Dear Mr. Premack: Our Wills were written by our lawyer back in 2003. She retired, I have some questions and you were recommended to me. As I read the Wills now, I do not understand some of the provisions. There is one that says that when one of us dies (either my husband or me) the “maximum amount of the federal credit” has to be moved to the “B Trust”. We have a fairly substantial estate valued at around $5 million. What does the federal credit mean, what is the B Trust, and should we be doing something differently since these Wills are almost 20 years old? – O.A.
Yes, you should be doing something very differently. Twenty years ago, the federal estate tax system provided two large tax breaks: the unlimited marital deduction and the federal credit (more formally called the estate and gift tax exemption). The marital deduction allows 100% of the value of a married decedent’s estate to pass to the surviving spouse without any taxation. The federal credit allows a certain amount of value to pass to anyone free of estate tax.
Using a Trust to Double the Estate Tax Exemption
Twenty years ago, the federal credit was relatively small in amount. In 2003, only $1.5 million was exempted from the estate tax. Since this was a per-person amount (that is, each spouse could exempt $1.5 million) a legal approach was invented to use both exemptions, doubling the amount that could be passed tax free. Your “B Trust” was created so that when one of you dies, assets belonging to the decedent could pass to the B Trust instead of to the surviving spouse. Leaving assets to the Trust instead of the spouse makes the transfer taxable. That tax is then offset entirely by the federal credit of the deceased spouse. In that way tax on $3 million could be avoided instead of just tax on $1.5 million. By skipping the unlimited marital deduction your B Trust allowed you to double your tax-free exemption.
That technique has, however, become outdated for almost everyone because Congress continued to evolve the estate tax exemption. They changed the Laws that apply to your estate planning. First, they allowed the surviving spouse to claim both exemptions by request to the IRS, without the need for a “B Trust”. Second, they increased the exemption amount. Under President Obama the credit was set at $5 million per person, adjusted for inflation. Under President Trump the credit was set at $11 million per person, adjusted for inflation.
Estate Tax Exemption goes up for 2022
For year 2022 the IRS has announced that the per-person exemption is now $12.06 million (up from $11.7 million in 2021). However, President Trump’s increase was designed to roll back in 2026, so in 2026 the exemption is very likely to roll back to about $7 million per person.
What should you do differently? Your joint estates are $5 million, a value that is below the threshold for being exposed to estate tax. You do not need the “B Trust” and should work with me to eliminate it from your Wills. Why not just leave it alone? Because the language in your Wills mandates that the B Trust become owner of half your assets when one of you dies, even though the reason for its existence is gone. The B Trust will be inconvenient, be costly, and is entirely unnecessary. Eliminate it. You are not exposed to the 2022 estate tax. Keep your legal documents up to date as your estate changes to recognize when the exemption rolls-back in 2026.
Gift Tax Exemption goes up for 2022.
The IRS has also increased the annual gift tax exclusion. This started out allowing just $3,000 to be gifted to a person annually without tax. Over the years it has expanded, and since 2018 the annual gift exclusion has been $15,000. As of 1-1-2022 the exclusion has been increased to $16,000 per person per year. If for instance you have three children, each parent can now give each of them up to $16,000 each year without reporting it to the IRS.
Paul Premack is a Certified Elder Law Attorney for Wills and Trusts, Probate, and Elder Law issues. He is licensed to practice law in Texas and Washington. To contact us, click here.
Column published on January 17, 2022