How Do The Latest Tax Law Changes Affect Estate Planning?

The federal tax laws changed in December 2017. President Trump and the Republican-led Congress raised the federal estate tax exemption dramatically. In 2001, that federal estate tax exemption had been $675,000. Now it is at $11,180,000 for individuals, or $22,360,000 for married couples. (These exemption levels are indexed for inflation, so less than two years later they are already up to $11,400,000 and $22,800,000.)

For estates that exceed $11 million dollars and qualify, the federal estate tax rate is 40 percent.

So, these legal changes do not directly impact at least 99% of US citizens.

Might they still have an impact on your estate plans, though?

Tax Law And The Affect On Estate Planning

tax paperwork

If you established your estate plan more than a decade ago, there is a good chance you had one provision in place that may be affected by the exemption change.

It was a common strategy in the early 2000s (and earlier than that) to state the following in one’s estate plans:

“Any money that can pass free of the estate tax should go to my children. Any remaining money after that should go to my spouse.”

With a significantly lower federal estate tax exemption level, that language made much more sense. For an estate totaling one million dollars, say, $675,000 would be divided between the children, and the remaining $325,000 would go to the surviving spouse. That language was a way of protecting children from taxes, while assuming that the exemption level would change — the language would let the estate automatically follow financial adjustments. The estate would naturally take into account the level where that exemption level hovered at the time of the decedent’s passing.

Now that the exemption level is through the roof, however, that language makes less sense. By going from less than one million to more than 11 million, many estate plans will need to amend that language, so that the surviving spouse is not left completely empty-handed in the estate plans.

Something else to think about is capital gains taxes.

Capital Gains And Estate Planning

Generally, when someone inherits property, that property is worth more than what the original owner paid for it. If the heir (the inheritor) were then to sell the property, there may be excessive capital gains taxes.

However, when someone inherits property in the event of a death, that property’s tax basis is “stepped up.” That means the tax basis would be the property’s current value.

If that property is given as a gift rather than bequeathed at the time of death, there is no “stepping up” of the tax basis. The person receiving the gift would then need to pay a capital gains tax.

In the past, people would avoid the estate tax by passing property along in a trust — the thinking being that the capital gains tax they’d have to pay would be less than the estate tax. But now that the federal estate tax is a non-issue for most of us, it is likely smarter for your beneficiaries to just inherit the property. If you are not passing along a $12 million estate, then your children can just inherit your property rather than deal with a trust.

All of these changes are only relating to the federal estate tax, and not to individual states’ estate taxes. With that in mind, you definitely would want to talk with your trusted estate planning attorney before you make any changes to the documents you already have in place.