Wealth Transfer Strategies to Consider in an Election Year
With the Democratic party pushing to revert federal estate tax laws to their historic norms, it’s crucial for taxpayers to act now. Pending legislation could significantly impact your estate. Currently, the federal estate and gift tax exemption stands at $11.58 million per individual. Estates exceeding this exemption face a 40% federal tax rate, with some states adding additional estate taxes.
Importantly, assets included in a decedent’s estate receive a stepped-up income tax basis—meaning the asset’s basis resets to its fair market value at the date of death. This reduces capital gains taxes for beneficiaries when they sell the assets, as gains are only taxed on appreciation after the decedent’s passing.
Potential Election Impact on Estate Tax Laws
A change in political leadership could lower exemption limits and possibly eliminate the stepped-up basis benefit. To protect your wealth, consider implementing these strategic wealth transfer methods before year-end.
Intrafamily Notes and Sales
The Federal Reserve’s recent interest rate cuts provide an opportunity. Donors can loan money or sell income-producing assets (such as family business interests or rental properties) to relatives via promissory notes at the current low applicable federal rate. If the investments outperform the interest rate, this strategy effectively transfers wealth without using the donor’s estate or gift tax exemption.
Swap Power for Basis Management
Assets transferred to irrevocable trusts keep the donor’s original tax basis, often resulting in larger capital gains taxes when sold. Exercising swap power allows exchanging low-basis trust assets for high-basis personal assets included in the donor’s estate, thereby securing a stepped-up basis at death and minimizing future capital gains taxes.
Example: Phoenix gifted real estate to an irrevocable trust in 2015. Without swap power, the trust pays capital gains tax on the full appreciation when selling. Using swap power before death, Phoenix exchanges the property for higher-basis assets, reducing the taxable capital gains dramatically after death.
Grantor Retained Annuity Trust (GRAT)
A GRAT lets donors transfer asset appreciation to beneficiaries with little to no gift tax exemption use. The donor retains an annuity for a term, and any excess appreciation passes to beneficiaries tax-free.
Example: Kevin funds a GRAT with $1 million at a 0.8% interest rate. Over three years, his assets appreciate 5%, enabling him to transfer $95,000 to beneficiaries with minimal gift tax impact.
Installment Sale to an Irrevocable Trust
Selling assets to an irrevocable trust with a “seed” gift (typically 10% of the sale value) demonstrates a bona fide sale to the IRS. This strategy passes asset appreciation to beneficiaries while preserving estate and gift tax exemptions and can include valuation discounts for minority business interests.
Example: Scooby sells a minority interest in his $100 million family business to an irrevocable trust, removing $200,000 in value from his taxable estate while only using $80,000 of gift tax exemption.
Spousal Lifetime Access Trust (SLAT)
SLATs let donors lock in the current high estate and gift tax exemptions by transferring assets to trusts benefiting their spouse and other beneficiaries. Assets in a SLAT are excluded from both spouses’ taxable estates and protected from creditor claims.
Example: Karen and Chad fund separate SLATs with $11.58 million each. Even if estate exemptions drop, they avoid estate tax clawbacks and save millions in taxes.
Irrevocable Life Insurance Trust (ILIT)
Transfer existing life insurance policies or have the ILIT purchase a new policy. Gifts to the ILIT cover premiums and qualify for the annual gift tax exclusion. The policy’s death benefit is excluded from the donor’s taxable estate and income tax-free to beneficiaries.
When to Talk to an Estate Planner
If these strategies interest you, or if you’re concerned about legislative changes affecting your wealth, schedule a consultation now—preferably before year-end. We can review your estate plan and recommend tailored solutions to safeguard your assets.
Call us today at (207) 848-5600
