FAQs About Gifting and Estate Tax Planning During an Economic Downturn

Economic disruption can have a lasting effect on lives and businesses, such as in the 2008 recession and the direct and indirect aftermath of the COVID-19 pandemic. But these effects also present an opportunity for gift and estate tax planning.

While no one wants the value of their estate to decrease, economic downturns often result in the decline of assets and investments, such as equities and real estate. This enables business owners to give a larger percentage of their companies at lower values to maximize the benefits of gifting and estate tax planning.

Why Gift During an Economic Downturn?

During an economic downturn, the fair market values of real estate, asset holding companies, and operating companies typically fall. For estate tax planning purposes, business owners can benefit from this decline in value. When company values are low, business owners can gift a larger percentage of their company and maximize the impact of estate tax planning.

Giving when values are depressed can help reduce the impact on an individual’s lifetime gift tax exemption and enables individuals to move a greater portion of assets out of their estate. This could also reduce future estate taxes.

In addition, heirs could benefit from the appreciation in value of the assets once the economy normalizes.

How Much Should You Give?

It depends. Factors may include strategic goals, succession planning strategies, tax planning strategies, and how much or little of the lifetime gift tax exemption has already been used.

When determining the right amount to gift, the best practice is to consult your estate legal and tax planning advisors for guidance. These experts can perform an independent business valuation to account for your unique circumstances.

In general, if the gift asset is an equity interest in a company, it’s best if the portion is a minority or non-controlling interest. This allows discounts for lack of control and lack of marketability to be applied, which can reduce your tax exposure.

How Do You Determine the Value of Your Company?

There are different business valuation methods depending on the type of company.

Operating Companies

Operating companies engage in a business other than holding assets for sale or rent. Two common methods of valuing an operating company are the income approach and market approach.

Income Approach

Under the income approach, estimated future cash flows are discounted to a present value. Due to the economic conditions present during a recession, the estimated amount of future cash flows typically declines for many companies as compared to non-recessionary periods.

In addition, increased risk associated with such cash flows increases the discount rate used. As a result, most operating company values are down, making a recession a good time to gift.

Market Approach

The market approach utilizes valuation multiples derived from market transactions to arrive at a company’s value. The valuation multiples from many public companies and merger and acquisition transactions could also decline in a weak economy, causing closely held company values to fall.

Asset-Holding Companies

Asset-holding companies often hold investments in real estate or marketable securities. As such, it’s no surprise that asset-holding company values are based on their net asset values—market value of assets, less liabilities.

The values of assets held by these entities generally decline in recessionary economic conditions. It’s a good time to gift interests in these entities while values are depressed.

Discount for Lack of Marketability for Closely Held Companies

The discount for lack of marketability is applied in a business valuation context because no market exists for minority interests in closely held companies—such interests are illiquid.

During periods of high volatility, investors prefer to hold liquid investments in lieu of illiquid investments. In other words, the discount applicable to illiquid investments typically increases. Larger discounts for lack of marketability are applied to minority interests in closely held companies.

These discounts cause minority interest values to be lower than they would be in a less volatile, recessionary market environment and increase the estate benefits associated with gifting.

When Is the Right Time to Give?

The right time to give will vary based on circumstances and is best determined in consultation with your estate legal and tax advisors.

Currently, the individual lifetime gift tax exemption—the highest amount your estate can gift during your lifetime without paying a gift tax—is $12.06 million. There’s no guarantee the lifetime exemption will remain at this relatively high level should tax laws change in the future.

It’s always best to plan sooner rather than later so when opportunities arise—especially in times of economic downturn, recession, or uncertainty—you will be ready to act.

Can I Wait Forever to Gift My Estate?

No. Increased tax exemptions from the Tax Cuts and Jobs Act (TCJA) are poised to sunset at the end of 2025. As noted above, the lifetime gift tax exemption amount is $12.06 million. At the end of 2025, the provisions of the TCJA related to the lifetime exemption will expire and the lifetime exemption amount will be reduced to the 2017 level of approximately $5.49 million.

We’re Here to Help

To learn more about the advantages of estate-planning opportunities, contact your Moss Adams professional. For additional resources, visit our Estate & Gift Valuation Services.

Contact Us with Questions

Enter security code:
 Security code