Hidden “Gems” in the New Tax Law
As everyone by now knows, at the end of last year, Congress passed and the President signed the Tax Cuts and Jobs Act of 2017, effective January 1st of this year. In addition to a number of income tax changes for both individuals and corporations, the new law significantly increased the federal estate tax and generation-skipping transfer (“GST”) tax exemptions, previously $5.49M per person to $11.2M per person (incidentally, for 2018 the annual gift tax exclusion has increased from $14,000 per recipient to $15,000). This may change how estate planning is done, but it will not change the need to have an effective estate plan. Taxes are only one aspect of good estate planning, and while absolutely important, numerous non-tax factors (like planning for the transfer of a family business or using trusts to protect vulnerable beneficiaries) are critical to achieving a client’s ultimate goals and objectives. So while celebrating lower income tax rates and higher estate tax exemptions, here are a few other, perhaps lesser known, changes and things to keep in mind:
Minnesota residents may still need to be concerned with estate taxes, since Minnesota is one of 14 states (as well as the District of Columbia) that has its own state estate tax. The current Minnesota estate tax exemption amount is $2.4M per person. Under current law, that amount is scheduled to increase to $2.7M in 2019 and $3M in 2020 and thereafter.
Clients who have or are contemplating using 529 Plans as part of their education gifting/savings program, have reason to cheer. The new Act now allows 529 Plan funds (up to $10,000 per student each year) to be used for private elementary and secondary school tuition. Prior to the new law, these funds could only be used for qualified post-secondary education expenses. One other change impacting 529 Plans—those funds can now be rolled over into an ABLE account, which is a specific tax-advantaged investment account for disabled individuals.
Another widely-known aspect of the new tax law is its elimination of many deductions (or cap at $10,000 in the case of the deduction for state and local income taxes—referred to as SALT—plus sales and real estate taxes) previously taken by individual taxpayers. Since trusts and estates are tax-paying entities, they, too, will be affected by this loss of deductions, but unlike individual taxpayers, they won’t benefit from lower tax brackets or higher standard deductions. What does this mean? Simply put, taxes for trusts and estates will probably increase, as will the taxable income that gets distributed to individual beneficiaries.
Charitable deductions have been saved, but with the doubling of the standard deduction, they might not be as impactful on a client’s tax situation. However (and somewhat curiously), the Act did increase from 50% of AGI to 60% of AGI the charitable deduction for cash gifts to public charities and private operating foundations.
The new law makes a significant change to Roth IRA’s, which can play an important role in both income and estate tax planning. Prior law allowed an individual to convert a regular IRA to a Roth IRA, paying the income tax (on previously untaxed amounts) at the time of the conversion. If the newly converted assets in the Roth subsequently decreased in value, the Roth could be “recharacterized” or undone. Under the new law, these “re-do’s” are no longer allowed.
There are also provisions in the new Act eliminating the deductibility (for the payor) and exempting the income tax inclusion (for the payee) of alimony payments. These changes are effective for agreements executed after December 31, 2018 and will, undoubtedly, have consequences on the preparation of prenuptial and postnuptial agreements.
In conclusion, this new tax law is precisely the type of legislation that makes a review of one’s current estate plan a mandatory exercise. Your attorneys, accountants, investment and other financial advisors should be able to assist and explain how these new provisions may affect your specific situation. And if things weren’t uncertain enough, here’s another important “gem” about the new Act—with the exception of the corporate tax changes, the majority of the individual tax changes (both income and estate) are set to sunset (or expire) in 2025.