Basic Planning Techniques

Question 1

Typical objective for marital planning:

Answer 1

no tax at first spouses death; minimize or eliminate tax that surviving spouses death. Regardless of the size of the estate.

Question 2

Traditional use of both spouses “available exemption”:

Answer 2

Ensure that each spouse has sufficient assets to fully use respective applicable exclusion amounts:
Wealthier spouse could make gifts to other spouse whether outright or by QTIP Trust
The less wealthy spouse could own life insurance on their own life.
The wealthier spouse’s will or revocable trust could utilize estate Equalization techniques.

Also want to minimize tax upon the death of the second spouse.

Question 3

Take advantage of deceased spouse’s remaining applicable exclusion amount:

Answer 3

Testamentary or non probate gifts to or for the benefit of decendents. I.e. give up to 13 million to the kids.

Focus of this class: testamentary or nonprobate gifts and trust for benefit of surviving spouse and descendants that don’t qualify for marital deductions (eg a credit shelter Trust.)

Question 4

Credit shelter trust (bypass trusts) basic goals:

Answer 4

A Trust created at first spouse’s death, funded with desired amount of available exemption
No more than the available exemption amount.
The bypass trust can be estate tax, GST tax, and transfer tax free if you plan correctly!
The bypass trust is a spendthrift trust, not exposed to creditors. Also stops remarriage problems because the remainder goes to the kids and it is not community property. Divorce and creditor proof.

Question 5

Credit shelter trust (bypass trusts) HEMS standard

Answer 5

HEMS standard - Distributions are limited to the health education maintenance or support of the beneficiary.

This is an ascertainable standard so there is no discretion. Preferred and most likely used.

Surviving spouse can be a permissible beneficiary of income and/ or principal, typically limited by the HEMS standard.

We want the surviving spouse to live off of their 1/2 of the community. If it is a large enough trust, probably don’t even need anything out of the trust anyway.

Question 6

Credit shelter trust (bypass trusts) if spouse is a trustee

Answer 6

the HEMS standard must be used to limit the spouse/trustee’s discretion for their own benefit.

In Texas, the surviving spouse can be the trustee of Their Own trust. but if the surviving spouse is the trusty you must use the HEMS standard to get rid of discretion.

If the surviving spouse is not the trustee, then could use the HEMS standard or discretion.

Question 7

Credit shelter trust (bypass trusts) POA

Answer 7

The surviving spouse can be given a non-general power of appointment, or a general power limited by the HEMS standard.

A non general power of appointment means that the surviving spouse can appoint to anyone other than themselves.

Question 8

Credit shelter trust (bypass trusts) At the surviving spouse’s death

Answer 8

The trust terminates or continues for the remainder beneficiaries.

The remaining trust estate, regardless of the fair market value of the date of death, is excluded from the surviving spouse’s gross the state.

Question 9

Credit shelter trust (bypass trusts): Funding:

Answer 9

After satisfying specific and general devises to surviving spouse and others, amount of initial funding of the CST has been usually determined either by a formula or by a disclaimer of the surviving spouse.

Question 10

Credit shelter trust (bypass trusts): Taxes

Answer 10

Bottom line: no transfer tax at creation combined with the exclusion from the surviving spouse’s gross estate results in no transfer tax for the CST. Can be GST exempt through proper allocation of GST exemption.

Question 11

Credit shelter trust (bypass trust) used to satisfy legal obligation of support

Answer 11

Can also have CST benefit children and grandchildren during the spouse’s lifetime but in a manner that doesn’t satisfy parents legal obligation of support.
Like food, shelter, and clothing.

Question 12

Credit shelter trust (bypass trust): Basis:

Answer 12

Caution: Generally there is no Step Up in basis upon the death of the surviving spouse ( compare and contrast with the use of portability planning)

This is because it is excluded from the gross estate. Instead we value the amount at the first spouse’s date of death, but we would rather pay capital gains tax rather than a state tax because of the lower rates.

