During normal times, we recommend having your estate plan reviewed and updated every four years or in the event of a big life change (divorce, remarriage, moving, a significant shift in assets, etc.) That being said, 2020 has been anything but normal. The COVID-19 pandemic exposed financial, health, and other vulnerabilities that resulted in a surge of clients asking to have their estate planning documents reviewed. In addition to the unprecedented health crisis, we are also in the midst of an election cycle.
Along with new administrations come new laws - laws that will impact you regardless of your political ideology. This is why as estate planners, we have no choice but to think about how a changing political landscape may impact our clients. With the 2020 presidential election just over a month away, many more clients are contacting us with questions about how a change in the administration could impact them and what, if any, action they should take now. The first step is to take a look at how the candidates' tax policies stack up.*
*Source: The charts above are from the City New Rochdale Election Special Bulletin dated September 2020.
As things stand today, very few people are subject to federal estate and gift taxes. The Tax Cuts and Jobs Act (TCJA) of 2017 doubled the estate tax exemption to $11.18 million for singles and $22.36 million for married couples. Indexed for inflation, the 2020 exemption stands at $11.58 million for singles and married couples may now transfer $23.16 million free of Federal estate, gift and GST taxes, either during life or at death. However, the lifetime exemption is set to expire in 2025, when the exemption will revert back to the pre-2018 exemption level of $5 million for an individual taxpayer. Although the current exemption amounts were never intended to be permanent, they could be reduced sooner, and by more than just half, if Joe Biden wins the presidency and Democrats gain control of the Senate. If so, many more estates will likely become subject to estate and gift taxes again.
Issues to Consider:
Outdated Formula Clauses. Formula clauses have been used for many decades to fund a bypass (tax savings) trust with assets up to the maximum amount of the federal estate tax exemption with the “remainder” of the estate (often including IRAs and 401(k) accounts) passing to a surviving spouse. The strategy was developed to take full advantage of the lifetime estate and gift tax credit when it was much lower than it is now.
Suppose an estate was worth $1.5 million when the lifetime exemption was $600,000. Under a standard formula clause a portion of the estate would be transferred to a bypass trust, up to the maximum amount of the lifetime federal estate and gift tax exemption in effect at the time. The rest of the estate would go to the surviving spouse. So, in this case, $600,000 would go into the trust, and the surviving spouse would inherit $900,000. The estate would avoid federal taxes, and the surviving spouse would be provided for.