By Daniel F. Rahill, CPA/PFS, JD, LL.M., CGMA.
The Tax Cuts and Jobs Act of 2017 (TCJA) brought about substantial changes to the tax landscape, significantly increasing the lifetime estate and gift tax exemption amounts ($13.61 million for individuals and $27.22 million for married couples). However, these exemption amounts are set to expire on Jan. 1, 2026, and—absent new legislation before then—will revert to approximately $7 million for individuals and $14 million for married couples, subject to inflation adjustments.
This pending reduction creates a “use it or lose it” scenario for individuals and families with taxable estates, and failing to capitalize on the current exemption could result in a substantial financial impact. Given the federal estate tax rate of 40% and an expected exemption reduction of $7 million, this reversion would result in tax liability of up to $2.8 million per individual or $5.6 million for a married couple transferring their estate to heirs.
The IRS has clarified that benefits utilized under the current exemption won’t be subject to future reduction or “claw-back,” meaning that proactive estate planning can lock in a permanent tax advantage, making now an opportune time to act.
Estate Planning for the Mid-Affluent
Contrary to common belief, the benefits of estate planning aren’t exclusive to the ultra-wealthy. The mid-affluent—individuals and married couples poised for significant asset growth—should also consider their future tax exposure. A mid-affluent couple with a $10 million estate today could see their assets grow well beyond the future exemption thresholds due to compounding investment returns. Historically, assets, such as those tracked by the S&P 500, have seen an average annual return of 7.3% over the past 30 years. Such a rate of return could double an estate’s value every decade. Thus, estate planning is imperative for those who may not currently exceed the exemption but may in the future.
Sports fans have no doubt heard the famous quote often attributed to hockey legend Wayne Gretzky: “Skate to where the puck is going to be, not where it has been.” The same philosophy applies to estate planning—don’t plan based on where the estate stands today; create a plan for where the estate will likely be in the future.
Strategic Estate Planning for the Affluent
For your clients in higher wealth brackets, specifically those with estates worth more than $20 million, estate planning becomes even more critical as 2026 approaches. The scheduled reduction of the estate and gift tax exemption underscores the need for meticulous planning, particularly for those whose assets far exceed the current $27.22 million exemption for married couples.
A nuanced approach for a couple with $30 million in wealth involves one spouse fully utilizing their $13.61 million exemption by transferring assets either directly to beneficiaries or into trusts. This maximizes the current exemption of one spouse, ensuring that a significant portion of the estate is protected from future estate tax. The second spouse retains their exemption, which, even after the anticipated reduction, offers another layer of tax shelter. The second spouse also has the option of using a portion of their exemption, thereby removing future appreciation from their estate. This strategy balances the benefits of current tax law with the need for financial flexibility and security.
Core Estate Tax Planning Techniques
Regardless of estate value, there are numerous techniques and account structures available to help your clients minimize estate tax consequences—here’s a summary of the most common ones.
Lifetime and Annual Gifting
As essential tools in the estate planner’s toolkit, these strategies facilitate the transfer of wealth to the next generation while minimizing the estate’s tax exposure. Lifetime gifting removes assets from the estate, potentially shielding them from estate taxes on future appreciation. Concurrently, annual gifting leverages the IRS’ exclusion amounts, currently $18,000 per recipient ($36,000 per couple), to systematically reduce an estate’s taxable value. Beyond the annual exclusion gifts, direct payments of tuition or medical expenses have no gift tax limitation at all. Thus, annual gifting offers a methodical approach to estate reduction that can have a significant financial impact on clients over time.
Spousal Lifetime Access Trusts (SLATs)
SLATs offer a strategic avenue for one spouse to support the other while also achieving estate tax savings. By establishing a SLAT, assets are transferred into an irrevocable trust for the benefit of the spouse and potentially other family members. This move effectively removes the assets from the grantor’s estate, mitigating estate tax exposure. The beneficiary spouse can access the trust’s income and, in certain situations, the principal for needs such as health, education, maintenance, or support, without compromising the tax benefits. The grantor also has the option to pay the tax burden on the grantor trust, allowing the trust to grow tax-free and further reduce their future taxable estate. This trust allows for significant asset protection and growth outside the estate, enhancing future financial security for heirs.
Grantor Retained Annuity Trusts (GRATs)
Utilizing GRATs involves the grantor transferring assets to a trust, retaining the right to receive annuity payments for a predetermined period, which is typically two to 10 years. At the end of the trust term, any remaining assets pass to the designated beneficiaries (often family members or heirs).
GRATs are particularly effective in low interest rate environments or when assets are expected to appreciate substantially. The key advantage of a GRAT is the potential for asset appreciation to exceed the IRS’ assumed rate (the Section 7520 rate), allowing the excess to pass to beneficiaries free of additional taxes. However, it’s also crucial to note that if the grantor passes away during the trust term, the remaining assets might be included in their estate, potentially negating some of the GRAT’s benefits.
