WEALTH PLANNING UPDATE

Transcription

1 WEALTH PLANNING UPDATE Income Tax & Estate Planning: Lower Tax Rates? The Republican trifecta presidency, House and Senate will have wide-ranging impact on all areas of tax policy. It is near certain we will see sweeping tax legislation in 2017 and fulsome negotiations that will shape it. Effective tax planning requires either timing and legal certainty, or a great deal of educated guessing. For now, we must be content with the latter. Many scenarios are possible, but bear in mind lower income tax rates may not occur until 2018 and estate tax changes may not occur at all. LISA M. WHITCOMB Director of Wealth Strategies Plan large charitable gifts carefully: - President Trump s tax proposal will place limits on deductibility. - If the income tax deduction is an important consideration influencing the size of a gift, consider the impact under different proposed deductibility and timing scenarios. Postpone income, particularly capital gains and deferred compensation, to a future date when rates may be lower. Refrain from most Roth IRA conversions, awaiting lower income tax rates, and re-characterize 2016 conversions. Continue using Qualified Charitable Distributions to make gifts to charity directly from an IRA to avoid income tax on the distribution. Continue estate and gift planning under current conditions to reduce tax exposure if it makes sense from both the tax and personal perspective: - Continue making annual exclusion gifts, including gifts to 529 plans. The exclusion amount in 2017 is $14,000 per recipient. - Continue planning for full use of the estate tax and GST exemption amount ($5,490,000 in 2017), choosing cash or high-basis assets for gifting when possible. - Continue planning with GRATs, FLPs and other sophisticated techniques, taking into account cost basis ramifications. Examine current estate planning to understand consequences of future estate tax repeal and capital gains on appreciated assets at death.

2 Recap of Significant Developments in 2016 Personal and Fiduciary Income Tax Income Tax Extenders The Protecting Americans from Tax Hikes Act of 2015 (PATH) made permanent the taxpayer-friendly provisions permitting deduction of state sales taxes and nontaxable distributions from an IRA directly to charity. Other important provisions, including bonus depreciation for business enterprises and incentives for alternative-fuel vehicles, were extended for three years only. These provisions are all likely to change with new tax legislation. Social Security The 2015 Budget Act passed in October 2015 eliminated the availability of a popular incomeenhancing strategy for couples called file-and-suspend after April Changed Tax Filing Deadline for Fiduciary Returns Trust income tax returns on extension are due by September 30, 2017 (changed from September 15). This will give trustees owning partnerships sufficient time to prepare returns and send accurate beneficiary information before extended personal income tax returns are due on October 15. North Carolina Trusts: The State can no Longer Tax Trusts Having no Current NC Resident Beneficiary North Carolina imposed income tax on trusts having a beneficiary resident in North Carolina, even if the beneficiary had no current right to property and the trust had no other connections to North Carolina. The state court found this to be unconstitutional. North Carolina cannot tax undistributed income if the trust s only contact with North Carolina is a potential beneficiary. Estate and Gift Tax New IRS-Proposed Gift Tax Regulations for Gifts from Expatriates U.S. citizens or residents (including trusts) who receive a gift or inheritance from a person who renounced their U.S. citizenship or green card after September 2008 will be required to report and pay estate or gift tax upon receipt of the gift. A form for reporting the gift and paying the tax will be issued once the proposed regulations are finalized. New IRS Proposed Regulations Limiting Valuation Discounts on Transfers of Family-Owned Entities The proposed regulations limit the availability of certain discounts commonly applied in the valuation of closely held entities. This would apply, for example, to family limited partnerships and LLCs, and other familycontrolled entities. The discounts have been useful in ameliorating estate and gift tax consequences on gifts to family members. The outcry subsequent to the release of the proposed regulations, the December 2016 hearings and President Trump s opposition to new regulations of any sort make it highly unlikely these proposed regulations will become final or effective in their current form over the next few years. Treasury has already announced the regulations are not intended to apply to operating businesses. New Jersey Estate Tax, Not the Inheritance Tax, is Repealed The repeal of estate tax is phased in beginning January 1, The 2017 exemption will increase to $2 million. The tax is slated to be fully repealed in 2018 but the fiscal condition of the State of New Jersey makes full elimination of the tax somewhat doubtful. The inheritance tax imposed on beneficiaries who are not spouses, parents, children or grandchildren remains in effect. Those tax rates range from 11 to 16 percent. JANUARY 2017 Page 2

