D.C. veteran Joe Biden has ascended the presidential throne, and rumors of potential legislation impacting estate plans across the country are rampant. Candidate Biden generally advocated for increases to the estate tax (death tax) rates on wealthy taxpayers and repeal of the tax cuts passed under the Trump administration. Although the new Biden administration has yet to introduce any formal legislation, there’s a good chance we’ll see significant federal estate law changes within the next year or two. Thus, many Floridians are rightfully concerned about the implications of the Biden administration and Florida estate planning.
As a brief overview, likely topics of future legislation include the estate and gift tax exemptions, basis step-up for inherited assets, and capital gains rates. Tax law amendments in any of these areas could have a huge impact on estate plans. And additional estate-plan-related legislative proposals are bound to start popping up once more pressing issues like pandemic relief have been addressed.
The Biden Administration and Florida Estate Plans
Concerning the question of the Biden administration and Florida estate planning implications, before diving into the potential changes in greater detail, we want to emphasize that it’s never a good idea to rush to make major modifications to your Florida estate planning without careful deliberation. While hypothetical future legislation may ultimately call for a Florida estate-plan update, that should only occur after you’ve had time to consult with an Florida estate planning attorney as well as your tax adviser and consider the big-picture, long-term implications of modifying your plan.
Reduced Estate Tax Exemption and Florida Estate Planning
For 2021, the tax code allows an $11.7 million (doubled for married couples) lifetime exemption to the estate and gift taxes. In practical terms, that means only the largest estates end up qualifying for the federal estate tax. However, as recently as 2017, the exemption was less than half its current level, and it’s been below $1 million in the 21st Century—with higher maximum rates.
Significant exemption increases were passed during both the Obama and Trump administrations. The most recent Trump administration federal estate tax exemption increase, though, is scheduled to sunset in 2026 unless Congress opts to extend the current, historically high level. That seems unlikely under the current Congress, and President Biden has not only come out in favor of letting the higher exemption expire (returning to 2016 levels), but also lowering it even further to $3.5 million per person (where it stood in 2009). Even more, President Biden has promoted an estate-tax rate increase that would bump up the top rate from the current 37% to 45%.
If implemented, those two policy changes would likely lead to considerable increases in both the number of estates that qualify for the estate tax and the tax liability of estates that already qualify. If that happens, irrevocable trusts in Florida and other estate-planning strategies designed to mitigate estate-tax liability—only relevant to a relatively small number of estates in recent years—are destined for a resurgence in popularity.
Florida estate plans are impacted by all of the above only insofar as the federal estate tax since Florida has no state inheritance tax.
Reduced Gift Tax Exemption
Adjacent to the potential estate-tax exemption reduction, the Biden Campaign also proposed reducing the lifetime gift tax exemption to $1 million. Under current rules, the estate and gift tax exemptions are linked together. Qualifying gifts exempted during life count against the estate tax exemption available upon death. Under the proposed change, the two exemptions would, in all likelihood, still be linked. But total lifetime exempt gifts would be capped at $1 million—less than ten percent of the $11.7 million in tax-exempt gifts presently available.
It’s worth noting that, under IRS guidelines, gifts made by taxpayers before the estate and gift tax exemptions are reduced will not be taxed retroactively. That means that a gift made while eligible for exemption won’t become non-exempt later as a result of future legislation. With that guideline in mind, estates that are sure to qualify for the federal estate tax may be better off planning for large gifts sooner (while the higher gift-tax exemption remains in place) rather than waiting to transfer assets through a future estate (when the exemption might be lower).
Again, concerning Biden administration and Florida estate planning, the Florida gift tax exemption will only be impacted at the federal level.
‘Bye-Bye’ Basis Step-up for Florida Estate Assets
Capital gains tax liability attaches to gains derived from appreciating assets when the gains are realized (typically, when an asset is sold). The taxable amount is essentially the difference between the acquisition price (the “basis”) and the sale price.
Current tax rules allow taxpayers who inherit appreciating assets a valuable tax benefit in the form of a “step-up” in basis which applies to all Florida estate plans. When an heir’s basis in an inherited asset “steps us,” taxable capital gains are measured by comparing the asset’s sale price to its value when inherited—rather than to the price paid by the decedent purchaser.
As you can probably imagine, a step-up in basis sometimes results in titanic tax savings. If an appreciated asset is sold by an heir soon after inheritance, the growth is essentially tax-free—any appreciation during the decedent’s lifetime is covered by the stepped-up basis.
However, President Biden has come out in favor of eliminating the step-up. So, there’s a chance the tax advantages associated with passing on appreciating assets will cease sometime in the next four years. Without a stepped-up basis, increases in an inherited asset’s value from the original time of purchase until the owner’s death would again be taxable.
The additional tax might be charged to estates (if assessed at the time of death) or to heirs (if the tax is assessed when the gain is realized). Either way, anyone with an estate that includes assets with substantial taxable appreciation—and anyone who anticipates inheriting appreciating assets in the foreseeable future—needs to be prepared for what could translate into a much larger tax bill.
Capital Gains Rate Increase
Warren Buffet loves to taunt his secretary about how he gets to pay a lower tax rate (that’s the kind of thing billionaires talk trash about). The long-term capital gains rate is the reason he gets to rub that in her face. Under current rules, long-term capital gains (i.e., growth earned on assets held for at least one year) are taxed at a rate below all but the two lowest income tax brackets.
So, if Warren Buffet makes a couple million selling Coke shares he’s been sitting on for at least a year, he’ll probably be taxed on the profit at 20% (or, maybe 15%—depending on how much of his earnings count as “taxable income”). On the other hand, a salary that lands you squarely in the middle class likely results in a marginal income-tax rate of 22%.
In your face, Secretary.
Now, illustrations like these often neglect to mention that, because of the progressive nature of the tax code, taxpayers in the 22% bracket don’t actually pay 22% of their earnings to the IRS. And there’s also a 3.8% surtax on taxpayers with especially high net investment income. Setting those issues aside, though, the point is that you and Warren Buffet are both almost always better off if your earnings qualify as long-term capital gains rather than taxable income…for now, that is.
The Biden Camp has bandied about the idea of raising the maximum long-term capital gains rate to as high as 40%. Critics argue that a cap gains rate that high would be more than the current top income tax rate (37%) and would disincentivize long-term investment.
So far, the capital gains tax increase has been only informally suggested. And, even if concrete legislation comes to fruition, the forty percent rate would probably only affect taxpayers who measure their annual investment income using seven digits. Even so, there’s a reasonable chance that taxpayers with even modest investment income may see higher capital gains rates under the Biden regime. If a tax code change happens, it’ll be a good idea to update your estate plan in advance.
Steve Gibbs, Esq.