With the November election rapidly approaching, there’s more talk about estate taxes. Currently, individuals can pass $13.61 million along after they die without being subject to federal estate and gift taxes under a lifetime exemption under the Tax Cuts and Jobs Act. But that figure is going to shrink dramatically with the sunset of that 2017 law at the end of next year. If you want to pass on higher amounts without the tax bite before then, you’ll have to do it quickly. “Use it or lose it,” is the common pronouncement.

But are large lifetime gifts as beneficial to the wealthy as they may first appear? Is there any alternative that produces better overall results?

Preserving the Exemptions
In 2026, the estate and gift lifetime exemptions get cut 50% or more to less than $7 million for singles (they fall from as much as $28 million to less than $14 million for couples). That can mean much larger amounts are likely to be ensnared by a 40% estate tax, which has led to people rushing to use the exemptions before the sunset. Inventive estate planning attorneys have developed techniques, such as the spousal limited access trust (or “SLAT,”) so married couples can gift away large amount of assets yet still use them, directly or indirectly, during their lifetimes.

But the choices clients should make to solve these dilemmas are not always clear cut.

For starters, $14 million is a lot of money to give away and let out of the client’s control. And despite the best laid plans of estate planning attorneys, it is questionable whether any estate plan designed to allow a married couple guaranteed access to all of their transferred assets during their joint lifetimes will survive a successful attack by the IRS. Even if a “reciprocal” plan (one involving trusts that gift to one another) were to pass muster with the agency during a couple’s joint lifetime, there is a good chance that, after one spouse dies, the survivor would have at best access to only one-half of the transferred trust funds, and potentially to none.

Another thing to consider is that the benefits of large gifts after taxes are more limited than they may appear at first blush. Assume, for example, that a single individual makes a $10 million gift of securities in 2024 before the exemption falls to $6.5 million in 2026. True, the taxpayer has managed to pass $3.5 million through the exemption window they wouldn’t otherwise—and has saved $1.4 million in estate taxes in the process. But there are capital gains taxes that will have to be paid on the gift later, and that will blunt the benefit. For example, if we assume that the transferees’ income tax basis in the $10 million of gifted securities is $4 million, and that their combined net capital gains tax rate, including the net investment income tax and net state income taxes, is 23% on the $6 million in appreciation, the built-in capital gains tax on the gifted securities would be $1.4 million—which would end up being the same as the federal estate tax savings.

The facts will differ for every person—but you get the picture. Any large gifts of securities or business interests typically carry with them a significant amount of built-in capital gains taxes, a hit that would be avoided if the taxpayer instead held the assets until he or she died and got a step-up in basis.

And there’s another item to consider: What happens if the 2017 law doesn’t sunset after all, or if the estate-and-gift exemptions stay the same or are reinstated under a new law? A giver who has made a large transfer may have only hurt her family, in hindsight, at least in the short term. (Though it’s beyond the scope of this article, taxpayers may have a significant “portability election” amount available from their deceased spouses, something they must gift before they can use their own exemption amounts. In these cases, the potential income tax disadvantages of large gifting can be compounded.)

What if one of the purposes for making the gifts is to remove future appreciation from the taxpayer’s gross estate at death? Would this make the decision to make a large gift simpler?

Consider that the client’s net tax savings will lie between the 23% capital gains rate of gifted assets on one hand, and a 40% estate tax for non-gifted assets on the other. The savings on a large lifetime gift would then be approximately 17% of the future appreciation (40% minus 23%). So let’s assume the original $10 million in transferred assets doubles in value every 10 years, or to $80 million after 30 years. Of the $70 million in growth, the net tax savings to the taxpayer’s family by investing the original $10 million in an irrevocable trust would be $11.9 million (17% of the $70 million appreciation).

The Life Insurance Alternative
The question is whether there is an alternative that will produce overall financial benefits that are either the same or better for taxpayers and their families, but without causing them to lose the full economic benefit or control over their transferred assets.

Let’s consider a couple, a 62-year-old husband and a 61-year-old wife, both of whom are “preferred” risks for underwriting purposes. Instead of gifting $10 million in securities, the couple decides to keep full control over their securities and use a portion of the ordinary income generated by the assets each year, say about $148,700 (based on their ages and health status), to pay the annual premium on a $12 million second-to-die life insurance policy owned inside of an irrevocable life insurance trust. Assume also that the premium is covered under what are called “Crummey powers,” which allow moneys not to count against the individual’s estate and gift tax exemption. Because the proceeds of the second-to-die life insurance policy will be income-and-estate tax free, at an annual cost of $148,700 the couple has effectively nullified the need to give up control over the $10 million in assets, even if they live into their 90s. The question is: Is this effective nullification worth the cost to achieve it?

If the couple pays the $148,700 premium for 30 years, or until the husband is age 92 and the wife is age 91, the total amount they spend would be $4,461,000. The same $148,700 annual amount, compounded monthly for 30 years at an annual rate of 7%, could have otherwise grown to $14 million. It might seem better if that $14 million were part of the surviving spouse’s taxable estate—except that actually it would then be eaten up by estate taxes. The amount left, after a 40% cut (assuming there were no state estate taxes on it) would be $8.4 million, or only 70% of the $12 million of income and estate tax-free insurance proceeds inside of the irrevocable life insurance trust, payable when the surviving spouse passes.

Now let’s assume that the same $148,700 was instead invested annually, for 30 years, inside of an irrevocable trust outside the couple’s taxable estate. The net amount would be subject to the 23% capital gains rate (that could actually be higher, because a trust gets to the 20% basic capital gains rate much faster than a single person). The net amount after the 23% income tax rate on the appreciation would be $11.8 million [$14 million – (($14 million - $4,461,000) x 0.23)], or $200,000 less than the $12 million of income and estate tax-free insurance proceeds inside of the irrevocable life insurance trust, payable when the surviving spouse passes.

Part of the Analysis
Again, though the circumstances will vary, what this analysis hopefully shows is that it’s not always necessary or helpful to try meeting the current high federal estate and gift tax exemption—which means your client has to give up full access and control over significant assets, and which furthermore means they won’t enjoy a tax basis step-up when they die.

Before proceeding down a path of lost control and potentially higher future capital gains taxes, you should consider life insurance as an income-and-estate-tax-free alternative.

James G. Blase, CPA, JD, LLM is a principal at Blase & Associates LLC, a law firm in St. Louis.