Notably, legislation has unsuccessfully targeted GRATs for several years, including the Getting Rid of Abusive Trusts Act, which aimed to tax property transfers between the trust and the grantor of the trust. Previous legislation also targeted the “zeroed-out” GRAT, otherwise known as the Walton GRAT. This is a GRAT in which the value of the gift to the beneficiaries is reduced to zero—put more simply, it allows a grantor to transfer appreciation of value tax-free to beneficiaries at the end of the trust term. Of course, these legislative proposals illustrate the urgency of why it’s imperative to plan ahead.
Intentionally Defective Grantor Trusts (IDGTs)
IDGTs are very effective tools for transferring wealth, especially for appreciating assets like family businesses or real estate. By designating a trust as “intentionally defective,” the grantor separates the income tax responsibility from the estate and gift tax implications. This allows the assets within the trust to grow tax-free because of the grantor’s payment of the income taxes, which further reduces the estate size indirectly.
Transferring business or real estate assets to an IDGT in exchange for a promissory note allows the assets to grow outside the grantor’s estate while the trust repays the note with business income. This method effectively moves appreciable assets out of the estate without immediate tax consequences.
Another advantage of IDGTs, like other irrevocable gift trusts, is the ability to utilize a “swap power,” enabling a grantor to swap assets of equivalent value between their personal estate and the trust. By swapping non-appreciated assets to the trust for appreciated assets, the grantor can actively manage the trust’s holdings to ensure they receive a step-up in basis upon the grantor’s death, minimizing capital gains taxes for heirs.
Qualified Personal Residence Trusts (QPRTs)
QPRTs enable the transfer of a primary or secondary residence into a trust, significantly reducing the gift tax consequences by discounting the value of the residence based on the term of the trust and the grantor’s retained interest. At the end of the trust term, the ownership transfers to the trust’s beneficiaries outright or in further trust.
This strategy not only lowers the estate’s taxable value by removing the residence and its future appreciation, but also allows the grantor to continue living in the home for a specified period of time, typically 10 to 20 years. Should the grantor outlive the term, they can remain in the home by paying rent to the trust’s beneficiaries, further reducing the size of their estate by removing additional assets from the estate’s tax calculation. However, should the grantor pass away within the trust’s term, the tax benefits could be reversed, negating the tax benefits of the trust.
Charitable Remainder Trusts (CRTs)
CRTs are excellent vehicles for supporting charitable causes while providing income and tax benefits for the grantor or other named beneficiaries. By transferring assets into a CRT, the grantor secures an income stream for a term of years (not to exceed 20 years) or for life, with the remainder interest designated to charity at the end of the trust term or at the death of the last beneficiary. Additionally, CRTs offer immediate income tax deductions based on the present value of the remainder interest and potential savings on capital gains taxes, making it an attractive option for those with appreciated assets.
Notably, there are two types of CRTs: the charitable remainder annuity trust (CRAT) and the charitable remainder unitrust (CRUT). The CRAT provides beneficiaries with a fixed annual income based on a predetermined percentage (e.g., 7%) of the initial fair market value of the assets. A CRUT provides beneficiaries with a variable annual income based on a predetermined percentage of the trust’s assets, which are revalued annually.
In more advanced planning, CRTs can be structured to benefit multiple generations, extending beyond the grantor’s lifetime to provide for children and even grandchildren, all while ensuring that a portion of the trust’s value ultimately supports charitable causes. The maximum term is dependent on the present value of the remainder interest going to charity, which must be at least 10%. In some circumstances this multigenerational payout is used by planners as an alternative to the inherited stretch individual retirement account (IRA) where inherited IRAs are paid out over a beneficiary’s life expectancy. Since the Setting Every Community Up for Retirement Enhancement (SECURE) Act of 2019 generally limited the payout term to a 10-year period for most inherited IRAs, the stretch CRT can sometimes be used as an alternative.
Charitable Lead Trusts (CLTs)
Conversely, CLTs focus on providing immediate support to charitable organizations through annual payments for a specified period or a lifetime, with the remaining assets eventually passing to non-charitable beneficiaries.
The grantor transfers assets into an irrevocable trust, receiving a charitable or estate tax deduction for the calculated present value of the charitable payments. At the end of the trust term, the remaining assets in the trust are typically distributed to non-charitable beneficiaries, such as family members or heirs. The present value of transfer of the remaining assets to the beneficiaries at the end of the trust term is a taxable gift, which a lifetime exemption can offset. Facilitating the transfer of assets to non-charitable beneficiaries with reduced estate or gift tax consequences makes CLTs a powerful tool for legacy planning.
