When Estate Planning Goes Bad: An Introduction to Estate and Fiduciary Litigation

The vast majority of estate plans work exactly as they are intended to-assets are administered and distributed in the manner outlined by the creator of the estate plan to benefit their chosen beneficiaries.  But, for the estate plans that fail to achieve their creators’ goals, the plan’s failure may not be the only negative consequence.  Depending on the reasons and severity of the failure, an estate or fiduciary litigation matter may be commenced.

Estate and fiduciary litigation is a broad category that includes all litigation matters related to estates and trusts brought in the New York Surrogate’s Court.  Each county of New York (including each of the five boroughs) has a Surrogate’s Court that handles the administration of its residents’ estates and trusts as well as any litigation related thereto.  Unlike traditional civil litigation, litigation in the Surrogate’s Court is guided by two estate and trust specific statutes, the Estates Powers and Trust Law (E.P.T.L.) and the Surrogate’s Court Procedure Act (SCPA).

Among the common forms of estate litigation are the following:

Will Contests-If an interested party does not believe that a will submitted for probate accurately reflects a Decedent’s wishes and intentions, he or she may contest the will’s validity.  The two most common objections to a will’s validity are that the Decedent lacked testamentary capacity or that the Decedent was unduly influenced by another party.

Testamentary capacity is presumed unless a challenging party can establish that the Decedent, at the time the Will was executed, was unaware of certain information.  This includes the extent and value of his or her property; who the natural beneficiaries of his or her estate were; what the disposition under the Will being offered was; and how these elements combine to form a plan for distribution. If the challenging party can show that the Decedent lacked one or more of these elements, the offering party will be forced to rebut the presumption of incapacity.

Establishing that a party was unduly influenced requires that the challenging party show that the Decedent was controlled or dominated by a relative or advisor to the specific benefit of that relative or advisor.  It is also necessary to show that the Decedent would not have made the dispositions he or she made without the influence of that advisor or relative.  If the advisor or relative uses their influence to benefit another rather than themselves, a claim for fraud may also be made.

Construction Proceedings-If a will or trust is drafted in a manner that makes the disposition of property unclear, the court may be asked to interpret the document and decide how property will pass.  This type of proceeding may be sought when the assets of an estate are insufficient to make all the required bequests and the fiduciaries and beneficiaries cannot agree on how to distribute the remaining property.

In making its determination, the Court will look to the document first and determine if the Testator or Grantor’s intention can be determined.  If it cannot be determined by the document alone, the parties seeking a specific construction will be required to submit evidence that establishes what the Testator or Grantor’s intent was when executing the document in question.

Contested Accountings-All fiduciaries are required to periodically account for their actions as a fiduciary and provide a statement of what assets were collected and disbursed from an estate or trust.  An accounting is often filed with the Surrogate’s Court as a way to obtain approval over a fiduciary’s actions.

If the beneficiaries of an estate or trust are unsatisfied with the fiduciaries’ actions, they may contest the accounting and seek sanction or removal of that fiduciary.   Objections include a failure of a fiduciary to prudently invest; a failure to properly marshal the assets; a failure to make adequate distributions; a fiduciary engaging in self-dealing; and other claims of misconduct.

Removal Proceedings-The information gathered during an accounting procedure may be used as a basis to seek the removal of a fiduciary.  In New York, the removal of a fiduciary is difficult to achieve and a clear showing of misconduct must be made.  Examples of conduct that may lead to removal include fraud; self-dealing (unless directly authorized by the will or trust instrument); gross mismanagement of the estate or trust funds; and failing to abide by court orders.

As with any form of litigation, estate and fiduciary litigation can be extremely costly.  But, unlike most civil litigation, the subject matters of these forms of litigation are exceedingly personal and achieving a “happy ending” for individuals and families becomes incredibly difficult.  The best solution is to ensure your estate planning is executed properly, your fiduciaries are selected with care and that your wishes are expressed as clearly as possible.  This may not guarantee that your family can avoid litigation, but it can dramatically reduce the chances that it will become a possibility.

Please contact info@levyestatelaw.com for more information.

