Many of our clients are concerned about whether estate tax exemptions will be reduced this year. Last month the House Ways and Means Committee released a bill that provided, in part, for estate and gift tax exemptions to be reduced to about $6 million (from $11.7 million). This bill also included other significant changes, including increasing the top ordinary income tax rate to 39.6% (from 37%), increasing the top long-term capital gains rate to 25% (from 20%), and imposing a 3% surtax on taxpayers with modified adjusted gross income of more than $5 million.
Most practitioners believe that a reduction in estate tax exemptions is by next year is a virtual certainty. I am not so sure. I personally don’t think Congress will change the estate tax law. I may be wrong, but let me explain why I don’t think any change will occur.
First, estate and gift taxes are not a significant source of revenue withing the scope of total federal revenues. President Biden’s budget for fiscal year 2022 shows just how little revenue is generated by estate and gift taxes. His budget reports that in 2022, estate and gift taxes raised only about $18 billion (see Table S-3 on page 39). However, total federal receipts were $3.421 trillion! Estate and gift tax revenues raised only about one-half of one percent (.5%) of total federal revenues.
The Tax Foundation prepared an analysis of the House Ways and Mean Committee bill. They project that the reduction in estate and gift tax exemption will generate another $15 billion in federal revenues in 2022 (See Table 3). Even though that sounds like a lot, estate and gift taxes would still generate less than 1% of total federal revenues. When you look at revenues generated by estate and gift taxes in light of total federal revenues, it just isn’t a significant amount.
Second, we all know that the estate and gift tax exemption is, under current law, will be reduced on January 1, 2026. The Congressional Budget Office predicts that the exemption in 2026 will be about $6.4 million. The current bill only accelerates the reduction in exemptions and makes this just a timing issue.
It will be very difficult for the Democrats to get the House Ways and Means Committee bill through Congress as is. We will likely see significant changes. I think that the estate and gift tax exemption is one item that the Democrats can use as a bargaining chip to gain support for the bill. The Democrats could easily remove the reduction in estate and gift tax exemptions from the bill because of its modest effect on federal revenue and because these changes will occur in a few years anyway. Cutting the estate tax provisions from the bill could help garner Republican support and help preserve other more significant provisions on the bill.
So what does this mean for our clients? We still have to plan for a reduction in gift and estate exemptions. Change is coming, the only question is when. If a client is in a position to use their exemption now, they should seriously consider doing so. Clients should not rely on the inner workings of Congress to hope that the estate and gift tax provisions of the bill are stricken. Anyone considering using their exemption now to take advantage of the high estate and gift tax exemption amounts should contact their advisors immediately.