The numbers are in! What the 2023 IRS tax inflation adjustments mean for your estate

The numbers are in! What the 2023 IRS tax inflation adjustments mean for your estate

This week on October 18, 2022, the IRS announced IR-2022-182, which provides the tax inflation adjustments for the 2023 tax year. The federal government annually makes adjustments such as these to cushion taxpayers from the economically crippling effects of inflation. According to the most recent inflation update, the US annual inflation rate was 8.2% for the 12 months ending in September 2022; about 100% increase from the overall 2021 rate of 4.7%.

A high rate of inflation is usually characterized by a high cost of living, an increase in the nominal value of assets without any increase in their actual value, as well as an increase in wages or income to keep up with rising prices. Historically, inflation has risen steadily over the years, this year, the increase has been unusually sharp.

The tax adjustment made by the IRS will have numerous income tax implications in 2023, however there are two which are pertinent to your estate planning. Those are:

  1. Increased Federal Estate Tax Exemption (Increased Basic Exclusion Amount)
  2. Increased Annual Gift Tax Exclusion
Increased Basic Exclusion Amount

Estate tax is a type of tax that is assessed upon the transfer of one’s estate when they die. Similarly, gift tax accrues upon transfer of a gift of an asset during someone’s lifetime to another individual that is in excess of the annual exclusion. The basic exclusion amount (hereinafter referred to as BEA) is the total amount an individual can transfer during their lifetime and upon death without incurring federal gift tax or federal estate tax. The above stated announcement by the IRS highlights the increase of BEA from the 2022 amount of $12,060,000 to $12,920,000 for decedent’s dying in 2023. This means for married couples the combined BEA is $25,840,000. For every dollar in excess of this amount, there is an estate tax assessed of 40%.  In addition, the annual exclusion for gifts to an individual increases to $17,000 up from $16,000 for 2022.

Effects of Inflation on your estate

Inflation occurs when prices rise across the economy, decreasing the purchasing power of your money. Such increase would be of the stated value while the actual value would not necessarily have increased. For example, the value of a piece of land may have been $250,000 in 2020, but due to inflation, the value increases to $500,000 in 2022. The value of an estate is determined by the fair market value of all the assets that an individual owns at the time of his or her death. Although the IRS has increased the BEA, this does not curb the rate of inflation. Inflation may cause the total value of an estate to exceed the tax brackets, many times to the surprise of the family. Therefore, it is crucial to have estate planning professionals review your estate plan annually.

What does this mean for your estate?

If you die during a time when assets are unusually high such as now, your estate may be subject to federal estate tax, so it is important to take advantage of the increased annual gift tax exclusion, but also you should carefully consider whether you should be taking advantage of the increased BEA to ensure your family will not be in a predicament at the time of your death.
For those with smaller estates (individuals with a net worth of $5M or less) that include assets not expected to appreciate, this increase in the BEA will have a negligible impact. However, it is important to note that the increase in the BEA is temporary, and it is set to expire on December 31, 2025. Without further action or control from congress, the BEA will revert back to the 2018 figure of $5 million on the 1st of January 2026, yet this number will be increased for inflation at that time.

For those with considerably large estates (individuals with a net worth of more than the BEA) now would be a great time to consider taking advantage of the increased BEA. Transferring assets amounting to or within the stipulated threshold would decrease the total value of your estate and thus save a decedent’s surviving family from estate tax.

And for those with estates in between $5M and the BEA which are comprised of appreciable assets, it would be wise to consult an estate planning professional who could give you the guidance you need to make decisions on what assets to transfer now and what assets to hold on to until the time of your death, depending upon your goals.

It is important to note that in 2019, the IRS clarified that individuals taking advantage of the increased gift tax exclusion amount in effect from 2018 to 2025 will not be adversely impacted after 2025 when the exclusion amount is scheduled to drop to pre-2018 levels. A taxpayer’s BEA would be the greater of BEA in effect on the date of death or the amount of basic exclusion property used during their lifetime. Now is a good time to use it or lose it.

How can Sandin Law help?

A huge part of the total value of an estate is usually comprised of fixed assets, family business interest, and appreciable real estate and investments. Failure to plan effectively, especially with the help of professionals, sometimes forces families to make the often-disastrous decision to sell some or all of their inherited assets to cover the cost of estate taxes.

Not only is this contrary to families wanting to keep assets in their bloodline, but also, family members who work for the family farm or the family business are also out of a job if the business or the family farmland is sold.

The professionals at Sandin Law are here to assist you and your family navigate these turbulent times as they relate to your estate and succession planning needs. There are various estate planning techniques that Sandin Law can recommend to you and your family that will help plan for the minimization of taxes during your life and at the time of your death.