You’ve worked hard to build up your accounting practice. Decades of hard work have translated into a sizeable estate, and now it’s time to start considering your legacy with as little possible going to the IRS. Since it is the season of giving, you may want to consider a gifting strategy to begin the process of passing on your property and assets earlier rather than later – in fact, there are significant financial reasons to start the process now.
Generally, we see gifts as being free to both give and receive. However, from a tax perspective, gifting is more complicated. This becomes particularly important when planning your estate and determining how much of it can be safely transferred out of your ownership without incurring taxes, both now and later.
Under the Tax-Cut and Jobs Act (TCJA) of 2018, you currently have the advantage of higher tax-free gift limits. But with the TCJA set to expire at the end of 2025, these limits are expected to reduce significantly.
This article aims to show you how you can reduce your estate as much as possible before TCJA expires by ‘filling up’ current exemption limits before they are reduced.
Current & Future Unified Tax Exemptions
In 2023, the Estate Tax exemption stands at $12.92 million for individuals and $25.84 million for married couples. In 2024, those figures will increase to $13,610,000 and $27,220,000, respectively. However, built into those numbers is your lifetime gift tax exemption.
Essentially, if you passed away today, the IRS would ignore the first $12.94 million of your estate – no taxes would be owed on it, at least at the federal level. If you gave away $1,000,000 over your lifetime, that was above and beyond the annual gifting limits, then the IRS would only ignore the first $11.94 million.
Each year, the exemption will be increased to compensate for inflation until TCJA expires.
At that point, the Unified Tax Exemption will roughly revert to pre-TCJA limits and get adjusted for inflation – perhaps somewhere around $7,000,000. Even if your estate doesn’t exceed current limits, it may in 2026, so it’s time to start preparing now. Alternatively, if your estate isn’t worth $7,000,000 now (or whatever the future 2026 exemption limit will be), it just may by the time TCJA sunsets.
Annual Tax Exemptions
Thinking of your lifelong exemption isn’t enough to create a tax reduction strategy because only gifts that exceed the annual limit will count against it.
The 2023 Annual Exemption is $17,000 for individuals and $34,000 for married couples, with a $1,000 increase in 2024 to $18,000 and $36,000, respectively.
Basically, you can give up to the annual limit to as many individuals as you’d like. What would this look like in practice?
For instance, if you and your spouse have two adult children, each married, and you decide to gift each individual the maximum of $34,000, you would transfer $136,000 away from your estate that year. But it doesn’t stop there – you also have five grandchildren. Gifting each grandchild $34,000 adds another $170,000 to the amount you’ve moved out of your estate, totaling $306,000 for 2023. Looking ahead to future years, the gift exclusion limit is set to increase. In 2024, the amount will rise to $18,000 for individuals and $36,000 for couples.
If you maintain your gifting strategy, you would be able to gift $36,000 to each of the previously mentioned nine family members (two children, their spouses, and five grandchildren), which adds up to $324,000 for the year 2024. Assuming the limit increases again by $1,000 in 2025, the individual limit would be $19,000, and the couple’s limit would be $38,000. The total amount for the nine family members would then be $342,000 for the year 2025.
Over these three years (2023-2025), by maximizing the annual gift exclusion, you could potentially transfer away a total of $972,000 from your estate ($306,000 in 2023, $324,000 in 2024, and $342,000 in 2025), all without affecting your lifetime exemption.
If you wish to give a direct gift to other loved ones or friends, you can easily do so. There is no cap on the number of individuals you can give gifts to up to the exclusion limit. Technically, you could gift 100 people $34,000 each in 2023, though that is unlikely to align with your broader estate planning objectives.
Such a strategy may keep you below or push you under the new Estate Tax exemption limits in 2026. But if it doesn’t, there are more strategies you can utilize.
Convert your CPA into a Family Partnership
Many business owners minted to pass on their business to their children or other loved ones. In fact, many may have gotten their business in the same way. To keep taxes to a minimum, you may consider establishing a Family Partnership now and begin the process of reducing your estate. Here’s how you can leverage a Family Partnership in your estate planning:
Establishing the Partnership
To start, you’ll form a partnership in which you and your family are partners. The partnership becomes the legal owner of the assets, and you and your family members hold shares in the partnership.
Transferring Interests
Once the FLP is established, you can begin gifting shares of the partnership to your family members. These can be structured as limited partnership interests, which don’t carry management rights but do provide a share in the partnership’s income and assets.
A key aspect of gifting interests in an FLP is the potential for valuation discounts. Due to limited partnership interests not having control or marketability, these discounts can be substantial, allowing you to transfer more significant portions of your estate without breaching gift tax limits.
Is a Family Partnership right for your CPA firm? Due to the inherent complexities of establishing and operating a Family Partnership, legal counsel is highly advised to make that determination.
In Conclusion
Direct gifting and company interest giving are two great ways to reduce your taxable estate before TCJA expires. A Family Partnership potentially enables you to gift even more, relatively, due to valuation discounts.
However, these strategies are just the beginning. Plus, not everyone has family members or others that they would like to give a direct gift to, for whatever reason. Or you may not want to pass on your business to a family member, or perhaps they’re not interested in participating.
In our next article, we will delve into other techniques to gift and donate away your estate, including charitable and life insurance strategies. These tools can further optimize your estate planning, offering additional avenues to minimize tax liabilities, support causes close to your heart, and ensure financial security for your beneficiaries.
If you’d like to discuss your gifting strategy with a financial professional to see how it will affect your overall portfolio, feel free to schedule a meeting by clicking the button below.