3 New York Estate Tax The amount exempt from New York State estate tax rose to $4,187,500 for persons dying on or after April 1, 2016, and $5,250,000 for persons dying on or after April 1, New York State, like many other states, does not recognize portability the right of a surviving spouse to use the unused portion of the deceased spouse s estate tax exemption amount. Gift Tax Returns Matter Two items of particular note. First, in December 2015, the U.S. Tax Court upheld an assessment of gift tax on shares transferred by Sumner Redstone to trusts for his children in The gift was still subject to tax 41 years later because no gift tax return had ever been filed and the statute of limitations never began. The IRS learned of the transfer in 2006 as a result of unrelated litigation. Second, the U.S. Tax Court denied a charitable income tax deduction for a donation of a conservation easement valued at $108,000 because the taxpayers failed to include a qualified appraisal with their income tax or gift tax return and also failed to prove the value of their home decreased by the amount attributed to the easement Estate and Gift Exemptions and Tax Rates Estate Tax Exemption $3,500,000 $5,450,000 $5,490,000 Gift Tax Exemption $1,000,000 $5,450,000 $5,490,000 Generation-Skipping Exemption $3,500,000 $5,450,000 $5,490,000 Estate, Gift and GST Tax Rate 45% 40% 40% Ownership of Foreign Assets Foreign Bank and Financial Accounts Reporting The IRS remains focused on uncovering unreported foreign assets owned by U.S. taxpayers. Prosecutions for nonreporting continue. In November 2016, retired University of Rochester professor Dan Horsky, a U.S., Israeli and U.K. citizen, agreed to pay an FBAR penalty of $100 million. Altogether, the IRS has collected more than $10 billion in tax, penalties and interest from more than 100,000 taxpayers. Penalties skyrocket if the assets are held at bad boy institutions foreign financial institutions identified by Treasury that are or were under investigation. The list of these institutions continues to grow. The Offshore Voluntary Disclosure Program and other similar programs make compliance easier, but legal counsel is always recommended. We do not expect this compliance initiative to abate with the Trump administration. Anticipating Lower Tax Rates: The Trump and House Proposals It is nearly certain the Trump administration and Republican Congress will lower tax rates across the board. The difficult questions to answer are when, what and for how long. When planning, timing is everything. If not 2017, then 2018? Will a repeal of the estate tax occur concurrently with income tax changes? Will it occur at all? What will happen with gift tax? How permanent are any of the tax changes? JANUARY 2017 Page 3

4 President Trump has prioritized reduced business tax and simplification as a primary domestic policy issue. Reducing personal income taxes and eliminating the estate tax have played a less prominent, but still visible, role in his tax plan. Congress appears to have a similar perspective. The House Republicans have a well-developed blueprint ( A Better Way ) upon which tax legislation can be built. Most business tax proposals dovetail well with Trump plans though significant differences exist concerning an import/export consumption tax, also known as border adjustability. To be determined is whether the different interest groups and the President can agree to a plan for taxing international income of U.S. companies. A Better Way envisions bringing both the business and the personal income tax changes forward together, while neither plan specifically addresses the status of gift tax. Timing is Everything: the Proposed Rates Are Only the First Sally Trump s economic plan largely hinges on increased spending made possible by business tax cuts. The administration and Congress will work quickly to make tax cuts effective, however the reality is that complicated legislation takes time, effort and compromise. It is reasonable to expect completed legislation by late third or fourth quarter of The effective date for the legislation could be retroactive to January 1, 2017, or forward-looking to Indeed, tax cuts could be phased in over a period of years, as were the Reagan-era tax cuts, or made effective mid In the Senate, most legislation must be passed with a 60-vote majority to avoid filibuster. Filibuster, and the amendments associated with it, kills legislation. Lacking 60 votes, the Senate Republicans will rely on the budget reconciliation process to pass new tax law. The Byrd Rule requires a 60-vote majority to pass any reconciliation bill increasing net outlays or decreasing revenue outside the 10-year revenue window of the subject bill. A reconciliation bill not running afoul of this, and other, rules can be passed by a bare majority of 51 votes. The very preliminary estimates are that the Trump and House plans will increase the budget deficit by $5.3 trillion and $2.4 trillion, respectively. Both House Ways and Means Chairman Kevin Brady (R-Texas) and Senate Majority Leader Mitch McConnell (R-KY) have said they want a plan that is revenue neutral. The Senate either has to rescind the Byrd Rule or significant compromises will be necessary for the Senate to fit proposed changes within the rule. For this reason, we expect the income tax and estate tax rates will be adjusted upward as they make their way through the negotiation process. One pathway forward is to adopt the tax changes in 2017 but postpone cuts until Another is the 2001 solution a tax plan sunsetting all or some of the tax cuts on a date 10 years forward. For example, the changes increasing the amount exempt from estate tax were instituted in 2001, phased in over 10 years. Estate tax was eliminated for 2010, but popped back full-force in This could happen again. In short, we are still looking at major uncertainty regarding inception date, duration and extent of the tax cuts. JANUARY 2017 Page 4

