Tax Strategy Insights: Navigating Generational Wealth: Strategies for Closely Held Businesses
In the realm of closely held businesses, the transition of wealth across generations is a pivotal consideration, especially given the impending changes set by the Tax Cuts and Jobs Act (TCJA) at the end of 2025. This blog focuses on families holding substantial value in a closely held business. We will explore the complexities and strategies associated with generational wealth transfer, including estate taxes, gift exemptions, and key tools such as ILIT and GRAT.
Estate Tax Considerations and the Impact of TCJA
At the core of generational wealth transfer lies the often-overlooked estate tax, a critical aspect of financial planning for closely held businesses. Under the TCJA, the gift exemption amount currently stands at approximately $27 million per married couple or $13.5 million per individual, providing a substantial cushion exempt from gift or estate taxes. This is crucial, especially given that the current rate for the federal estate tax is set at 40%.
Let's illustrate this with a straightforward case study: Imagine a closely held family business valued at $50 million, with an estate tax exemption amount of $27 million. In this scenario, approximately $23 million would be subject to the 40% tax rate, resulting in just over $9 million due in taxes. This is a simplistic example, not accounting for other personal financial assets or potential state-imposed taxes, which further complicates the wealth transfer process.
Looking ahead to the end of 2025, the tax exemption amounts are anticipated to be adjusted back, factoring in inflation, estimated at around $14 million for a married couple or approximately $7 million per individual. While Congress retains the ability to make changes, planning based on the current available information is considered prudent.
With strategic planning and the utilization of available exemptions, families have opportunities to significantly reduce the tax burden, thereby preserving more wealth for future generations.
Strategies for Wealth Preservation: ILIT and GRAT
Among the various strategies available, this blog will specifically delve into two prominent wealth preservation strategies: Irrevocable Life Insurance Trusts (ILIT) and Grantor Retained Annuity Trusts (GRAT).
Irrevocable Life Insurance Trust (ILIT): An ILIT serves as an estate planning instrument crafted to safeguard life insurance policies beyond the insured individual's estate. By directing premium payments to the ILIT, the trust acquires and oversees the life insurance policy, with the benefits passing to the beneficiaries upon the insured's demise, free from estate taxes. Establishing an ILIT ensures that the policy proceeds remain distinct from the taxable estate, offering a clear and straightforward approach to estate planning.
Grantor Retained Annuity Trust (GRAT): GRAT allows individuals to transfer assets to an irrevocable trust while retaining the right to receive an annuity payment for a specified term. Afterward, the remaining trust assets pass to beneficiaries at a reduced gift tax value. This strategy is effective when anticipating the appreciation of closely held business assets.
For example, contributing a $50 million business to a GRAT and electing to receive $1 million in income annually for ten years allows the discounting of the business value. In this case, the value of the annuity income stream is approximately $10 million. A GRAT presents an intriguing strategy in today's landscape as it could offer the opportunity to benefit from maintaining higher estate tax exemptions.
Closing Thoughts: Engage Your Professional Team
While ILITs and GRATs provide robust strategies for wealth preservation, implementing these tools requires a collaborative approach with a professional team. Wealth advisors, CPAs, and attorneys play pivotal roles in aligning financial planning with legal compliance. Navigating generational wealth in closely held businesses necessitates a strategic and collaborative effort. Leveraging the expertise of a professional team helps enable families to confidently navigate TCJA complexities, minimize tax implications, and establish a lasting legacy across family lines and business eras.
If you have a question or simply want to talk through your financial planning, we are here to help.
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DISCLOSURE: Jarrod Musick is an officer of Destiny Capital and Entrepreneur Aligned, a DBA of Destiny Capital. This article is for informational purposes only and should not be relied upon as a basis for your investment, business, or personal financial decisions. We recommend consulting with your wealth advisor, CPA/tax advisor and/or attorney, as applicable to your situation, prior to implementing any new tax, legal, or investment strategy. Advisory services provided by Destiny Capital Corporation, a Registered Investment Adviser.
ABOUT JARROD
Jarrod was born into financial planning and solving financial problems. With his financial advisor father Steve telling stories about finance around the dinner table from an early age, the idea that everyone has a different financial situation was always there. After an early professional career spent in nonprofit and government, Jarrod came back to his roots helping people plan and invest in 2011. Since then, he has worked with individual clients, led internal teams and ultimately became partner and the CEO of Destiny Capital in 2017. With a passion for helping entrepreneurs change the world, Jarrod ultimately oversaw the creation of Entrepreneur Aligned in 2020. With both Destiny Capital and Entrepreneur Aligned, Jarrod leads teams that help people live lives of abundance where money is simply a tool to let everyone be a positive force for the world around them. When he isn’t working with the talented teams for EA and DC you can find him chasing his twins, wily trout or a podium spot at an OCR race.