The Obama Administration recently released its “green book” budget proposal for 2015.
The proposal is very similar to the Administration’s budget proposals for prior years. However, the chances that any of these proposals actually become law is low given the fact that 2014 is an election year and any chance of compromise between the Republican majority in the House of Representatives and the Democrat majority in the Senate is slim.
The 2015 “green book” budget includes a wish list of tax and spending proposals that would, if ever enacted into law, create some new federal tax rules and increased government spending.
Here is a short summary of certain budget items that directly affect life insurance and estate planning in general.
Estate and Gift Tax Budget
Proposal Items Which Would Affect Estate Planning:
No “Crummey” withdrawal powers would be necessary for irrevocable life insurance trusts (ILITs) to qualify for this $50,000 per donor annual exclusion. If this proposal is ever implemented, it could simplify funding of ILITs by eliminating the need to administer annual “Crummey” notices to trust beneficiaries. Annual premiums in excess of the $50,000 per donor annual limit would have to be allocated against the current $5,340,000 lifetime gift exemption.
The estate tax rate would increase from the 2014 rate of 40% back up to 45%. The estate tax exemption would not be indexed, but the election of portability to carry over any unused estate tax exemption from the first death to the second death of a married couple would continue.
This proposal would again “dis-unify” the estate and gift tax exemptions that were “re-unified” again in 2013. The $1,000,000 lifetime gift exemption would not be indexed.
This would require the GRAT to be in place for a minimum of 10 years and have a remainder interest value greater than zero for gift tax purposes. This would eliminate the use of short-term “zero-gift” GRATs as a planning technique.
The proposal would provide that, on the 90th anniversary of the creation of the trust, any GST exemption that had been previously been allocated to the trust would terminate, thereby leaving no part of the trust exempt from GST tax.
This would end the use of so-called “grantor” ILITs which have become the most widely used form of ILIT since the late 1980s. ILITs would have to be structured as non-grantor ILITs to escape estate taxation at the death of the grantor.
Non-spouse beneficiaries of inherited IRAs would be required to take taxable distributions of the entire inherited account balance over no more than 5 years. The enactment of this provision would greatly diminish the appeal of “inherited IRA” planning. But, it could increase the attractiveness of using after-tax IRA distributions in lifetime to fund tax free life insurance death benefits of an ILIT.
Keep in mind that these budget proposals would have to be enacted into law by Congressional legislation in order to become effective. The likelihood that any one of these proposals becomes law depends on the political climate in Washington. Generally, it seems fair to say that in an election year like 2014, fewer political risks are undertaken by U.S. Representatives and Senators. However, the proposals offer some insight into the political playing field for future tax reform.
Clearly, any significant reform will be dependent on the outcome of the 2014 Congressional election and the 2016 Congressional and Presidential election. Even if the Republicans retain a majority in the House and win a majority in the Senate, President Obama still holds the veto on any Republican crafted legislation for his remaining two years in office.
Importantly, the income tax favored status of life insurance, annuities, and long term care insurance appears safe for now. Long term income tax planning will remain important for high bracket taxpayers and life insurance, annuities, and long term care products can provide tax deferred or tax free relief from the burden of high income tax brackets.
Russell E. Towers, JD, CLU, ChFC
Vice President, Business & Estate Planning