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The President’s Budget and the Future of Estate Planning

Earlier this month, President Obama released his 2013 budget. Almost immediately following its release, it was declared “dead on arrival” by Republicans and pundits alike. In many ways, the President expected this and presented the budget to express his ideal approach to government spending and taxation. If the President is reelected in November, it is possible that he will push one or more of these proposals during his second term. It is especially worth noting with regard to how the estate, gift and GST tax systems may be structured in his second term.

While many of the proposals are repeats of the President’s previous proposals, the release of the budget was met with both hyperbole and apathy. To some, it expressed ”a war on the wealthy” while to others, it was ”same thing, different year”. Regardless of your opinion on the proposals, it’s important to recognize the possible changes to estate planning included in the budget. This includes:

Returning the Estate, Gift and GST Tax Exemptions and Rates to 2009 levels-Absent action before the end of the year, the Estate, Gift and GST Tax exemptions will reduce to $1 million and the top rate will increase to 55%. In the President’s budget, he has proposed returning the Estate and GST Tax exemptions to $3.5 million and the top rate to 45%. For the Gift Tax exemption, it would still be $1 million, but top rate would increase from the current 35% to 45%.

Reducing the use of valuation discount on family entities-Wealthy families often use family limited partnerships and family LLCs to pool their assets and allow for centralized management. An additional benefit has been the use of valuation discounts on individual interests in the family entity due to the partner or member lacking control over the underlying assets and being unable to sell their interests on the open market. The IRS has long contested these discounts and the President’s budget indicates his desire to continue pressuring planners to reduce or discontinue the use of these discounts.

Increasing the minimum term of Grantor Retained Annuity Trusts (GRATs) and the elimination of “zeroed out” GRATs-Estate Planners often utilize GRATs to transfer property that is expected to appreciate significantly from a senior family member to a junior family member without paying gift tax (known as a “zeroed out” GRAT). Using shorter term GRATs (a minimum term of two years must be used) have allowed their creators to avoid the risk of the transferred property ending up in their taxable estates. The proposals in the President’s budget would require a minimum term of a GRAT to ten years and would require the creator of the GRAT to make some form of a taxable gift at the time of the GRAT’s creation.

Limiting the term of a Dynasty Trust to 90 years-With many states amending or eliminating their Rules Against Perpetuities, a trust that continues over multiple generations known as a Dynasty Trust have become more popular. Because the assets of a Dynasty Trust remain in trust for multiple generations, the payment of estate taxes can be delayed potentially forever if the grantor the trust continues to have descendants. Under the President’s budget, a dynasty trust would terminate after 90 years and an estate tax would then be due on the assets of the trust.

Eliminate the Gift and Estate Tax benefits of a Grantor Trust-One of the newer proposals included in the budget involved altering the estate and gift tax treatment of grantor trusts. As I previously discussed in an an earlier post, a grantor trust’s income is taxed to the grantor of the trust rather than to the trust itself. Under the proposed changes, this favorable tax treatment for income tax purposes would cause the distributions from the trust and transfers to the trust to be considered taxable gifts. Additionally, when a grantor trust terminates due to the death of a grantor, the assets in the trust would be included in the grantor’s taxable estate.

Will any of these proposals eventually become law? That will depend in large part on the results of this year’s national election. Nevertheless, these proposals are a look into how the estate tax system may change next year if the President wins a second term.

Please contact info@levyestatelaw.com for more information about Estate and Gift Tax Planning.

A “Crummey” Way To Pay For College

The cost of a college education continues to increase at a dramatic rate.  A child born this year and who plans on attending a traditional four-year residential college can expect to pay $48,000 for a public university and $96,000 for a private university every year.  With such high costs to consider, many parents begin their college savings plans as soon as a child is born.

One of the most common types of college payments plans is a Section 529 Plan.  529 plans come in two forms, a savings plan and a prepaid tuition plan.  In New York, the state runs a savings plan, which allows each plan beneficiary to save up to $375,000 for college.  529 plans come with distinct advantages and disadvantages to both the donors and beneficiaries.

529 plans allow funds to grow on a tax-deferred basis and if the funds are used for qualified expenditures, they can be withdrawn tax-free.  In addition, because the donor controls the funds, a beneficiary cannot directly access the funds inside a 529 plan.  And while each individual beneficiary must have his or her own account, if one child fails use the entire account for qualified expenditures, it can be transferred to another child.

