Published on December 28, 2021 by Jamie Hargrove in Retirement Daily

The gift and estate tax exemption may soon decrease, but pouring assets into a spousal lifetime access trust may not be a blanket remedy. Here’s why.

Jamie Hargrove was featured as a guest contributor to Retirement Daily, a section of TheStreet.com with this article published on December 28, 2021. The article is also available on the TheStreet.com.

For nearly a year, Congress has debated proposals for changes to federal estate and gift tax laws. The organizing principle of all this discussion seems to be reducing the amount of money that individuals can gift or leave in their estates free of gift and estate taxes. While initially, the Democratic-led Congress targeted a substantial reduction in the gift and estate tax exemption, just a few weeks ago this objective and other major changes to the gift and estate tax laws were dropped from the proposed bill.

Despite the apparent reprieve, there is still legitimate cause for concern when it comes to the limits of certain wealth transfer methods. Even though specific new laws to lower the exemption are off the table, for now, the exemption is due to sunset in 2025, when the current federal lifetime gift and estate tax exclusion of $11.7 million per person or $23.4 million per married couple gets slashed in half. Unless Congress affirmatively takes other action, planners are advocating a “use it or lose it” approach.

The use it or lose it approach has in some cases created a sense of panic for estate planners over ways to exclude assets from their clients’ estates to reduce tax bills. And the “flavor of the month” seems to be the spousal lifetime access trust, or “SLAT.” Simply put, a SLAT allows one spouse to make a large gift to another by placing assets in a trust outside of the estate. If the donor spouse uses his or her federal gift and estate tax exclusion, then those assets, up to the exemption limit, will not be subject to taxation. A SLAT is a powerful tool to mitigate estate tax exposure, but it is not without complications. More on that later.

It seems every estate planning lawyer who considers himself or herself an expert has suddenly decided that a SLAT is a must-have golden parachute for any client with an estate valued above the new target exemption levels. Conventional wisdom says to use an exemption before you lose it. By this logic, if the exemption is set to be cut in half from its current $23.4 million, a couple needs to use that extra $11.7 million of headroom while it is still available in order to accrue the full benefit. And so, the rush is on to push more client assets into tax-exempt vehicles such as SLATs.

But here’s the problem: As good as SLATs can be, they’re a pretty drastic planning tool. SLATs are irrevocable trusts which in some circumstances create severe restrictions and limitations on access to your assets. For example, if one spouse (the “donor” spouse) makes a gift to the other “non-donor” spouse, the donor spouse effectively loses access to the assets in the SLAT. Should the non-donor spouse die, the donor spouse can be left with little or no access to the assets in the SLAT. For many (or perhaps most) individuals, limiting access to their assets in this way is simply not worth the tax savings.

What many people don’t realize is that once you utilize a set of SLATs to the maximum lifetime exemptions, you have denied yourself a flexible and important tool you may need for some future event. For instance, when you die and leave a million-dollar home to your kids, they are going to owe $400,000 in taxes and 40% on every other asset of value you have. If the SLAT exemption has been exhausted, it is very difficult to eliminate this sort of tax liability.

In our practice, we advise our clients to leave the SLAT exemptions alone so they are available as a last resort to protect assets that can’t be protected with more creative and effective planning. Our priority is to create a plan that emphasizes access and control of assets. We have clients with hundreds of millions of dollars in protected assets who may die with their estate tax exemptions intact.

So, planners, in our opinion, should avoid becoming fixated on SLATs, which generally only benefit ultra-high net worth individuals in a limited set of circumstances. They should focus instead on planning techniques that are more effective and create greater flexibility and accessibility, such as one or more grantor-trust strategies.

Congress has essentially given estate planning professionals a wake-up call to reexamine our estate planning methods in light of seemingly inevitable changes ahead. The good news is that the estate and gift tax legislation, particularly legislation targeted at grantor-trust planning, got pulled from the current proposal. We now have time to put together the most effective estate plans for our clients given the changes that are likely ahead.

It is also an opportunity for individuals concerned about protecting their assets for future generations. Take the time to get this one right. After all, is there anything more important than your legacy?