Introduction
On March 9, 2023, the Biden administration released a proposed budget for fiscal year 2024, calling for an increase in federal spending along with a series of counterbalancing revenue raisers. The budget was outlined in a document called the “General Explanations of the Administration’s FY2024 Revenue Proposals,” otherwise known as the “Greenbook.”
The Greenbook is a document created by the US Department of the Treasury to explain the revenue proposals in the President’s budget. The Greenbook also serves as a guide to Congress for tax legislation by describing current laws, proposed changes to those laws, the rationale behind the proposed changes from a policy perspective, and US Department of the Treasury’s revenue projections based upon the proposed changes.
Proposed Changes to How Your Retirement Plan is Managed
Prevent Excessive Accumulation
The Greenbook outlines proposals on several different topics. One proposal that could directly impact your future financial security is the proposal to prevent excessive accumulations of wealth by high-income taxpayers using tax-favored retirement accounts.
Tax-favored (sometimes referred to as tax-deferred) retirement accounts, such as individual retirement accounts (IRAs) and 401(k)s, were approved by the federal government as a method of encouraging American citizens to save money for retirement. These accounts allow individuals to contribute a portion of their earnings to an investment account without taxes being withheld at the time of contribution. The money invested can grow with tax liability being delayed until the monies are withdrawn from the retirement account.
In 2021, 87 percent of US citizens who were sixty-years-old or older had some type of retirement savings.[1] According to the latest findings, the average balance in American retirement accounts was $141,542 in 2021.[2] However, the Joint Committee on Taxation estimates that as of 2022, there are roughly 500 taxpayers with retirement accounts worth $25 million or more, and over 28,000 additional retirement accounts worth $5 million or more.[3]
Because of the special tax treatment afforded retirement accounts, some high-income people have started using these accounts as wealth transfer tools. An individual is in the high-income category if their modified adjusted gross income is over $450,000 if married filing jointly, over $425,000 if head-of-household, or over $400,000 in other cases.[4] Some high-income taxpayers have been able to accumulate amounts in “tax-favored retirement arrangements that are far in excess of the amount needed for retirement security.”[5] According to the Greenbook, “the exemption from required minimum distribution rules for Roth IRAs means that a taxpayer who has other sources of retirement income could choose to continue accumulating investment returns on a tax-favored basis until the taxpayer dies, which means that the tax-favored retirement arrangement could be passed on in its entirety to the taxpayer’s heirs.”[6]
Special Distribution Rules for Large Account Balances
To prevent such “excessive accumulations” by individuals, the Greenbook contains proposals that would modify rules related to retirement accounts. One such proposal would impose special distribution rules on high-income taxpayers with large account balances. Under the proposal, a high-income taxpayer with an aggregate vested account balance in a tax-favored retirement account exceeding $10 million would be required to distribute a minimum of 50 percent of the excess.[7] “[I]f the high-income taxpayer’s aggregate vested account balance under these tax-favored retirement arrangements exceeded $20 million, then the required distribution would be subject to a floor.”[8] “The floor is the lesser of (a) that excess and (b) the portion of the taxpayer’s aggregate vested account balance that is held in a Roth IRA or designated Roth account.”[9] Commentators have suggested that this proposal is simply a rehashing of the mega-IRA proposals in the Build Back Better Act.[10] Based on a $10 million threshold, the proposal would not likely affect the majority of retirement plan participants.[11] However, for those individuals who have accumulated more than $10 million in their retirement account, the proposed changes would greatly limit their ability to retain balances in excess of $10 million and use these accounts as wealth transfer tools.[12]
Limit on Rollovers and Conversions
Another Greenbook proposal that could impact your financial plan is the proposed limit on rollovers and conversions to designated Roth retirement accounts or to Roth IRAs. The proposal “would prohibit a rollover of a distribution from a tax-favored retirement arrangement into a Roth IRA unless the distribution was from a designated Roth account within an employer-sponsored retirement plan or was from another Roth IRA if any part of the distribution includes a distribution of after-tax contributions.”[13] The proposal would further “prohibit a rollover of a distribution from a tax-favored retirement arrangement into a designated Roth account if any part of the distribution includes a distribution of after-tax contributions, unless the distribution was from a designated Roth account.”[14] “This proposal would eliminate the commonly used ‘backdoor’ Roth conversion for all high-income earners.”[15] A backdoor Roth conversion is a strategy used by high-income earners who are prohibited from contributing to a Roth IRA because their income is above certain limits. Instead of contributing directly to a Roth, these high-income taxpayers contribute to a traditional IRA (which has no income limits), and then convert it to a Roth IRA. “Backdoor conversions would still be allowed for taxpayers with income above the Roth IRA contribution limit, but below the high-income earner limit.”[16] However, according to some commentators, “this proposal does not appear to limit Roth contributions in employer retirement plans.”[17]
Although these are just proposals, we are committed to keeping you up-to-date on matters that may impact you, your loved ones, and your futures.
