Estate Planning during the Coronavirus Pandemic

Current economic conditions shaped by the COVID-19 pandemic have resulted in some unique opportunities for estate tax planning. Now is the time to take advantage of economic uncertainty to maximize income and estate tax efficiencies.

For background, the current federal estate and gift tax exemption is $11.58 million (indexed for inflation). Under current law, the exemptions will revert to $5.6 million, indexed for inflation, on January 1, 2026. The federal estate, gift and generation-skipping transfer tax rate is 40%.

In the current economic climate, interest rates have continued to drop, allowing for more effective estate tax planning strategies to be implemented. Taxpayers have an opportunity to shift wealth at discounts and/or lower valuations, resulting in more tax efficient estates for the future. We should also consider that with the stimulus spending, it is possible that tax rates may increase and/or the unified estate and gift tax exemption amounts may decrease before January 1, 2026. While we certainly cannot predict future tax law changes, we do know the government will need to find ways to catch up with all of the additional spending being undertaken through initiatives such as the Payment Protection Program, the Economic Injury Disaster Loan Program and the Main Street Lending Program, to sustain businesses and individuals during the pandemic.

Below is an overview of several strategies that could be considered as part of an income and estate tax plan:

Sale to Intentionally Defective Grantor Trust (IDGT)

• Taxpayer sells assets in exchange for a promissory note.
• No income tax recognition on sale.
• Removes the trust asset from the taxpayer’s estate. Ideal for assets with high potential for appreciation over current valuations. While assets are excluded from the grantor’s estate for federal estate tax purposes, the grantor is considered the owner for income tax purposes.
• Interest rates are currently at historic lows. In May 2020, interest rates for mid-term loans (3-9 years) are 0.58%.

Grantor Retained Annuity Trust (GRAT)

• Grantor transfers assets (ideally those with significant potential for appreciation) to an irrevocable trust that will provide an annuity payment to the grantor for a fixed number of years.
• Any appreciation in the assets in excess of the annuity amount passes to the ultimate beneficiaries of the trust, free of gift tax.
• Can be structured as a “zeroed-out” GRAT – effectively no gift tax exemption used on the transfer to trust.
• The IRS sets a monthly rate (Section 7520 rate) at which assets are assumed to grow. For May 2020, this rate is set at 0.8%. Assets that appreciate in excess of this rate pass to beneficiaries free of gift tax. Another way of looking at this – the appreciation is never part of the grantor’s estate.

Charitable Lead Annuity Trust (CLAT)

• Taxpayer should be charitably inclined now, or charitable gifts can be setup as part of estate planning documents for funding post-mortem.
• Grantor transfers assets to a trust for a term of years.
• Trust makes an annuity payment each year to charity (or private foundation).
• At the end of the trust term, assets are distributed to non-charitable beneficiaries (children, grandchildren, etc.).
• All appreciation above the Section 7520 rate is removed from the estate, tax-free.
• Can be setup as a grantor trust for grantor to receive an income tax deduction as well.

Re-finance loans including intra-family loans

Impact of current market uncertainty and volatility on valuation interests in family businesses may result in an opportune time to gift at greater discounts.

Swaps

• Grantor (taxpayer) of a trust with substitution powers can swap low-basis assets out of an intentionally defective grantor trust, with assets that have higher basis.
• Result is low-basis assets are reacquired and brought back into the estate, in order to achieve a step-up in basis at death. The high-basis assets escape the estate tax at death. Substitution of equivalent valued assets by grantor and a grantor trust is not a taxable event (as stated in Revenue Ruling 85-13).

Gifting

• Outright gifts may make sense in current conditions, particularly for assets with significantly depressed valuations. When markets recover, the increase in value will be owned by the recipient of the gift, free of any gift tax.

Roth IRA Conversions

• If an IRA owner converts a traditional IRA to a Roth IRA, income tax will be triggered on the conversion (downside is this accelerates income tax). However, not only will the IRA assets grow tax-free, future withdrawals will be tax-free as well. Given current economic conditions and depressed valuations, potential to take discounts effectively on such conversions.
• In addition, consider current and future tax rates. As it stands, under current law, the highest individual income tax rate will increase from 37% to 39.6% for tax years beginning after December 31, 2025.

In conclusion, these times of uncertainty can be used to a taxpayer’s advantage when it comes to maximizing income and estate tax efficiencies. For more information on these or other tax strategies, contact your Marcum Trust and Estate tax advisor, or Lance Lvovsky, CPA at 954.320.8077 or email Lance.

Coronavirus Resource Center

Have more questions about the impact of the coronavirus on your business? Visit Marcum’s Coronavirus Resource Center for up-to-date information.