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What Will Happen When the Current Gift and Estate Tax Exemption Sunsets in 2025?

August 17, 2023

The federal government, and some state governments, have a gift and estate tax that applies to assets transferred to another party. However, the tax only applies if the transfers exceed a specific threshold. Amounts below that threshold are exempt from tax. In 2017, the federal exemption was raised significantly through the Tax Cuts and Jobs Act of 2017, which resulted in fewer estates being taxed. However, the higher exemption is due to sunset at the end of 2025 unless Congress takes further action. Accordingly, this is a good time to review your estate plan to determine whether you should be taking any steps to reduce estate taxes in the event the current law does indeed sunset. 

What Are Gift And Estate Taxes?

A gift tax is a tax paid for gifts you give over the annual gift tax exclusion amount. In 2023, you can gift $17,000 a year to as many people as you want. If you go over this amount, it would be applied to your lifetime gift and estate tax exemption, which federally is currently $12.92 million.

An estate tax applies to estates (including money, property, and other assets) whose value exceeds the available estate tax exemption valued at the time of death.

How Are Gift and Estate Taxes Calculated? 

Under IRS regulations, a unified rate schedule is applied to an individual’s taxable gifts made during his or her lifetime and taxable estate upon death. The tax is determined after applying a credit based on the exemption amount. 

The credit is first applied to taxable gifts made during an individual’s lifetime. Any remaining credit is then applied at death to assets in the individual’s name. 

What Is the Exemption? 

The 2017 law doubled the exclusion amount for gift and estate taxes for the years 2018 to 2025. Each year, the number increases slightly to take into account inflation. For 2023, the exemption is $12.92 million. 

When Does the Exemption Sunset?

Unfortunately, the current all-time high federal estate and gift tax exemption is scheduled to end on December 31, 2025. Absent intervening legislation, the exemption will be cut roughly in half beginning January 1, 2026. 

It is impossible to know whether Congress will introduce and/or be able to pass legislation to extend the current exemption. However, given the ongoing political deadlock in Congress, no one should assume that Congress will intervene to avoid the sunset.

How Will This Impact Sizeable Gifts Made from 2018 to 2025? 

The IRS issued a ruling in November 2019 addressing the uncertainty of how gifts would be treated if the law sunsets. The ruling allows an estate to compute its estate tax credit using the greater of the exemption application to gifts made during the decedent’s lifetime, or the exemption at the date of death. 

For example, an individual gives gifts of $9 million in 2023, when the exemption is over $12 million but then passes away in 2026, when the exemption is closer to $5 million. Pursuant to the IRS ruling, the estate can exclude the $9 million gifted in 2023 because it can apply the higher exemption that was in effect at the time of the gift. However, the assets remaining in the decedent’s estate will be subject to the new lower estate tax exemption in effect as of the date of death.

This ruling is great news for individuals who are looking to plan ahead. If your estate is worth more than $5 million, you can gift sizeable amounts now, while the exemption is high, and rest assured that you will not lose the tax benefit of the higher exemption if you pass after the sunset of the current exemptions.

An attorney from Smith Legacy Law can help you to maximize the benefits of the current estate and gift tax exemptions in preparation for the possibility that the exemption will be significantly decreased beginning in 2026.

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