Why now is the time to take advantage of gift tax exemptions

Sally Day, Director, Crowe Horwath LLP

Estate planning opportunities abound for those who are paying attention. Now is the time to sit down with your estate planner to take advantage of tax law that likely will change in the coming year.

The Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 increased the applicable exclusion amount for the estate, gift, and generation-skipping transfer (GST) tax to $5 million from $3.5 million. If Congress doesn’t act, the gifting exemption goes down to $1 million per person on Jan. 1, 2013.

“Those who can benefit from this opportunity should act now before the rate changes,” says Sally Day, director, Crowe Horwath LLP. “This creates significant estate planning opportunities, which need to be acted on as soon as possible.”

Smart Business spoke to Day to learn more about how to take advantage of current estate planning opportunities.

What is the significance of this exemption?

This is a record-setting estate, gift and GST exemption.

Prior to Jan. 1, 2011, the exclusion available to each individual for estate tax purposes was $3.5 million, reduced by the portion of the exclusion previously used to offset lifetime gifts. Before 2011, however, an individual could only use up to $1 million of this exclusion against gifts during his or her lifetime. Therefore, any gifts in excess of $1 million would require that gift tax be paid (at the applicable rate of 45 percent in 2009 and 35 percent in 2010).

Beginning Jan. 1, 2011, the 2010 Tax Relief Act increased the estate tax exemption from $3.5 million to $5 million, but, more importantly, now allows an individual to use up to the full $5 million against gifts made during his or her lifetime. The practical effect of the new law is to allow individuals to gift an additional $4 million during 2011 or 2012 and not pay any gift tax on the gift.

It should be noted that all of these figures are in addition to the ability to gift up to $13,000 per recipient per year without being required to count those annual exclusion gifts toward the $5 million lifetime exclusion.

Why do individuals need to act now?

Unfortunately, the $5 million exclusion is only effective until Dec. 31, 2012. Therefore, individuals who have sufficient assets to provide securely for their living expenses and maintain their current lifestyle should consider making gifts now to use up their $5 million exemption — before the exclusion is reduced in the future. If Congress does nothing before the exemption expires on Jan. 1, 2013, today’s $5 million exclusion will drop back to $1 million, and this window of opportunity will be lost.

The taxable amount of gifts made is measured by the fair market value of the property on the date of the gift, so now is the perfect time to gift away assets that might have a lower fair market value in today’s economy, but have the potential for future growth, such as shares in a family-owned business, units in a family limited partnership, or real estate that has declined in value. After property has been gifted away, not only is the asset itself removed from the donor’s future taxable estate, but the donor is not subject to any additional estate or gift tax on subsequent appreciation on the property.

What does the current GST tax mean for taxpayers?

The 2010 Tax Relief Act also retroactively increased the GST exemption from $3.5 million in 2009 to $5 million for all of calendar year 2010 and through the end of 2012. The GST rate was zero in 2010 but is synchronized with the estate and gift tax rate of 35 percent for 2011 and 2012. Just like the estate and gift tax, the GST portion of the 2010 tax relief act will expire on Jan. 1, 2013, when the GST exemption will revert to $1 million and the GST tax rate will become 55 percent, unless new legislation is passed.

For taxpayers, this means that as they are making large gifts (as recommended above) they should not transfer the assets directly into the ownership of their children, since those assets will be taxed again at the child’s death. Instead, they should consider gifting property either to grandchildren (or other skip persons or more remote descendants) or into a trust that can benefit both the donors’ children and grandchildren without being taxed in the child’s estate.

By properly structuring GST transfers either directly to grandchildren or in trust for their eventual benefit, $5 million of assets can bypass or skip over potential taxation by the donor’s children’s estate.

With the exclusions high and the tax rates low, now is the ideal time for taxpayers to make transfers to their children and grandchildren or anyone else they wish to benefit. It is not known what will happen to the rates when the clock strikes midnight on Dec. 31, 2012, so take advantage of the opportunity while it exists.

Sally Day is a director with Crowe Horwath LLP in the Tampa, Fla., office. She can be reached at [email protected] or (863) 603-4810.