Final regs issued preventing clawback on gifts made prior to 2026
By Cathy Johnson, CPA, Principal
The IRS recently released final regs clarifying that gifts made before 2026
using the higher lifetime exemption amounts available under the Tax Cuts
and Jobs Act (TCJA) will not be harmful to estates after 2025. The final
regs also specify that a deceased spouse’s higher unused exemption
will be locked in and not reduced as a result of sunset provisions.
Gift and estate taxes apply to transfers of wealth by individuals both
during life and after death. In general, each individual is allowed a
lifetime exemption to offset these potential taxes. Only gifts and
transfers of wealth in excess of this lifetime exemption are subject to
Under prior law, individuals were allowed a lifetime exemption of $5
million indexed for inflation for gifts made and estates of decedents dying
before January 1, 2018. The TCJA doubled this lifetime exclusion to $10
million, also indexed for inflation. For 2020, the exclusion is $11.58
Additionally, the 2010 Tax Relief Act introduced the concept of
“portability” of the federal estate tax exemption between
married couples. In simple terms, portability allows a surviving spouse to
use a deceased spouse’s unused exemption (DSUE) in addition to his or
her own exemption. The increase in the lifetime exclusion and the
introduction of portability results in only the very wealthiest couples,
those with assets in excess of $22 million, being subject to federal gift
and estate taxes.
However, like many provisions in the TCJA, the increase in the exemption is
set to sunset on January 1, 2026. At that time, the exemption will revert
to the prior $5 million level as adjusted for inflation, or roughly $6
million. It could even decrease sooner should there be a change in the law
before 2026. There are two presidential elections in the meantime, so
anything is possible.
The statutory sunset of the higher exemption and reversion to the lower
amount raises concerns of whether taxpayers who gift using the higher
exemption amount and die after 2025 would be denied the higher exemption
amount applied to previous gifts and, in effect, be penalized on their
estate return. Also, would surviving spouses with DSUE amounts ported
during the increased exemption period have their DSUE reduced after 2025?
To address the concern of a possible “clawback” of the
exemption amount, the TCJA granted the IRS authority to prescribe
regulations with respect to any difference between the exemption that
applies at the time of a decedent’s death and the exemption applied
to any gifts made by the decedent during his lifetime. On November 23, 2018
the IRS issued proposed regs which provided a “special rule”:
gifts that were sheltered by the higher exemption amount won’t be
taxed in a decedent’s estate and estates are allowed to use the
greater of the exemption applicable to gifts made during life, or the
exemption applicable on the date of death.
In November 2019, the IRS issued final regs that adopted the proposed regs
and provided additional clarification and examples. The final regs clarify
that individuals taking advantage of the increased exemption by making
gifts during the period 2018 to 2025 will not be harmed when the exemption
decreases in 2026.
The final regs also explain that when computing the estate tax, the
increased exemption is applied first against the decedent’s taxable
gifts. If any exemption remains at death, it is applied against the
decedent’s estate. Therefore, if a decedent makes enough lifetime
gifts that the computation of gift tax payable equals or exceeds the date
of death exemption, there is no remaining exemption available to reduce the
Here are two examples from the final regs illustrating this concept:
Example 1 - An unmarried individual A made cumulative lifetime
gifts of $9 million all of which were sheltered by a $11.4 million
exemption allowable on the dates of the gifts. The exemption on
A’s date of death is $6.8 million. Because the total
exemption allowable in computing the gift tax payable on A’s
gifts exceeds the $6.8 million exemption on his death, the
exemption for purposes of computing A’s estate tax exclusion
is based on the exemption amount of $9 million.
Example 2 – Assume the same facts as Example 1 except that A
made cumulative taxable gifts of $4 million. Because the total of
the exemption allowable in computing the gift tax payable on
A’s gifts is less than the exemption of $6.8 million
allowable on A’s death, the exemption to be applied for
purposes of computing A’s estate tax is based on the $6.8
million exemption amount as of A’s death.
The application of the “special rule” as illustrated above in
Example 1 is based on actual gifts. Therefore, this rule does not apply to
a decedent who did not make gifts in excess of the date of death exemption.
The final regs also include examples illustrating how the deceased spousal
unused exclusion (DSUE) is calculated. If a spouse dies during the
increased exemption period, and the deceased spouse’s executor makes
the portability election, the DSUE amount received by the surviving spouse
is the lesser of the exemption in effect or the unused portion of the
spouse’s exemption amount at the time of the deceased spouse’s
death. In other words, if the DSUE amount is elected during the increased
exemption period, it will not be reduced when the exemption sunsets.
Estate planning considerations
The doubling of the lifetime exemption amount to over $11 million per
individual and the IRS’s assurance that there will be no penalty for
making use of this higher temporary exclusion threshold for lifetime
gifting has created an incredible planning opportunity for those
anticipating taxable estates over $6 million when the exemption decreases
after 2025 or sooner. For those individuals, now is the time to consider
making transfers of money, property and other assets.
Our estate planning experts at The Bonadio Group are available to help
guide you through the planning process of which assets make the most sense
to gift and how best to utilize your exemption. Please contact a member of
our team to learn more.