Elections (may) Have Consequences: The Fiscal Cliff and Estate and Gift Taxes

For much of 2012, the looming changes to the tax rates and exemptions set to go into effect in 2013 have weighed heavily on all discussions of estate planning.  The so-called “Fiscal Cliff” and the 2012 Presidential and Congressional elections left planners with uncertainty of whether the scheduled sunset provisions of the Bush/Obama tax cuts would go into effect or if Congress and the President would strike a deal before year’s end.

Tuesday ‘s election ended some of the uncertainty with regard to the respective players in this debate and what type of leverage they would have.  President Obama won a second term as President while in Congress, the Democrats extended their majority in the Senate.  In the House, Republicans retain control, albeit by a slightly slimmer margin.  In the days following the election, the three lead players in the upcoming negotiations (President Obama, Speaker of the House John Boehner and Senate Minority Leader Mitch McConell) each expressed their positions with each retaining their previous stance on increasing or retaining existing tax rates and exemptions.

Earlier today, President Obama announced that he will meet with Congressional leaders next week to begin working on a deal to avoid the Fiscal Cliff.  The possible outcomes are several:

  1. The President and Congress will agree to a comprehensive deal-Both sides have indicated a desire to achieve a deal on both tax issues and spending cuts.  But despite the results of the election, there appears to be no true bridging of the two sides polarized positions.  This may change  after next week’s negotiations, but such a change would reflect a major shift in tactics and attitudes.
  2. The President and Congress will agree to a temporary, non-comprehensive plan-In his press conference today, President Obama stated he was ready to sign  into law the permanent extension of the income tax rates for 98% of all taxpayers.  The Senate has previously passed such a bill, but the House has refused to even vote on it.  It is possible that they will now agree to separate those tax rates from other issues, but that remains unlikely.  More likely would be a temporary extension of the current tax rates and exemptions similar to the extension passed in 2010.
  3. No deal is reached before the end of the year-If no deal is reached before the end of the year, the tax rates and exemptions revert back to their pre-President Bush levels.  While this may be frowned upon by many financial analysts, this would change the political dynamic  significantly and may force one or both sides to finally come to a comprehensive deal.
  4. A deal is reached on issues other than estate and gift tax rates and exemptions-The previously mentioned Senate bill made no mention of any extension, increase or decrease to the estate and gifts taxes.  During the Presidential campaign, neither candidate spent much time discussing these transfer taxes.  For those reasons, it would not be surprising to see the income tax issues resolved while the gift and estate tax issues are left to sunset and possibly be renegotiated in 2013.

If we are to believe the President, in any of these four scenarios, we should expect to see the federal estate and gift tax rates to increase and the respective exemptions to decrease come 2013.  To best prepare for these changes, you should consider the following three pieces of advice:

1. Make 2012 gifts ASAP-The current gift tax exemption of $5.12 million is unlikely to ever return to this high level in the foreseeable future.  For those with the means or the need to utilize a 2012 gift, it is already past the point of making more complicated gifts.  With that said, by utilizing transfers to a grantor trust, it is still possible to make a 2012 gift today of cash, securities or even a promissory note and substitute harder to value assets in 2013.

2. Consider or reconsider the use of a credit shelter trust under your will-The lower estate tax exemptions that will likely go into effect will make using a credit shelter trust, a testamentary trust that allows property to pass estate tax-free at the death of both spouses, more attractive.  Since 2010, such trusts were less appealing given the disparity between Federal and State estate taxes.  If the exemptions are reduced, that disparity will decrease as well.

3.  Speak to an estate planning attorney and stay informed.  This is a fluid issue and things may change dramatically very quickly.  It is important to keep in touch with your estate planning attorney to learn about any changes.  If you do not have an attorney, you can also keep yourself updated by reading this and other estate planning blogs.

For more information about the 2012 Estate and Gift Tax changes, please contact info@levyestatelaw.com

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Giving While You Can: The 2012 Gift Tax Planning Opportunity-Part III Planning Techniques and Strategies For Making A 2012 Gift

Over the past two days, I have discussed why the 2012 Gift Tax Planning Opportunity is a big deal and provided several ‘best fits’ for making a 2012 Gift.  Today, I conclude this series with some examples of planning techniques and strategies that can be used to maximize your 2012 gifts.  As with any estate planning strategy, most of these techniques require careful coordination with an estate planning attorney, accountant and other advisers to ensure that they are properly structured:

1)   Outright Gifts-The simplest gifting technique requires very little work and time to complete.  This can be accomplished by any properly executed form of transfer and also requires less setup fees than the other techniques listed below.

There are several downsides to outright gifts.  First, assets gifted directly to a beneficiary remain exposed to the claims of creditors.  Second, if the gift is being made to a minor or an adult that is ill prepared to handle such a large-scale gift, the transferred assets can be wasted.  Finally, while making such a gift removes it from the donor’s taxable estate, it will be included in the beneficiary’s estate.

