Lifetime Gifts to Adults

Question 1

How does IN law define a “gift”?

Answer 1

A gift is a voluntary transfer of property from one person to another without consideration. If the donee pays consideration to the donor in an amount less than the full value of the property transferred, the transaction is a gift to the extent of the shortfall (value of property minus consideration received by the donor).

Question 2

What are the 5 elements for a valid gift under IN law?

Answer 2

(1) a donor who has the capacity to contract and therefore the capacity to have and act upon donative intent;
(2) voluntariness or “freedom of will” of the donor;
(3) delivery of the money or property by the donor and ACCEPTANCE by the donee;
(4) immediate and absolute effectiveness of the gift; and
(5) completion of the gift with nothing left undone.

See Zorich v. Zorich, 119 Ind.App. 547, 88 N.E.2d 694 (1949).

Question 3

Does a statement of intention to make a gift in the future qualify as a “gift” under IN law?

Answer 3

The third and fifth elements (delivery and completeness) are crucial, and a gift that is not completed is an attempted gift, not a gift. (Giving car title and keys may work, but failure to deliver other TPP will not be a gift.)

Question 4

What is a gift for federal gift tax purposes?

Answer 4

A gift is defined as a COMPLETED and IRREVOCABLE transfer of property for less than full and adequate consideration. The transfer is completed when the donor relinquishes all dominion and control over the property and retains no legal right or economic benefit in the property. If a transferor retains the power to revoke a gift or to change the disposition of the property, the gift is generally considered to be incomplete.

Question 5

Is a “future interest” subject to gift tax?

Answer 5

Yes, the present value of that completed gift.

Question 6

Can a gift of a “future interest” be eligible for treatment as an annual exclusion gift?

Answer 6

No, to be eligible for treatment as an annual exclusion gift, the gift must be of a “present interest”.

Question 7

What is a present interest?

Answer 7

An unrestricted right to the immediate use, possession, or enjoyment of property or the income from property (such as a life estate or term certain).

Question 8

What is a future interest?

Answer 8

A legal term (that) includes reversions, remainders, and
other interests or estates, whether vested or contingent, and whether or not supported by a particular interest or estate, which are limited to commence in use, possession, or enjoyment at some future date or time. The term has NO reference to such contractual rights as exist in a bond, note (though bearing no interest until maturity), or in a policy of life insurance, the obligations of which are to be discharged by payments in the future

Question 9

What three elements constitute a substantial present

economic benefit? (In context of LLC shares gifted)

Answer 9

The donee should be able to unilaterally (1) withdraw his or her capital account, (2) transfer or sell his or her interest to a third party, or (3) receive ascertainable income.

Question 10

What exclusions and deductions apply to the Federal gift tax?

Answer 10

1) Annual per-donee exclusions;
2) Additional exclusions for 2503e for school tuition paid by the donor directly to the educational institution
on behalf of the donee or medical expenses (including many types of health insurance premiums) paid directly by the donor to the health care provider or insurer;
3) the gift tax charitable and marital deductions under Code sections 2522 and 2523.

Question 11

A non-US Spouse does not get a marital deduction. What is the deduction?

Answer 11

If a donee spouse is not a citizen of the United States, no marital deduction is allowed; however, up to $159,000 (for 2021) in present interest gifts may be made to a non-citizen spouse.

Question 12

What is the valuation date for gift tax purposes?

Answer 12

The date for valuation of a gift is the date that the gift transfer is complete. I.R.C. § 2512(a).

Question 13

What is an incomplete gift?

Answer 13

A gift that could come back to the donor because of a retained interest, either a reversion or a limited power of appointment, etc. Will result in the gift being included in the estate of the donor.

Question 14

What is a completed gift?

Answer 14

A completed gift transfers the gift irreversibly to the donee, gives the donee the tax basis of the donor (transfer basis/carry-over basis).

Question 15

End of year checks for cash gifts: when is the gift considered complete for gift tax purposes?

Answer 15

If the gift is a charitable gift, it’s sufficient if the donor mails the checks on or before 12/31; doesn’t matter how long it takes to clear.

