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Thursday, May 7, 2020

The Perfect Storm: Why Now Is an Ideal Time for Estate Planning


If you ask any estate planner to name the most ideal situation for estate planning, they would tell you it is when the exemptions are high and asset values and interest rates are low. This is the situation we find ourselves in today. In 2020, the lifetime exemption is $11.58M per person. Never has the exemption been so high and the opportunities for estate planning so lucrative.

But in order to take full advantage of this opportunity, you must act now. The Tax Cuts and Jobs Act provisions increasing the exemption to the current $11.58M are expected to sunset down to around $6M ($5M indexed for inflation) at the end of 2025. However, the winds of change affecting the political climate in November may cause the exemption to be reduced substantially in advance of the 2025 sunset. Additionally, the government’s massive stimulus spending over the last few weeks makes the probability of the provisions being extended seem unlikely.


The Impact of COVID-19

The COVID-19 pandemic has caused a substantial reduction in the values of assets such as real estate, publicly traded securities and closely held businesses. Additionally, there is a reduction in marketability for theses assets due to a significant contraction in demand for investments, as people hunker down and conserve their cash while we ride out this storm. As a result, the values of minority interests in operating companies, family partnerships and asset holding companies have decreased considerably, in the range of 10-30%, since the beginning of the year.

So, while COVID-19 has had many negative impacts, it may offer a rare opportunity to transfer assets at reduced values to minimize future estate taxes.


What Are Some Options?

With market values depressed by COVID-19 and interest rates at historical lows (the May 2020 Section 7520 rate is 0.8% vs. the May 2019 Section 7520 rate of 2.8%), here are some ideas on how to most effectively transfer wealth:

  • Gift assets with depressed values (use the $11.58M exemption before it is gone)
  • A Grantor Retained Annuity Trust (GRAT)/rolling GRATs
  • Sale to an Intentionally Defective Grantor Trust (IDGT)
  • Refinancing existing intra-family loans at lower AFRs
  • Swap out assets in existing trusts at depressed values
  • Late allocation of the Generation Skipping Transfer (GST) exemption

Here are some examples.

No estate planning:

Emily has an estate valued at $50M. Any amount over the $11.58M is subject to estate tax at 40%. Therefore, based on the 2020 exemptions, Emily’s estate would have an estate tax liability of about $15.37M. If Emily were to do no estate planning and let the exemptions fall to $6M ($5M adjusted for inflation) in 2026, or potentially sooner, her estate tax liability would increase to $17.6M. By not acting, she would lose out on measurable estate tax savings of over $2M that will increase over time as the value of the underlying assets increases.

Gifting using the lifetime exemption and utilizing valuation discounts:

Ryan owns a 100% interest in an S-Corporation worth $20M. By gifting a 40% minority interest to each of his two children, he is able to take advantage of an approximately 30% reduction in value using a discount for lack of marketability and lack of control. So instead of the value transferred being $16M, the discounted value of the gift is only $11.2M. Given the estate tax rate of 40%, this would result in an estate tax savings of $1.92M.

If Ryan is able to do this now before the economy rebounds, all of the appreciation related to the transfer, post COVID-19, would be outside of the estate. Assuming COVID-related declines of 10-30%, just getting appreciation out of the estate could be significant. For example, if the values are reduced by 20%, the estate tax savings from pre-COVID decline and post-pandemic recovery would add another $900K, for a combined estate tax savings of $2.82M.


Act Now

If you have a taxable estate or are building substantial wealth, the current environment provides a unique opportunity to save tremendous amounts of estate tax. But to take advantage of the current exemption and valuation discounts, you need to act before this perfect storm passes. Now is the time to consider your planning strategies and valuation discounts.


For the latest regulatory updates and more information on keeping your business running through disruption, visit our COVID-19 Resource Center.

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