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TAX ALERT 2016-5: THE 2016 ELECTION: TAX CHANGES EXPECTED e Roth conversions. It is generally better to convert traditional retirement funds to a Roth IRA in a lower tax rate environment rather than a higher rate environment. For taxpayers who converted a traditional IRA to a Roth IRA in 2016, the normal rules will provide a chance to review whether 2016 or 2017 would be the better year for a conversion. Generally, a 2016 conversion can be unwound (“recharacterized”) as late as October 16, 2017. Following a recharacterization, the IRA could again be converted to a Roth IRA 30 days later (assuming the original conversion occurred in 2016). Thus, you could wait until October 2017 to determine whether 2016 or 2017 would be the better year for conversion based on the relative tax rates, changes in the market value of the retirement funds and other relevant considerations. If 2016, then you could let the 2016 conversion remain. If 2017, you could “recharacterize” in October of 2017 and re-convert 30 days later. ESTATE AND GIFT TAX Current law. Under current law, the federal exemption for estate and gift tax is $5 million, subject to an inflation adjustment each year. For 2016, the exemption is $5,450,000, and for 2017, it is $5,490,000. For gifts or estates above the exemption, the federal tax rate is 40%. If an appreciated asset is includible in the estate, it generally receives a step-up in basis for income tax purposes equal to the fair market value at death. Accordingly, there would be little or no capital gains tax for appreciated assets sold soon after death. Proposals. President-elect Trump has proposed to repeal the estate tax. The House Republicans’ Tax Proposal also proposes federal estate tax repeal. It would appear that such repeal would be temporary, unless the tax changes proposed can be enacted on a revenue neutral basis.’ It is not clear whether the federal gift tax would also be repealed. The federal gift tax may be viewed as serving two purposes. First, it serves to support the estate tax, because without it you could make unlimited gifts during your life and thereby avoid federal estate tax at death. From that perspective, repealing the estate tax would suggest that the gift tax would also be repealed. However, the gift tax also serves to support the federal income tax. Without a gift tax, income-producing property could be given to family members or others in a lower tax bracket (or residing in a state without an income tax), and subsequently given back. From that perspective, repealing the estate tax would not suggest that the gift tax also be repealed. Neither President-elect Trump’s proposal nor the House Republicans’ Tax Proposal includes a repeal of the gift tax. As noted, appreciated assets includible in the estate generally receive a step-up in basis. President-elect Trump has proposed to change this, however specific details have not been offered. The proposal sets forth a $10 million exemption for gains at death. It is not clear whether this exemption is for each decedent, or if that is the combined exemption for a married couple. It is also not clear whether any gains above the exemption would be subject to capital gains tax at death (in effect a deemed sale at fair market value), or only subsequently when the asset is actually sold. It is also uncertain whether any unused exemption could be transferred to a surviving spouse. 2 In order to comply with the Reconciliation procedure, the repeal needs to “sunset,” resulting in reinstatement of the estate tax after approximately 10 years. Under the 2001 Tax Act, there was a temporary repeal of the estate tax (and other taxes) for this reason. Reconciliation rules will likely also add pressure to produce a revenue-neutral tax bill in order to avoid such a “sunset.” That could cause Congress to abandon repealing the estate tax. HOUSE_OVERSIGHT_014520