Political Football: Stand Out In The Game Of Practice Differentiation

Three Keys To Navigating High Net Worth Clients Through Estate And Gift Tax Changes

Policy changes that impact tax, retirement and estate planning have always been subject to political debate. To stand out in the game of practice differentiation and capitalize on opportunities for clients, financial advisors must stay informed about changes in laws and anticipate future adjustments.

Stand out in the political football game

Among these changes, estate and gift tax exemption amounts have been a particularly contentious topic. Most recently, the doubling of the federal estate and gift tax exemption amount under the Tax Cuts and Jobs Act of 2017 has allowed individuals to gift or bequeath significant sums tax-free, with the exemption currently standing at $12.92 million for individuals and $25.84 million for married couples (indexed for inflation in 2023).

Furthermore, the SECURE Act, enacted in 2019, limited the use of inherited retirement accounts for estate planning and income tax planning. Although subsequent legislation such as the SECURE Act 2.0 has had fewer implications for estate planning, the landscape remains subject to change. In fact, the doubling of the exemption is due to sunset on Dec. 31, 2025, likely reverting to around $7 million once adjusted for inflation.

These fluctuations in estate tax rates reflect differing perspectives on the extent to which affluent individuals’ wealth should benefit society at large. While we won’t provide a definitive answer to this philosophical quandary today, we can anticipate that the pendulum will eventually swing in the opposite direction (and keep swinging) as the political landscape continues to evolve.

The impending change to the exemption amount necessitates careful reassessment and potential revision of clients’ estate planning strategies. In light of this, here are three key considerations:

Understand Spousal Lifetime Access Trusts (SLATs)

Understand spousal trusts

For married couples, it is important to familiarize yourself with spousal lifetime access trusts (SLATs). These irrevocable trusts involve one spouse making a gift into a trust for the benefit of the other spouse. With this arrangement, one spouse can exclude assets from that spouse’s taxable estate, maximizing the utilization of that one spouse’s increased exemption (again, up to $12.92 million for individuals in 2023).

Because of the SLAT, the beneficiary spouse continues to benefit and enjoy the excluded assets. By utilizing these trusts, couples can not only minimize estate tax liabilities but also protect the gifted assets from creditors, all while providing access to the beneficiary spouse.

Advisors should exercise caution when helping clients establish these trusts in collaboration with their estate planning attorney. It is essential to set up only one trust at a time and for the gifting spouse to have sole ownership of the assets that will be gifted for a meaningful amount of time.

Speak to an estate planner about the advisability of setting up a second trust whereby the first gifting spouse becomes the beneficiary spouse of a second SLAT, this time set up by the beneficiary spouse of the first SLAT. There may be timing issues and reciprocity of trust provisions that could cause this type of planning to be challenged by the tax authorities.

Strategize Around SECURE Act 1.0 And 2.0

The SECURE Act, enacted in 2019 and expanded upon with SECURE Act 2.0 in 2022, introduced significant changes to retirement account policies. Advisors must understand the impact of these legislative changes on clients’ beneficiary designations for retirement accounts, especially regarding trusts as beneficiaries.

The SECURE Act’s 10-year rule requires trusts with individual beneficiaries to distribute the entire inherited retirement account within a decade of the original owner’s death. This compressed distribution timeline affects tax planning and income tax liabilities for trust beneficiaries.

For estate planning, it may be advisable to reconsider using trusts as beneficiaries for retirement accounts. Instead, naming individuals as beneficiaries might be more appropriate, provided the client is not overly concerned about controlling how beneficiaries use or spend the assets. It’s essential to balance the benefit of control against the potential income tax liabilities faced by trusts due to compressed tax brackets.

However, it’s worth noting that the SECURE Act did not significantly alter the rules for spousal beneficiaries, who can still roll over inherited retirement accounts into their own accounts, enjoying flexibility and potential tax advantages.

In the current political landscape, trustees play a crucial role in determining trust assets and optimizing tax benefits for both themselves and the beneficiaries. When trusts are expected to receive retirement benefits, granting a trustee (typically a non-beneficiary) the authority to make appropriate tax elections and structure the trust aligns with income tax planning objectives.

While the details of structuring “see-through” trusts are beyond this article’s scope, including provisions for an “accumulation” trust is important if controlling the beneficiary’s use of retirement benefits is a priority.

Revisit Charitable Bequests

With the implementation of the SECURE Acts, there’s also a stronger incentive to allocate retirement accounts to charitable beneficiaries and other types of assets to individual beneficiaries, enabling clients to make gifts to both parties.

501(c)(3) charities benefit from tax-exempt status, meaning they needn’t pay taxes on profits generated from retirement accounts. In contrast, individual beneficiaries face income tax obligations, which have been further affected by the SECURE Act. Given this context, a tax-efficient approach for a client with $10,000 in cash and $10,000 in a retirement account might be to gift the cash to their child while designating the retirement account to the charity.

Tax-efficient charitable giving

This strategy preserves the full value of $20,000, whereas interchanging the gifts would result in the child inheriting funds from the retirement account and being liable for income taxes. Meanwhile, the charity can fully utilize the $10,000 without the same tax implications.

The Proactive Advisor’s Edge

Tax remains a dynamic social construct shaped by the changing needs and goals of political parties. As advisors, staying proactive and well-informed about evolving estate laws is crucial. While estate planning may not fall solely within advisors’ purview, these discussions can initiate broader conversations about clients’ comprehensive financial plans, including their estate plans. Seizing the opportunity to provide holistic guidance for clients’ financial futures demonstrates proactive leadership in the field.

Anne Rhodes is Chief Legal Officer at wealthtech firm Wealth.com, an estate planning platform provider.

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