Question 13

Goal of marital estate planning? Defer estate tax at death of first spouse:

Answer 13

If the tax base exceeds available exemption amount, take advantage of marital deduction to reduce deceased spouses tax base to the amount of the available exemption.

A marital deduction devise can be an outright to the surviving spouse or in a QTIP Trust.

The most commonly used marital deduction trust is the QTIP Trust.

A common planning technology uses a pecuniary formula to fund the marital deduction devise as a general gift with sufficient value to reduce the deceased spouses tax base to the amount of the available exemption in the year of death.

Question 14

QTIP income requirement

Answer 14

The terms of this trust must mandate all income be paid to the surviving spouse.
Compare with bypass → permissible beneficiary of income

Question 15

QTIP principal requirement

Answer 15

The principal may be payable to the surviving spouse, but no other person can be a recipient of trust distributions during The spouse’s lifetime. typically, the HEMS standard is used for distributions of principal.

Key difference between QTIP and bypass! Only the surviving spouse can receive distributions during the spouse’s lifetime.

Question 16

QTIP remainder interest

Answer 16

At the surviving spouse’s death, the remainder typically passes to or for the benefit of the trust’s remainder beneficiaries.

Question 17

QTIP value at surviving spouse’s death

Answer 17

The value of the QTIP trust is included in the surviving spouse is gross estate.
Because you use the marital deduction to fund the QTIP, and marital deduction is a tax deference, not tax avoidance technique.

Question 18

QTIP basis:

Answer 18

Assets in the QTIP trust generally receive a step up in basis upon the death of the surviving spouse since it is included in the gross estate.

Question 19

QTIP for GST purposes:

Answer 19

The surviving spouse is usually the transferor for GST tax purposes.

Balance of the first spouse’s estate (available exemption amount) typically passes to or for the benefit of the children and grandchildren, or to a bypass trust, free of estate tax and GST tax.

Question 20

QTIP POA

Answer 20

The surviving spouse can have testamentary power of appointment, non-general power only.

Question 21

QTIP who can be a trustee?

Answer 21

If permissible and advisable under state law, the surviving spouse can be the trustee. Like Texas.

Question 22

Alternatives to formula funding:
Disclaiming

Answer 22

Another technique is to leave the entire estate of the first spouse to die to the surviving spouse you can then disclaim the available exemption amount into a trust similar to the CST (but the surviving spouse cannot have a power of appointment)

The disclaimer approach places the surviving spouse in the role of the decision maker after the first spouse’s death. The partial QTIP election approach can give the choice of funding to someone other than the surviving spouse, the executor chosen by the first spouse to die.

Question 23

Alternatives to formula funding: reciprocal wills

Answer 23

Reciprical wills (mirror image wills i.e. all to my spouse unless they predecease me then to our kids) with bypass and QTIP.

Most popular approach

Question 24

Which assets should you put in a Bypass vs QTIP?

Answer 24

Want to choose those assets that appreciate for the bypass because tax free to the beneficiary, unlike QTIP trust where the surviving spouse will have to include the value of the trust in their gross estate at the date of death.

Question 25

Formula planning and non-probate assets:

Answer 25

Non-probate assets reduce the amount of the bypass trust because taken out of the exemption amount! Bypass gets the available exemption amount, not always the whole $13 million.

Question 26

Basic planning for descendants

Answer 26

Obviously no marital deduction. Can create a bypass trust, but no QTIP trust.
If bypass is full up to the exemption, then going to have estate tax because no marital deduction for the rest.

Question 27

Rules for bypass trusts when descendant beneficiaries

Answer 27

The bypass trust for a descendent (kids or grandchildren) or significant other who is not a spouse is exactly the same rules as spouse!!

Question 28

Common Lifetime Planning Techniques: To be used during parent’s lifetime –> annual exclusion amounts

Answer 28

Take advantage of any unused annual exclusion you may have this year. The annual exclusion is currently $17,000 per donor, per donee, per year.
The gift itself and its future income and appreciation are removed from the tax base.

