After taking advantage of generous transfer taxes in a mad rush last year, and then seeing the benefits go largely unchanged in the U.S. budget deal, many donors may be looking for ways to take back their gifts.
The most favorable transfer tax regime in modern history was scheduled to expire December 31. The estate, gift and generation-skipping transfer tax shelters were unified at $5 million and indexed for inflation to $5,210,000 in 2012, and the marginal transfer tax rate was 35%. Concerned about a return to substantially less favorable transfer tax laws, many wealthy individuals made substantial gifts outright or in trust for their family members over the past two years, with many taking action in just the last few weeks of 2012.
Just as the ink dried on the documents effectuating 2012 gifts, however, the American Taxpayer Relief Act of 2012 was signed it into law on January 2 by President Obama. Under the act, the exclusion amount for estate and gift tax purposes, as well as the GST exemption, will remain at $5 million per individual, indexed for inflation (about $5.25 million in 2013). The marginal rate is increased from 35% to 40%. Otherwise, the favorable provisions of prior law remain in effect.
The race to make gifts before the end of the year, as it turns out, proved unnecessary.
Donors who acted solely out of the expectation that the generous exemptions would disappear may be experiencing a healthy dose of donor’s remorse. For them, the question arises, “Can I take it back?” Before doing so the donor should carefully consider the consequences. Lifetime gifts avoid tax on future appreciation and, if tax was paid, benefit from the tax exclusive nature of the gift tax. Care must be taken to avoid additional transfer tax if the gift is unwound.
One solution is a qualified disclaimer. A qualified disclaimer must be accomplished within nine months of the original gift unless the beneficiary is under age 21, and the beneficiary cannot have accepted the benefits of the gift. Any use or enjoyment of the gifted property, or the income from the gifted property, could preclude a qualified disclaimer. A disclaimer of an in interest in trust that anticipated the possibility of a qualified disclaimer would likely permit adult beneficiaries to disclaim, causing the trust to collapse in favor of the donor. A disclaimer of trust assets under state law may be more complicated depending on the terms of the trust instrument, but is also possible.
Alternatively, the assets of a donee trust might be redirected through the use of powers of appointment. It might even be possible to use state law decanting provisions to pour the assets from the original trust to a new trust conferring a power of appointment. Fewer transfer tax issues arise if property is returned to the donor only upon the death of the beneficiary. Adding the donor as a discretionary beneficiary currently would at a minimum require migrating the trust to a self-settled trust jurisdiction such as Nevada or Alaska.
The donee trust may have expressly granted the donor the right to substitute trust assets with other assets of equivalent value. A substitution could permit the donor to reacquire liquid assets from the trust in exchange for illiquid assets that might not be needed for lifestyle. The donor may also consider regaining use of the gifted assets by purchasing the assets from the donee for a promissory note. The note should bear interest at the applicable federal rate. In the case of a donee trust, the purchase itself would cause the trust to become a grantor trust avoiding a taxable gain.
Although not a strategy to be undertaken without considering all the consequences, donors who regret their rush to make year-end gifts may be able to take it back if that is what they really wish to do.
Diana S.C. Zeydel and Parker F. Taylor are chair and associate, respectively, in the trusts & estates department at international law firm Greenberg Traurig LLP.