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Linda Hayes, JD, LL.M.
Wealth Transfer Planning
What We Will Cover
Overview of Federal Transfer Tax System Significance of forms of Title Gifting Grantor Retained Interest Trust Strategies
GRATs & QPRTs
Non Trust Strategies SCINs and Private Annuities
Advanced Trust Strategies ILITs and Sales to IDGTs
Overview of United States Transfer Tax System
Three Types of Transfer Taxes Gift Tax Estate Tax Generation Skipping Transfer Tax
The type and amount of tax imposed depends on: Relationship of transferor to the US Time of the transfer
(lifetime or testamentary) Type of property Fair market value of property Identity of transferee/recipient
(e.g. charity, spouse or other related or unrelated person)
Transfer Tax Exclusions & Deductions
Gift Tax Exclusions
Lifetime Gifting Exclusion Annual Exclusion Tuition and Medical Expenses Gift Splitting
Deductions Marital Deduction Charitable Deduction
Transfer Tax Exclusions & Deductions
Estate Tax Exclusions
Estate Exemption Qualified Conservation Easement
Deductions Marital Deduction
Direct to spouse In trust for spouse
QTIP/GPA/Estate Trust/QDOT Charitable Deduction Administrative Expenses
Tax Rates and Exemption Amounts
Estate &
GST Rate
Estate &
GST Exclusion/ Exemption Gift Tax Rate
Gift Tax Exemption
2004 48% $1,500,000 48% $1,000,000
2005 47 1,500,000 47 1,000,000
2006 46 2,000,000 46 1,000,000
2007 45 2,000,000 45 1,000,000
2008 45 2,000,000 45 1,000,000
2009 45 3,500,000 45 1,000,000
2010 0 Repealed 35 1,000,000
2011 55 1,000,000 55 1,000,000
Using the Unified Credit Amount Effectively
W ithout C red it T rust W ith C red it T rust
D ecedent'sA ssets $2M M
S urvivor'sA ssets$2M M
S urvivor's N etW orth a t D eath
$4M M
N et to H eir's :$3,080,000
S urvivor'sA ssets$2M M
D ecedent'sA ssets $2M M
S urvivor's N etW orth a t D eath
$2M M
N et to H eir's :$4M M
C red it T rust$2M M
N otTaxed
N otTaxed
N otTaxed
Taxed$920,000
Gifting
Forms of Title
Asset Selection
Traditional Gifting Strategies
Forms of Title
Joint Tenancy with Rights of Survivorship Community Property Community Property with Rights of Survivorship Funded Revocable Trust Custodial Accounts
Asset Selection for Gifting
Assets to Give High growth assets High income yield assets High basis assets
Assets Not to Give Assets with FMV < Basis Income from an asset without the principal
Traditional Gifting Strategies
Outright Gifts Custodial Accounts – UTMAs and UGMAs 529 Plans Gifts in Trust
2503(c) Trusts Crummey Trusts GST Trusts
Outright Gifts
Description Property transferred to donee’s own name
Advantages Simple Generally qualifies for annual exclusion
Disadvantages Intended donee may be a minor Subject to claims of donee’s creditors
Custodial Accounts
Description Minor is legal owner but transactions conducted by a
custodian Advantages
Simple Generally qualifies for the annual exclusion
Disadvantages Minor receives complete control over the assets at a
certain age (18, 21 or 25 depending on state law) Subject to claims of donee’s creditors Assets includible in donor’s estate if donor is custodian and
dies before minor reaches age of majority
529 Accounts
Description Income tax deferred account set up for a beneficiary to pay for the costs
of higher education
Advantages Control over assets Qualifies for the annual exclusion Can prefund up to five years Income tax avoidance if funds used for education Flexibility – can change beneficiary Asset protection
Disadvantages Limited investment options
Gifts in Trust
Description Donor transfers property to a trustee to hold for the benefit
of a another person Advantages
Flexibility - can be drafted to meet donor’s goals and reinforce values
Assets do not have to be distributed at a certain age Disadvantages
In general, gifts in trust do not qualify for the annual exclusion
Irrevocable Additional costs to administer
2503(c) Trusts
Description Discretionary income and principal distributions until beneficiary
reaches age 21 Trust terminates when beneficiary turns 21 unless extended by
the beneficiary Qualifies for the annual exclusion
Advantages Statutory Qualifies for annual exclusion
Disadvantages Not as flexible as other trusts Irrevocable
Crummey Trusts
Description
General rule is gifts in trust do not qualify for the annual exclusion because they are not gifts of a “present interest”
