Estate & Wealth Transfer Planning Archives - Page 3 of 38

Your estate plan: Don’t forget about income tax planning

Estate & Wealth Transfer Planning|July 19, 2022

As a result of the current estate tax exemption amount ($12.06 million in 2022), many people no longer need to be concerned with federal estate tax. Before 2011, a much smaller amount resulted in estate plans attempting to avoid it. Now, because many estates won’t be subject to estate tax, more planning can be devoted to saving income taxes for your heirs.

Note: The federal estate tax exclusion amount is scheduled to sunset at the end of 2025. Beginning on January 1, 2026, the amount is due to be reduced to $5 million, adjusted for inflation. Of course, Congress could act to extend the higher amount or institute a new amount.

Here are some strategies to consider in light of the current large exemption amount.

Gifts that use the annual exclusion

One of the benefits of using the gift tax annual exclusion to make transfers during life is to save estate tax. This is because both the transferred assets and any post-transfer appreciation generated by those assets are removed from the donor’s estate.

As mentioned, estate tax savings may not be an issue because of the large estate exemption amount. Further, making an annual exclusion transfer of appreciated property carries a potential income tax cost because the recipient receives the donor’s basis upon transfer. Thus, the recipient could face income tax, in the form of capital gains tax, on the sale of the gifted property in the future. If there’s no concern that an estate will be subject to estate tax, even if the gifted property grows in value, then the decision to make a gift should be based on other factors.

For example, gifts may be made to help a relative buy a home or start a business. But a donor shouldn’t gift appreciated property because of the capital gains that could be realized on a future sale by the recipient. If the appreciated property is held until the donor’s death, under current law, the heir will get a step-up in basis that will wipe out the capital gains tax on any pre-death appreciation in the property’s value.

Spouse’s estate

Years ago, spouses often undertook complicated strategies to equalize their estates so that each could take advantage of the estate tax exemption amount. Generally, a two-trust plan was established to minimize estate tax. “Portability,” or the ability to apply the decedent’s unused exclusion amount to the surviving spouse’s transfers during life and at death, became effective for estates of decedents dying after 2010. As long as the election is made, portability allows the surviving spouse to apply the unused portion of a decedent’s applicable exclusion amount (the deceased spousal unused exclusion amount) as calculated in the year of the decedent’s death. The portability election gives married couples more flexibility in deciding how to use their exclusion amounts.

Estate or valuation discounts

Be aware that some estate exclusion or valuation discount strategies to avoid inclusion of property in an estate may no longer be worth pursuing. It may be better to have the property included in the estate or not qualify for valuation discounts so that the property receives a step-up in basis. For example, the special use valuation — the valuation of qualified real property used for farming or in a business on the basis of the property’s actual use, rather than on its highest and best use — may not save enough, or any, estate tax to justify giving up the step-up in basis that would otherwise occur for the property.

Are you and your spouse considering “splitting” gifts?

Estate & Wealth Transfer Planning|June 28, 2022

Gift splitting can be a valuable estate planning tool, allowing you and your spouse to maximize the amount of wealth you can transfer tax-free. But in some cases, it can have undesirable consequences, so be sure that you understand the implications before making an election to split gifts.

Gifts of separate property

Gift splitting is helpful if you wish to minimize taxes on gifts of separate property (as opposed to jointly owned or marital property). Suppose, for example, that in 2022 you give your child $32,000 in stock that’s your separate property. Your annual gift tax exclusion for 2022 shields half of that amount from gift taxes, but the remaining $16,000 is taxable. However, if you and your spouse elect to split gifts, half of the gift is deemed to be from your spouse and is shielded from tax by his or her 2022 exclusion.

It’s important to understand that when you make an election to split gifts on a gift tax return, it applies to all gifts made by you or your spouse during the year. In some cases, this can have unintended consequences, especially if you plan to leverage your federal gift and estate tax exemption amount, which is $12.06 million in 2022.

Because the exemption is scheduled to return to an inflation-adjusted $5 million in 2026, many people are making large gifts to their loved ones before the current exemption sunsets. But if you elect to split gifts, you risk losing the benefit of the increased exemption.

For example, let’s say that in 2022 you transfer interests in your separately owned business valued at $12.06 million to your children. If you and your spouse elect to split gifts this year, then each of you will be deemed to have made a gift of $6.03 million. Now let’s say that when the exemption amount drops in 2026, the inflation-adjusted amount ends up being $6.03 million. This means that you and your spouse will both have used up your exemptions. Had you not split gifts in 2022, however, you would have enjoyed your full $12.06 million exemption amount, while preserving your spouse’s $6.03 million exemption.

