July 28, 2023
Looking Ahead- The 2024 Basic Exclusion Amount
Take-Away: Estate planning means planning ahead. Each individual’s applicable exemption amount that is used to shelter their transfers from the federal gift, estate, and generation skipping tax will increase come 2024. Determining how much that increase will be requires that we wait another couple more months before the IRS announces the magnitude of that change. However, we can come close to predict that increase in the applicable exemption amount now that 22 of the 24 months used in the 2024 calculation are known.
Background: Currently the federal transfer tax basic exclusion amount, or applicable exemption amount, per person is $12,920,000. That amount is adjusted annually for inflation. The inflation factor that is used to adjust this exclusion amount for 2024 will be determined through August 31, 2023. However, because part of this adjustment calculation goes back to September 2021, it is possible to come very close with a guesstimate as to what that inflation adjustment factor will be for 2024 and how much an individual’s available applicable exemption amount will increase starting in 2024.
Tax Code: The inflation adjustment factor that is used is a combination of two separate Tax Code sections: IRC 1(f)(3), somewhat modified by IRC 2010(c)(3)(B). In general, the IRS calculates the average price level, using C-CPI-U, which is the chained Consumer Price Index for Urban Consumers, between September 1 of the year two years before the inflation adjustment takes effect and August 31 of the year just before the inflation adjustment takes effect, and it then compares that to the average price level in the prior September-August period. A similar formula is used to adjust the federal gift tax annual exclusion amount. [IRC 2503(b)(2).]
Summation: Consequently, the 2024 inflation adjustment will be based on the difference between the average C-CPI-U price level from September 2022 through August 2023 and the average C-CPI-U price level from September 2021 through August 2022.
Looking Ahead: Admittedly, there is still some guesswork involved to accurately predict the increase in an individual’s applicable exemption amount for 2024, including the facts that the inflation data for July and August 2023 have yet to be reported and the Bureau of Labor Statistics has yet to report and revise its interim C-CPI-U numbers for the last quarter (the next is due in mid-August, 2023.)
Increase: With these caveats firmly in place, some economists predict that the average C-CPI-U will be about 5.65% higher during this current measuring period and thus used to increase an individual’s applicable exemption amount for 2024.
2024: With these caveats [okay, guesses] firmly acknowledged, the estimated increase in an individual’s federal transfer tax applicable exemption amount will be about $740,000 for gift, estate and generation skipping transfer taxes. If the 5.65% factor proves to be correct, then the federal gift tax annual exclusion amount for 2024 should increase from $17,000 to $18,000 per donee.
2025: Since we still experience abnormal inflation levels in 2023, it is probable that there will be yet another increase in an individual’s federal transfer tax applicable exemption amount for 2025. Obviously there is even more guesswork involved with this estimate, but many economists now think that it is possible that the 2025 inflation adjustment for an individual’s applicable exemption amount will be somewhere between $400,000 and $500,000 for federal gift, estate and generation skipping transfer taxes. If this increase proves to be fairly accurate, then the federal gift tax annual exclusion for 2025 should increase by another $1,000 to $19,000 per donee.
Planning: Assuming these increases will occur, now would be a good time for high net-worth individuals to begin to plan how they might use their larger applicable exemption amount come 2024. More lifetime gifts, more transfers to irrevocable trusts, more assets gifted to existing ILITs in anticipation that Congress might soon curb the number of annual exclusion gifts a donor can make in a year, the transfer of even more assets to a Spousal Lifetime Access Trust (SLAT), and loans to existing trusts in 2023 with the knowledge that the donor will be able to forgive the loan (note) with their large additional applicable exclusion amount that will become available in 5 months.
Conclusion: While these are only estimated increases in an individual’s applicable exemption amount for 2024, now is a good time to begin to discuss with clients how they might best use this increased opportunity, since this bonus applicable exemption amount is scheduled to be cut in half starting in 2026.