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Treasury Proposes to Close Estate and Gift Tax Loophole

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The U.S. Treasury Department has issued a new regulatory proposal that would “close a tax loophole that certain taxpayers have long used to understate the fair market value of their assets for estate and gift tax purposes,” according to Mark Mazur, the Treasury’s assistant secretary for tax policy.

“It is common for wealthy taxpayers and their advisors to use certain aggressive tax planning tactics to artificially lower the taxable value of their transferred assets,” Mazur writes on the Treasury’s blog.By taking advantage of these tactics, certain taxpayers or their estates owning closely held businesses or other entities can end up paying less than they should in estate or gift taxes.”

Treasury’s action will significantly reduce the ability of these taxpayers and their estates to use such techniques solely for the purpose of lowering their estate and gift taxes, according to Mazur.

According to Rose Watson, director of advanced planning at Commonwealth Financial Network, the proposed regulation would largely impact transfers of intrafamily ownership interests in closely held businesses (corporations or partnerships). 

Traditionally, ownership restrictions — such as on liquidation, voting rights or lack of control — provide the ability to take a minority interest discount to reduce the value of the property for estate and gift tax purposes when the ownership interest is being transferred. 

The proposed regulations aim to curtail this loophole.

The new regulatory proposal could also affect the lapse of a liquidation or voting right, according to Watson.

“Provisions in agreements that result in the lapse of a liquidation on death,” Watson told ThinkAdvisor. Adding, “Previously those have been disregarded as an exception to the valuation rules and those would now be valued.”

Watson said taxpayers and their advisors may wish to review their operating agreements for potential amendments.

“A secondary action would be to consider whether they want to accelerate intrafamily transfers,” she said, “to be able to take advantage of the current regulations before [the new regulations] become final.”

Estate and gift taxes are taxes on the transfer of assets from one person to another either by gift during his or her lifetime or by inheritance at death.

Currently only transfers by an individual or their estate in excess of $5.45 million are subject to estate tax, and for married couples, no tax is collected on the first $10.9 million transferred. 

“These generous exemption amounts mean that fewer than 10,000 of the largest estates are subject to any transfer tax at all in a year,” Mazur says.

The Treasury’s proposed regulations are subject to a 90-day public comment period, and a public hearing has been scheduled for Dec. 1. The regulations will not go into effect until the comments are carefully considered and then 30 days after the rules are finalized.

According to the Center on Budget and Policy Priorities (CBPP), the estate tax has weakened considerably since 2001 when legislation gradually phased out the estate tax by raising the exemption level and reducing the rate. Before 2001, an individual exemption was $1 million and the top statutory rate was 55%.

The tax was scheduled to return in 2011 under pre-2001 rules, but policymakers instead “permanently extended it in much weaker form,” CBPP says.

Under current law, the exemption level is $5.45 million per person for 2016, indexed for inflation, and the top statutory rate is 40%.

However, according to the CBPP, taxable estates owed on average 16.6% of their value in tax in 2013, which is much less than the top rate of 40%.

— Check out How a Wealth Tax Could Reward Savvy Entrepreneurs and Wise Investors on ThinkAdvisor.


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