The Obama administration recently released its budget proposal for the 2016 fiscal year.  As in past years, this budget proposes changes to the laws governing federal estate, gift and generation-skipping transfer (GST) taxes.  Several of these changes would raise revenue by limiting the tax benefits achieved by using certain estate planning techniques, while others would decrease exemptions and increase rates.  In addition, the fifth proposal discussed below is a brand new one that has raised some eyebrows:

1. Restore the Estate, Gift, and Generation-Skipping Transfer (GST) Tax Parameters in Effect in 2009.  The 2016 budget calls for the estate and GST tax exemptions to decrease from $5.43 million to $3.5 million, the lifetime gift tax exemption to decrease from $5.43 million to $1 million, and the top estate, gift and GST tax rate to increase from 40% to 45%.  While portability of the estate and gift tax exemptions between married couples would remain in effect, the exemptions would not be indexed for inflation.  If President Obama’s budget were enacted as proposed, these changes would go into effect on January 1, 2016.

2. Modify Transfer Tax Rules for Grantor Retained Annuity Trusts (GRATs).  A GRAT is a sophisticated estate planning tool that can be used to reduce or eliminate the estate tax’s impact on your estate. The 2016 budget calls for GRATs to have a minimum term of ten years and a maximum term equal to the life expectancy of the annuitant plus ten years.  In addition, the remainder interest in a GRAT would be required to have a minimum value equal to the greater of: 25% percent of the value of the assets contributed to the GRAT, or $500,000 (but not more than the value of the assets contributed).  Finally, any decrease in the annuity during the term of the GRAT and tax-free exchanges of assets held in the GRAT would be prohibited.  These changes would apply to GRATs created after the date of enactment.

3. Limit Duration of Generation-Skipping Transfer (GST) Tax Exemption.  The 2016 budget calls for limiting the time period that multi-generational, dynasty trusts would remain estate and GST tax free to 90 years.  This limitation would apply to trusts created after the date of enactment and to the portion of a pre-existing trust attributable to additions to the trust made after that date (subject to rules substantially similar to the grandfather rules currently in effect for additions to trusts created prior to the effective date of the GST tax.) 

4. Simplify Gift Tax Exclusion for Annual Gifts.  The 2016 budget calls for the elimination of the so-called present interest requirement for gifts that qualify for the annual gift tax exclusion (which is currently $14,000 per donee).  Instead, a new category of transfers would be created, and an annual limit of $50,000 per donor would be imposed on the donor’s transfers of such property. This new category would not require the existence of any “Crummey” withdrawal or put rights.  This new category would include transfers in trust, transfers of interests in pass-through entities, transfers of interests subject to a prohibition on sale, and other transfers of property that, without regard to withdrawal, put, or other such rights in the donee, cannot immediately be liquidated by the donee.  These changes would go into effect for gifts made after the year of enactment. If enacted, this would significantly change the way that gifts to family members would need to be planned. 

5. Reform the Taxation of Capital Income.  The 2016 budget calls for the highest long-term capital gains and qualified dividend tax rate to increase from 20% to 24.2%.  This would increase the maximum capital gains and dividend tax rate when including net investment income tax to 28%.  In general most transfers of appreciated property would be treated as a sale of the property, including when an appreciated asset is gifted during lifetime or bequeathed at death.  Certain exemptions and exclusions would apply.  These changes would go into effect for capital gains realized, dividends received, gifts made, and deaths occurring after December 31, 2015.

Where Do We Go From Here?

The federal government is in constant need of raising more revenue.  The proposed changes to gift and death tax laws in the Obama 2016 budget will only affect a limited number of taxpayers but would result in billions of dollars in new tax dollars.  Therefore, it is important to monitor these revenue-generating proposals to avoid missing a change that will affect your estate planning goals.  In addition, if you have been on the fence about creating a GRAT or implementing another type of gifting strategy, then now is the time to move forward before the benefits of these techniques might disappear.

Constant change seems to be the rule in Washington and the last few years have seen significant change to laws affecting your estate plan. If your estate plan hasn’t been professionally reviewed recently, please click here to schedule your complimentary Estate Planning Strategy Call with San Francisco’s premier estate planning attorney, Matthew J. Tuller.