← The Practical Planner
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- [00:00]
Thomas Coleman
Foreign. Hello and welcome back, everyone, to another episode of the Practical Planner Podcast. I'm your host, Thomas Coleman. Here with me, Anne and Dave. I'm excited to jump into this episode with both of you guys today. So I feel like for the last number of years, everything in our this world has been prepare for estate tax changes to happen. Like, get the trust set up and maybe you don't have to fund it, but have them set up, get ready. Estate exemption is going to be cut in half. And now we actually have not necessarily known information of what's coming, but we know who passed all these elections, got voted in. And so I feel like we really needed to do this episode just to talk about, like, how are we thinking about planning now with these changes? And so I'm going to tee one of you guys up to just kind of start talking about, like, how do you, what do you guys think is going to happen? And then we can kind of go into how do we plan around this?
- [01:05]
Dave
Well, I think, you know, for, for years, I think we were all resigned that the Tax Cuts and Jobs act was going to sunset. And so, you know, being the state planners, I think the most prominent thing we were thinking about is the estate tax exemption was going to go from being unprecedentedly high, currently at 13.61 million, it was going to drop down to probably 7 million. We were kind of resigned to the fact that that was going to happen because of the political turmoil, and we didn't think anything was going to get through on either side. And so a lot of people were doing a lot of planning around that, saying you should get assets out of the estate because the IRS had said there's not going to be what's called clawback, saying that they're not going to penalize you if you exceed the future lower exemption amount. So, for example, you have a $15 million estate, you're an individual, you give away $10 million. Today, you're under the current exemption amount of 13.61 million. But if it drops down to 7 million, you will have exceeded the exemption amount. They said that extra 3 million that you gave away, we're not necessarily going to tax you on that. So theoretically, you're saving dollar for dollar 40% of everything over that 7 million that you gave away, plus all the growth that can happen. The issue is that now with the election, we see that the Republicans now likely, I don't know if it's been completely finalized, but they hold the House, the Senate, in the presidency. That means it's all the more Likely that we are not going to see sunset, that they're going to come up with some way to extend the provisions of the Tax Cuts and Jobs act, which means that the estate tax exemption, the generation skipping tax exemption, is going to remain far higher and it's probably going to keep increasing with inflation. And that just means the universe of people who doing this gifting ahead of sunset, or if there's not going to be any sunset, has as lowered and the ultra high net worth. Those who have an estate tax issue, whether it sunsets or not, I think it still makes a lot of sense for them to do these gifting techniques. But those who would only have an estate tax issue if it sunsets now, those people, if they had taken drastic action based on all of these webinars and articles and everything that said it was so urgent that you take action now, they might need to think about, you know, whether they need to change course or unwind it. Because those assets are going to lose a step up in basis potentially when the people pass, when someone passes away. Whereas if it was in your estate, you get the step up in basis. The idea was you were trading, not getting the step up in basis for having a lot of estate tax benefit for getting assets out of the estate. But if you're still under the estate tax threshold, that's not going to do you a whole lot of good. So it's really changed the dynamic of how we're thinking about estate tax planning.
- [04:11]
Anne
From my perspective, you know, as an advisor, you have just been given potentially an extension on making sure that you understand what happens upon your client's death with their documents. So one of the things that folks realized when the Tax Cuts and Jobs act was enacted is that they had very inflexible funding formulas and structures to protect the inheritance for the spouse upon the death of the first spouse to die. So, for example, if you have husband and wife and their documents are mirrors of each other's documents, and if husband were to pass away, there would be two trusts potentially being formed to receive the inheritance for the wife. Those two trusts tended to be, you know, a marital trust and a bypass trust or credit shelter trusts. Same thing that there would be a formula that would say, hey, how much of that inheritance to the spouse goes into each of these two trusts? It tended to be that in the old way of drafting, you would overfund, you would try to fund as much as possible into the bypass trust for estate tax savings purposes. But because the exemption increased so much, that meant that the bypass trust was Being overfunded and you were losing the basis, step up and some of the things that Dave was talking about. To my mind, you should really do the homework of figuring out what happens upon your client's deaths now because potentially you still have these inflexible funding formulas and that exemption amount may just keep, keep increasing by, for inflation. I also think that this puts more of an emphasis too on other things that affect estate planning techniques and much less, you know, the exemption amount itself. So this would be things like the interest rate, you know, politically there's a lot of talk about what that interest rate, you know, and what the Fed might be doing. And so you hear rumblings about whether or not there will be decreases in the interest rate. When I was in private practice, the interest rate was historically the lowest that had ever been. And so there were certain techniques that were super popular involving a lot of intra family loans, for example, that looked very attractive to people and other techniques where you really want, you know, interest rates to be high that were not as popular. And so you might see a shift back down to, you know, what's popular today versus, you know, tomorrow when the interest rates decrease.
