The Tax Cuts and Jobs Act (TCJA) temporarily doubles the unified federal gift and estate tax exemption. This is good news for wealthy people with multimillion-dollar estates. But what happens to large gifts made from 2018 through 2025, when the gift giver dies under a lower gift and estate tax regime? On November 20, the IRS proposed regulations to address this so-called “clawback” issue.

Gift and Estate Tax Provisions of the TCJA

When computing federal gift and estate tax, the base exclusion amount (BEA) is a critical number. Essentially, it’s the portion of your estate that will be exempt from gift and estate tax over the course of your life (excluding gifts at or below the annual gift tax exemption). Amounts over the exemption level are taxed at 40%.

The Tax Cuts and Jobs Act (TCJA) temporarily increases the BEA to $10 million per person, adjusted annually for inflation, for 2018 through 2025. For 2019, the inflation-adjusted federal estate and gift tax exemption is $11.4 million per person (up from $11.18 million for 2018). For married couples, the exemption is effectively doubled to $22.8 million for 2019 (up from $22.36 million for 2018). The annual exclusion gifting exemption (the amount you can gift that doesn’t count toward taxable gifts) is $15,000 for 2018 and 2019.

Starting in 2026, the BEA is set to revert to the prior-law, inflation-adjusted $5 million per person, unless Congress extends it. But it’s also possible that Congress could pass legislation to discontinue this tax break before 2026.

Proposed IRS Guidance

Under proposed regulations, a special rule would allow an estate to calculate its estate tax credit using the higher of:

• The BEA applicable to gifts made during a person’s lifetime, or
• The BEA that’s applicable on the date of their death.

The proposal clarifies that “people planning to make large gifts between 2018 and 2025 can do so without being concerned that they will lose the tax benefit of the higher exclusion level once it decreases.”

For example, Mr. Z (a single taxpayer) has never made gifts before 2018. In 2019, he sets up an estate plan that involves making annual gifts up to the annual gift tax exclusion amount. In addition to annual gifts of $15,000, he’s planning to make large gifts of assets worth $11.4 million to his two daughters in 2019. Mr. Z uses $11.4 million of the available BEA under the TCJA to reduce the gift tax to zero.

Unfortunately, Mr. Z dies in 2026. The proposed rule would allow Mr. Z’s estate to calculate its estate tax based on the higher $11.4 million of BEA that was used in 2019. And the IRS would not try to seek retroactive tax on his gifts.

Use It or Lose It

If you haven’t done so already, review your current estate planning strategies to determine what’s right for your circumstances. The TCJA provides unprecedented tax breaks for people with large estates, if they’re proactive about making gifts before the expanded privileges expire.

The TCJA…So Many Changes, So Many Questions…we can help you navigate this huge tax overhaul! Need help with your tax planning? Contact any member of our Tax Services Team.