Transfers considered a “present interest” if the beneficiary has the right to withdraw the contribution (the Crummey withdrawal power)
Advantages Qualifies for the annual exclusion Flexibility in trust terms
Disadvantages Irrevocable Administrative requirements – Crummey Letters must be sent
Generation Skipping Trusts
Description Trust created for the benefit of grandchildren, designed to use
GST exemption
Advantages Prevents application of estate tax at one generation below donor Creditor protection Can be drafted as a Crummey Trust to use annual exclusions
Disadvantages Irrevocable Flexibility requires careful drafting because of the length of the
trust (e.g., use of trust protector)
Benefits and Role of Trusts
Revocable Living Trusts - Purposes Manage & protect assets Provide continuity in management at death Avoid delays and costs of probate Control how and when assets distributed Ensure privacy and confidentiality
Irrevocable Trusts - Purposes Protect assets through generations Control how & when assets are distributed Ensure privacy and confidentiality Reduce estate and gift taxes through annual and lifetime
exemptions Transferring appreciation
Basic Estate Plan
Will
Durable Power of Attorney (Financial Matters)
Health Care Power of Attorney (Health Care Proxy)
Living Will (Optional)
Revocable Living Trust (Depending on Assets and Residency)
Grantor Trusts
Definition Grantor retained rights or powers over trust sufficient enough to be taxed
on the trust income FOR INCOME TAX PURPOSES ONLY Examples: Living Trust, GRAT, IDGT
Income Taxation Grantor subject to tax on all income; receives benefit of all deductions No separate tax return required
Powers Causing Grantor Status Power of Substitution Power to borrow without security Power of trustee to distribute to grantor’s spouse Power to Revoke
Income Tax Benefit of Grantor Trusts
Non Grantor Grantor
Trust Trust
Trust Assets at End of Year 1 $1,000,000 $1,000,000
Basis of Assets $0 $0
Capital Gains Realized $1,000,000 $1,000,000
Ordinary Income Earned $50,000 $50,000
Capital Gains Taxed to Trust (15%) ($150,000) -
Ordinary Income Taxed to Trust (35%) ($17,500) -
Capital Gains Taxed to Grantor (15%) - ($150,000)
Ordinary Income Taxed to Grantor (35%) - ($17,500)
Trust Assets at End of Year 2 $882,500 $1,050,000
Additional Assets to Heirs $167,500
Estate Tax Savings (46%) $77,050
Grantor Retained Annuity Trusts
(GRATs)
Grantor Retained Annuity Trust (GRAT)
Description Irrevocable trust Grantor transfers property and retains right to receive a
fixed payment based on initial FMV of property transferred to trust
Value of remainder interest is a current gift Can do a “Walton GRAT” making the gift zero
Purpose Reduce estate and gift tax Transfer appreciation over 7520 rate (set each month by
IRS)
Grantor Retained Annuity Trust (GRAT)
Advantages “Zeroed out” GRAT results in no gift Simple to explain, understand, and execute
Disadvantages Irrevocable Grantor trust – income taxed to Grantor GRAT assets must outperform the Section 7520 Rate Grandchildren cannot be beneficiaries Timing and amount of annuity payments inflexible
Investment Choices Highly appreciating assets are best Concentrated assets – distributions can be “in kind” Hard to value assets can be used but need appraisal upon contribution and
distribution
Qualified Personal Residence Trusts
(QPRTs)
Qualified Personal Residence Trust (QPRT)
Description Irrevocable trust Grantor transfers a personal residence Grantor retains the right to use the property for the term At end of term, title passes to remainder beneficiary Value of remainder interest is a current gift Grantor must maintain property
Purpose Reduce estate and gift tax Transfer appreciation Asset protection
Qualified Personal Residence Trust (QPRT)
Advantages Effective way to keep trophy house in the family May have some asset protection benefits Reduction of estate and gift tax
Disadvantages If Grantor dies during the term, included in Grantor’s estate Cannot be transferred to grandchildren After term, Grantor must pay fair market value rent
Investment Choices None - however, if residence sold during trust term, the QPRT
converts to a GRAT
Non-Traditional Strategies
Self-Canceling Installment Notes (SCINs)
Private Annuities
Self-Canceling Installment Notes
(SCINs)
Self-Canceling Installment Notes (SCINs)
