On Wednesday afternoon, after months of speculation, the Congressional Republicans released their and President Trump’s proposal for tax reform/cuts to begin as soon as 2018. Much of the general parameters of the plan have been known for months with few specifics being known. The proposal released on Wednesday didn’t add many specific although the contours of the proposal were now official. Not shockingly, a repeal of the federal estate tax was amongst the proposals presented.
With a formal bill not yet written and a strategy for passage still unclear, it is helpful to look at what the estate tax system-both federal and state-may look like next year depending on what Congress does and whether or not the estate tax factors into the eventual final bill.
Federal Estate Tax Exemption-A Tale of Two Possible Futures.
Currently, the Federal Estate Tax Exemption stands at $5.49 million per individual and a collective $10.98 million for married couples. Under the federal system, through the concept of portability, a surviving spouse may utilize any unused portion of their deceased spouse’s estate tax exemption. Since all assets pass to surviving spouses estate tax free (due to the federal marital deduction), a surviving spouse has great potential to transfer an eight-figure estate to their heirs free of estate tax.
Since 2010, the exemption has been increased annually as a factor of inflation. And although an official decision will not be made by the IRS until next month, the expectation is that the exemption will be increased to $5.6 million per person and $11.2 million per married couple. It is also projected that the federal gift tax exclusion will be increased from $14,000 per beneficiary per year to $15,000.
Under the Trump/Republican plan, the federal estate tax and the generation skipping transfer tax (GST tax) will be repealed. Beyond that, very few specifics are known. Will the repeal begin in 2018, be retroactive or phased in as it was when it was repealed in 2001? What will happen with capital gains treatment of inherited property? Since there will be no longer an estate tax, will property that previously received a step up in basis be given a favorable treatment at death and what, if any, limit on stepped up basis will there be?
Another notable omission from the plan is any mention of the federal gift tax. Given the reduction in revenue that a repeal of the estate tax will create, is it possible that the federal gift tax exemption will be reduced? Or will the system also be overhauled to deal with the reality of an estate tax federal tax system? The coming weeks and months may or may not tell the tale on this issue.
New York and other local State Estate Tax Exemptions.
In New York, the outcome of where the Federal Estate Tax Exemption will land matters more over the next year than any time since 2000. In 2014, Governor Cuomo and the state legislature agreed to increase New York’s state exemption from $1 million to eventually re-connecting it with the applicable federal exemption. Currently and through December 31, 2018, the New York estate tax exemption is $5.25 million. On January 1, 2019, the exemption will be tied to the then in-effect Federal Estate Tax Exemption. What if there is no Federal Estate Tax Exemption? It is unclear as of now what New York would do, but it seems unlikely that New York would follow suit with a full repeal.
Our neighboring states have taken different tacts with regard to their state specific exemptions. Last year, New Jersey repealed their estate tax exemption starting January 1, 2018. They continue to have an inheritance tax for bequests to non-lineal family members and with a new governor entering office shortly after the New Year, there may be additional changes to their estate tax/inheritance tax system. Like New Jersey, Pennsylvania has only an inheritance tax, but only fully exempts bequests to surviving spouses and children under 21. Connecticut has an estate tax with a current exemption of $2 million.
By this time next year, we will likely know what both the exemptions for both the federal and state specific estate tax systems will be. But, as with any change to a tax code, it may be many months if not years before we fully understand the ramifications of these changes.
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