When Will the Estate Tax Exemption Sunset?

Understanding the Current Estate Tax Exemption

The federal estate tax is a tax imposed on the transfer of a deceased person’s assets to their heirs. This tax applies to the total value of a deceased individual’s estate that exceeds a specific exemption amount. The purpose of this tax is to generate revenue for the government while also addressing wealth concentration.

For 2025, the federal estate tax exemption stands at $13.99 million per individual. This means that an estate valued at or below this amount generally incurs no federal estate tax.

This exemption is applied on a per-individual basis. Married couples can effectively combine their exemptions, allowing them to transfer up to $27.98 million without incurring federal estate tax. This concept, known as portability, permits a surviving spouse to use any unused portion of their deceased spouse’s exemption. The exemption amount has seen significant increases over time, notably since the Tax Cuts and Jobs Act of 2017, reaching its current elevated level through inflation adjustments.

The Scheduled Exemption Sunset

The current federal estate tax exemption is scheduled to “sunset” on December 31, 2025. This means that unless Congress enacts new legislation to extend or modify it, the exemption will revert to a lower amount beginning January 1, 2026.

The change is mandated by the Tax Cuts and Jobs Act of 2017 (TCJA). Specifically, the exemption is expected to return to its pre-TCJA level of $5.49 million, adjusted for inflation from 2017.

Projections indicate that the individual exemption amount will likely decrease to approximately $7 million in 2026. For married couples, this would mean a combined exemption of around $14 million. This reduction represents a substantial decrease from the current exemption, impacting a broader range of estates than currently subject to the tax.

Implications of the Sunset

The scheduled reduction in the federal estate tax exemption carries practical consequences. Estates that currently fall below the $13.99 million individual exemption might become subject to federal estate tax after the sunset. This shift would occur if their value exceeds the new, lower exemption threshold of approximately $7 million.

While the federal estate tax historically affects a relatively small percentage of estates, the reduced exemption could bring more estates into the taxable category. For example, an estate valued at $10 million, which is currently exempt, would face federal estate tax on the amount exceeding the roughly $7 million exemption after the sunset. The federal estate tax rate can be as high as 40% on the taxable portion of an estate.

This change in tax liability means that a greater portion of some estates could be subject to taxation, potentially reducing the inheritance received by beneficiaries. Individuals whose estates are currently close to or exceed the projected post-sunset exemption should understand how this change could affect their wealth transfer plans. The specific impact depends on the total value of the estate and how it compares to the new exemption amount.

Leveraging the Current Gift Tax Exemption

The federal estate tax exemption is closely linked to the lifetime gift tax exemption through what is known as a unified credit. This means that the total amount an individual can transfer during their lifetime as gifts, or at death through their estate, is generally combined under a single exemption. For 2025, this unified lifetime gift and estate tax exemption is $13.99 million per individual.

Separate from the lifetime exemption is the annual gift tax exclusion. For 2025, an individual can gift up to $19,000 per recipient each year without using any of their lifetime exemption or incurring gift tax reporting requirements. Married couples can combine their annual exclusions to gift $38,000 per recipient annually. These annual exclusion gifts do not reduce the lifetime exemption amount.

Utilizing the current high lifetime gift tax exemption before its scheduled sunset can be relevant for individuals with substantial assets. Any gifts made above the annual exclusion amount but within the lifetime exemption reduce the donor’s remaining lifetime exemption. However, these gifts are generally not subject to gift tax if they fall within the available lifetime exemption. The significant reduction in the lifetime exemption amount after 2025 means that individuals considering large transfers may find it advantageous to act while the higher exemption is available.