As I write this, Congress and the Biden administration are wrestling over the massive Build Back Better Act. The bill (H.R. 5376) has gone through multiple revisions as various factions weigh in. At one point, it contained a number of changes to current law to fund some of the goals of the Biden administration. These changes included, at one point or another, some mix of the following:
- Reducing the amount that individuals could gift during lifetime or bequeath at death before application of federal transfer taxes
- Eliminating the so-called “step up” in basis that occurs at death and enables those inheriting assets to avoid tax on the capital gains accruing during a decedent’s lifetime
- Taxing capital gains at death or sooner without need for a sale of assets
Understandably, estate planning professionals and clients concerned about passing down wealth with a minimum of taxes have been scrambling to think of ways to adjust plans to account for these changes. However, as of today (and this could certainly change) the Build Back Better Act (H.R. 5376) contains no modifications to the estate and gift tax exclusion amount or the basis step up rules. That is good news for all of the carefully planned trusts that currently exist out there.
But there are a number of caveats to this good news. The first, of course, is that Congress could change its mind and re-insert changes in the final bill. The second is that the current state of affairs was always meant to be temporary. The current $11.7M estate and gift tax exclusion was provided under a temporary law under the Trump Administration. Even without any act of Congress, the exclusion will be cut by about half effective January 1, 2026. Amounts in excess of the exclusion (probably about $6.5M indexed to inflation) will be taxed at the highest federal rate of 40%.
In addition, trust income will be subject to the "Millionaire's Tax" in the Build Back Better Act. The proposal is that there will be a 5% tax surcharge on income over $200,000 and an additional 3% on income over $500,000. These income limits are substantially lower than those for non-trust income.
Because of the chance that both the estate and gift tax exclusion will revert to the lower amounts in 2026 and that the trust income tax surcharges will take effect, estate planners are starting to look at re-structuring estate plans (particularly those for estates of more than $6.5M) to solve for the new tax situation. Trusts such as an A/B (or C) trust, which splits the original revocable trust into two trusts upon death (thereby lowering the amount of each trust below the new limit) might become popular again. They have restrictions and can be complex and difficult to manage, but the tax savings can be substantial. I will outline the specifics of A/B (C) trusts in a later blog post.
The upshot of all the above is that, if you are fortunate enough to have an estate that you project to be more than $6.5M (which is, admittedly, a bit of a champagne problem) you should be actively working with an estate planner who is tracking these changes and has a strategy for adjusting your plan to compensate. It is also a good idea to think about who you will use as a trustee - most non-professionals are not able to manage the complexities of administering these trusts.
