Estate planning is a critical aspect of financial preparation, providing individuals with the means to protect assets, minimize taxes, and ensure the seamless transfer of wealth to future generations. Recent changes in laws, tax codes, and regulatory frameworks have significantly impacted wills, trusts, and estate planning strategies. This blog explores these updates, how they affect estate planning, and what individuals can do to adapt to the evolving legal and financial landscape.
1. Increased Federal Estate Tax Exemption Limits
The Tax Cuts and Jobs Act (TCJA) of 2017 brought substantial changes to the estate tax landscape, doubling the federal estate and gift tax exemption. As of 2023, individuals can exclude up to $12.92 million (and $25.84 million for married couples) from federal estate taxes. However, this provision is set to sunset after 2025, reverting the exemption amount to pre-2018 levels (approximately $5–6 million, adjusted for inflation).
Impact on Estate Planning:
- High-net-worth individuals currently benefit from the increased exemption, allowing for significant tax-free transfers of wealth.
- Estate plans should account for the potential sunset of these provisions. Strategies such as lifetime gifting or funding irrevocable trusts may help lock in the higher exemption.
2. Portability of the Estate Tax Exemption
Portability, introduced in 2011 and preserved under the TCJA, allows a surviving spouse to inherit the unused portion of their deceased spouse’s federal estate tax exemption. While this is a powerful tool, it requires proactive action through timely filing of IRS Form 706.
Key Considerations:
- Portability offers flexibility for married couples, enabling the transfer of up to $25.84 million tax-free.
- Couples should coordinate with estate planning professionals to optimize their use of exemptions and avoid unintended tax liabilities.
3. State-Level Estate and Inheritance Taxes
Although the federal estate tax applies to a relatively small percentage of estates, many states impose their own estate or inheritance taxes with lower exemption thresholds. For instance:
- Massachusetts and Oregon levy estate taxes on estates exceeding $1 million.
- Maryland is the only state with both estate and inheritance taxes.
Impact on Estate Planning:
- State taxes can erode the value of an estate, even if it avoids federal estate tax.
- Individuals residing in states with low exemption thresholds may benefit from advanced planning strategies such as bypass trusts or changing residency to tax-favorable states.
4. Rising Importance of Income Taxes on Estates and Trusts
Recent tax policy trends have shifted focus from estate taxes to income taxes on estates and trusts. Estates and non-grantor trusts are subject to compressed tax brackets, reaching the top federal rate of 37% at just $14,450 of income (2023 threshold). Additionally, they may be subject to the Net Investment Income Tax (NIIT) of 3.8%.
Strategies to Mitigate Income Taxes:
- Distribute income to beneficiaries in lower tax brackets.
- Explore tax-efficient investment strategies within trusts.
- Consider grantor trusts, where income is taxed to the grantor rather than the trust.
5. Secure Act 2.0 and Retirement Accounts
The Setting Every Community Up for Retirement Enhancement (SECURE) Act of 2019 and its 2022 update (SECURE Act 2.0) introduced significant changes to the treatment of retirement accounts in estate planning:
- Elimination of the Stretch IRA: Non-spouse beneficiaries must now deplete inherited IRAs and 401(k)s within 10 years of the account holder’s death, rather than stretching distributions over their lifetime.
- Roth Conversion Opportunities: Secure Act 2.0 includes provisions that favor Roth accounts, such as expanded Roth contribution options and elimination of required minimum distributions (RMDs) for Roth 401(k)s starting in 2024.
Impact on Estate Planning:
- The 10-year rule accelerates tax liabilities for beneficiaries, necessitating proactive planning to minimize the tax burden.
- Roth conversions during the account holder’s lifetime can provide tax-free growth for heirs and mitigate the impact of the 10-year rule.
6. Irrevocable Trusts and Legislative Scrutiny
Irrevocable trusts are a cornerstone of estate planning, offering asset protection, tax benefits, and control over wealth distribution. However, they have faced increased legislative and regulatory scrutiny, particularly regarding their use for Medicaid planning and tax avoidance.
Recent Trends:
- States have tightened rules for Medicaid asset protection trusts, requiring longer look-back periods and closer scrutiny of transfers.
- Tax authorities are increasingly challenging the valuation discounts used in grantor retained annuity trusts (GRATs) and family limited partnerships (FLPs).
Planning Tips:
- Work with experienced attorneys to ensure compliance with state and federal regulations.
- Regularly review and update irrevocable trusts to adapt to changing laws and family circumstances.
7. Changes to Step-Up in Basis Rules
The step-up in basis, which adjusts the cost basis of inherited assets to their value at the time of the original owner’s death, is a crucial tax-saving provision. While proposals to eliminate or modify the step-up in basis have been floated in recent years, no significant changes have been enacted to date.
Why It Matters:
- The step-up in basis minimizes capital gains taxes for heirs when they sell inherited assets.
- Individuals with appreciated assets should keep an eye on legislative developments and consider strategies to preserve the step-up benefit, such as holding onto highly appreciated assets until death.
8. Digital Assets and Estate Planning
The increasing prevalence of digital assets, such as cryptocurrencies, online accounts, and intellectual property, has added a new layer of complexity to estate planning. Recent state laws, including those based on the Revised Uniform Fiduciary Access to Digital Assets Act (RUFADAA), provide fiduciaries with limited rights to access digital accounts.
Practical Steps:
- Include specific provisions in wills or trusts granting fiduciaries access to digital assets.
- Maintain an updated inventory of digital accounts, passwords, and instructions for heirs.
9. Charitable Giving and Tax Incentives
Charitable contributions have long been a popular estate planning strategy, offering significant tax benefits while supporting meaningful causes. Recent changes to tax laws, such as increased standard deductions under the TCJA, have reduced the number of taxpayers itemizing deductions, potentially affecting charitable giving strategies.
Opportunities for Charitable Giving:
- Use qualified charitable distributions (QCDs) from IRAs to make tax-free donations, reducing taxable income.
- Establish charitable remainder trusts (CRTs) or donor-advised funds (DAFs) to maximize tax efficiency and philanthropic impact.
Adapting Your Estate Plan to Stay Current
With laws and tax codes in constant flux, individuals must regularly review and update their estate plans to ensure they align with current regulations and personal goals. Here are some steps to stay ahead:
- Consult Professionals: Work with estate planning attorneys, tax advisors, and financial planners to navigate the complexities of changing laws.
- Reassess Goals: Periodically revisit your estate plan to account for changes in family circumstances, assets, or priorities.
- Leverage Flexible Strategies: Incorporate tools like trusts, which can adapt to evolving laws, and consider powers of attorney to address unexpected situations.
- Stay Informed: Keep up with legislative changes that may impact estate planning, such as tax reforms, regulatory updates, and new court rulings.
Conclusion
The landscape of wills, trusts, and estate planning continues to evolve, influenced by legislative changes, tax reforms, and emerging trends. By understanding these shifts and proactively adjusting your strategy, you can protect your wealth, minimize taxes, and ensure a smooth transfer of assets to your loved ones.
Don’t let outdated estate plans or a lack of preparation leave your legacy vulnerable. Start planning—or revising—your estate today with the guidance of knowledgeable professionals to navigate the complexities of the modern financial world.