A new administration usually means that tax code changes are coming. While it remains unclear exactly what tax changes President Biden’s administration will usher in, two possibilities are that it will propose lowering the estate tax exemption and eliminating the stepped-up basis on death. The first would affect only multi-millionaires, but the second could have an impact on more modest estates and their heirs.
If you are concerned about these rules changing, a Trust may be a good way to protect your estate. Property in a trust passes outside of probate. Probate is the legal process for which property is transferred after the death of the property owner. There are specific types of trusts that are designed to protect assets against estate taxes and capital gains.
Estate Tax Exemption
In 2017, Republicans in Congress and President Trump doubled the federal estate tax exemption and indexed it for inflation. For the 2021 tax year, the exemption is $11.7 million for individuals and $23.4 million for couples. As long as your estate is valued at under the exemption amount, it will not pay any federal estate taxes, and the vast majority of estates do not owe any tax. President Biden has expressed an interest in lowering the estate tax exemption. It could be more than halved to $5 million or even reduced to the previous exemption of $3.5 million for individuals.
Stepped-Up Basis Rule
Another possible tax change is to how property is valued when it is passed on at death. “Cost basis” is the monetary value of an item for tax purposes. When determining whether a capital gains tax is owed on property, the basis is used to determine whether an asset has increased or decreased in value. For example, if you purchase a stock for $10,000, that is the cost basis. If you later sell it for $50,000, you will have to pay taxes on the $40,000 increase in value.
Under current law, when a property owner dies, the cost basis of the property is “stepped up.” This means the current value of the property becomes the basis. For example, suppose you inherit a house that was purchased years ago for $50,000 and it is now worth $250,000. You will receive a step up from the original cost basis from $50,000 to $250,000. If you sell the property right away, you will not owe any capital gains taxes.
According to an article in the New York Times, the current administration may propose to eliminate the basis step-up rule. In the past it was difficult to determine the original cost basis of some property, but in the digital age that information is more easily gathered. The change could result in tax increases for some people inheriting property that has risen significantly in value.
When Will Tax Rules Change?
Another question is whether either of these changes will be made retroactively. It is unlikely, but possible, that if Congress changes these rules later in the year, they could be made retroactive to the first of the year.
Tax experts agree that while changes to the tax code are likely, they probably won’t happen right away. The coronavirus pandemic and the recession it has triggered mean that Congress has other priorities at the moment.
Again, if you are concerned about these rules changing, setting up a Trust just may be the way to protect your estate against estate taxes and capital gain. Our firm has been handling Trusts and estate planning for decades. We’re here to answer your questions, remove any concerns and determine whether a Trust or another plan is right for you.