Three Improvements the Administration Wants to Make Regarding Administration for Trusts and Decedents’ Estates
When a person dies, there are often several tasks that need to be completed to properly wind down their affairs (their estate)—funerals and other preparations need to be planned, bank and investment accounts closed, property transferred, arrangements made for pets, tax returns filed, and final bills paid. There are several proposals in the Greenbook that are meant to help alleviate some of the complications that have arisen in estate and trust tax matters and simplify the process.
Required Reporting on Trust Value
One Greenbook proposal would require reporting the estimated total value of a trust’s money and property (otherwise known as assets) and other information about trusts to the Internal Revenue Service (IRS) on an annual basis. Currently, most domestic trusts must file an annual income tax return. However, trusts do not have to report the nature or value of the trust’s accounts and property.[18] Because of this, “the IRS has no statistical data on the nature or magnitude of wealth held in domestic trusts.”[19] This lack of statistical data has made it difficult for the administration “to develop administrative and legal structures capable of effectively implementing appropriate tax policies and evaluating compliance with applicable statutes and regulations.”[20] This in turn further hampers the administration’s “efforts to design tax policies intended to increase the equity and progressivity of the tax system.”[21] The proposal outlined in the Greenbook would require certain trusts to report certain information to the IRS on an annual basis to facilitate the analysis of tax data, the development of tax policies, and the administration of the tax system.[22]
The Greenbook continues its proposals by providing that the information could be reported on an annual income tax return or other form, as determined by the Secretary, and would include the name, address, and taxpayer identification number of each trustee and trustmaker, and general information about the nature and estimated total value of the trust’s accounts and property.[23] Also, each trust (regardless of value or income) would be required to report the inclusion ratio of the trust at the time of any trust distribution to a non-skip person, as well as information about trust modifications or transactions with other trusts that occurred that year.[24] “The proposal would apply for taxable years ending after the date of enactment.”[25] It is anticipated that increased reporting would require increased participation by attorneys in the preparation of fiduciary income tax returns.[26]
Require Defined Value Formula Clause Be Based on Variable Without IRS Involvement
A second proposal aimed at simplifying issues involving estate and trust matters requires that a defined value formula clause be based on a variable not requiring IRS involvement. Many taxpayers like to use gifts, bequests, or disclaimers as part of a particular tax strategy. To achieve this result, sometimes a defined value formula clause is necessary to determine how much money or property should be transferred. A defined value clause is the amount transferred based on a value as determined for tax purposes and using a formula based on IRS enforcement activities.[27] After losing a number of court decisions upholding taxpayer use of formula clauses for hard-to-value assets, the Biden administration has found the defined value formula poses a number of challenges as it currently exists because it potentially (a) allows a gift giver to escape the gift tax consequences of undervaluing transferred property, (b) makes examination of the gift tax return and litigation by the IRS cost-ineffective, and (c) requires the reallocation of transferred property among gift recipients (donees) long after the date of the gift.[28] Additionally, the administration feels that “defined value formula clauses that depend on the value of an asset as finally determined for Federal transfer tax purposes create a situation where the respective property rights of the various donees are being determined in a tax valuation process in which those donees have no ability to participate or intervene.”[29] To address these concerns, the Greenbook proposal provides “that if a gift or bequest uses a defined value formula clause to determine value based on the result of involvement of the IRS, then the value of such gift or bequest will be deemed to be the value as reported on the corresponding gift or estate tax return.”[30] Transfers made by gift or occurring upon a death after December 31, 2023, would be subject to this proposal.
Eliminating Present Interest Requirement for Annual Gifts
A third Greenbook proposal to simplify estate and trust matters is to eliminate the requirement that gifts must be of a present interest to qualify for the gift tax annual exclusion. Currently, annual per-donee gift tax exclusion is available only for gifts of a present interest. According to the Greenbook, “[a] present interest is an unrestricted right to the immediate use, possession, or enjoyment of property or the income from property.”[31] If a taxpayer wants to make a gift in trust for the beneficiary, using the annual exclusion amount, the trust beneficiary must usually be given timely notice of a limited right to withdraw the trust contribution (referred to as a Crummey notice) to qualify the gift as a present interest.[32] Complying with the notice requirement and record maintenance can pose a significant cost for taxpayers and the administration, and enforcement of these rules also imposes a large cost to the IRS.[33] Under the new proposal, gifts would no longer have to be of a present interest to qualify for the gift tax annual exclusion. “Instead, the proposal would define a new category of transfers (without regard to the existence of any withdrawal rights) and would impose an annual limit of $50,000 per donor, indexed for inflation after 2024, on the gift giver’s transfers of property within this new category that would qualify for the gift tax annual exclusion.’[34]
Even though we do not know for certain which, or if any, of these proposals will come to fruition, we are carefully monitoring the latest legislation to ensure that you are properly prepared if and when Congress does act.
