Federal Estate and Gift Tax Changes Coming in 2006: Annual Exclusion Amount Increased to $12,000

Client Advisory

November 21, 2005
by Lisa Fox

The annual gift tax exclusion amount will increase from $11,000 to $12,000 effective January 1, 2006. This means that after December 31st any individual can give up to $12,000 each year ($24,000 if there is a spouse who agrees to split the gift) to anyone without the transfer being treated as a taxable gift. Clients are encouraged to consider making annual gifts, as this is one of the few entirely tax free transfers one can make. Many clients make numerous such gifts to children and grandchildren each January to be assured that the gift is completed during the year. And, if you haven’t made any gifts yet in 2005, it’s not too late to give $11,000 (or $22,000) to anyone you wish and take advantage of the 2005 annual gift tax exclusion, as long as the transfers are completed by December 31st. Gifts of less than the maximum annual exclusion amount are tax free too.

Of course, before making annual exclusion gifts in the maximum amount in January, consideration should be given to whether one’s annual exclusion gifts will otherwise be applied later in the year elsewhere (such as for the funding of an insurance trust).

The increase in the annual gift tax exclusion is a result of the Taxpayer Relief Act of 1997, which indexed for inflation various tax thresholds including the annual exclusion amount.

EGTRRA and the Applicable Exclusion Amount

The Economic Growth and Tax Relief and Reconciliation Act of 2001 brought about sweeping changes to the federal transfer tax system. Pursuant to the Act, the estate and generation-skipping transfer taxes are still scheduled for repeal, but only for the calendar year 2010. The Act’s “sunset” provision, stating that EGTRRA, and all it contains, will disappear in 2011, is still in place. Unless the sunset provision is repealed or modified, actual estate tax repeal will last only for one year and the estate tax regime in effect in 2001, or some semblance of it, will reappear at that time.

In the meantime, in 2006 the top estate, generation-skipping transfer tax and gift tax rates will drop another percent to 46%, and the lifetime exemption from estate tax (applicable exclusion amount), and the GST tax exemption, both currently $1,500,000, will increase to $2,000,000. (The lifetime exemption applicable to gifts remains at $1,000,000.)

It is always a good idea to review your will and estate plan (or have your attorney do it) any time there is a change in the law, a change in your family or your financial circumstances, or simply the passage of time, and the current exemption increases are such a time. Having said that, no immediate changes are called for by the increases effective January 1st. If your will creates a credit shelter trust making use of the applicable exclusion amount, the fact that that amount is increasing will, in most cases, require no change, because those provisions are typically drafted using a formula that refers to the applicable exclusion amount by name, without using any specific number. If, however, you are concerned that the increase in the exemption will cause more to pass under this clause than you had planned, you may wish to reconsider how your will works. This would most commonly be a concern where your spouse is not a beneficiary of the credit amount.

Also, for those of you who live in states with state estate tax exclusions of less than $2,000,000 (including New York and New Jersey), the increase in the federal exclusion may result in a greater state estate tax bill if the credit shelter trust formula is base only on the federal, and not the state amount. The cost of using the full $2,000,000 federal exclusion in New York, for example, could be as high as $99,600 in additional New York State estate taxes.

Two other suggestions we made in 2001 remain:

  1. Defer, defer and defer. To the extent that you can put off the payment of taxes, you should. The marital deduction allows you to defer the tax payments until the death of the survivor of you and your spouse. To the extent that you are not already using the marital deduction to the fullest extent, and can, you may wish to consider it.
  2. Don’t stop any program of tax free gifts; in fact, continue considering such a program. Annual exclusion gifts ($11,000 or $22,000 now and $12,000 or $24,000 beginning January 1, 2006) to family members, direct payments of medical expenses and tuition, tax free Grantor Retained Annuity Trusts (GRATs), tax free charitable trusts, and gifts that make use of the available applicable exclusion amount all make good sense, and if something falls apart with estate tax repeal, you will be glad you did not overlook these ideas.

Carter Ledyard & Milburn LLP uses Client Advisories to inform clients and other interested parties of noteworthy issues, decisions and legislation which may affect them or their businesses. A Client Advisory does not constitute legal advice or an opinion. This document was not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein. © 2018 Carter Ledyard & Milburn LLP.
© Copyright 2005

Related practice area:

© Copyright 2018 Carter Ledyard & Milburn LLP