Change is inevitable. When those changes involve tax law, it is extremely important for clients to meet with their financial professional, tax advisor, and legal advisor to discuss any adjustments that may need to be made to their financial, retirement, or estate plan.
One change that is looming is the expiration of provisions that were passed under the Tax Cuts and Jobs Act of 2017 (TCJA). Many of the provisions for individuals, including the higher estate tax exemption and the lower individual income tax brackets, were temporary and will expire (“sunset”) on December 31, 2025, without further congressional action.
Last month, I spoke with two members of the MassMutual team. Lina Storm is the Advanced Sales and Sales Enablement Marketing Director dedicated to MassMutual’s Strategic Distribution team. Kathryn Wakefield is the Director of Advanced Sales at MassMutual.
What will happen when the TCJA, the 2017 legislation, sunsets in 2025?
Storm: First, more individuals may be subject to estate tax if the estate-tax exemption sunsets to the pre-TCJA amount. The gift estate and generation-skipping tax, or the GST exclusion amounts, or what we call the exemptions, are currently $12.92 million per person and double that for a married couple. Without further congressional action, this provision of the TCJA will sunset and the exemption will revert to about $7 million per person and double for a married couple. The $7 million is equal to what the exemption amount would have been prior to the TCJA plus inflation. Prior to 2017, it was roughly $5.4 million. If you add the inflation indexing that we had through 2026, that gets us close to $7 million. The drop will go from $12 million to $7 million of protection from estate tax. You expose yourself to more estate taxes.
The second thing is that the maximum estate tax rate will remain at 40%. If clients have an estate valued at, say, $12 million today and died this year, their estate is under that $12.92 million exemption amount. It would not be subject to estate tax. But if their estate is valued at $12 million or more and they died in 2026, when it sunsets after the 2017 temporary exemption expires, their loved ones would owe approximately $2 million in federal estate tax. This tax is due nine months from the date of death.
That is a big penalty. What can individuals and couples with larger estates do to prepare, Lina?
Storm: Well, there are a couple of things. Individuals whose estate value is close to that sunset amount should evaluate whether the potential growth of their estate in relation to the reduced exemption will expose them to unexpected estate taxes. Today, clients have an opportunity to review their estate and make needed adjustments considering the possible reduction in the exemption, knowing that many people just prior to 2026 will end up being in the offices of their attorneys and their attorneys will be very busy. Now is the time to act.
The second thing is that there are strategies that can help. I typically talk about marital-bypass trust planning or making cash or other gifts of assets to an irrevocable trust. Clients can also consider purchasing life insurance owned by an irrevocable life-insurance trust or using a family limited liability company (FLP) to make gifts at discounted values where that's appropriate to push more of their assets outside of their taxable estate.
One of the solutions that I often hear discussed is portability. What is portability and how can that help?
Wakefield: Portability is the ability for the surviving spouse to use what we call "the deceased spouse unused estate and gift tax exemption." I don't know who came up with these acronyms, but it is the DSUEA. That doesn't roll off the tongue quite as well as portability. I refer to it colloquially and attorneys you'll hear refer to it as portability.
If someone died prior to December 31, 2025, and they elected portability, the deceased unused exemption amount will carry over and be added to any exemption the surviving spouse could have. As a result, portability will generally allow married couples to pass a larger amount, free of estate or gift taxes, than an individual person can.
Portability can be a relatively simple way for a married couple to do estate planning. It's simpler to manage in theory than creating a marital deduction trust using credit-shelter or AB trusts, and there's no need to transfer any assets into a revocable trust, but there are a few risks to it.
For example, when relying on portability, if assets appreciate and are greater than both spouses’ exemptions, that would be the exemption that's ported from the decedent and the survivor's exemption. There's an estate tax due at the survivor's death. A credit-shelter trust shelters assets, such as the appreciation that would be subject to estate tax at the first death and the survivor's death. Second, many states have their own estate tax, but don't offer portability. If assets are left directly to the survivor, you lose the estate tax exemption.
Lastly, a credit-shelter trust does exactly what it says in the name. It provides creditor protection for the surviving spouse; there's no creditor protection if you just use portability.
Those are three pretty big things to worry about. Is there anything else that people should be thinking about when they're relying on portability?
Wakefield: Those are some big ones, but there are a couple more. If the surviving spouse is unable to manage all their assets, the trustee of a credit-shelter trust can help manage the assets of the person who's the survivor. Portability puts asset management directly in the survivor's hands with no professional management.
If the surviving spouse remarries and the new spouse dies first, you might lose the ported exemption amount, because you get the ported exemption from the last spouse. You can't collect ported exemptions if you remarry multiple times or even just once. The ported exemption also doesn't increase with inflation, and the survivor's exemption can. Last, a generation-skipping transfer (GST) tax is not portable. There is a potential loss of its use on the first spouse's death.
That's a lot of information, but as you can see, in some situations, portability may provide the best outcome for a married couple's estate planning. Depending on circumstances, it might be more beneficial to plan using credit-shelter trusts, or AB trusts. That's why it's important to discuss this with an estate-planning attorney.
This all sounds technical, but I have a detailed question. What if clients use their exemption today and then die when the exemption is reduced?