Ways the Administration Wants to Modify the Tax Rules for Certain Trusts
Taxes are not just for individuals—they can impact certain types of trusts as well. Whether a trust pays its own taxes or whether the taxes are paid by the trust’s beneficiaries or the trustmaker depends on several factors.
Grantor Retained Annuity Trusts
If the trust is a grantor trust (a type of trust where the trustmaker, or grantor, typically retains power or control over the money or property in the trust), then trust income is taxed to the trustmaker. Grantor trusts may be revocable or irrevocable. Irrevocable grantor trusts such as a grantor retained annuity trust (GRAT) are popular among high-income taxpayers. These are trusts where the trustmaker retains an annuity interest (a right to receive payments of income) in a trust for a term of years.
The Greenbook proposes to modify the tax rules for grantor trusts. Currently, estate planning tools such as GRATs and other grantor trusts allow taxpayers to substantially reduce their federal tax liabilities.[35] A GRAT is a type of trust where a trustmaker receives an amount annually for a term of years or for the trustmaker’s lifetime, then the trust terminates and any remaining money or property in the trust is distributed to the trust beneficiaries. It is the position of the Biden administration that legislative changes need to be made “to close the existing loopholes and ensure the effective operation of Federal income, gift, and estate taxes.”[36] This Greenbook proposal “would require that the remainder interest in a GRAT at the time the interest is created would need to be a minimum value for gift tax purposes equal to the greater of 25 percent of the value of the assets transferred to the GRAT or $500,000.”[37] Also, “the proposal would prohibit any decrease in the annuity during the GRAT term and would prohibit the grantor from acquiring in exchange an asset held in the trust without recognizing gain or loss for income tax purposes.”[38] In addition, the proposal would require a GRAT to have a minimum term of ten years and a maximum term set at the life expectancy of the annuitant plus ten years. It would also “provide that the payment of the income tax on the income of a grantor trust (other than a trust that is fully revocable by the grantor) is a gift.”[39] The unreimbursed amount of the income tax paid would be considered a gift.[40] This proposal is the same proposal that was included in the 2023 Greenbook[41] and was previously included in Greenbooks from the Obama administration.[42]
Charitable Lead Annuity Trusts
Charitable trusts are also being targeted by the Greenbook proposals—particularly charitable lead annuity trusts (CLATs). A CLAT is a special type of charitable trust where the trustmaker selects a charity or charities to receive annual payments from the trust. The payments can be made either for the trustmaker’s lifetime or for a predetermined number of years. Once the trust terminates, any remaining trust money or property is distributed to noncharitable beneficiaries. The Biden administration feels that “taxpayers often design the CLAT to have an annuity that increases over the trust term, thereby largely deferring the charitable benefit until the end of the trust term.”[43] By using this and other tax planning techniques, it is possible to greatly increase the value of the trust remainder without incurring increased gift tax consequences. The Greenbook “would require that the annuity payments made to charitable beneficiaries of a CLAT must be a level, fixed amount over the term of the CLAT, and that the value of the remainder interest at the creation of the CLAT must be at least 10 percent of the value of the property used to fund the CLAT, thereby ensuring a taxable gift on creation of the CLAT.”[44] This proposal has not appeared in prior Greenbooks, and it is unclear at this point in time how it will be received.
Loans from a Trust
Another Greenbook proposal modifying the tax rules of trusts “would treat loans made by a trust to a trust beneficiary as a distribution for income tax purposes, carrying out each loan’s appropriate portion of distributable net income to the borrowing beneficiary.”[45] Currently, with few exceptions, loans from a trust to a borrower do not result in tax consequences to the borrower.[46] Additionally, loans to a trust beneficiary would be treated as a distribution for generation-skipping transfer (GST) tax purposes under the proposal, “thus constituting either a direct skip or taxable distribution, depending upon the generation assignment of the borrowing beneficiary.”[47]
In addition, “[t]o discourage borrowing from a trust by a person who is not a trust beneficiary but who is a deemed owner of the trust under the grantor trust rules, the proposal would treat a trust maker’s repayment of a loan from a grantor trust as an additional contribution to the trust for GST tax purposes.”[48] In some instances, “this new contribution (like any other contribution) would utilize GST exemption of the borrower(s), generate a GST tax liability in the case of a direct skip on such borrower(s) or their respective estates, or increase the trust’s inclusion ratio.”[49] The trust could be liable for the GST tax payable on such a deemed direct skip if it could not be collected from a deemed owner or a deceased deemed owner’s estate.[50] This proposal would allow certain types of loans to be excepted from the application of the proposal, such as short-term loans or the use of real or tangible property for a minimal number of days.[51]
When a president submits a proposed budget, it is viewed as an invitation to begin policy debates with Congress. Many people feel the proposed budget for 2024 is “dead on arrival” due to discord between congressional Democrats and Republicans and that the chance of most proposals becoming law is remote. However, the Greenbook still serves as an indicator of the current administration’s goals and agenda. It is important to stay abreast of the latest proposals and discuss with your financial and legal advisors to understand how the proposals may impact you and your financial and estate planning.
