012
Without getting too complicated, there are primarily two types of gifts most will want to consider:
(1) Make Gifts Outright or in Trust for Children and Other Descendants. For individuals with sufficient assets who want to make gifts to children and other descendants in 2012, gifts can be made outright or in trust. The GST exemption can also be allocated to gifts made to long-term trusts to protect such trusts from future estate and GST taxes. This is the most straightforward approach to utilize the 2012 gift tax exemption amount.
(2) For Married Couples, Make Gifts in Trust for the Benefit of Your Spouse and Children and Other Descendants. For married couples concerned about preserving sufficient assets for their own support and lifestyle needs, it is possible for an individual to make gifts in trust for the benefit of his or her spouse during the spouse’s remaining lifetime, utilizing the gift tax exemption amount of the individual making the gift. Such a trust would allow the recipient spouse and/or children or descendants to be the lifetime beneficiaries of such trust, and the trust assets would not be subject to estate tax at the death of the recipient spouse. At the spouse’s death, such trust assets could be distributed to or for the benefit of the individual’s children or other descendants or held in further trusts.
Other Factors to Consider When Making Gifts in 2012
Whether to make a large gift will depend on, among other things, the amount and what assets (closely-held business interests, securities, etc.) are owned by an individual and the income tax basis of such assets. For example, it is generally preferable to give away an asset with an income tax basis close to the current value of the asset, since the recipient of the gift usually receives the income tax basis of the person making the gift. Thus, the future capital gains taxes that a recipient would pay if the assets are subsequently sold will offset some of the tax benefits. On the other hand, if the donor has adequate assets, the appreciated assets could be sold by the donor and then cash could be given to the recipient.
We would be happy to assist you in any way with these matters. If you are interested in making gifts or entering into other transactions during 2012, please let us know as soon as possible since the cut-off date is currently December 31, 2012.
1 President Obama’s 2013 revenue proposals have included a projected gift, estate, and GST tax exemption amount of $3.5 million per person, and a flat 45% gift, estate, and GST tax rate.