Storm: That's a great question, and many people have asked it. Because of the way the estate tax is calculated, there was a concern that if the client fully utilized the higher exemption prior to 2026, the IRS would claw back the gifts they made if they died sometime after the exemption was lowered, and tax them as if they were made with the lower exemption. This would produce a very unfriendly tax result because I could have given away $12.92 million when the exemption was that high. I started giving money away, but then I die in 2026 or 2027 after the sunset. Now, when my estate pays my estate tax on my death, that exemption amount is lower. But there's nothing to worry about, because the IRS issued final regulations clarifying that the higher exemption will apply in most situations if someone passes away after 2025 (after the sunset), when the exemption is lower. There's no issue with that. You can make maximum gifts up to the exemption amount today. Then, if you're still alive and the exemption amount goes down and you die when it's down, they will not penalize you. That does not cause a problem.
Let's turn to the effect of the TCJA on income tax. What are the impacts of it on personal income tax?
Wakefield: When the TCJA was signed, it made some significant changes to individual income-tax provisions. One of the more noteworthy changes was lowering individual tax rates. Therefore, the expiration of these lower tax rates could make the income tax rate higher moving forward. The potential rise in income tax could adversely affect retirees who have to take required minimum distributions (RMDs) from IRAs or other qualified plans as well as cause Social Security benefits to be taxed.
With income taxes subject to rise, this could be a great time to look at Roth conversions. They require payment of income taxes at today's lower tax rate, instead of when traditional IRA distributions occur, which require payment of taxes at distribution, which could be post-TCJA higher rates. Roth IRAs are never taxed again and will grow tax free.
What about the impact of the TCJA on businesses?
Storm: This is interesting, because the TCJA also made some significant changes to corporate and pass-through entity taxation. One of the major business tax changes from the act was to reduce the corporate income tax bracket from a top rate of 35% to a flat 21%. Unlike the estate and gift tax exemption amounts and the personal income-tax rates, this change for the corporate rates is permanent. But what the TCJA did to have some equity between corporate and pass-through businesses, were changes in how pass-through entities are to be taxed. The new 20% section 199, a qualified business income deduction, allowed many pass-through entity owners, like owners of FLPs, LLCs, and S corporations, for example, to reduce their business income tax by up to 20%. It's a complicated formula, but for the most part, this was welcomed by a lot of the pass-through companies.
This change, however, is set to expire after December 2025, resulting in all pass-through income to be taxed at the personal income tax rate of the business owners. There will be an interesting situation when businesses that are taxed as a C corporations will continue to benefit from the flat 21% tax rate. Their rate won't go back up to 35%. But the pass-through entities, FLPs, LLCs, S corporations, will end up losing their 20% deduction. This is not going to make people who own those types of businesses very happy.
What strategies should advisors consider given this sunset that will occur at the end of 2025?
Wakefield: There are a few strategies to consider that come to mind. Make sizable gifts before the sunset. This can enable an irrevocable life insurance trust (ILIT) to pay future life-insurance premiums and not have to make any more gifts post-TCJA sunset. You would pre-fund the ILIT to pay future life-insurance premiums with large current gifts. This enables the trust to pay premiums without relying on any future gifts from the insured grantor and without concern for any potential future legislated restrictions given capacity. No matter what happens with the gift tax or with taxes moving forward, that money to fund the life insurance sitting inside the trust has already been completely gifted and we don't have to worry about it again. It's basically the idea of “set it and forget it.”
Storm: Make gifts of income-producing property to an ILIT to pay future life-insurance premiums. In 2026, the federal gift to state and generation-skipping transfer tax exemption, as we mentioned, is currently $12.92 million per individual and double that per couple. It will change significantly, reverting to about $7 million per individual, indexed for inflation.
Current gifts of income-producing property, say apartment buildings that generate rental income, or any type of commercial real estate or other types of assets that produce income, can enable an ILIT to pay future premiums without relying on future gifts from the insured grantor. It's great to move that income-producing asset into the trust now, soak up some of that exemption that's available before it expires, and then have the trust use the income generated from that asset to fund the life insurance without worrying about making gifts in the future.
High-net worth clients should consider giving sooner rather than later to use the gift exemption before it disappears to soak up that amount. Cash gifts as well as income-producing gifts are good strategies.
Wakefield: You can use discounted gifts to enable an ILIT to pay future life insurance premiums. Sometimes when you own a portion of a business, real estate, or another hard asset, even if it is a small or a minority interest, you can make what's called a discounted gift. In 2026, the federal gift and estate tax, currently $12.92 million, will change, reverting to $5 million per individual, which we think will end up at $7 million. Let’s say I owned 100% of an asset and it was worth $10 million. If I give away 20%, there is lack of marketability and potentially lack of control because the done can't make decisions as a 20% owner. I could therefore work with an accountant and tax advisor and take a discount on that gift and gift that interest to the ILIT and use that income-producing property interest to then pay premiums moving forward. That's another way to utilize the current lifetime exemption of $12.92 million before we potentially lose it in the next few years.
The expiration of the TCJA will substantially impact retirement, financial and estate plans for many individuals. Today is a good time for clients to consult with their financial professional, tax advisor, and legal advisor to ensure their plans reflect the potential changes on the horizon. It takes time to implement strategies so call them today. Lina and Kathryn, is there anything else you'd like to add?
Storm: It's the “use it or lose it” proposition. Either soak up some of that exemption and use it today or you're going to end up losing it.
Wakefield: Do something now. If you wait until December 2025, attorneys are going to be slammed with business because most people are going to wait and see. We want to see you prepare your clients and even yourselves in advance, so you're not stuck without being able to get an attorney as this date gets closer and closer.
The information provided is not written or intended as specific tax or legal advice. MassMutual, its subsidiaries, employees, and representatives are not authorized to give tax or legal advice. Individuals are encouraged to seek advice from their own tax or legal counsel. Individuals involved in the estate planning process should work with an estate planning team, including their own personal legal or tax counsel.
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