- [06:54]
Thomas Coleman
Yeah, I think it's, I think it's interesting because I spent the last like, you know, almost 18 months leading up to this of like, gear up, prepare for this. And now there's even like some rumors that like they could even consider getting rid of the estate tax. And I tried to find a stat and the best I could find was from 2020 it represented 0.1% of GDP was federal estate and gift taxes. So like their thought is, hey, if this isn't really a meaningful thing, should we just get rid of it and not have to really worry about planning around it? And you know, obviously we don't know. I think the more that I practice with high net worth people, the more that I start to think about would I, if I was in their shoes, actually do estate tax planning. And my answer is I wouldn't if I was young. And you know, I have a few new clients this year who are 30, 40 plus million net worth in their 30s. And a lot of what was told to them is like, do your estate tax planning now, you already have a taxable estate. And you know, in the beginning that to me that made sense, right? Save 40%. But I think if you look back across the last 20 years, you see there's a lot of changes, right. And we have no idea what it's going to be 20, 30, 40, 50 years from now. We have no idea what's going to happen with the stock market. We have no idea what happens to those kids. We have no idea what happens to what they want to do with philanthropy. And so like I sit there and I'm like, unless I was like, wow, I sold my business for like hundreds of millions of dollars and it was like, you know, 27 million was like under 10% of my net worth. I don't think I would really consider doing estate tax planning unless it was potentially slats. And again, I actually did a podcast on my own talking about this with another state planning attorney that like, slots are good, but they're also still not the end all be all right. It's like this thing that yes, you get the flexibility and yes, you can take it out, but then you miss out on the benefits anyway. So if you have this thought of like, hey, I might need this money, we probably shouldn't be moving things out of your estate unless you're at that wealth level where it's like an absolute no brainer. Because if you're going to be here for 50 to 60 more years, we're probably going to see 30 different estate tax numbers over that period of time.
- [08:59]
Anne
I'm so glad you are saying this because I think this came up in one of our earlier episodes as well with like Chris Nason. And what do you tell, like, you younger clients? I think you're 100% right. You're seeing how much the estate tax is a political football because the estate tax is at the end of the day, you know, philosophically, what it is is, you know, if you die super wealthy, we feel like Uncle Sam needs to have another bite at the apple before you pass away. You've paid income taxes and now you're going to also pay estate taxes. But, you know, you can also pass away with, you know, more than 13.61 million and only then do we really start caring about how much goes into the pockets of your beneficiaries. Right. It's, it's like it can that number like, it's, it just seems like such a fiction of like legislative like desire and so very much political football for the younger clients. I would say. Yeah, they should. They're probably still growing their pie, so why, you know, put shackles on them by putting things even in a flexible arrangement or more flexible arrangement, like a slat. I think you're 100, right? Like something will happen along the way where they will have planning opportunities again.
- [10:17]
Dave
And those are the situations to have eyelets, right? Eyelets with insurance so that, you know that there's money outside of the estate there for liquidity purposes to pay the estate tax. And if there's no estate tax issue, that's just more money to the beneficiaries. And it doesn't affect your day to day, it doesn't affect your control. And usually you're not. There's not a lot of trade off if you're putting life insurance into your islet because, you know, typically you don't need access to it. You're not worried about a basis step up. So, you know, when clients are younger like that, I think strategies like that make more sense.
- [10:57]
Thomas Coleman
Yeah, yeah. And I think, you know, I just, you know, I think in a lot of this, the lens to look through is for so many professionals, you know, estate plan attorneys, financial planners, tax professionals. Like, we look through the lens of like, estate tax minimization or what gives you the most wealth long term. And I think the right lens is actually flexibility over that. Right. Like, what is the best thing for your life then? How do we fill in taxes there? And, you know, going back to the slats example, I mean, I had a client this last year who's. He's on track to most likely sell his business for like 90 to $150 million. And he's like, I don't care about estate taxes. I'm going to spend all the money, enjoy my life now. And one thing that we talked about was slats, and we ended up deciding not the right fit. Ends up happening six months later, no idea was coming. Divorce happens, right? And so this is where I think people are just like, slats are the best, right? Flex, flexibility. You can tap into it. But there's a lot of people I know who are not that wealthy who start to utilize slats because they're worried about estate taxes in their 60s, let's say. And then all of a sudden, you never know what can happen. First of all, what if somebody passes away quickly? The other one is like, what if you weren't expecting it, you're grinding, working, and you realize like, hey, I haven't prioritized my mortgage or I mean, my what my marriage. And who knows what ends up happening? And then you have a divorce and you're like, wow, the slat was actually the worst thing I possibly could have done. That was definitely not flexible. That is a lot of money that ends up going, you know, really outside of your wealth.