2)   Gifts to Trust-As an alternative, a gift to a trust may be more appropriate if there are concerns about creditor claims, taxes or waste.  An irrevocable trust can hold the gifted property outside the beneficiary’s taxable estate and the assets can be distributed to beneficiaries at the discretion of the named trustees.  Setting up a trust will require additional fees for set up and administration that are not required of a direct gift.  A suitable trustee will also be required that fits the grantor’s specifications.

3)   Grantor Retained Annuity Trust (GRAT)-Several of the more complicated trust arrangements could be useful for 2012.  A GRAT, for example, can be used to pass property to beneficiaries while retaining annuity for the donor for a set period of years.  Depending on the donor’s goals, the GRAT can be structured to have minimal annuity payments or as a means to ‘freeze’ the value of the donor’s estate.

4)   Intentionally Defective Grantor Trust (IDGT)-Using an IDGT can provide several benefits.  First, it can provide a way to remove an appreciating asset from a donor’s estate.   Second, if a portion of the transferred assets are transferred in exchange for a promissory note, the donor can retain an income stream through the repayment of interest and the principal.  Finally, because IDGTs are taxed to the Grantor of the Trust rather than the Trust for income tax purposes, the donor can further reduce the size of his estate while increasing the value of the property passing to their beneficiaries.

5)   Qualified Personal Residence Trust (QPRT)-Individuals who own their primary residences may utilize the 2012 Gift by transferring their residence to a QPRT.  The donor retains the exclusive right to live in the residence for a set period of years.  At the end of that period, ownership transfers to the remainder beneficiaries of the trust.  The donor can still live in the residence if they pay rent to the remainder beneficiaries.  The longer the term of the trust, the smaller the gift would be.  With the larger exemption in 2012, donors can set up a QPRT with a relatively short term to maximize their gifts.

6)   Family Limited Partnerships/LLCs-If a donor wishes to pool several assets into a single entity, they can utilize a family limited partnership or LLC as a means to centralize the management of certain assets.  A gift of an LLC or FLP interest can receive a valuation discount that would not be available to transfers of the underlying assets.

7)   Intrafamily Loan Forgiveness-2012 provides individuals and families to consider removing outstanding loans from a donor’s taxable estate.  Rather than continue to receive payments on a loan, the holder of a promissory note or other debt instrument can forgive all or a portion of the outstanding debt by making a gift of the forgiven amount.

8)   Funding a large life insurance policy-Donors can utilize all or a portion of a 2012 gift to fund a large life insurance policy.  If the beneficiaries do not need immediate access to the funds, this may be an attractive option to provide for a later benefit.  To fully protect the gift from any taxation, the insurance policy should be purchased by an irrevocable life insurance trust (ILIT).

As we draw closer to the so-called “Taxmageddon,”  the opportunity to fully take advantage of the current tax rates and exemptions shrinks.  Many of the techniques discussed above require time to set up and fund, so for those looking to make a 2012 Gift, time is not on your side.  The time to start planning your 2012 Gifts is now.

Please contact info@levyestatelaw.com for more information about 2012 Gift Tax Planning.

Giving While You Can: The 2012 Gift Tax Planning Opportunity-Part II Best Fits For “Supersize” Gifts

As the window for making large-scale gifts shrinks each day, many individuals and families will be encouraged by their attorneys and other advisers to consider taking advantage of the 2012 Gift Tax Planning Opportunity.  While this unique event could be a windfall for many people, there are certain situations where utilizing the current gift tax exemption and gift tax rates are most beneficial to the donors.

Below is a non-exhaustive list of some of the ‘best fits’ for making a 2012 Gift:

1)    Individuals with a taxable estate at or above the current Federal Estate Tax Exemption-The current federal estate tax exemption, as with the gift tax exemption, is $5.12 million.  And just as the gift tax exemption will expire on December 31st, the federal estate tax exemption will reduce to $1 million 2013.

Given the likelihood that the estate tax exemption will be reduced, individuals who may have a taxable estate if they die in 2012 would be wise to consider gifting a portion of their estate before year’s end.  By doing so, they can increase the portion of their estate that passes to their heirs free of federal estate tax.

2)    Individuals with a taxable estate at or above their current State Estate Tax Exemption-Residents of Connecticut, New Jersey and New York face lower estate tax exemptions than residents of most other states in the U.S.  Even those individuals whose estates will likely pass free of federal estate tax could have a state estate tax imposed which would similarly reduce the value of the property passing to their heirs.  Making a 2012 Gift is especially useful in reducing potential state estate tax exposure because none of the tri-state area states impose a state specific gift tax.

3)    Family Business owners looking to transition their businesses to their family-One of the many reasons that business succession planning fails is that the incoming owners may be unable to pay the current owners the full value of the companies they are purchasing.  In a family business, a senior family member willing to transfer some or all of their business to their successors as a gift can avoid this hurdle while assuring that the business continues uninterrupted.  For those concerned about a loss of income or not receiving sufficient assets to live off of, using a planning technique like a GRAT or a sale to a defective grantor trust may allow the senior family member to be more generous with their gifting.

