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MONTH YEAR: Lead Article: 1 ¾ pages [2nd page about 45 lines]
Lead Article Title: Schlesinger on PLI 42nd Estate Planning InstituteSummary: Who wouldn’t want to watch CC Sabathia in action! Well, we were able to catch up with Sandy Schlesinger, Esq in the estate planning bullpen and asked him to pitch a few planning pointers that will be discussed in depth at the upcoming Practicing Law Institute’s 42nd Estate Planning Institute. So get your beer and peanuts and enjoy the 9 inning estate planning extravaganza.
◙ 1st Inning Recent Developments: The most dramatic changeup in years was the 2010 Tax Act. Its impact over the next 2 years is a wild pitch. This new season requires every estate plan with a substantial amount of wealth to be revisited especially in light of the $5M exemption. Any document with a formula may no longer be appropriate. Assume you signed a will in 2008 and Husband had $8M and Wife had $2M. At the time the unified credit was $2M. A formula clause would have meant $2M in a bypass trust on Husband’s death and $6M in a marital trust (QTIP). Assuming no change in assets wife would have $6M in a QTIP + $2M in her estate. If she died in 2011 she would have $5M of exemption and a taxable estate of only $3M (out of $10M). This plan might have been a good plan at the time. But in 2011 this plan could be a foul ball. The formula clause $5M goes into a bypass trust and Wife gets $3M outright. Wife has $2M of her own and her estate. But what if the bypass trust excluded the spouse? This might have been fine at $2M. But now at $5M the kids from a prior marriage get $5M and the spouse only $3M. This might not have been the game plan. Based on these numbers in some states the wife might have a spousal right of election. These are the hidden issues in the new tax law.
Many estates have GST trusts to take advantage of GST exemption. This has increased for 2 years to $5M. If your will has the formula from 2008 when the GST exemption was only $2M and now it is $5M you might be leaving more to grandchildren than to your children. In fact with the same $10M estate from the above example, you could leave it all to your grandchildren!
Portability is a sham since it’s only available in 2011-12. It gives some immediate gratification but not the long term security of a bypass trust. The bypass trust gives you more protection: asset protection depending on how drafted and the jurisdiction. Main issue is when you carve out bypass trust, no matter how high it grows, it is not taxable. In contrast with portability the amount exempt from tax is fixed on the first death. With portability you can’t really control the ultimate disposition of the assets. You could use a will contract but there have been too many cases challenging the enforceability of the contract and what assets are covered. See Matter of Murray NYLJ April 27, 2011, 2nd Dept. 2011 which addressed similar issues. There are also issues concerning the survivability of the spouse and the growth of assets. There are a lot of flaws in portability.
◙ 2nd Inning Generation Skipping Tax: Finding the sweet spot is tricky with the fluctuations in the GST exemption amount. The idea of planning for GST with a $1M GST exemption is in a different league then GST planning with a $5M – or $10M if a husband and wife team hit double. You don’t want to make poor children and rich grandchildren. Consider multigenerational trusts, but include the child not just the grandchild, to avoid triggering GST. In a discretionary trust the goal is to use it for a skip person (grandchild) but if your son has financial adversity you may want that money available to help him too. Exemptions went up during a period when net worth declined due to the economy. If people don’t review their documents, the dispositive provisions could prove disastrous.
◙ 3rd Inning Elder Law: Medicaid planning should be left to real experts and should not be something to dabble in. The law changes almost every legislative session. It is a combination of not only federal and state law but often county practice. People need to get a local adviser that specializes in this given the intricacies of Medicaid qualification. Do not inadvertently leave a legacy, either outright or in trust, that might disqualify someone for Medicaid or SSI. Grandparents may not know the status of a special needs grandchild, or it may be too painful for them to admit to, and the planning steps could be missed.
◙ 4th Inning Asset Protection: You generally cannot force a discretionary trustee to distribute. See In Matter of Escher, 438 N.Y.S.2d 293 (1981). Asset protection planning is a moving target. You have domestic and offshore planning. The US and in particular the IRS attitude towards offshore accounts is worrisome for asset protection planning. Some people have become concerned about all the filing requirements and that it has cast a negative view. Domestic asset protection – Delaware as an example is comfortable. The state legislature is quick to fix any problems that arise in the law. Domestic asset protection generally requires a corporate trustee and for some clients that is uncomfortable. This continues to be a developing area of the law. There remains the issue about the enforceability of one state’s judgment in another. Andy Pettitte was known for his moves to first base which were about the closest a pitcher can get to committing a balk without violating the rule. Finessing asset protection planning can require similar precision.
