Significant changes are coming to the federal estate and gift taxes if the House Ways and Means Committee gets its way.

On Monday, September 13, the committee released an 881-page bill in which it lays out its proposed tax changes. Among these is a reduction in the estate tax basic exemption amount to its pre-Tax Cuts and Jobs Act level, namely $5 million, indexed for inflation. Although some planners have previously expressed concerns about such a reduction being retroactive to the beginning of the year, under the committee proposal the effective date is January 1, 2022. Section 138207.

The bill would also increase the top marginal income tax rate to 39.6%, including for trusts and estates. Currently, the top bracket is 37%, which applies to the taxable income of trusts and estates in excess of $13,050. Section 138201.

The bill would impose a 3% surcharge on a taxpayer’s modified adjusted gross income (MAGI) that exceeds a certain threshold. For trusts and estates, the threshold is only $100,000. This would make the inclusion of capital gains in distributable net income (DNI) even more important. Section 138206.

Also, the bill would eliminate estate and gift tax valuation discounts for nonbusiness (i.e., passive) assets. This rule would apply to transfers occurring after enactment of the act, rather than being delayed until January 1, 2022. Section 138210.

Moreover, the bill would dramatically undermine the usefulness of grantor trusts in estate planning. It adds new chapter 16,Special Rules for Grantor Trusts, to Subtitle B (Estate and Gift Taxes). Under the new rules:

    • Grantor trusts would be included in the grantor’s estate at death.
    • Transfers from grantor trusts during the grantor’s lifetime, other than to the grantor’s spouse, would be treated as gifts.
    • A gift would be deemed to have occurred if grantor trust status terminates during the grantor’s lifetime.
    • Sales to grantor trusts would no longer be disregarded; i.e., they would be recognition events.
    • Notably, these rules would apply to trusts created after the date of enactment, as well as to contributions after the date of enactment. Section 138209.

The last two items, related to valuation discounts and grantor trusts, appear to be inspired by S. 994, For the 99.5 Percent Act, which Sen. Bernie Sanders introduced in March. However, other troubling elements of S. 994, such as reduction of the estate tax exemption to $3.5 million, reduction of the gift tax exemption to $1.0 million, and taxation of dynasty trusts after 50 years, are conspicuously absent from the House Ways and Means Committee proposal.

For high net worth clients, the proposal reinforces the need to establish–and, just as importantly fund–the proper estate planning vehicles before the end of the year. Or, in the case of planning that involves grantor trusts, including spousal lifetime access trusts (SLATs) and dynasty trusts, even sooner.

Posted by Joel D. Roettger, JD, LLM, EPLS