Dynasty Trusts
Dynasty trusts, also known as generation skipping tax (GST) trusts, are designed for long-term preservation of assets across multiple generations, with the benefit of avoiding 40% estate and GST taxes with each generational transfer. For example, a grantor establishes an irrevocable trust and transfers assets into it, removing them from their taxable estate and leveraging the 2024 $13.61 million exemption (the GST exemption amount is the same as the estate and gift tax exemption). By electing to use the $13.61 million GST exemption on the gift, the assets avoid estate taxes that would otherwise be incurred when the assets pass to each future generation. However, special rules apply to the inclusion ratios and applicable fraction formulas, depending on the type of trust receiving the GST, so extra care and planning are required when setting up the trust.
Additionally, a dynasty trust can provide income and support to the grantor’s children during their lifetime, with the remaining assets passing to the grandchildren or other beneficiaries upon the children’s deaths. The grantor can impose certain restrictions, such as limiting access to the funds until a beneficiary graduates from college. Beyond tax benefits, GST trusts provide a shield for assets against potential future liabilities, such as divorce settlements among beneficiaries, ensuring that the wealth remains within the family lineage.
Depending on state laws, dynasty trusts can also extend for centuries. In Florida and Wyoming, for example, a dynasty trust can endure up to 1,000 years. In Illinois, the trust can last 360 years. By leveraging the grantor’s GST exemption, significant assets can be moved out of the estate, reducing overall estate tax liability and offering a durable solution for generational wealth transfer.
Irrevocable Life Insurance Trusts (ILITs)
ILITs serve as a crucial tool for estate liquidity and preserving family wealth. By owning a life insurance policy within an irrevocable trust, the proceeds from the policy aren’t included in the estate, and thus, they’re not subject to estate taxes. This ensures beneficiaries receive the full amount of the life insurance benefit tax-free, providing essential liquidity for estate obligations without diminishing an estate’s value.
Typically, ILITs are funded by purchasing new policies, which avoid the three-year look-back period associated with the transfer of existing policies. For couples, second-to-die policies within an ILIT offer lower premiums and/or higher coverage given a couple’s longer joint life expectancy. Premiums can be paid through gifts to the trust, typically classified as “present interests” to qualify for the annual $18,000 gift tax exclusion by using a Crummey power tax provision.
Financing life insurance policy premiums is a very effective method of paying for a large upfront premium or a series of premium payments for five to 10 years. A loan from a bank or premium financing company allows the policy owner to borrow the cash necessary to pay the insurance premium. By borrowing, the grantor doesn’t have to liquidate assets, avoiding an unfavorable taxable capital gains event. It also leaves appreciating assets in the portfolio available for other higher yielding investments. The loan is repaid either before death out of cash values of the life insurance or out of the life insurance proceeds upon death, leaving the interest paid on the debt as the only cost of setting up the ILIT.
Family Limited Partnerships (FLPs)
For taxable estates, FLPs facilitate the seamless transfer of business interests to the next generation, ensuring continuity and protection of the family enterprise while minimizing estate tax exposure.
By transferring ownership interests in closely held family businesses or investments to FLPs, individuals can leverage minority ownership and non-voting valuation discounts as high as 35%, effectively reducing the taxable value of their estates even further. FLPs are used to facilitate family business succession planning and asset protection, allowing for wealth transfer among families.
Consider a parent transferring a $20 million interest in a family business to their child through a FLP. By applying a 35% minority discount, the transfer is valued at $13 million for gift tax purposes, staying under the current $13.61 million exemption threshold, transferring wealth tax efficiently.
Proactive Planning in Uncertainty
Like the increased estate and gift tax exemption limits noted above, many other favorable tax changes are also set to expire under the TCJA at the end of 2025. These include lowered marginal tax rates, expanded tax brackets, and the 20% qualified business income deduction for pass-through entities, among others.
While the future of the TCJA provisions remains uncertain, proactive and strategic estate planning can help. Planning strategies may include optimized timing of income and deductions, retirement contributions, Roth conversions, loss harvesting, charitable giving, and, perhaps, a reexamination of business structures, recognizing that the 21% C corporation tax rate was made permanent by the Act. Additionally, integrating lifetime gifting, trusts, and FLPs into your estate plan can offer robust protection against shifting tax policies and help mitigate the impact of expiring tax provisions and potentially higher tax rates post-2025.
Of course, it’s imperative for CPAs, financial advisors, tax professionals, and estate attorneys to ensure these strategies align with their clients’ broader financial goals, so they can maximize the benefit to their heirs, minimize tax liabilities, and secure and preserve a legacy for generations to come.
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Daniel F. Rahill, CPA/PFS, JD, LL.M., CGMA, is a wealth strategist at Wintrust Wealth Management. He’s also a former chair of the Illinois CPA Society Board of Directors and is a current officer and board member of the American Academy of Attorney-CPAs.
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Tags: Taxes