Follow the rules

It’s important to understand the rules surrounding gift-splitting to avoid unintended — and potentially costly — consequences. We’d be pleased to provide additional details and answer any questions regarding making gifts.

Opening up to SLAT opportunities

Estate & Wealth Transfer Planning|May 4, 2022

Estate tax planning can become complicated when multiple parties are involved. For example, you may be concerned about providing assets to a surviving spouse of a second marriage, while also providing for your children from your first marriage. Of course, you also want to take advantage of favorable estate tax provisions in the law.

Fortunately, there’s a relatively simple way to meet your objectives with few dire tax consequences. It’s commonly called a spousal lifetime access trust (SLAT).

A SLAT in action

Essentially, a SLAT is an irrevocable trust established by a grantor spouse for the benefit of the other spouse — called the beneficiary spouse — plus other family members, such as children and grandchildren. The beneficiary spouse is granted limited access to the trust’s funds. As a result, the assets generally are protected from the reach of the beneficiary spouse’s creditors. This ensures that the remainder beneficiaries — namely, the children and grandchildren — will have a nest egg to rely on.

According to the SLAT terms, lifetime distributions are made to the beneficiary spouse to meet his or her needs. Preferably, if other funds are available to the beneficiary spouse outside of the trust, those funds are used first instead of making regular distributions to the spouse. Otherwise, distributions from the SLAT to the beneficiary spouse will reduce the trust’s effectiveness over time.

Favorable tax provisions

One of the primary attractions of a SLAT is that it’s designed to minimize federal tax liabilities. First, the transfer of assets is treated as a taxable gift, but it can be sheltered from gift tax by a combination of the annual gift tax exclusion ($16,000 for 2022) and the gift and estate tax exemption ($12.06 million for 2022). However, be aware that use of the exemption during the grantor spouse’s lifetime reduces the available estate tax shelter at death.

Second, assets transferred by the grantor spouse to a SLAT are removed from his or her taxable estate. Thus, estate taxes aren’t a concern, thereby allowing the remaining estate tax exemption to be used for other assets.

Third, a SLAT is considered to be a “grantor trust” for income tax purposes. In other words, when a grantor spouse establishes a SLAT for the benefit of the beneficiary spouse, the trust’s taxable income is reported on the grantor’s personal tax return, but the trust entity pays zero tax. This may be advantageous because the assets can compound inside the trust without any income tax erosion. On the death of the grantor spouse, the trust is required to pay income tax.

Other planning considerations

As mentioned above, the transfer of assets to a SLAT is a gift, so the grantor must file a federal gift tax return. Finally, don’t forget that a SLAT is an irrevocable trust. Thus, once the grantor spouse transfers assets to the trust, he or she can’t get them back.

If you’re considering using a SLAT, contact us for additional details.

Power up your trust with Crummey powers

Estate & Wealth Transfer Planning|May 2, 2022

The unified gift and estate tax exemption is set at an inflation-adjusted $12.06 million for 2022, up from $11.7 million for 2021. This means that for many families, estate tax liability isn’t a factor. However, for others, the annual gift tax exclusion continues to be an important estate planning strategy — especially since future tax law changes could lower the gift and estate tax exemption. For this reason, using a Crummey trust in your estate plan remains an important estate planning strategy. Here’s why.

Using the annual exclusion

Under the annual gift tax exclusion, you can give gifts to each recipient, valued up to a specific limit, without incurring any gift tax. The limit for 2022 is $16,000 per recipient. (This amount is indexed for inflation, but only in $1,000 increments.)

Therefore, if you have, for example, three adult children and seven grandchildren, you can give each one $16,000 this year, for a total of $160,000, and pay zero gift tax. The exclusion is per donor, meaning that for a married couple the amount is doubled.

If you give outright gifts, however, you run the risk that the money or property could be squandered, especially if the recipient is young or irresponsible. Alternatively, you can transfer assets to a trust and name a child as a beneficiary. With this setup, the designated trustee manages the assets until the child reaches a specified age.

But there’s a catch. To qualify for the annual exclusion, a gift must be a transfer of a “present interest.” This is defined as an unrestricted right to the immediate use, possession or enjoyment of the property or the income from it. Without certain provisions in the trust language, a gift to the trust doesn’t qualify as a gift of a present interest. Instead, it’s treated as a gift of a “future interest” that’s not eligible for the annual gift tax exclusion.

