In the gift tax arena, the value assigned to the transferred property can often make or break your high-net-worth clients’ tax planning strategies, leading many clients to move conservatively through the valuation minefield.
Despite this, the newest strategy to emerge in the world of gift tax valuation can actually allow these wealthy clients to reduce their estate tax liability. Reversing course from a previous line of cases, the Tax Court recently blessed a cutting edge valuation strategy for lifetime gifts that can be used to reduce overall estate tax liability for these clients by simultaneously reducing the bite of the often-overlooked three-year bringback rule—a rule which can cause even the most carefully laid estate plans to fail.
The Three-Year Bringback Rule
Under the three-year bringback rule of IRC Section 2035, the value of a decedent’s gross estate is increased by the amount of any gift taxes paid by the decedent or the decedent’s estate on any gifts made within the three-year period prior to death. The purpose of this rule is to discourage taxpayers from making deathbed transfers that would remove the value of the gift tax liability from the estate.
Unfortunately, this rule can nullify the utility of an estate plan that hinges upon the making of lifetime gifts to family or friends in order to reduce the eventual size of the taxable estate. The eventual estate taxes that could result would offset the value of the gift taxes that were removed from the estate. Even more importantly, because your clients cannot accurately predict how long they will live, the rule can take many clients completely by surprise.
Steinberg: The Facts
The taxpayer in Steinberg vs. Commissioner sought to avoid this result by providing that the value of lifetime gifts made to her children would be reduced by any estate taxes imposed under the three-year rule through an agreement under which the recipients actually assumed responsibility for these potential estate taxes.