1. Reduction of Unified Credit. The unified credit against inheritance and gift taxes will return to its 2010 level of $ 5,000,000 per person, indexed to inflation. The current unified credit of $ 10,000,000 ($ 11,700,000 when indexed to inflation) was scheduled to expire on December 31, 2025. The new credit amount would take effect on January 1, 2022.
2. New Grantor Trust Rules.
- Transferor trusts created from the date of enactment of the new law are included in the transferor’s taxable domain. In addition, all amounts transferred to a pre-existing transferor trust (i.e. a transferor trust established before the new law) are also included in the transferor’s taxable estate.
- Sales between a grantor trust and the grantor (or deemed owner) are treated the same as sales between the grantor and a third party. This means the realization of a gain by the grantor on a sale to the grantor’s trust. Interest earned on a promissory note and payable by the grantor’s trust will also be treated as taxable income for the grantor. The rule applies to future sales to grantor trusts (i.e. payments on existing notes may not result in recognition of gain, but details of the new law are yet to be clarified.)
3. Limit assessment discounts. “Non-commercial assets” cannot benefit from valuation discounts for the purpose of transfer taxes. Non-business assets are classified as passive assets held for the production of income and not used in the active conduct of a trade or business. This rule comes into force upon its promulgation.
4. QSBS limitation for certain high income people. The 75% and 100% exclusion rates for gains made from QSBS if the taxpayer’s income exceeds $ 400,000 will be eliminated. The 50 percent exclusion will still apply. This rule applies to sales after September 13, 2021.
5. Graduated tariff structure for companies; Increase in rates. A progressive pricing structure for companies will be put in place:
- 18% on the first $ 400,000 of income;
- 21% on income of $ 400,001 to $ 5 million;
- 26.5 percent on income thereafter.
The phase-out will apply to corporations earning more than $ 10,000,000 (that is, they will not fully benefit from the lower graduated rates for income below $ 5,000,000). Personal services companies are not eligible for graduate rates and pay the flat rate of 26.5 percent.
6. Increase in the personal income tax rate. The top marginal personal income tax rate rises to 39.6 per cent. The new rate applies to singles earning over $ 400,000 and married couples jointly filing over $ 450,000 (under current law, the maximum rate is 37% for singles earning over $ 523,600; $ 628,300 for married couples filing jointly). The new rate comes into effect on January 1, 2022.
7. Increased rate of capital gains for some high income earners. The maximum rate of capital gains increases to 25% (the current rate is 20%). The new rate will apply to taxation years ending after the new rule comes into force.
8. 3 percent surcharge for high income taxpayers. A 3% tax will be imposed on income over $ 5,000,000. This surtax also applies to trusts and estates. The new tax applies to tax years that begin after December 31, 2021. Note that this surtax is in addition to the 3.8% net income tax, which applies to married tax filers earning over $ 250. $ 000 and single tax filers earning more than $ 200,000.
Planning opportunities – For clients concerned about the changes the proposed legislation could make to popular estate planning strategies, such as donations to transferor trusts, it may be a good idea to consider action now before any legislation is passed. For example, for individuals and married spouses who have not used all of their applicable federal exemptions on gifts, estates and generational transfers, it may be beneficial to donate now and use the applicable exemption. before these amounts are reduced.
In addition, if the proposals for grantor trusts are adopted, the effectiveness of establishing a grantor trust will be significantly reduced. As proposed, the settlor-in-trust rules, i.e. inclusion in the settlor’s estate and recognized sales between settlor and settlor, will come into effect from the date of promulgation. There may be a small window of opportunity for clients to establish grantor trusts, make contributions to existing grantor trusts, or sell assets to a grantor trust prior to the promulgation date. Please note that we cannot predict when legislative proposals will be adopted at this time, and there is a risk that such planning may not be completed before that date.
Another problem that could arise is with existing irrevocable life insurance trusts (ILITs). Typically, ILITs are structured to be grantor trusts and the grantor makes annual contributions to the trust to provide liquidity to the ILIT to pay life insurance policy premiums. Under current proposals, there is a risk that part of the ILIT will be included in the settlor’s estate since contributions will be paid to ILIT after the date of promulgation. Clients with existing ILITs may consider making larger contributions to their ILIT (s) now in order to provide sufficient liquidity to the trust to pay premiums in the future. It may be possible to modify an ILIT (by settling, for example) to avoid assignor trustor status, if the new law does not provide a further exemption for an ILIT, which remains to be determined. However, clients should consult with their estate planning attorneys at Pillsbury before making such contributions, in order to carefully navigate the nuances of their specific ILIT.
Stay up to date – We anticipate that there will be technical changes to the proposed rules that may clarify the impact the proposed rules will have on annuity trusts kept by grantors (FREEs), ILITs and other grantor trusts. We are monitoring the situation closely and will provide updates when they are released.