[1] Share of adults with any retirement savings in the United States in 2021, by age group, Statista.com (Feb. 8, 2023), https://www.statista.com/statistics/1273812/adults-with-no-retirement-savings-by-age-us/.
[2] How America Saves 2022, Vanguard, https://institutional.vanguard.com/content/dam/inst/vanguard-has/insights-pdfs/22_TL_HAS_FullReport_2022.pdf (last visited May 26, 2023).
[3] Retirement Tax Incentives Supercharge the Fortunes of Wealthy Americans, Washington Center for Equitable Growth (Mar. 17, 2022), https://equitablegrowth.org/retirement-tax-incentives-supercharge-the-fortunes-of-wealthy-americans/.
[4] Dep’t of the Treasury, General Explanations of the Administration’s Fiscal Year 2024 Revenue Proposal [hereinafter General Explanations] at 90, https://home.treasury.gov/system/files/131/General-Explanations-FY2024.pdf.
[5] Id. at 89.
[6] Id.
[7] Id. at 90.
[8] Id.
[9] Id.
[10] The House approved the Build Back Better legislation in November 2021, but it was never passed by the Senate.
[11] General Explanations, supra n. 4, at 90.
[12] Amy E. Heller et. al, The 2024 Green Book and Tax Implications: A Primer, Skadden, Arps, Slate, Meagher & Flom LLP (Mar. 20, 2023), https://www.skadden.com/insights/publications/2023/03/the-2024-green-book-and-tax-implications-a-primer.
[13] General Explanations, supra n. 4, at 92.
[14] Id.
[15] Analysis and Observations of Tax Proposals in Biden Administration’s FY 2024 Budget at 38, KPMG (Mar 14. 2023), https://assets.kpmg.com/content/dam/kpmg/us/pdf/2023/03/tnf-fy-2024-green-book-mar14-2023.pdf.
[16] Id.
[17] Id. at 39.
[18] Dep’t of the Treasury, General Explanations of the Administration’s Fiscal Year 2024 Revenue Proposal [hereinafter General Explanations] at 115, https://home.treasury.gov/system/files/131/General-Explanations-FY2024.pdf.
[19] Id.
[20] Id. at 117.
[21] Id.
[22] Id. at 118.
[23] Id.
[24] General Explanations, supra n. 18, at 118.
[25] Id. at 119.
[26] James Dougherty and Marissa Dungey, The 2024 Green Book Limits Use of Defined Value Clauses, WealthManagement.com (Mar. 17, 2023), https://www.wealthmanagement.com/estate-planning/2024-green-book-limits-use-defined-value-clauses.
[27] General Explanations, supra n. 18, at 116.
[28] Id. at 117.
[29] Id.
[30] Id. at 119.
[31] Id. at 116.
[32] Id. at 117.
[33] General Explanations, supra n. 18, at 117, 118.
[34] Id. at 119.
[35] Dep’t of the Treasury, General Explanations of the Administration’s Fiscal Year 2024 Revenue Proposal [hereinafter General Explanations] at 124, https://home.treasury.gov/system/files/131/General-Explanations-FY2024.pdf.
[36] Id.
[37] Id. at 127.
[38] Id.
[39] Id.
[40] Id.
[41] Dep’t of the Treasury, General Explanations of the Administration’s Fiscal Year 2023 Revenue Proposals at 40, https://home.treasury.gov/system/files/131/General-Explanations-FY2023.pdf.
[42] Dep’t of the Treasury, General Explanations of the Administration’s Fiscal Year 2016 Revenue Proposals, https://home.treasury.gov/system/files/131/General-Explanations-FY2016.pdf; and Dep’t of the Treasury, General Explanations of the Administration’s Fiscal Year 2017 Revenue Proposals, https://home.treasury.gov/system/files/131/General-Explanations-FY2017.pdf.
[43] General Explanations, supra n. 35, at 127.
[44] Id. at 128.
[45] Id. at 129.
[46] Id. at 124.
[47] Id. at 129.
[48] Id.
[49] General Explanations, supra n. 35, at 129.
[50] Id.
[51] Id.