Giving Crummey powers to a trust

This is where a Crummey trust can come to the rescue. It satisfies the rules for gifts of a present interest without requiring the trustee to distribute the assets to the beneficiary.

Typically, periodic contributions of assets to the trust are coordinated with an immediate power giving the beneficiary the right to withdraw the contribution for a limited time. However, the expectation of the donor is that the power won’t be exercised. (The trust document cannot expressly provide this.)

As a result, the beneficiary’s limited withdrawal right allows the gift to the trust to be treated as a gift of a present interest. Thus, it qualifies for the annual gift tax exclusion. Note that it’s the existence of the legal power — not the exercise of it — that determines the tax outcome.

Avoiding pitfalls

To pass muster with the IRS, the beneficiary must be given actual notice of the withdrawal right, along with a reasonable period to exercise it. Generally, at least 30 days is required. Contact us with additional questions regarding the use of a Crummey trust.

Clarity counts when it comes to estate planning documents

Estate & Wealth Transfer Planning|April 12, 2022

Precise language is critical in wills, trusts and other estate planning documents. A lack of clarity may be an invitation to litigation. An example of this is the dispute that arose after Tom Petty’s death, between his widow and his two daughters from a previous marriage. (The two parties have since resolved their differences and dismissed all litigation matters.)

Interpreting “equal participation”

Details of the musician’s estate plan aren’t entirely clear. But it appears that his trust appointed his widow as a “directing trustee,” while providing that she and his daughters were entitled to “participate equally” in the management of his extensive music catalog and other assets. Unfortunately, the trust failed to spell out the meaning of “equal participation,” resulting in litigation between Petty’s widow and daughters over control of his assets.

There are several plausible interpretations of “equal participation.” One interpretation is that each of the three women has an equal vote, giving the daughters the ability to rule by majority.

Another interpretation is that each has an opportunity to participate in the decision-making process, but Petty’s widow has the final say as the directing trustee. Yet another possibility is that Petty intended for the women to make decisions by unanimous consent.

Determining intent

If the two parties hadn’t settled their differences out of court, it would have been up to the court to provide an answer based on evidence of Petty’s intent. But the time, expense and emotional strain of litigation may have been avoided by including language in the trust that made that intent clear.

If you’re planning your estate, the Petty case illustrates the importance of using unambiguous language to ensure that your wishes are carried out. And if you anticipate that one or more of your beneficiaries will perceive your plan as unfair, sit down with them to explain your reasoning. This discussion can go a long way toward avoiding future disputes.

Review and revise to make your intent crystal clear

If your estate plan has already been drafted and you have concerns regarding the language used, contact your attorney. He or she can review your documents to determine if more precise wording is necessary to make your intentions crystal clear for your family after your death.

When inheriting money, be aware of “income in respect of a decedent” issues

Estate & Wealth Transfer Planning|April 7, 2022

Once a relatively obscure concept, “income in respect of a decedent” (IRD) may create a surprising tax bill for those who inherit certain types of property, such as IRAs or other retirement plans. Fortunately, there may be ways to minimize or even eliminate the IRD tax bite.

Basic rules

For the most part, property you inherit isn’t included in your income for tax purposes. Items that are IRD, however, do have to be included in your income, although you may also be entitled to an IRD deduction on account of them.

What’s IRD? It is income that the decedent (the person from whom you inherit the property) would have taken into income on his or her final income tax return except that death interceded. One common IRD item is the decedent’s last paycheck, received after death. It would have normally been included in the decedent’s income on the final income tax return. However, since the decedent’s tax year closed as of the date of death, it wasn’t included. As an item of IRD, it’s taxed as income to whomever does receive it (the estate or another individual). Not just the final paycheck, but any compensation-related benefits paid after death, such as accrued vacation pay or voluntary employer benefit payments, will be IRD to the recipient.

Other common IRD items include pension benefits and amounts in a decedent’s individual retirement accounts (IRAs) at death as well as a decedent’s share of partnership income up to the date of death. If you receive these IRD items, they’re included in your income.

The IRD deduction

Although IRD must be included in the income of the recipient, a deduction may come along with it. The deduction is allowed (as an itemized deduction) to lessen the “double tax” impact that’s caused by having the IRD items subject to the decedent’s estate tax as well as the recipient’s income tax.

