Rich Americans (or foreigners with US assets), it’s time to wake up and smell the coffee! Why? I am seeing more and more individuals with influence pushing for a change in the US tax laws so that wealth inequality becomes a thing of the past. Whether you agree with this position is not the point I wish to make in this post. Nor do I express any view on this position. The purpose for this post is to raise awareness of what appears to me as inevitable tax law changes on the immediate horizon. Forgetting party-line politics, I believe there is a strong likelihood that tax rates will rise in the wake of the government’s massive stimulus plans; in addition, as will be discussed, the pandemic has provided a golden opportunity for wealth transfers. Add to all that, when we talk Republicans versus Democrats, the need for taking action only increases.
Planning needs to be undertaken now if the taxpayer wishes to protect wealth transfers to the next generation. What am I talking about? Simply, the opportunity to pass wealth to the next generation without Uncle Sam taking a possible 40% cut.
The magic cut off date for implementing a smart tax plan is December 31. That’s the date we know with certainty that the US tax laws will remain unchanged. After that, anything goes.
The US gift tax is a tax imposed on the gift transfer of property with the tax being imposed on the gift giver. There are certain exemptions that prevent gift tax — an annual exclusion applies to gifts made to each individual recipient, currently at US$15,000 per recipient, per year. Once a gift exceeds the annual exclusion amount, the gift is treated as a “taxable” gift. However, gift tax will not be owed if the gift-giver can use some or all of the “lifetime exemption” amount available to US citizens (and foreign nationals who are treated as “domiciled” in the United States. Foreigners who are not so domiciled receive an exemption for only US$60,000 of US assets). Full details on the US gift tax issues for foreign individuals and the concept of “domicile” are available at my earlier blog post.).
Lifetime Exemption – Election on the Way
The Tax Cuts and Jobs Act (TCJA), drastically increased the United States federal estate and gift tax lifetime exemption which is now worth US$11,580,000 for individuals (US$23,160,000 for married couples). The exemption amounts increase with inflation each year through 2025. On January 1, 2026 a sunset provision will cause the exemption amounts to revert back to the 2017 levels. The November 2020 elections are right around the corner and an earlier lowering of the exclusion amount may soon be here.
If the Democrats win, I believe the US tax regime will divvy up the economic pie quite differently. Looking at the tax proposals of former vice president Joe Biden, for example, making gifts now makes very good planning sense, especially if the gifted asset is income-producing and can be given to an individual in a lower tax bracket. First of all, Senator Biden is planning to reduce the lifetime exemption back to the pre-TCJA norm. The presidential hopeful also proposes an increase in the top tax bracket of individuals from the current top rate of 37% up to 39.6% for taxable income above $400,000/ and an increase of the tax rate on long-term capital gains and dividends from 20% to a whopping 39.6% on income above $1,000,000/. His plan also calls for eliminating the basis ‘step-up’ at death for inherited property.
When Opportunity Knocks….
COVID-19 has undoubtedly caused unprecedented pandemonium and hardship throughout the globe. The abrupt downturn in the financial markets coupled with extremely low interest rates, however, provide a unique opportunity to leverage the significant lifetime exemption amounts. Now is the time to take advantage of utilizing the gift tax exemption amount by making gifts of assets at depressed values to children, grandchildren or other loved ones. The gifts can be made outright to the individual recipient, or to a new or an existing trust.
There should be no “clawback” for gifts made under the increased exemption amounts put into place by TCJA per final Treasury Regulations issued by the Internal Revenue Service.
Gifts can be made in a variety of ways – outright, or through a trust or foundation, using foreign or domestic structures. If not structured properly, the use of foreign vehicles can result in very harsh tax consequences. With the proper planning, however, very beneficial tax results can be achieved. Specialist advice is necessary to navigate the US tax maze. For Muslims, gifts can take into account any Sharia law concerns as well with guidance from a Sharia scholar and US international tax advisor.
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Posted September 4, 2020
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