Description Installment sale of an appreciated asset between family
members or unrelated parties Recognition of gain is spread out over a term of years Obligation under the installment note automatically ceases
upon the death of the seller Cancellation provision must be “bargained for”
Purpose Transfer appreciation in an asset Reduce estate and gift tax Provide income stream to seller for life
Self-Canceling Installment Notes (SCINs)
Advantages If seller dies before note is paid off, the unpaid balance is
not subject to estate or gift tax Seller keeps an income stream for life
Disadvantages IRS attack – part sale/part gift Cancellation provision must be bargained for resulting in
above market sales price or higher rate of interest Seller cannot keep control over property sold
Private Annuities(PAs)
Private Annuity
Description Sale of property from one family member to another or unrelated
third parties Consideration for sale is purchaser’s (obligor’s) unsecured
promise to payments to seller (annuitant) Must make specific, periodic payment to the seller (annuitant) for
the seller’s lifetime
Purpose Transfer of property from one generation to the next without
using lifetime gifting exemption in family context Getting income stream from non-income producing asset in third-
party unrelated context
Private Annuity
Advantages Does not use any of seller’s (annuitant’s) lifetime gifting exemption Provides income stream to annuitant; taxes prorated per payment Reduces annuitant’s potential estate tax liability Annuity can be “deferred” or back-loaded
Disadvantages Obligor may not have ability to make payments if annuitant lives long Must be unsecured If annuitant dies soon, obligor has negative income tax consequences On 10/17/06, IRS issued proposed regs that would require immediate recognition
of income! May be the death knell.
Investment Choices Real property Assets expected to appreciate in value Assets that can be discounted
Irrevocable Life Insurance Trusts(ILITs)
Irrevocable Life Insurance Trust (ILIT)
Description Irrevocable grantor or non grantor trust designed to
purchase and hold insurance on life of one or more persons
Purpose To exclude life insurance proceeds from insured’s estate
because insured has no “incidents of ownership” May be used as “wealth replacement” vehicle
Irrevocable Life Insurance Trusts (ILITs)
Advantages Excluded from insured’s estate Giving Crummey powers to numerous ILIT beneficiaries can absorb
large portion of gift tax
Disadvantages Insured cannot act as trustee Premium payments made directly by insured are a gift Payment of Gift Tax can be avoided
Investment Choices Trust owns life insurance policy or policies Policies generally invest in mutual funds
Common Misconceptions
Creation of Joint Tenancy Account will remove at least a portion of the account from the estate of individual who creates the account.
Once a Revocable Living Trust is created, your estate plan is complete.
If primary beneficiary of insurance policy dies, and no secondary beneficiary is named, proceeds will go directly to insured’s children or other family members.
Revocable Living Trusts cannot be named as beneficiary of employee benefit plans, IRAs or 401(k) plans.
Common Misconceptions
If two unmarried individuals make unequal contributions to purchase of real property, there are no gift tax consequences.
Assets held in joint tenancy form of title can never be divided.
If the combined estates of husband and wife are less than tax exempt amount (currently $4,000,000), joint tenancy is an appropriate method for holding title to assets.
Planning “Landmines” Charitable Planning
Always make sure property held long term (i.e., one year or more) Is the intended charity is a public charity or private foundation?
Private foundation – most donations limited to client’s basis in the gifted property
Is the real property being gifted is mortgaged, could have part gift/part sale
Gifts of Stock How, when was stock acquired (beware disqualifying dispositions)? If property bring gifted is < than FMV, sell the asset, give the cash
Family Dynamics Always understand the family dynamics. Some strategies are clearly
inappropriate for families with problematic dynamics (e.g., QPRT) Understand dynamics not only of client’s lineal descendants, but their
spouses as well.