But if the gift is non-charitable, the check must be unconditionally delivered on or before 12/31 AND the donee cashes or deposits or presents for deposit within a reasonable time AND the bank promptly pays the check upon being presented and while the donor is alive.

Question 16

What gift tax exclusions are available?

Answer 16

1. Annual exclusion of $15,000; 2503(b)
2. School tuition paid directly to the school or medical expenses paid directly to the health care provider or insurer. 2503(e)
3. Charitable and marital deductions under 2522 and 2523.

Question 17

What is gift splitting between spouses?

Answer 17

For a gift made by a donor to a third party, the donor and his or her spouse may elect to treat the gift as if each spouse made one-half (1/2) of the gift.

To make such an election, the spouses must file a Form 709 Gift Tax Return and indicate their desire to split gifts.

Such election also requires the spouses to allocate the use of any lifetime applicable exclusion amount equally between each of them.

Question 18

How do spouses effectuate gift splitting on the 709 return?

Answer 18

Must file 709 gift tax return. The consenting spouse signs about half way down on page one after checking a box saying elect to split gifts.

Question 19

What is the potential risk of spousal gift splitting if one spouse is more aggressive in gifting techniques than the other?

Answer 19

The election is effective for all gifts made by either
spouse during the taxable year; a gift-splitting election cannot be made on a gift-by-gift basis.

If there a gift tax audit later, it will be made against both members of the couple and both will be jointly and severely liable. A consenting spouse may have not been up for that. The surviving spouse could be on the hook for entire balance if one dies.

Question 20

What is the valuation date for a gift?

Answer 20

the date that the gift transfer is complete.

I.R.C. § 2512(a)

Question 21

What is the fair market value?

Answer 21

the price at which such property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or to
sell, and both having reasonable knowledge of relevant facts.

Question 22

How is FMV determined for closely-held business interests?

Answer 22

The fair market value of ownership interests in a closely-held business depends on the facts and circumstances.

Several valuation factors listed by the IRS may be considered in the absence of market quotes, including a minority interest discount, discount for lack of marketability, brokerage discount, and control premium.

Question 23

What are issues commonly in dispute b/n donor and IRS in determining FMV for closely-held business interests?

Answer 23

1. Gift on formation. Whether the formation of the closely-held entity triggered a gift even before the donor gave away the interest in the entity.
2. Business purpose? Whether the formation and operation of the entity had a significant and legitimate BUSINESS purpose that can be separated from the donor’s interest to avoid gift or estate tax. Generally, need to show significant and legitimate non-tax, business purpose.
3. Appropriateness of Discounting. Amounts of valuation discounts for lack of control (minority interests) and for lack of marketability.

Question 24

What are “tax-affecting” valuations of interests in pass-through entities (LLC or S Corp)?

Answer 24

Valuing a pass-through entity (such an S corporation or a multiple-member LLC taxed as a partnership has always presented conceptual and practical challenges, because many of the comparable businesses used by
appraisers are C corporations, and because anyone thinking of buying stock in an S corporation will regard the after-tax earnings stream as important.

Courts are starting to accept “tax-affect” valuations
of S corporation stock, where the appraiser applies a hypothetical combined income tax rate as one step in the process of producing a stream of cash flows to be DISCOUNTED to a present value. [Essentially, try to apply a c corp tax rate to the pass-through s corp for valuations, so that the value is not overstated by failure to account for taxes that owner will pay]

Question 25

What is a “defined value clause”?

Answer 25

These are clauses that require an adjustment in the amount of property transferred if it is determined by a final judgment of a court or the IRS that any part of
the transfer is subject to gift tax.

Dible uses these in installment sales of closely-held business to Irrevocable grantor trusts (IGT).

Question 26

What is the Wandry formula for “defined value clause”s?

Answer 26

(1) the value of the gift made is a fixed, stated amount,
(2) the clause may state a tentative or provisional number of shares or units that are being sold, BUT
(3) the clause defines the number of shares or units sold to the IGT as that number of shares or units whose fair market value, as finally determined for federal gift tax purposes, equals $— dollars [the stated total purchase price].

