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Estate Tax Laws Are In Flux - AZ Business Magazine Sept/Oct 2010

Estate Tax Laws Are In Flux — Start Strategizing Now

Let’s begin with a reasonably well-founded observation: The official repeal this year of estate taxes has seriously flawed most testamentary plans and created mild chaos for estate practitioners. Traditionally, estate planning attorneys have employed “word formula” dispositions phrased in terms of tax concepts for their drafted wills and trusts. For example, for people with larger estates, dispositions are divided into two categories:

One portion equal to the unused estate tax exemption often called the unified credit or the credit shelter trust for the benefit of a surviving spouse and descendents.

The other portion is allocated to equal the “optimum” marital deduction amount, usually expressed as the minimum amount necessary to reduce a person’s federal estate tax to zero.

In other cases, testators will cause a portion of their estate to equal the unused generation skipping tax (GST) exemption to pass in favor of or for the benefit of grandchildren. The word formula is applied because, historically, it has resulted in the optimal division or disposition of a decedent’s property.

Unfortunately, none of the above has any meaning if the concepts used to define them are no longer represented by federal statute. Accordingly, decedents of 2010 and their beneficiaries are confronted with impossible circumstances. An unintended outcome is the possible disinheritance of a surviving spouse or children.

Another interesting issue relates to existing generation-skipping trusts that are normally subject to GST on taxable distributions to “skip persons.” In
2010, none of the taxable distributions or “taxable terminations” will be subject to the tax. Possibly, the optimum outcome has arrived for GST trusts.

Within the current environment, grandparents can literally transfer fortunes to grandchildren and be subject to a one-time 35 percent gift tax.

Caution is appropriate, however, because it is impossible to predict what Congress will do. From a constitutional perspective, retroactive legislation remains a risk. If Congress retroactively reinstated estate and GST tax law, which Sen. Max Baucus (D-Mont.) has formally pledged to accomplish, then the above identified actions would be problematic.

Reinstatement of the estate tax system, notwithstanding a valid constitutional argument, would represent a symbol of poor legislation, in this author’s opinion. Here’s why: Executors and trustees of estates created in 2010, as fiduciaries, must act on current law and distribute inherited assets in a timely fashion. Would it not be legally awkward for Congress to force executors and trustees to rescind those distributions and formally adjust all 2010 estate tax returns?

So given the testamentary chaos resulting from the political process, what can we expect? Many practitioners believe legislation will occur that will reinstate the 45 percent tax rate for estate and GST applications with a $3.5 million unified exemption for each spouse. But, if Congress fails to act this year, then beginning in 2011, we will face the imposition of a 55 percent tax rate and a $1 million unified exemption. Given the current federal budget crisis, inaction will produce higher tax revenue.

This uncertain environment may provide compelling reasons for proactive folks to act. Seek qualified help with your own estate planning issues now — not later.

Philanthropic causes are becoming more meaningful to us
Everyone has been affected in some way by the deep recession. As a result, nonprofit service demand is up, but contributions are down. However, more people are contributing their time and efforts to help others. Due to a strong philanthropic lobby and the generous nature of American values, Congress has not tinkered with key charitable planning techniques. Many creative planning options exist that can help one accomplish their nonprofit objectives and enjoy enormous tax and estate benefits.

Source: Coyote Financial

Trends in Estate Planning:
More families are seeking qualified help with their financial lives

Interestingly, the revolution in technology and communication has not changed the desire or need for a personal advisory (coaching) relationship with someone deemed competent and trustworthy. Technology may help you find the right person, but no substitute is yet available for a caring, personal relationship.

Opportunities in Estate Planning

  • A grantor retained annuity trust (GRAT) is an estate planning technique that allows one to utilize the currently low federal discount rate to transfer assets to the next generation in exchange for a note. All appreciation, above the interest payment, inures in favor of the next generation. Short-term, zeroed out GRATs have been popular, resulting in significant estate tax savings for many wealthy families. The House Ways and Means Committee has passed a bill designed to eliminate short-term GRATs and zeroed out techniques. President Obama has proposed (endorsed) similar legislation that would require a 10-year term and no zero out gifting for GRATs. The opportunity for short-term, zeroed out GRATs could disappear in the next several months.
  • Congress has pending legislation to limit fractional discounts for lack of control and marketability applicable to intra-family transfers. Historically, when assets are placed into properly drafted limited liability companies (LLCs) and family limited partnerships (FLPs), discounts on the transfers to children of financial units or limited units, respectively, apply. For the present, case law and court verdicts honor the integrity of fractional discounts. As in the proposed GRAT legislation, the new rules will not apply retroactively and will only take effect coincidental to formal enactment. Keep in mind that the Treasury Department is desperately seeking methods to raise revenue. The opportunity to sell, transfer or gift assets inclusive of a fractional discount, especially among family members, may disappear in the next several months.
  • In 1995, the federal discount rate represented 9.5 percent. Today, the rate ranges between 3.4 percent and 3.6 percent. The discount rate is indirectly associated with the applicable federal rate (AFR), which can be utilized on an “arms-length basis” to make loans to children. For example, the current mid-term intermediate rate equals 2.85 percent, whereas demand-note interest rates are currently less than 1 percent. The opportunity to initiate intra-family personal or business loans at de minimis interest rates could disappear in the next several years.
  • Since generation skipping taxes have been repealed for the 2010 tax year, and the federal gift tax rate has been reduced from 45 percent to 35 percent, the opportunity to transfer/gift assets to grandchildren is economically advantageous, as noted previously. The opportunity to transfer assets to grandchildren without the imposition of estate and generation skipping tax may disappear under new legislative regulations in the next several months.
  • Because of recent market conditions, the valuation of business and real estate assets has potentially decreased. Accordingly, the cost to sell or gift assets to the next generation is lower than it may have been in 2007. The opportunity to transfer assets to family members using low valuations may disappear in the next several years.
  • Source: Coyote Financial

    Arizona Business Magazine Sept/Oct 2010