April 4, 2014
Authored by: Andrew Bleyer and Larry Brody
Inside the Administration’s recently released budget proposal are a few notable proposed changes to the estate, gift and GST taxes, including a return to 2009 rates and exclusions, and the elimination of Crummey gifts and perpetual GST trusts. Keep in mind that the budget proposal is merely a wish list and many of these proposals have been on the list for many years without making it into legislation. Here are the proposals for the 2015 budget:
• Returning to the 2009 GST and gift tax rates and exemptions. The GST and gift tax exclusions are currently $5.34 million each, indexed for inflation. Any GST or gift tax transfers above that amount are taxed at 40%. Beginning in 2018, the proposal would return the GST exclusion to $3.5 million and the gift tax exclusion to $1 million with no indexing for inflation. In addition, the top tax rate would be 45%. Portability would, however, remain.
• Limiting the duration of the GST tax exemption. Under the tax code, it is possible to allocate GST exemption to a trust that could continue forever without ever being subject to transfer tax liability, if state law allows it. The proposal would require that after ninety years, the GST exemption allocated to the trust would terminate and the entire trust would immediately be subject to the GST tax.
• Replacing Crummey gifts with a new category of transfers. Under current law, a taxpayer may exclude a gift of up to $14,000, indexed for inflation, to any individual as long as that individual has present interest in the gift. As a result, taxpayers can exclude gifts to a trust of $14,000 each for any number of trust beneficiaries who have the right to withdraw the gift for a set period of time (a “Crummey power”). The proposal would eliminate Crummey gifts and create a new category of transfers. The new category of taxable transfers would include transfers in trust, in passthrough entities subject to a prohibition on sale, and other transfers that cannot immediately be liquidated by the donee. Each donor would be limited to an exclusion of $50,000 per year on such transfers.
• Minimum and maximum terms on Grantor Retained Annuity Trusts (“GRAT”s). Under current law, property can be transferred into a short term GRAT with zero remainder interest. As a result, so long as the Grantor survives the term of the GRAT, the appreciation on the transferred property can be transferred out of the Grantor’s estate with no gift tax liability. The proposal would require GRATs to have a minimum term of ten years, a remainder interest greater than zero at the time the interest is created, and would prohibit any decrease in the annuity after it is created. In addition, a GRAT would have a maximum term of the life expectancy of the annuitant plus ten years. The result would be an increased likelihood of gift tax liability either because the Grantor does not survive the term of the GRAT or because the remainder interest is greater than zero. See our recent post on GRAT planning for more information.
• Closing the gap between the definitions of ownership of grantor trusts for income tax and estate tax purposes. It is possible under the current tax code to create a trust that is not included in the Grantor’s estate at death, but which is taxed for income tax purposes as if it is owned by the Grantor. The proposal would include in the estate of the Grantor any property that was sold or exchanged between the Grantor and a grantor trust, thus subjecting the property in excess of the sale price to the estate tax at death, or the gift tax if the grantor trust status is terminated earlier.
• Limiting the GST exclusion for another person’s health and education. A transfer made for another person’s health or education made directly to the provider or school is currently excluded from GST tax. Some taxpayers have interpreted this law as excluding GST tax on transfers made from a trust that is specifically created to pay for the health and education of multiple generations of descendants. The proposal would clarify that the GST tax exclusion applies only to transfers made from an individual donor to a medical provider or school, and not to trust distributions.
• Expanding the estate tax definition of executor to be applicable for all tax purposes. The Code currently defines an executor for estate tax purposes but not for other purposes. This has resulted in confusion as to who may act as executor for taxes that arose prior to death. The proposal would extend the estate tax definition of executor to all tax purposes.
• Requiring consistency between basis reported for estate taxes and for income taxes. Under current law, it is possible for the same property to have a different basis for estate taxes than for income taxes. The proposal would require that the basis of property received by reason of death is equal to the basis reported for estate tax purposes. Both the executor of an estate and the donor of a gift would be required to report the valuation and basis information to the recipient and the IRS.
• Extending the lien on estate assets to match the tax deferral on a 6166 election. Under Section 6166, an estate may defer estate taxes on certain closely held business interests for up to fifteen years and three months. In order to secure payment of the tax, Section 6324 imposes a lien on the assets, but only for ten years. The result is a five year three month period during which the deferred taxes are not secured. The proposal would extend the tax lien under Section 6324(a)(1) to match the Section 6166 deferral period.