Question 27

What is the effect of the Wandry formula of “defined value clause”

Answer 27

If the IRS successfully challenges the valuation of the shares or units sold and establishes that the provisional or tentative number of units sold actually had a higher fair market value on the date of the sale, the transaction does not get transformed into a part-sale, part gift. Instead, the number of shares or units sold is redefined to be a lower number, so that the original total price set is still the price, but the number of shares or units sold is equal to that price, and at a higher price per share or per unit.

Question 28

What is a “bargain sale”?

Answer 28

A bargain sale when the purchase price is less than FMV. Part sale, part gift. The gift is the shortfall. It is reportable, taxable gifts.

Question 29

When can indirect gifts occur even if there was no intention to make a gift?

Answer 29

1. Settlement of trust and estate disputes b/n multiple family members AND they consent AND some gain and others give up. IRS, in audit, could call it a gift OR a sale subject to income tax.
2. Consent to trust decanting, unless the decanting only had administrative changes and no changes to beneficial interests.
3. If doing NJSAs or court-approved settlement, be careful NOT to say there are NO tax consequences tto the terms of settlement.

Question 30

Who is a “skip” person for GST tax?

Answer 30

a) Lineal descendants of a donor’s grandparents or lineal descendants of the grandparents of a donor’s spouse (or former spouse) who are two (2) or more generations removed from the donor;
b) Any person who is not a lineal family member and is more than thirty-seven and one-half (37 1/2) years younger than a donor;
c) A trust of which all of the present interests are held by skip persons; or
d) A trust of which no person holds a present interest and, at any time after the gift, only skip persons would ever be eligible to receive a distribution.

Question 31

What are the three types of GST skips?

Answer 31

a) A direct skip, which is a gift directly to a skip person;
b) A distribution of property to a skip person from a trust that is not itself defined as a skip person;

c) The termination of a present interest in a non-skip person trust that results in a present interest exclusively for a skip person.
I.R.C. § 2612.

Question 32

What are the gift tax consequences of making a skip gift?

Answer 32

If an individual makes a taxable gift that is a generation skipping transfer (such as a direct skip gift outright or in trust to a skip person), that gift will use up both part of the individual’s lifetime exclusion amount under section 2010 and part of the individual’s lifetime GST exemption under section 2631.

Question 33

What are concerns with gifts of closely-held business interests?

Answer 33

Bad facts, such as:

1. Making transfer on death bed;
2. Using the business as a personal piggy bank. Don’t put personal residence in LLC; don’t use it for personal expenses.

Question 34

What is a general power of appointment?

Answer 34

A general power of appointment is defined as a power exercisable in favor of the powerholder, the
powerholder’s estate, the powerholder’s creditors,
or the creditors of the powerholder’s estate. I.R.C. § 2514(c)

Question 35

What is the gift tax consequence of an exercise of a general power of appointment?

Answer 35

The exercise of a general power of appointment by a powerholder for the benefit of a person other than the powerholder, or the lapse of a general power of appointment, is generally treated as a transfer of property for gift tax purposes. I.R.C. § 2514(b).

Question 36

What is the “5 and 5” exception for lapse of power of appointment?

Answer 36

The “5 and 5” exception provides that the lapse of a general power of appointment is not a taxable gift if the value of the property affected by the lapse during a calendar year does not exceed the greater of Five
Thousand Dollars ($5,000) or five percent (5%) of the total value of the property subject to the general power. I.R.C. § 2514(e).

Question 37

What is the purpose of the ILIT?

Answer 37

To have someone who is not the insured own the policy. You have the ILIT own the policy. (Remember 3 year look back to pull back in if transfer existing L/I.)

Remember “incidents of ownership” does NOT ONLY include payment of premiums.
incidents of ownership include the power to change the beneficiary, to surrender or cancel the policy, to assign the policy, to revoke an assignment, to pledge the policy for a loan, or to obtain from the insurer a loan against the cash surrender value of the policyIf low-cost premium, don’t even need crummey power, the client

can gift directly to the ILIT and use annual exclusion if more exclusion not needed - no need for Crummey notice in those cases

Question 38

What is a QPRT?

Answer 38

A Qualified Personal Residence Trust. (Bad to use for during low interest times b/c Present Value of remainder interest will be greater - more gift tax to pay)

A grantor may transfer a personal residence (the grantor’s principle residence or vacation residence) to a qualified personal residence trust, retaining the right to use the property as a personal residence for a term of years, and gifting the property to a remainder beneficiary after the expiration of such term.