◙ 5th Inning Charitable Planning: If anyone says charitable giving will be increased because of the exemptions, they’re missing the point. The increased gift and estate exemption has decreased the tax benefit for giving. This has a negative impact on giving, especially testamentary giving. The government has traditionally favored voluntarism and this undermines it. All our usual charitable giving techniques are still there, just used less. The big thing in charitable giving is being able to give $100,000 if over 70 ½ from an IRA without any income limit. It is a great technique but right now only applies for one year, 2011. Hopefully it will be extended. IRA donations count toward your required minimum distribution (RMD). You don’t get a charitable deduction, but it is not included in income. The donation must be to a public charity. This is not the big number compared to large planned gifts but if you consider the number of people who might take advantage of it overall this could be a huge help to many charities.
◙ 6th Inning Distribution Strategies: Fiduciaries face a real issue as to how to invest in such a complex and volatile investment world. In the old days there was an approved or “legal” list. Now you have an endless array of possible investments and under the Prudent Investor Act there is no investment that is per se imprudent. That takes a lot of hand eye coordination. We are seeing a growth of litigation against fiduciaries. They must study the instrument carefully. There are a lot of lawsuits about non-diversified portfolios. Just because the stock came out of a long term family holding is not enough. Another area of interest is a unitrust or power to adjust. These rules vary considerably by state. Because beneficiaries are not getting the income return they need because of low interest rates, we see more people using unitrust payments which are statutorily between 3-5%. But what happens if interest rates spike? They could be getting much less than appropriate years from now. The unitrust approach could prove shortsighted. If you have a power of invasion you should not have to use the unitrust or power to adjust provision since the power to invade was meant to cover this. Transfer tax consequences could be a problem without an independent trustee. If the governing document does not provide for an ascertainable standard, it is a tougher job for the fiduciary. Flexibility in administration often means reliance on a bank that in many cases the client never knew.
◙ 7th Inning Low Interest Rate Environment: The July AFR is about 2.4% and lower rates can be charged on loans. That’s like getting A-Rod for a salary of a mere $10M. The current low rates and the 2010 Tax Act create huge opportunities. Sales to a grantor trust are a great opportunity. In a low interest environment it may be a time and place to consider forgiveness of loans. Charitable lead trusts work great in this environment and should be reviewed. 7th inning stretch get a beer and run back.
◙ 8th Inning Post-Death Elections: 6166 election is a great opportunity for clients with real estate or their own businesses. You have to work hard sometimes to get an estate into a structure to qualify to defer estate tax for 14 years. Qualifying also permits paying interest at a low rate of 45% of the then applicable IRS interest rate, although without an estate tax or an income tax deduction for the interest paid. It is a way to avoid the fire sale on family businesses or real estate. Section 303 redemptions, disclaimers, and even going to court to reform a will or trust, are all important to consider. Election of fiscal years for estates (not trusts) may provide another opportunity.
◙ 9th Inning Top Domestic Partners: New York will hopefully pass a gay marriage act. This is a developing area of the law with fascinating issues. Same sex divorce is a developing area. Domestic partners won’t qualify for joint federal income tax returns, the estate tax marital deduction and so on, because of DOMA. The Federal government said it won’t pursue DOMA so this raises even more issues. Few states recognize same sex marriages. New Hampshire/Vermont recognize a marital deduction for domestic partners for state estate tax purposes. Caution is in order. It’s harder to get out of a marriage then to get out of a non-marital relationship so making a transfer to take advantage of the current $5M gift exemption – you need to think about. Family members are often not happy about the relationships and the likelihood of will contests and litigation is significantly greater than for married couples.
◙ 9th Inning Bottom* Internet Age: Estate internet issues are about as cutting edge as you can get. When you gave someone rights in your book does it include electronic rights? When you interview a client for an estate plan do you ask them for access codes for computers? Do you know what to do with it? Your client’s life is in a machine and you may not get access to it. What is the value of intellectual property? Transferability of it is also an issue. *Yeah we needed the bottom of the 9th so readers could experience a walk off win with Sandy’s exciting planning ideas.
Checklist: Second Article 2 lines less than One Page [about 54 lines]:
Checklist Article Title: I DIG IT Divorce
Summary: IDIGT (pronounced: “I dig it”) is another wonderful tax acronym for an Intentionally Defective Irrevocable Grantor Trust. Selling assets to an irrevocable trust has become the fav leisure activity of the ultra-wealthy, not only cause it makes great talk on the links, but it can provide an incredible array of tax and asset protection benefits. But rather than extol the benefits of this technique, let’s look at what happens when Jr. gets divorced and Jr.’s ex wants to Dig It too.
