This is the third article in a series discussing various tax planning opportunities that should be considered in the wake of the recent elections. For the prior articles see:
President-Elect Trump has made it clear that he intends to repeal federal estate taxes. In light of the Republican majorities in the House and Senate, prognosticators believe that estate tax repeal will occur in the near future. Assuming that estate taxes are repealed, there are numerous questions.
First, when will the repeal occur? The last time that estate taxes were repealed in 2001, the repeal did not actually occur until 2010. If there is a repeal with a delayed effective date, you will still owe taxes if you are unfortunate enough to die before the repeal becomes effective.
The second issue is whether repeal will be permanent. Federal estate or inheritance taxes have been repealed four times in the past (1802, 1870, 1895, and 2010). Each time the tax was repealed, it was later reenacted in a different form. The most recent reenactment actually occurred in 2001, by the same Congress that repealed the tax for 2010. They actually voted for the tax to reappear in 2011! Based on history, I do not expect that repeal will be permanent. It is easy to imagine a day when the 99.9% who will not have to pay the tax again decide that it is fair for our wealthiest taxpayers to pay a tax upon death. Of course, this is grossly unfair to the 0.1%, but it was unfair every other time that estate taxes were enacted.
The third issue is whether the revenue loss from estate tax repeal will be replaced, in whole or in part, by a loss of stepped-up basis, or, even worse, capital gains tax upon death. Under current law, the income tax basis of assets gets changed to the fair market value of the assets owned upon death. The asset can be sold by one’s heirs soon after death without paying capital gains tax. If stepped-up basis is removed, the tax will need to be paid when assets are sold after death. When the tax was repealed in 2010, stepped-up basis was removed, though there was a limited amount of basis step-up granted. Unlike estate taxes, which currently only are paid by 0.1% of decedents, stepped-up basis benefits the families of all decedents who own appreciated assets.
A more troubling possibility is a capital gains at death tax system, which is used in Canada. This system would impose a capital gains tax on the built-in gains on assets owned at death. If you lose stepped-up basis, at least you can postpone the date upon which the tax will be incurred. If taxes are imposed at the time of death, the ability to postpone the tax will be lost.
Several clients have asked us whether they should alter their estate planning in light of the proposed repeal of estate taxes. In my opinion, it is premature to alter your estate planning based upon the assumption that you will die in a year in which estate taxes do not exist. As a general rule, if there are sensible strategies to remove assets from your taxable estate, I recommend that you implement these strategies. As always, you should favor strategies that are flexible so that you can take advantage of future opportunities.