To calculate the IRD deduction, the decedent’s executor may have to be contacted for information. The deduction is determined as follows:

First, you must take the “net value” of all IRD items included in the decedent’s estate. The net value is the total value of the IRD items in the estate, reduced by any deductions in respect of the decedent. These are items which are the converse of IRD: items the decedent would have deducted on the final income tax return, but for death’s intervening.
Next you determine how much of the federal estate tax was due to this net IRD by calculating what the estate tax bill would have been without it. Your deduction is then the percentage of the tax that your portion of the IRD items represents.

In the following example, the top estate tax rate of 40% is used. Example: At Tom’s death, $50,000 of IRD items were included in his gross estate, $10,000 of which were paid to Alex. There were also $3,000 of deductions in respect of a decedent, for a net value of $47,000. Had the estate been $47,000 less, the estate tax bill would have been $18,800 less. Alex will include in income the $10,000 of IRD received. If Alex itemizes deductions, Alex may also deduct $3,760, which is 20% (10,000/50,000) of $18,800.

We can help

If you inherit property that could be considered IRD, consult with us for assistance in managing the tax consequences.

A beneficiary designation or joint title can override your will

Estate & Wealth Transfer Planning|March 29, 2022

Inattention to beneficiary designations and jointly titled assets can quickly unravel your estate plan. Suppose, for example, that your will provides for all of your property to be divided equally among your three children. But what if your IRA, which names the oldest child as beneficiary, accounts for half of the estate? In that case, the oldest child will inherit half of your estate plus a one-third share of the remaining assets — hardly equal.

The same goes for jointly owned property. When you die, the surviving owner takes title to the property regardless of the terms of your will. Unfortunately, many people don’t realize that their wills don’t control the disposition of nonprobate assets.

What are nonprobate assets?

Nonprobate assets generally are transferred automatically at death according to a beneficiary designation or contract. So they override your will. They include life insurance policies, retirement plans and IRAs, as well as joint bank or brokerage accounts. Even savings bonds come with beneficiary forms.

To ensure that your estate plan reflects your wishes, review beneficiary designations and property titles regularly, particularly after significant life events such as a marriage or divorce, the birth of a child, or the death of a loved one.

What about POD and TOD designations?

Payable-on-death (POD) and transfer-on-death (TOD) designations provide a simple and inexpensive way to transfer assets outside of probate. POD designations can be used for bank accounts and certificates of deposit. TOD designations can be used for stocks, bonds, brokerage accounts and, in many states, even real estate.

Setting one up is as easy as providing a signed POD or TOD beneficiary designation form. When you die, your beneficiaries just need to present a certified copy of the death certificate and their identification to the bank or brokerage, and the money or securities are theirs.

However, just like other beneficiary designations, POD and TOD designations can backfire if they’re not carefully coordinated with the rest of your estate plan. Too often, people designate an account as POD or TOD as an afterthought, without considering whether it may conflict with their wills, trusts or other estate planning documents.

Another potential problem with POD and TOD designations is that, if you use them for most of your assets, the assets left in your estate may be insufficient to pay debts, taxes or other expenses. Your executor would then have to initiate a proceeding to bring assets back into the estate.

Whether you have large retirement accounts or life insurance policies, hold joint accounts or use POD or TOD designations as part of your estate plan, we can review the rest of your plan to identify potential conflicts.

Owning real estate in more than one state may multiply probate costs

Estate & Wealth Transfer Planning|March 17, 2022

One goal of estate planning is to avoid or minimize probate. This is particularly important if you own real estate in more than one state. Why? Because each piece of real estate titled in your name must go through probate in the state where the property is located.

Cost and time can become issues

Probate is a court-supervised administration of your estate. If probate proceedings are required in several states, the process can become expensive.

For example, your representative will need to engage a probate lawyer in each state, file certain documents in each state and comply with other redundant administrative requirements. In addition to the added expense, the process may also delay the settlement of your estate.

Place all real estate into a revocable trust

If you have a revocable trust (sometimes called a “living trust”), the simplest way to avoid multiple probate proceedings is to ensure that the trust holds the title to all of your real estate. Generally, this involves preparing a deed transferring each property to the trust and recording the deed in the county where the property is located. Property held in a revocable trust generally doesn’t have to go through probate.

