2012 Estate Planning Notes
ESTATE PLANNING NOTES FOR 2012
Based on the Heckerling Institute on Estate Planning’s 2012 Current Events Session, the following is a short summary of the highlights of estate planning matters for the year.
The $5,000,000 Exemption. For 2012, the estate tax and gift tax exemption is $5,120,000, the highest exemption we have seen in our lifetimes. However, this is probably going away! We anticipate the 2013 exemption to drop to $3,500,000 or even $1,000,000 depending on Congress’ action (or inaction) this year. While the exemption is high – plan, plan, plan! Take advantage of gifting this calendar year to reduce your taxable estate. For a more in-depth discussion of the exemption, see our article entitled “Making the Most of Your Exemption and Other Estate Planning Musings”.
Gifting High Basis Assets. Always look at the tax basis for gifts, and gift high basis assets before gifting low basis assets because income taxation will become more of a planning issue in the future. Minimizing capital gains on carryover basis assets (gifted assets, versus assets that are inherited, with a stepped-up basis) is an important consideration that can be addressed now.
Portability. Portability allows a surviving spouse to use a predeceased spouse’s unused applicable estate tax exclusion amount, effectively doubling the amount that a married couple can pass to their beneficiaries free of tax. Portability is elected by filing a Form 706, and there is no shortened version. There are still unanswered questions as to the portability mechanism, i.e. whether only the executor can file Form 706; and, what if the kids elect out, so unused exemption will not carry over to the second spouse? Although portability is an extremely advantageous tax tool, it may not always be the law. We advise and emphasize not relying on portability and highlight the benefits of credit shelter trust planning to obtain the best result.
Valuation Discounts. Discounting is a valuable tool for reducing the size (or impeding the growth) of an estate. Discounting and freezing techniques can help business owners and land owners effectively plan for the future with their assets being ‘frozen’ at today’s value. However, there may be some modification to IRC Section 2704(b) restricting the use of valuation discounts. IRS regulations have been often promulgated but never published. Once published, the new restrictions on valuation discounts could be effective as of 1990! Congressional Democrats have proposed legislation in the past to curtail or eliminate the use of valuation discounts. The elimination of discounting techniques has been on the IRS “wish list” sine the Clinton Administration, and most recently President Obama proposed their curtailment in his recent Budget Proposal. We say “Use ‘em while you got ‘em!”. For a more in-depth discussion of discounts, see our article entitled “Valuation Discounts”.
Dynasty Trusts. Dynasty Trusts allow the creator to pass assets and wealth from generation to generation to reduce estate taxes and to preserve wealth within a family. Because of their potentially perpetual existence, it has been proposed to limit dynasty trusts to 90 years. This would require allocation of GST (generation skipping transfer tax) exemption every 90 years.
Georgia Estate Taxes. Currently, Georgia has no state estate or inheritance tax and neither does Florida. The prognosis for estate taxes to be assessed in Georgia is zero, and the probability of the return of the estate death tax credit is also near zero.
Grantor Trust Status. After some uncertainty about whether the power to substitute assets in a trust may cause taxable estate inclusion, Revenue Ruling 2011-28 confirms that the power to substitute assets in a trust does cause grantor trust status for estate tax purposes, as well as income tax purposes, even for life insurance trusts.
Claims Against an Estate. Section 2053 of the Code discusses claims against an estate. Claims over $500,000 require a qualified appraisal, as do certain charitable contributions. A Schedule PC (which is not out yet) will be required for protective claims. Until then, Form 843 must be filed to keep the statute of limitations open. One must have a detailed tickler system for IRS acknowledgment. This is one of those areas where the IRS must acknowledge that they received the protective claim, but if they do not acknowledge, the taxpayer must ask within a certain period of time. This is rather archaic and burdensome, so a thorough understanding of this shifting acknowledgment responsibility is important for establishing a proper tickler system and follow-up procedures.
Decanting. In Revenue Ruling 2011-101, the IRS said it was issuing no more rulings concerning decanting. For a more in-depth discussion of the decanting, see our article entitled “The Powers of Decanting and Appointment”.