5 Personal Income Tax Proposals Income tax rates Capital gains rate Net Investment Income Tax ACA 3.8% surcharge Standard deduction Deduction for children under age 13 and elder care for a dependent Trump Proposal Reduce to 3 rates: 12%, 25%, 33% Highest rate at AGI over $225,000 (joint). Retain current 20% rate on cap gains and dividends, 33% top rate on interest. Repeal Increase to $15,000/$30,000 (single/joint). Yes, but not available if income greater than $500,000 (joint). House Blueprint A Better Way Similar to Trump proposal Tax only 50% of net capital gains, dividends and interest (effective rate 16.5%). Repeal Similar to Trump proposal Not clear Personal exemptions Eliminate Eliminate Itemized deductions Capped at $100,000/$200,000 (single/joint) Alternative Minimum Tax Repeal Repeal Carried Interest ACA Cadillac Tax on health insurance Tax carried interest from partnerships at ordinary, not capital gains, rates. Repeal Eliminate all deductions except for mortgage interest and charity Similar to Trump proposal Repeal Personal Income Tax Action Items Postpone income to 2017 or 2018 when rates may be lower. Lower rates translate to more in your pocket if deferred compensation, capital gains and other income can be delayed until rates decrease. But be sure to understand how large deductions, especially state income taxes and charitable donations, may play into outcomes. Refrain from most Roth IRA conversions and consider re-characterizing earlier 2016 conversions. If converting when rates are lower saves in taxes, consider waiting. You can re-characterize a 2016 conversion until the time you timely file your 2016 federal income tax return. Plan large charitable gifts carefully. Future deductions may be capped or eliminated. Consider Alternative Minimum Tax, limitations on deductions, possible future rates and timing, as they may all effect whether the gift has income tax impact. Use Qualified Charitable Distributions from IRAs. Persons 70-1/2 and older can make gifts up to $100,000 annually from an IRA directly to charity, avoid income tax on the distribution and still fulfill the Required Minimum Distribution with the charitable payment. JANUARY 2017 Page 5

6 Business Tax Proposals Trump House Blueprint A Better Way Income tax rates Lower to 15% Lower to 20% Deduction (not depreciation) for capital expenditures Special treatment for pass-throughs/ partnerships Repatriation of corporate profits held offshore Election available to fully expense manufacturing capital investments in lieu of deducting corporate interest expense. Unclear. Election available to be taxed at 15% entity level, large pass-through distributions taxed as dividends? One-time deemed repatriation of prior earnings with 10% tax. Going forward not addressed. Immediate expensing of cost of business investment; interest expense net against interest income Maximum tax rate equal to 20% corporate rate One-time deemed repatriation of prior earnings at unknown tax rate. Going forward, 100% exemption for dividends from foreign subsidiaries. Alternative Minimum Tax Repeal Repeal Taxing income from exports and imports (border adjustability) Not addressed Structural change: destinationbased approach, income is taxed in the location of consumption; sales to U.S. customers are taxed, sales to foreign customers are exempt. Business Income Tax Action Items Defer discretionary capital asset acquisitions. Capital expenses may become fully deductible under new tax law. JANUARY 2017 Page 6