For those looking to fund education expenses, a 529 plan is not a suitable investment vehicle.  Expenditures that do not qualify as college expenses are subject to a penalty upon withdrawal.  Furthermore, 529 plans offer a limited selection of investment options to choose from.  And while a beneficiary cannot access the funds in a 529 plan, a donor’s control over the plan’s investment strategy is limited as well.

As an alternative to a 529 plan, parents and grandparents looking to save for their children and grandchildren’s education may wish to consider a Crummey Trust for Education.  Named after a case in which a parent created a trust for the benefit of his children, this type of trust is established to take advantage of the annual gift tax exclusion.  Each year, property is contributed to the trust up to the annual exclusion amount ($13,000 for an individual; $26,000 for a married couple).  For a short period of time, the beneficiaries are given the right to access the funds.  This allows the property to qualify as a present interest gift and be excluded from any gift tax.

When compared to a 529 plan, a Crummey Trust has several key advantages.  First, a Crummey Trust may invest in any type of investments allowed by its trust instrument.  This is helpful for donors looking to fund education expenses using nontraditional investments such as real estate.  Second, unlike a 529 plan, a Crummey Trust may distribute funds for education expenses prior to college.  Third, a Crummey Trust can have multiple beneficiaries and use the collective assets more effectively than multiple 529 plans.

Crummey Trusts have certain disadvantages as compared to a 529 plan.  First, a beneficiary may access the funds after the reach eighteen years of age.  Second, a Crummey Trust does not receive the favorable capital gains treatment that assets in a 529 plan receive.  Finally, as with any trust, there is an additional expense to setting up and administering the trust.

Finding the right vehicle to pay for your child’s education is as important as finding the right school for them to attend.  But regardless of what type of planning you choose, starting your planning when your children are young will reap significant benefits to them when they are ready to attend college.

Please contact info@levyestatelaw.com for more information about education planning.

The Governor and His Grantor Trusts

Last week, former Massachusetts Governor Mitt Romney released his 2010 tax returns after pressure from his opponents in the race for the Republican presidential nomination.  In addition to his and his wife’s joint tax return, Romney released the tax returns for three trusts created for the benefit of his family.  On each tax return, it was noted that the trusts were structured as “grantor trusts” and any income earned by the trusts was reported on the Romneys’ joint return.

Grantor trusts differ from typical trusts in the way they are structured and how their income is taxed.   In a traditional trust, the creator of trust (the Grantor) does not retain any power or control over the transferred property.  Conversely, a grantor trust is structured to allow the Grantor to retain certain powers over the trust property.  These powers include the ability of the Grantor receive a loan from the trust without adequate consideration or interest; the ability to substitute the trust property for property of equal value; and the Grantor retaining a power of appointment over the trust property without the consent of any adverse party.

The decision to structure a trust as a grantor trust comes with certain clear benefits.  First, by having the income of the trust taxed to an individual rather than a trust, the tax rate on the income is typically lower.  Second, by paying the income on trust property, the Grantor can reduce the size of his taxable estate while not diminishing the value of the transferred property.  Finally, by transferring assets into a grantor trust, a Grantor can utilize a portion of his or her lifetime gift tax exemption and freeze the value of the gifted property for gift and estate tax purposes.  This is an especially valuable tool when the transferred property is expected to appreciate greatly in the future.

Grantor trusts are often used to transfer assets without paying any gift tax through the sale of the property to the trust.  The property is transferred to the trust in exchange for a promissory note.  Over the course of the note term, the trust uses the income of the property to pay the interest on the note.  At the end of the note term, the trust makes a balloon payment of the original principal back to the Grantor.  This type of transaction is especially effective when the transferred property can be discounted for valuation purposes and when interest rates are low.

Despite the release of his tax returns, much of Governor Romney’s financial background and planning remains a mystery.  His use of grantor trusts indicates that he has likely done a significant amount of estate planning and has positioned his family to retain larges amounts of his family wealth for generations to come.

Please contact info@levyestatelaw.com for more information about grantor trusts.