President’s Proposed 2016 Budget Could Substantially Affect Estate Planning

President Obama recently introduced his $4 trillion dollar fiscal year 2016 budget proposal, which adds $6 trillion to the national debt, and includes $1.44 trillion in new taxes. Almost all of these tax proposals are targeted at wealthy households, and could substantially change income and estate tax planning.


For starters, the tax rate on capital gains and dividends for the high-income households, currently at 23.5 percent, would be raised to 28 percent, and the step up in cost basis in inheritance would be eliminated, potentially creating a 68 percent tax on capital gains upon death.


In addition, the budget proposal would roll back estate tax rules to the 2009 levels. The Federal estate tax exemption amount, currently at $5.43 million and indexed for inflation, would be reduced to $3.5 million per person, not indexed for inflation. Assets above that exemption limit would be taxed at 45 percent, an increase of 5 percent from current levels. For Example, if you have an estate of $5 million when you die, under current law, you would owe no federal estate taxes. Under the new proposals, you would now owe about $675,000 in federal estate taxes.


The proposal would also impose new limits on gifting money out of your estate. Currently, the lifetime gift tax exclusion is the same as the estate tax exemption at $5.43 million, which are commonly referred to as your “unified credit”. These two typically work together as one, meaning that during your lifetime, or at the time of your death, you can gift up to $5.43 million without paying any gift or estate taxes. Under the new proposal, the lifetime gifting exemption would be reduced from $5.43 million down to $1 million.


The $1 million lifetime gifting exemption could severely hinder your ability to reduce your potential estate tax liability. For example, if you are 50 years old, and you have a sizeable estate that is going to continue to grow above the $5.43 million limit, you could make a $2 million gift now to an irrevocable trust, for the benefit of your heirs, and allow that money to grow outside of your estate. In doing this, you would have used up $2 million of your lifetime exemption, but any future growth of that money would be outside of your estate.


Under the proposed new budget, you would only be able to gift $1 million out of your estate. This would keep money that you want to go to your heirs growing within your estate, and increasing your tax liability even further.


Fortunately, the proposed legislation includes language saying that no estate or gift tax would be incurred due to decreases in the applicable exclusion amount, if prior gifts were excluded at the time of transfer. Essentially, you can update your estate plan today and take advantage of the higher exclusion amounts before any new proposed legislation would take effect on January 1, 2016.

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