Qualified Personal Residence Trusts (QPRT). A trust may be used to transfer a grantor’s residence out of the grantor’s estate at a low gift tax value. However, unless properly structured, Section 2036 and the Van case may require estate inclusion if the grantor retains enjoyment and lives in the property. On the other hand, in the Riese case, there was a taxpayer victory because at the end of the QPRT there was an intent to pay fair market rent.
Health, Education, Maintenance and Support (the HEMS Standard). The HEMS Standard is a recognized and accepted standard for trust distributions to a beneficiary, yet keeping the trust property out of the beneficiary’s taxable estate. The trust should stick to the exact HEMS Standard; that is, using only the words health, maintenance, support and education. Using the words “comfort” and “welfare” continue to cause problems, regardless of what the regulations provide.
Defined Value Clauses. The Christiansen & Petter cases from last year distinguished Proctor and held that defined value clauses “based on values finally determined for estate tax purposes” were valid. The McCord & Hendrix case also distinguished Proctor where the taxpayer merely gifted all the property away and left it up to the parties to confirm their appropriate and respective interest in the property also worked. All of these cases involved charity and public policy of encouraging gifts to charities trumping the public policy of Proctor (creating a disincentive for the IRS to audit a transaction because of no possible additional tax revenue). However, these defined value clause cases probably have a “limited shelf life”, and extreme care should always be used when gifting hard-to-value assets.
Family Limited Partnerships (FLP). Tax cases regarding Family Limited Partnerships continue to be “hot buttons” with the IRS. The FLP cases continued with Linton being a step transaction analysis. The Holman case involved Dell stock, and in the Gross estate, 11 days was sufficient to allow enough time to have risk of valuation change between the time the FLP was funded and the limited partnership’s interest being gifted away. And in Jorgenson, there was no good reason for the FLP – a typical “bad facts make bad law” case.
Crummey Notices. Crummey notices are important, annual tasks for proper trust administration. In the Turner case, the husband paid the insurance payments directly and not through the trust, and the Trustee did not obtain Crummey notices – something we always advise our clients to obtain to ensure the gift is treated as complete and to document that the gifts are in fact present interest gifts qualifying for the annual gift tax exclusion. However, in this case, the Court held that lack of Crummey letters and the accompanying lack of formality of the gift being made to the trust, was not controlling. Although this is an important taxpayer victory, we will continue to discipline our clients to make their gifts to the trusts, and to obtain Crummey notices signed by the beneficiaries to ensure proper compliance with the Code and regulations.
Second Marriages. When there is a second marriage, it may be a good idea to combine the marital and charitable deductions. This concept was discussed in Private Letter Ruling 201117005 in which the taxpayer intended to create two trusts upon his death. The first was a Charitable Remainder Unitrust (CRUT), and the second was a Qualified Terminable Interest Property (QTIP) marital trust. If the spouse survived the taxpayer, the QTIP was to receive a fixed amount of assets to be divided between Fund A, which was to receive the residence, and Fund B, which was to receive all the interest in an LLC that held tangible assets such as automobiles, aircraft and cash. The spouse got all the income from Fund B and the exclusive right to use all the assets, as well as the use of the residence or any replacement residence in Fund A. Any part of Fund A that was not used to purchase a replacement residence was to be distributed to Fund B. The QTIP is a beneficial instrument because the surviving spouse receives the income from the trust’s assets during his/her life, but the trust principal is left to someone else, usually children.
The CRUT on the other hand, is funded and then distributes a fixed percentage of the value of its assets to a non-charitable beneficiary (this may be the grantor, surviving spouse or children), and, at a specified time, usually at the death of the grantor, the remainder of the trust is distributed to a charity. The CRUT may also be drafted to as to cease trust distributions to the surviving spouse if he/she remarries. The combination of the marital deductions and the charitable deductions and these trust tools allow a grantor great flexibility in providing for a second spouse during his or her lifetime, but also assuring that his children of a previous marriage receive a share of the assets as well.
*IRS regulations require that we inform you as follows: Any U.S. federal tax advice contained in this communication is not intended to be used and cannot be used for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or tax-related matters.