- [12:21]
Anne
Yeah, no, that's. That's wisdom right there, Thomas, for sure. And I also think, you know, trust irrevocable trust you should never really step into lightly because what you don't realize, I think, is that if you want to unwind an irrevocable trust, even though irrevocable is in the name, it can be really, really painful, really. You know, the beneficiaries, including the remainder beneficiaries, meaning like who gets the assets upon death, could potentially have a claim, you know, that you can't unwind it at all because there's an interest that they get in that trust and those assets, and for you to take them away, you know, would require an agreement among the beneficiaries potentially, or even going to court and things like that. And so it always amazes me, I think right now with slats, you know, I worry a little bit that there's almost like this slot mill effect going on where, like, they seem like such a great tool, like everybody should have a slat. And. And that's not the case because to unwind them or to live with them can be also really annoying.
- [13:35]
Dave
So, yeah, you need to have as many, what I would call escape hatches as possible if you're going to do it. So make sure that there's the appropriate beneficiaries that can get discretionary distributions to get it out. Make sure that there's the ability to decant it, depending on what your state law is. Make sure that the trust protector has powers, you know, limited powers of amendment in certain circumstances. So just try to put as much if it. If you do choose to do the irrevocable trust, and we saw this a lot, actually, funny enough, years ago, there was a lot of talk of unwinding eyelets because of the increased exemption. And there were a lot of articles on how to do that. And then it flipped, right? And people were who might have unwound their eyelets that were now thinking to put. Put them back in or their slats. And now it's not going to be sunset. So it goes back and forth and back and forth. So you need to make sure if you are going to make that decision for that irrevocable trust and you are going to fund it, try to make it have as many escape hatches as possible. It says, okay, what if I need to get the assets out of this? How am I going to do that?
- [14:42]
Thomas Coleman
Yeah, good point. So I know this is like a pure estate planning podcast mostly, but I think on the topic of, like, what changes could be coming, I think maybe it would be helpful to also think through of, like, what other as it relates to Tax, estate planning, you know, changes do we assume come or things that we assume to stay. And for me, I, I'm very interested to see what happens because there's one, there's all the crazy conversations about like get rid of income taxes. Like I, I've literally had people this last month on Twitter fight with me that they think it's more than likely that we'll get rid of the IRS if in income taxes. I absolutely don't think that's true. And you know, it's funny because all these people are like, well then let's do a flat tax. And they don't realize that that just helps the wealthy. Right. The lowest income people pay the least amount of taxes percentage wise. If you do a flat 15% tax or something like that, like all that really does is help the most wealthy. So I also don't think something like that is going to happen. Do we do I think income taxes are going to go down? I don't do. I think it'll sunset and we'll get pushed up brackets. Probably not. I think they'll re extend some similar tax brackets. They're talking about 15% corporate tax rate. You know, we'll, we'll see if that one would happen. You know, qualified business income deduction I would assume will continue because if they're not going to raise corporate tax rates, I don't think they're going to make it worse for small businesses and pass through entities. Qualified business. I already said qualified business income deduction.
- [16:12]
Dave
Yeah. State and local taxes. I'm sure me and Anne feel this on the coasts.
- [16:16]
Thomas Coleman
Well that's an interesting one.
- [16:18]
Dave
Yeah, that's one that seems like even if they extend it they may raise the threshold because like pizza was created.
- [16:26]
Thomas Coleman
For business owners to help on that. So it'll be very interesting to see. Did they let that go up and before personal exemptions were higher. Right. So you could like write off your financial advisor fees. Like there was a lot of ways to deduct those that you can't today the standard deduction is set supposed to get cut. I would assume that that also doesn't happen. Anything else that comes to mind for.
- [16:47]
Anne
You guys in the cross border space? At least with the tcja there were a lot of changes and you know, trying to repatriate money onshore through taxes and so I would imagine we might see some movement also in the international taxation space as well.
