Gift While the Gifting’s Good

Last week I wrote about the IRS’s gift tax rules. The annual gift tax exclusion, which is currently $15,000, is the amount of money (or the value of other property) a person can give away each year to any individual without having to report it to the IRS.

If someone gives more than $15,000 to any one person in any one year, that excess amount is deducted from the gift giver’s lifetime gift tax exclusion, which is now $11.58 million. The Tax Cuts and Jobs Act of 2017 essentially doubled this number, as it had been just over $5 million. Someone passing away whose asset level exceeds their lifetime gift tax, otherwise known as the estate tax, exemption, is taxed on the excess, with tax rates going as high as 40%.

The higher exemption amounts are only temporary, however. The Tax Cuts and Jobs Act sunsets in 2025, and the estate tax exemption is again reduced to $5 million (which is adjusted for inflation).

So if someone passes away in 2020 with $9 million, they can leave all of that money to whoever they want free of estate taxes. If they die in 2025, however, when the exemption drops back down to $5 million, then about $4 million will be taxed.

For this reason, many attorneys and accountants contemplated advising their clients that have more than $5 million to do some serious gifting during this window. Again, if a person has $9 million, the strategy would be to gift $5 million to their loved ones now. This would be deducted from their $11 million exemption, leaving them $6 million to give away over the rest of their lifetime and at death. So if they died after 2025 and the limit is $5 million, they wouldn’t be taxed because they only have $4 million left.

While this sounded great in theory, the regulations weren’t clear if gifts prior to 2025 would be grandfathered when the exemption amount was high. It was possible that the IRS would try to “clawback” these lifetime gifts by deducting them from the estate tax exemption in place at the time the person died.

So again, if our $9 million taxpayer gave away $5 million now and then died in 2025 when the limit was reduced to $5 million, the $5 million lifetime gift would now be deducted from the then current $5 million limit. If they died having $4 million left, all $4 million would be taxed.

So gifting big now was a bit of a gamble. At least until the IRS provided some clarity on the issue last month.

The Service released proposed rules indicating that taxpayers can rely on the exemption amounts today, so large gifts will not be taxed later on when the limits are reduced.

Taxpayers can take advantage of these new rules if they die after November 26, 2019, when the regulations were published in the Federal Register, but they may be applied going back to people dying after December 31, 2017.

So if you know someone who is loaded, be super nice to them. They may be planning on making some big gifts now to avoid some hefty taxes later.