For federal gift tax purposes, the value of the gift is the present value of the remainder interest at the time of the initial transfer to the QPRT. Each taxpayer is limited to creating a maximum of two (2) QPRTs at any given time and, if he or she creates two (2) QPRTs, one must be for the grantor’s principal residence. Therefore, married couples who share the same principal residence may transfer three (3) residences to QPRTS (e.g. the spouses may transfer their principal residence to a QPRT, and each spouse may also transfer a vacation residence to a QPRT.)

Question 39

What is a GRAT?

Answer 39

Grantor Retained Annuity Trust (2701 & 2702)

Low interest rate is helpful with a GRAT - trying to beat the federal rate and pass more gain to beneficiaries tax free.

A grantor may transfer appreciated property to a GRAT, retaining an irrevocable right to receive fixed annuity payments for life or for a term of years and gifting
any remaining property to the trust beneficiaries after the expiration of the term.

After the initial funding of the trust, additional contributions are prohibited.

For federal gift tax purposes, the value of the gift to the remainder beneficiaries is the present value of the remainder interest at the time of the initial transfer to the GRAT.

As it is a future interest and not a completed gift, no annual gift tax exclusion available.

The grantor (not the trust) pays income tax on the annuity income and capital gains.

Question 40

What is a zeroed-out or Walton GRAT?

Answer 40

It is possible to structure annuity payments to zero-out any gift tax liability, so that the calculated present value of the remainder interest is nearly zero.

The lower that the section 7520 discount rate is (in Nov 2021, it is 1.40 percent), the more likely it is that the assets given to the GRAT will earn a total
return inside the GRAT (from growth in market value and income generated) that exceeds the section 7520 rate. This means that there will be assets left in the
GRAT, at the end of the term, for distribution to the remainder beneficiaries.

Essentially, the GRAT shelters the growth in the value of the GRAT assets from the estate tax if the grantor survives the end of the term.

Question 41

What is a IDGT?

Answer 41

Intentionally Defective Grantor Trust

The installment sale of assets to an IDGT (also called an irrevocable grantor trust) is another estate freezing technique in which appreciating property is sold to the IDGT in exchange for an installment promissory note, where the note states a fixed interest rate and “freezes” the selling price at the time of the sale.

The grantor or settlor who creates the IDGT typically funds it with a “seed gift” of cash or other liquid assets, generally in an amount not less than 10 percent (20 percent is better) of the total value of the assets that the settlor will later sell to the IDGT. After decent time interval has passed (at least 30 to 60 days – more is better) following the seed gift, the settlor makes the installment sale of some appreciating asset(s) to the IDGT. The sale is structured as a bona fide sale for a price equal to the full fair market value of the assets sold.

The word “defective” in “Intentionally Defective Grantor Trust” is a misnomer: The trust is structured so that gifts to the trust are completed gifts for gift and estate tax purposes, but so that the entire trust is a “grantor trust” owned by the settlor for income tax purposes, and this is not really a “defect.” Because the trust is a grantor trust and is the alter ego of the settlor, the settlor’s installment sale of the appreciating assets to the trust is not a “sale” for income tax purposes and deoes not create any reportable gain or loss.

Future appreciation or growth in value of the property sold to the IDGT is removed from the estate of the settlor and seller for estate tax purposes and accrues for the ultimate benefit of the trust beneficiaries. Unlike with a GRAT, the settlor’s lifetime GST exemption may be allocated to the seed gift to the IDGT
at the time of its creation, to the extent that any of the trust beneficiaries are grandchildren or more remote descendants of the seller.

Could structure as a SLAT - client’s spouse is beneficiary.

Question 42

What types of assets are good for GRATs?

Answer 42

High basis, high appreciation assets (or an asset that has had a decline in value but likely to go back up)

Do NOT use GST allocation with GRATs

Question 43

What happens if the grantor fails to survive the GRAT trust term?

Answer 43

the lesser of (i) the GRAT assets at the date of death; or (ii) the amount necessary to yield the remaining annuity will be pulled into Grantor’s estate.