√ Fiduciaries. Who are the fiduciaries of the trust? Some IDIGTs are structured with an institutional trustee. That’s a good thing. Others have a family member, some have both a family member and institution. But many parents insist on naming Jr. as a fiduciary of his own trust. The ex will carefully evaluate what powers Jr. has in endeavoring to share in the IDIGT nectar. If Jr. is an investment adviser making investment decisions that might not provide much of a toe hold. But what if Jr. were a trustee and had broader powers? Might that open the door? What if Jr. were given the power to distribute to himself? Would that open the proverbial barn door to the Ex?
√ Distribution Standards. What distributions standards does the trust agreement provide? Having an independent institutional trustee with sole discretion to make distributions might be best. How could a court force an institution to make a distribution to Jr. to fund divorce obligations when the trust agreement itself doesn’t obligate the institutional trustee to do anything? On the other end of the rainbow many clients proceed AMA (not against medical advice, Against My lawyer’s Advice) and insist that the trust give Jr. the right to distribute to himself pursuant to an ascertainable standard (to make payments or distributions to maintain his lifestyle). Ouch! Might the Ex get her toe in that door? After all if Jr. can maintain his lifestyle from the trust, shouldn’t that lifestyle include paying for his Ex? Safer trusts continue for life or in perpetuity. But many benefactors liken that to controlling from the grave and prefer to pay out the trust to Jr. at some specified age. According to Murphy’s Law that distribution birthday is usually just prior to the Ex filing so she might end up getting some of Jr.’s trust birthday presents.
√ Actual Distributions. What distributions have actually been made? Yes, odd for tax folks to actually consider reality, but what exactly has that trust been paying for? Shocking as it might seem some trusts, especially when Uncle Joe or Aunt Jane are a trustee, pay for stuff the trust instrument just never authorized. Gee, might the Ex ask for the trust check register and bank statements and demonstrate that the Trust has basically been making regular distributions to Jr. for a decade to support his ne’er-do-well habits? Might a court consider that a pattern that it will use to justify a result that is more supportive to Ex that Jr. and his family might have anticipated?
√ Look Under the Hood. Well what does that IDIGT own anyhow? In many cases mom sells interests in the family business or real estate LLCs to the trust (ya know, after having an appraiser confirm the 80% discount and all that other fun stuff). What does that have to do with divorce? What does the operating agreement for the LLC provide for? Some operating agreements mandate certain minimum distributions. This might be done to qualify gifts of LLC interests for the annual gift tax exclusion. Others might contain a mandated distribution requirement pegged to the approximate state and federal income tax rate of the members to avoid phantom income. This is when a member might have to report income on her tax return but not get a cash distribution that is even sufficient to pay the tax. This type of clause is often negotiated by unrelated minority partners. If the operating agreement mandates distributions and there is a history of cash flow (e.g., rental stream) might that create a different result for the Ex’s attack? Contrast that with an operating agreement that has no requirements for distributions and has harsh restrictions on transferability. If cash flow has to end up in the trust then Jr. may loose the belt and have to rely only on his trust suspenders (yes, Brooks Brothers sells them in plaid). If the trust has some of the cracks in its armor described above, that could be trouble for Jr.’s matrimonial negotiations.
√ Really Look Under the Hood. Well what does that LLC actually do? What does the tax return and financial data for the LLC show? Does Jr. have a car, cell phone, travel and entertainment and other goodies run through the LLCs books? Might that discovery enable the Ex to torpedo the entire structure on the basis that Jr. was using and abusing it all? What about compensation? Might Jr. have taken no compensation from the family Widget LLC and instead let all profits flow through the LLC to the trust in an attempt to characterize all economic benefits as passive return on immune assets? Might the court believe that Jr. should have been paid a fair wage from the LLC for running the Widget business? Might that fair wage look like something that should be considered for alimony and child support?
√ Smell Test. Tax courts love applying what is really a smell test (but of course disguised in more sophisticated garb). Might a matrimonial court apply a smell test to Jr.’s trust? If Jr. and all involved with the trust disregarded all the formalities might the Ex increase the likelihood of piercing the entire structure trust, LLCs and all? Say Jr. was named manager and operated the LLC but ignored many LLC formalities (undocumented loans, personal expenses, etc.), and this was coupled with a trust that was not operated in conformity with the governing legal documents (did not pay the note pursuant to its terms from the family business it purchased, did not issue Crummey powers if required, had a blank Schedule A, did not have appropriate documentation for the purchase of assets), and so forth. What quantum of disregard would persuade a court to dismiss the shield the structure might otherwise provide against the Ex? After all, if Jr. and the other fiduciaries disregarded many or even most formalities, why should the court respect the entities as against the Ex if Jr. himself did not respect them?
