Wealthy clients who own businesses need to understand that the parameters for the federal gift tax exclusion could return to pre-2017 levels along with the federal estate tax exemption.
Andrew Flores — a financial planning veteran and partner in the private wealth group at Equitable Advisors' office in Corpus Christi, Texas — believes that, for many of those clients, the solution is pre-gifting.
"A pre-gifting strategy would allow business owners to take advantage of current exclusions, which are at historically high levels," Flores said earlier this week.
What it means: Especially while the fate of the expiring Tax Cuts and Jobs Act of 2017 tax provisions is uncertain, gift tax planning will be key to high-net-worth clients' estate planning.
Gift tax basics: Congress created the gift tax in an effort to keep families from using gifts to avoid paying estate taxes.
The tax is similar to but somewhat different from the estate tax.
The current annual gift tax exclusion is $18,000 per person. The lifetime exclusion is $13.61 million.
About 516,991 people filed gift tax returns in 2023, and the returns raised $1.7 billion in tax revenue, according to the Internal Revenue Service. The median gift tax amount per gift tax return was about $2,300.
Up till now, members of Congress have repeatedly renewed most "temporary" federal tax breaks.
If Congress fails to come through for the gift tax by New Year's Day, the lifetime gift tax limit could return to roughly what it was in 2016, or about $5.45 million for the lifetime exclusion.
The annual exclusion would not be affected by the shift and would likely continue to rise due to cost-of-living adjustments.
Flores has been helping clients with retirement planning, estate planning and general financial planning since 2003, when the estate and gift tax exemption was just $1 million. He holds the Certified Financial Planner, Chartered Financial Consultant and Chartered Life Underwriter professional designations, and he is a life member of the Million Dollar Round Table.
Here are thoughts Flores shared in an email about how he sees the possibility that the old gift tax exclusion parameters could return to pre-2017 levels.
Flores' comments have been edited.
THINKADVISOR: Why is the gift tax especially important to clients who own businesses?
ANDREW FLORES: For a lot of business owners, the value of their business accounts is a substantial part of their net worth.
How does pre-gifting work?
The gift must be of present interest.
Using the current exclusions would allow business owners to transfer appreciating assets out of their taxable estate while reducing and/or eliminating any potential gift tax.
For a gift transferred to a family LLC and/or certain types of trusts, additional leverage on that gift could potentially be achieved by valuation discounts due to lack of marketability, liquidity and control.
Another benefit of transferring property now by pre-gifting is to allow future appreciation of the transferred property to grow outside of the taxable estate.
How much time pressure is involved?
The annual gift exclusion specifically is a 'use it or lose it' strategy that benefits from proactive planning and pre-gifting.
Designing an estate plan that involves pre-gifting can take anywhere from three to six months.
More complex cases may take up to a year or more, depending on the rhythm of the meetings and other considerations, such as third-party business valuations.
There are several considerations that need to be discussed and well thought out, such as choosing competent executors and/or trustees.
It also takes identification and coordination of trusted advisors such as the estate attorney, financial planner, tax advisor and insurance professional to execute the plan efficiently.