7 Estate and Gift Tax Proposals Neither President Trump nor the House have well-developed estate and gift tax proposals. This is true, in part, because these taxes affect only a small number of people and generate a small amount of revenue. In 2015, only 4,918 decedent s estates paid federal estate tax, generating $17 billion less than 1 percent of the federal revenue. For this reason, we expect personal and business tax cuts to be addressed first. Even if there is a repeal of estate tax, it seems possible it will be phased in or sunset as a result of the Byrd Rule discussed earlier. There are myriad scenarios that could ensue. Assuming the estate tax is repealed, either in whole or in part over the next few years and that is not a given the most significant issues are whether: 1) inheritors and donees will receive a carry-over or stepped-up basis on assets; and 2) a gift or death will trigger a deemed sale, requiring the donor or estate to recognize capital gains on transferred appreciated assets. A deemed-sale regime, like Canada s, has both pros and cons. The negative impact is an acceleration of tax on assets that might not otherwise be sold family businesses and farms, for example. On the other hand, for some families, the decision to sell a long-held, low-basis asset during lifetime may become less difficult, making diversification and capital fluidity more attainable. Also, the revenue generated by deemed sales will offset, in part, the lost revenue from estate tax and make permanent repeal more likely. Lastly, even if the estate tax is repealed, there is strong sentiment the gift tax will not be repealed unless a deemed-sale approach is applied to lifetime gifts as well as to estates. If there were no gift tax and no deemed sale, nothing would prevent families from avoiding income tax by freely transferring assets to family members subject to lower income-tax rates. If gift tax remains in place, current gift and estate planning techniques will remain largely intact to minimize gift tax. Estate tax Repeal Repeal Gift tax Trump Not addressed; probably left in place Generation-skipping tax Not addressed Repeal House Blueprint A Better Way Not addressed; probably left in place Deemed sale at death, capital gains tax payable on appreciation Capital gain treatment; exemption for gains (or property?) less than $5,000,000 (or $10 million) per decedent. Unclear. No deemed sale, but assets stepped up on death nevertheless. Carry-over basis to inheritors/donees No, because deemed sale resets basis to date-of-death value, but unknown for assets in the exemption; no waiver of capital gains tax for contribution of appreciated assets into a private charity established by the decedent or family. No, inheritor/donee receives assets with stepped-up basis. JANUARY 2017 Page 7

8 Estate and Gift Planning Action Items Continue planning under current law, mindful of possible changes. Once again, timing is everything. We may wait a long time for complete repeal. Be mindful, in planning, of possible capital gain issues. Gift tax may not be repealed, in which case, many existing rules will still apply. Continue making annual exclusion gifts, including gifts to 529 Plans. The exclusion amount in 2017 is $14,000 per recipient. Continue planning for full use of the estate tax and GST exemption amount ($5,490,000 in 2017). Moving future appreciation to beneficiaries still makes good sense. Continue planning with GRATs, FLPs and other sophisticated technique, taking into account cost basis ramifications. Examine current plan to determine distribution framework if estate tax repealed. Many estate plans refer to tax law to determine the size of trusts and other distributions. What happens if there is no estate tax? What if you were incapacitated in the near future, before tax law changes? Consider making changes now to incorporate the /company/glenmede GlenmedeCommunication@glenmede.com glenmede.com Cleveland Morristown New York Philadelphia Princeton Washington, DC Wilmington This material is intended to be a review of issues or topics of possible interest to Glenmede Trust Company clients and friends and it is not personalized investment or tax advice. Advice is provided in light of a client s applicable circumstances and may differ substantially from this presentation. This material may contain Glenmede s opinions, which may change without notice after date of publication. Information gathered from third-party sources is assumed reliable but is not guaranteed. This publication may not be used as legal or tax advice.