Conclusion: Not all IDIGTs were created equal, and certainly not all are operated like the pristine trusts and LLCs of textbook case studies. Depending on the terms of the governing instruments (trust, underlying entity, sale documents and more) and the actuality of how the entire structure was operated, there will be a wide range of potential divorce consequences to such structures. While the intent of many such plans is to protect assets from a child or other heir’s future divorce, the effectiveness of the structure will depend on the details of the documents and operation. The devil truly is in the details, especially in a divorce challenge to an IDIGT.
Recent Developments Article 1/3 Page [about 18 lines]:
■ Florida amended its power of attorney law. Since most folks living in high tax decoupled states (e.g. NY, NJ…) claim to live in Florida this change in law will affect more than just Floridians.
■ Powers must be signed by the principal and by two subscribing witnesses and be acknowledged by the principal before a notary public. 709.2105. Powers signed before 10/1/11 will be grandfathered. A power executed in another state which does not comply with the new Florida execution requirements is valid if, when the power of attorney was executed, it complied with the law of the state of execution. A third person who is requested to accept such a power may in good faith request, and rely upon, without further investigation, an opinion of counsel as to any matter of law concerning the power of attorney. 709.2106. Might this mean that any bank or person in Florida asked to accept a power prepared in, for example NY, will only do so if they are provided a legal opinion that the power was valid in NY? Yep. Might that make the cost and time delays of using a NY power in Florida significant. Yep. Does that mean that if you’re a New Yorker wintering in Florida you might want to have a Florida compliant power just in case of an emergency? Yep.
■ Powers signed on or after Oct. 1, 2011 may not be contingent on some future event (e.g., incapacity of the maker). Powers signed prior to 10/1/11 are grandfathered but catch this: a springing power (conditioned on the principal’s lack of capacity) is only exercisable upon delivery of an affidavit of a physician that must state: (1) the physician is licensed to practice under chapter 458/459 (what’s that mean to a NY doc?); (2) the physician is the “primary physician who has responsibility for the treatment and care of the principal”; and (3) the principal lacks “the capacity to manage property.” 709.2108. What doc will be comfortable signing that? How much time will this take? When a Yankee fan hangs out in Marlin territory they might want to get a Florida power to avoid this.
■ See Chapter 709, Florida Statutes, ss. 709.2101–709.2402. Thanks to Benjamin P. Shenkman, Esq. Wellington, FL.
Potpourri ½ Page:
■Have Your Tax Cake and Eat it Too. So you want to fund a $5M bypass trust on the first death to maximize GST benefits and growth outside your estate. But you live in a state that has decoupled from the federal estate tax and which only has a $1M exemption. So it would cost nearly $400,000 to fully fund the bypass trust. Is there a better option? If the surviving spouse can use the exemption from the deceased spouse to protect an inter-vivos gift, this may provide a valuable cure to an outdated will. The surviving spouse could choose not to disclaim into a less then optimal bypass trust and then to simply gift the assets, protected by the same exemption that would have protected the bypass trust from estate tax, and then gift to a new trust formed to meet the current planning objectives. This may also provide a practical solution to fully funding a trust without triggering state estate tax in a decoupled estate on the first spouse’s death. Few states that have decoupled have a gift tax. So rather than fund a bypass trust on the first spouse’s death that might require the payment of a state estate tax, the surviving spouse should endeavor to inherit outright and then immediately gift the assets to a newly formed inter-vivos trust. However, the deceased spouse runs the risk that the surviving spouse will not make the intended gift but instead make a different disposition of the inherited assets. But hey, that’s what makes reality shows exciting!
Back Page Announcements:
Seminars: PLIs 42nd Annual Estate Planning Institute September 12 and 13, 2011 in NYC and New Brunswick, NJ and via webcast. Contact Meghan C. Forgione, Esq. via Email email@example.com or call 212.824.5839 for info. The program will cover in depth each of the topics in the lead article and more.
Freebies: Thanks to Neil Mendelowitz, Rich Greenberg and Pam Benson for their baseball consultations – they had a tough job all, but they pulled through.
Save to Y:\ARTICLES\FIRMNEWS\MONTHYEAR\MONTHYEAR#.DOC
Schlesinger on PLI 42nd Estate Planning Institute
I DIG IT Divorce
Florida amended its power of attorney law
Have Your Tax Cake and Eat it Too
Schlesinger on PLI 42nd Estate Planning Institute
- Who wouldn’t want to watch CC Sabathia in action! Well, we were able to catch up with Sandy Schlesinger, Esq in the estate planning bullpen and asked him to pitch a few planning pointers that will be discussed in depth at the upcoming Practicing Law Institute’s 42nd Estate Planning Institute. So get your beer and peanuts and enjoy the 9 inning estate planning extravaganza.