Estate and Gift Tax Provisions of Pres. Obama’s Fiscal Year 2014 Budget Proposal

On April 10, 2013, Pres. Obama released his budget proposal for the Federal government’s fiscal year running from October 1, 2013 through September 30, 2014.  The budget proposal includes many individual and business income tax provisions, projected to increase taxes by $1.1 trillion over 10 years according to the Tax Policy Center.  This post concerns estate and gift taxes.  Previous blog posts covered the proposals dealing with individual and business income taxes. 

1.     Beginning in 2018, the estate and generation skipping transfer tax exemptions would decrease to $3.5 million and the gift tax exemption to $1.0 million, and the tax rate would increase to 45%.  These are the exemptions and tax rate that existed in 2009.  In addition, the exemption amounts would no longer be indexed for inflation.  Portability of unused estate and gift tax exclusions between spouses would be retained.  These changes are being proposed only three months after the American Taxpayer Relief Act of 2012 had “permanently” increased the exemptions to $5.25 million (as indexed for inflation) and had “permanently” set the tax rate at 40%!  The proposal does not claw back any tax benefits for gifts above the proposed $1 million gift exemption made before 2018.

2.     Effective for transfers on or after the date of enactment, the income tax basis of inherited property could be no greater than the value of property for estate or gift tax purposes.  A new information reporting requirement will cause the estate executor or the donor to provide the necessary valuation and basis information to both the property recipient and the IRS.

3.     For grantor-retained annuity trusts (GRATs) created after the date of enactment, the GRAT term must be no shorter than 10 years or longer than the life expectancy of the annuitant plus ten years.  The remainder interest must have a value greater than zero when the GRAT is established.  In addition, the GRAT annuity may not decrease during the term of the GRAT.  These proposals eliminate the benefits of the so-called short-term, zeroed-out GRAT.

4.     For trusts created after the date of enactment, and for additions made to pre-existing trusts after that date, eliminate any generation skipping transfer tax (GST) exclusion allocated to the trust on the 90^th anniversary of the trust’s creation.  It is unclear how the 90-year limitation applies to an addition to a grandfathered trust.  This proposal effectively eliminates the future use of the dynasty trust strategy.

5.     For property sold to an intentionally defective grantor trust on or after the date of enactment, the portion of the trust attributable to such property (including all retained income, appreciation, and reinvestment) will be included in the gross estate, less any payments received.  In addition, if the trust ceases to be classified as a grantor trust during the grantor’s life, then the amount will be treated as a gift with the gift tax being paid by the trust.  Any distributions out of the trust in excess of the prior taxable gift amount will be treated as additional gifts.

6.     The exclusion from GST tax will be eliminated for health and education exclusion trusts (HEETs) created after the date of introduction of the bill proposing this change, and for transfers to existing HEETs after that date.  A HEET is used to pay providers of medical care and to pay schools for tuition costs of trust beneficiaries, which can include multiple generations.  Direct payments to providers by an individual for another person's medical or tuition costs are gifts that are excludable from GST tax.  The purpose of a HEET is to permit the GST exclusion to apply to such payments made for future trust beneficiaries, even after the death of the trustor.  This proposal eliminates the HEET GST exclusion tax benefit.