- [17:09]
Thomas Coleman
That makes sense. Anything else that you guys think that we should talk about as it relates to like kind of the new environment and what we see coming.
- [17:17]
Dave
I just, I think, you know, we're talking about how it's probably not going to sunset, but I think flexibility is so key because in a couple of years we're probably going to do one of these episodes and it's going to go the other way and it's going to go the other way. And so, you know, I think that's how it oscillates. And you're going to see a lot of webinars, a lot of articles come into your inbox about do this now, do this now. And I just think flexibility is just so key because if you look back historically, people usually didn't take action to get out ahead of the law. Changing the law changes, and then savvy financial planners find ways to adjust to it and find crafty ways to deal with it. You know, the grantor trust laws, a very good example of that. Those are actually made. That's why if you create a trust and you can create an irrevocable trust where the income is taxed to you personally, that was originally actually made to be punitive. So people didn't want to make grantor trusts because the trust tax rates were better than the individual rates. And so the, the government was trying to close a loophole. Well then time went on and now people are purposefully making grantor trust to save money. And I think that's the way you just have to approach it is deal with what comes. Yes, if something's absolutely imminent and you can plan for it, that's great. But we thought that sunset was absolutely imminent and it doesn't appear to be now. But even then I'm, I'm hesitant to say that it is not going to sunset because we just don't know. So I think doing anything drastic on either side is a really, really dangerous. And staying flexible is just so key.
- [19:07]
Anne
I'm sure that you'll hear a lot about how to make some of these strategies more flexible from the trust and estate space and particularly with trusts. You know, I mentioned funding formulas. It's much more popular now to do things like with an election, you know, a choice upon the first death so that you can see where things shake out politically with the exemption, but also what assets your client happens to own. So, you know, favoring something like a Clayton Q tip, you know, which gives you more flexibility for how to fund the bypass versus marital trust is important. There are things that are called limited powers of appointment and trust that can also function like escape hatches so that you know your, you have Somebody like the beneficiary who can take action with respect to the trust and, you know, basically revive, you know, a trust by. By pouring its assets into a second vehicle. So that's a limited power of appointment. There can also just be all sorts of, you know, other clauses that can increase that flexibility. And so just make sure that you're speaking to the client to understand kind of where they are, but also stressing the importance of flexibility. Clients don't always think that that's a good thing, but, you know, work with the attorney to make sure that you understand where, where you're building in flexibility into the plan.
- [20:35]
Thomas Coleman
Yeah, really good points. I have two more actually that I think could get extended or added, and one's bonus depreciation. So bonus depreciation has been phasing out. My assumption was like, that was something that he put in. And I would be surprised if bonus depreciation didn't get put back to 100%, which is obviously something all real estate investors would be very, very excited about. And then the other one. Oh, what was the other one that I had? Oh, probably opportunity zone investment. So obviously that was created the deferral till 2026. I think they might push back what that deferral would be or create some law that's like, it defers capital gains for X number of years. Because, because right now if you defer a capital gain, right, you get two years. It's like, is that worth it for a 10 year lockup? Maybe not. But if it's five years or 10 years or whatever the rule that they created to be, that would actually make it a lot more advantageous. And I think that's a good one because obviously there are ways to do this in an incorrect way, but for a lot of this, it really is trying to build up cities and areas that need development and that makes those investments more attractive. So I think for a lot of real estate investors, it'll be interesting to see how much more attractive some of these changes could make it for them. Cool. Anything else you guys feel like we need to hit on before we wrap up? Okay, perfect. Well, this was an awesome episode. I know this is one that I've really wanted to do, and I think it was something that I've had a lot of clients ask me about, like, hey, now that we know this, should we still go through with these trusts? And my answer, I think in all of ours is very similar. Like, hey, let's just kind of sit and wait. We got plenty of time to think about things. Let's remain flexible and this is why planning is so important right is because things change all the time and you know I think a lot of us saw this when you know Trump came into office first of all and everything got changed. Now we are worried about going away. Now we have no idea does it extend does it get changed does it go away and so I think planning is going to be a lot of fun next year. Hopefully they don't put some new rules that are retroactive for 2024 because we know sometimes that they do that. But everybody we really appreciate you listening. Again please rate and subscribe and if you have any topics or questions feel free to reach out. We actually get quite a bit of those and I think we'll start to you know if we get more and more do some just Q and A type episodes which I think would be a lot of fun. So we'll see you back in a couple weeks. It.