Before you transfer real estate to a revocable trust, we can help determine if doing so will have negative tax or estate planning implications. For example, will transferring a residence to a trust affect your eligibility for homestead exemptions from property taxes or other tax breaks? Will the transfer affect any mortgages on the property? Will it be subject to any real property transfer taxes?

It’s also important to consider whether transferring title to property will affect the extent to which it’s shielded from the claims of creditors. Please contact us with any questions.

Do you Have a Will?

Estate & Wealth Transfer Planning|November 16, 2021

The need for a will as a key component of your estate plan may seem obvious. You’d be surprised by the number of people — even affluent individuals — who don’t have one. A reason for this may be a common misconception that a revocable trust (sometimes called a “living trust”) obviates the need for a will.

Purpose of a Will

True, revocable trusts are designed to avoid probate and distribute your wealth quickly and efficiently according to your wishes. But even if you have a well-crafted revocable trust, a will serves several important purposes, including:

Appointing an executor or personal representative you trust to oversee your estate, rather than leaving the decision to a court,
Naming a guardian of your choosing, rather than a court-appointed guardian, for your minor children, and
Ensuring that assets not held in the trust are distributed among your heirs according to your wishes rather than a formula prescribed by state law.

The last point is important. For a revocable trust to be effective, assets must be titled in the name of the trust. It’s not unusual for people to acquire new assets and put off transferring them to their trusts.

To ensure that these assets are distributed according to your wishes rather than a formula mandated by state law, consider having a “pour-over” will. It can facilitate the transfer of assets titled in your name to your revocable trust.

Make it your Decision, Not your State’s

Although assets that pass through a pour-over will must go through probate, that result is preferable to not having a will. Without a will, the assets would be distributed according to your state’s intestate succession laws rather than the provisions of your estate plan. Contact us with questions regarding your will or overall estate plan.

As always, please do not hesitate to call our offices for additional information and to speak to your representative about how this could affect your situation.

Factor in Taxes if you’re Relocating to another State in Retirement

Tax Prep, Planning & Strategy|November 10, 2021

Are you considering a move to another state when you retire? Perhaps you want to relocate to an area where your loved ones live or where the weather is more pleasant. But while you’re thinking about how many square feet you’ll need in a retirement home, don’t forget to factor in state and local taxes. Establishing residency for state tax purposes may be more complicated than it initially appears to be.

What are all Applicable Taxes?

It may seem like a good option to simply move to a state with no personal income tax. But, to make a good decision, you must consider all taxes that can potentially apply to a state resident. In addition to income taxes, these may include property taxes, sales taxes and estate taxes.

If the state you’re considering has an income tax, look at what types of income it taxes. Some states, for example, don’t tax wages but do tax interest and dividends. And some states offer tax breaks for pension payments, retirement plan distributions and Social Security payments.

Is there a State Estate Tax?

The federal estate tax currently doesn’t apply to many people. For 2021, the federal estate tax exemption is $11.7 million ($23.4 million for a married couple). But some states levy estate tax with a much lower exemption and some states may also have an inheritance tax in addition to (or in lieu of) an estate tax.

How do you Establish Domicile?

If you make a permanent move to a new state and want to make sure you’re not taxed in the state you came from, it’s important to establish legal domicile in the new location. The definition of legal domicile varies from state to state. In general, domicile is your fixed and permanent home location and the place where you plan to return, even after periods of residing elsewhere.

When it comes to domicile, each state has its own rules. You don’t want to wind up in a worst-case scenario: Two states could claim you owe state income taxes if you establish domicile in the new state but don’t successfully terminate domicile in the old one. Additionally, if you die without clearly establishing domicile in just one state, both the old and new states may claim that your estate owes income taxes and any state estate tax.

The more time that elapses after you change states and the more steps you take to establish domicile in the new state, the harder it will be for your old state to claim that you’re still domiciled there for tax purposes. Some ways to help lock in domicile in a new state are to:

Change your mailing address at the post office,
Change your address on passports, insurance policies, will or living trust documents, and other important documents,
Buy or lease a home in the new state and sell your home in the old state (or rent it out at market rates to an unrelated party),
Register to vote, get a driver’s license and register your vehicle in the new state, and
Open and use bank accounts in the new state and close accounts in the old one.

If an income tax return is required in the new state, file a resident return. File a nonresident return or no return (whichever is appropriate) in the old state. We can help file these returns.

Before deciding where you want to live in retirement, do some research and contact us. We can help you avoid unpleasant tax surprises.