In estate planning, flexibility king

Steve Gammill
Steve Gammill

In times of uncertainty, flexibility is king. And for perhaps the past decade, we’ve been in a period of uncertainty regarding estate and gift tax law.

Currently, the amount that can be passed on to heirs without paying any estate or gift tax on that transfer is $5 million per person. After adding the allowed adjustments for inflation, that amount is somewhat higher.

The collective sigh of relief when federal legislation establishing the latest exemption was enacted could be heard without straining your ears. For most Americans, the elephant in the room had been shown the exit. There was no longer any need to spend those big bucks on estate planning lawyers and accountants, at least for tax avoidance purposes.

“Whoa…slow down. Wait a minute,” I tell clients. “You do remember at least two recent go-arounds in which Congress dealt with the estate tax exemptions and, at the 11th hour, passed legislation setting exemption amounts that would expire at the end of two years? And further, if the expiration date came and went with no congressional intervention, those amounts would revert to $1 million per person?”

What does that tell us? For one, it tells us that our security blanket could be at risk. We can rely on relatively high exemptions on estate and gift tax to the same extent we can rely on Congress not to enact sudden changes. It’s not written in stone.

That shouldn’t surprise us. Federal legislation is never written in stone. But over the course of decades and up until this past one, there’s been little change in the transfer tax exemption amounts and certainly nothing with the tag line that literally states, “Don’t count on it down the road.”

I don’t take delight in watching the wind taken out of my clients’ sails as we have this conversation.

The practicality is that it’s a hard sell, and it should be, to counsel clients to engage in more advanced and complex planning when the client’s total estate, between husband and wife, amounts to $4 million and the combined exemptions for that couple totals $10 million.

If, however, the exemptions should revert to $1 million — $2 million for a couple — the taxable remainder could result in $1 million paid to the tax man.

What to do, what to do?

Fortunately, there are a few solutions. Building flexibility into planning is always a good idea, especially in these times. Consider, for example, including a charitable lead trust in your revocable living trust as the clean-up hitter should a change in law resulting in transfer tax liability for your estate.

A portion of the taxable estate, that part remaining above the then exemption amounts, would be gifted to a trust at the death of both you and your spouse. That new trust would last for a stated number of years, during which income derived by the trust from the invested gift is periodically paid to designated charities. The principal can remain intact and at the expiration of the trust term pass to your loved ones.

Yes, it is an advanced concept. But remember a clean-up hitter can hit a homer in reducing and even eliminating an unexpected taxable estate.

Flexibility is king.