To use the annual exclusion, the beneficiary must have a present interest in the gift, meaning the gifts in trust are not generally considered a present interest. EXCEPTIONS: 2503(c) Trust and Crummey Trust

Question 29

2503(c) Trust

Answer 29

Statutory IRC exclusion. Rarely used because of its limitations because it must terminate when the beneficiary reaches age 21. We often want to plan on gifts to the trust for the rest of the donor’s life, so this trust doesn’t work very well. The statute also says that if the beneficiary dies before 21, it must go to the beneficiaries heirs.

Question 30

Crummey Trust:

Answer 30

The settlor gives the beneficiary of the trust a present interest by giving the beneficiary a general inter vivos power of appointment.
Every year the donor will make a gift to the trust for the maximum amount of the annual exclusion.
The power of appointment gives the beneficiary a right of withdrawal for the gift amount.
The trust will be spendthrift protected under Texas statue, unless the beneficiary exercises the power of withdrawal.
The trustee must notify the beneficiary that there has been a gift and that they have the power to withdraw, but the parent will likely tell them not to or else they will stop giving the gifts.
Technically under the law, the beneficiary must have a reasonable opportunity to withdraw.

Question 31

Pros and Cons of inter vivos gifts (vs devises)

Answer 31

Pros:
Valued at date of gift not DOD so better for appreciating property.
If only including the amount of the annual exclusion, it is not a taxable gift, so it is not included in the post 1976 gifts.

Con:
Transferred basis instead of step up in basis. Basis is what was put into the trust, so will have to pay capital gains taxes.

Question 32

Common Lifetime Planning Techniques: To be used during parent’s lifetime –> Use the $12 million plus gift tax exemption:

Answer 32

Over and above the annual exclusion they can start taking advantage of the exemption amount while still alive.
Only future income and appreciation is removed from the tax base (because value on date of gift included)
Gifts can be added to a crummey trust for beneficiary or in a separate APT.

So long as you stay below the exemption amount, you would avoid gift tax.

We want to give away during the lifetime those assets that are most likely to appreciate –> ILIT for insurance

Question 33

Common Lifetime Planning Techniques: To be used during parent’s lifetime –> Gifts in Trust:

Answer 33

These trusts must be irrevocable.
Here, going above the exemption amount to triggered gift tax liability. Effectively prepaying estate tax. Only really sophisticated clients will do this.

Crummy Trust are usually used as the Safe Harbor approach. Income and Principle as needed limited by HEMS.

Non tax advantages of these trust can include creditor and divorce protection depending on State law.

Question 34

What if you don’t think the client will have to pay estate tax?

Answer 34

If you don’t think you’ll have to pay estate tax, then the client might as well keep everything so that there is a step up in basis.

Question 35

What is a family limited partnership:

Answer 35

A family limited partnership is not a different type of business organization. Rather, it is often used to describe a limited partnership where most or all of the general partners and limited partners are related to each other.

Generally the Parent is the GP and the APT is the LP.

Question 36

Benefits of a Family limited partnership?

Answer 36

(1) Centralization of Management
(2) Facilitating Intra-Family Transfers
(3) MAIN ONE: Discounts. the FLP interests owned or transferred by a family member are valued at less than the underlying assets would be valued if the partnership did not exist, potentially saving gift and estate taxes.
(4) Avoiding family disputes

Question 37

What factors can reduce the amount of gift and estate taxes payable (discount for FLP)

Answer 37

Assets are valued for gift and estate tax purposes at their fair market value – what a willing buyer would pay a willing seller for those assets. FLPs typically have restrictions on their transferability. For example, transfers to non-family members may be prohibited unless other family members agree. Also, there may be a smaller number of persons interested in buying limited partnership interests than there would be for the underlying assets.

Question 38

What is the main drawback of FLPs?

Answer 38

Tax scrutiny – The IRS scrutinizes FLPs for estate and gift tax purposes because it does not like the discounts many FLPs receive.