4)    Real Estate Owners-In some areas of the country, real estate have begun to rebound.  Nevertheless, the values are still significantly lower than they were prior to the 2008 Financial Crisis.  Gifting a second home or investment property this year could be more tax efficient than transferring it when values increase.  In addition, individuals interested in gifting their primary residence can utilize a technique known as a qualified personal residence trust (QPRT) to transfer ownership of the property while retaining the right to live in the residence for a set period of years.

5)    Individuals with highly appreciating or income producing property-Property likely to increase in value over the next few years can either be gifted outright or to a trust using today’s values.  This allows the beneficiary of the gift to receive the full benefit of the appreciation while reducing the donor’s taxable estate.  Alternatively, by utilizing planning techniques like a GRAT or IDGT, the donor can freeze the value of their taxable estate while also providing their beneficiaries with a significant long-term benefit.  This is also true of property that produces significant income.

6)    Same Sex Married Couples and Domestic Partners-Without the benefit of a marital deduction at the federal level (New York same sex married couples) or at both state and federal levels (domestic partners), non-traditional couples are at a distinct transfer tax disadvantage.  In addition, whereas gifts between married couples are consider non-taxable events, gifts between same sex married couples and domestic partners are.  Fully utilizing the 2012 Gift opportunity may be a unique opportunity for these couples to make tax-free gifts to one and other.

7)    Individuals who have made intra-family loans-The current low interest rate environment have encouraged many family members to make loans to their junior family members.  However, if the junior family member does not pay back the principal of these loans and interest, the lender is deemed to have made a gift.  If the lender does not need or want the money back, a 2012 Gift can be used to forgive a portion or the entire loan amount.

Other individuals and situations may also be appropriate for 2012 Gifts.  Tomorrow, I will go over several planning techniques that can be used to maximize the benefit of making a 2012 Gift.

Please contact info@levyestatelaw.com for more information about 2012 Gifts.

Give While You Can: The 2012 Gift Tax Planning Opportunity-Part I An Introduction/Re-Introduction

Estate Planners are always looking for new ways to assist their clients navigate and fully take advantage of the transfer tax system in ways that effectuate their wishes and intentions.  Much of our focus is on planning their estates and how property will pass when they die.  For some clients, estate planning also includes devising strategies for transferring assets during their lifetime.

From 2002 until the end of 2010, each individual could only transfer $1 million during their lifetime without incurring a gift tax.  This changed dramatically at the end of 2010 when the President and Congress enacted the Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act (“TRA 2010” for short).   Among the changes to the tax system was a significant increase in the lifetime gift tax exemption.  This provided a significant opportunity for individuals looking to make large-scale transfers of property during their lifetime.

As with most good things, this opportunity will not last forever and it is unclear whether the gift tax exemption will ever be this high again.  Over the next three days, I will explain what this opportunity could mean to you and your family, who this opportunity would be a good fit for and provide several planning techniques that can be used to maximize the benefits of this ‘once-in-a –lifetime’ tax planning event.

First, here is a brief overview of what this means to you and your family:

What is the 2012 Gift Tax Planning Opportunity? Under TRA 2010, the lifetime gift tax exemption was increased from $1 million to $5 million per individual ($10 million per married couple).  In 2012, the exemption was increased to $5.12 million.

Why is it a big deal?  The lifetime exemption has never been this high before and given the current fiscal health of the United States, it may never be this high again.  Before 2010, individuals wanting to make large-scale lifetime transfers above the $1 million exemption had to choose between making multiple smaller transfers utilizing the annual gift tax exclusion (currently $13,000 per individual) or paying a gift tax at a maximum tax rate between 35% and 50%.  After 2010, individuals could transfer five times as many assets at one time without incurring any gift tax.

When do the current exemption and tax rates expire?  The current gift tax exemption and maximum tax rate of 35% will expire on December 31, 2012.   It is possible that before the November election (very unlikely) or during the lame duck session after the election (possible), Congress and the President will enact new legislation that may maintain the current exemption and tax rate or possibly reduce both.  If the current exemption and maximum tax rate expire, the exemption will reduce to $1 million and the maximum tax rate will increase to 55%.

Who should take advantage of the current exemption and tax rates?  This opportunity could be useful to a wide variety of individuals and families.  For wealthy individuals looking to reduce the size of the taxable estates, making a gift this year will provide more certainty about their tax liability than exists with the current federal estate tax regime (the estate tax rates and exemptions will expire on December 31, 2012 as well).  In New York, there is no separate state gift tax, so a 2012 gift that reduces the New York state estate tax liability would be good utilization of the current federal exemption and rate.  I will go into more detail about this in tomorrow’s post.

Are there other reasons to make a 2012 gift besides gift tax savings? Yes.  In addition to the historically low gift tax rate and high exemption, interest rates are at historic lows.  For people looking to utilize planning techniques such as GRATs, transfers to defective grantor trusts and intra family loans, this low rate environment will allow individuals to pass the maximum amount of property to their beneficiaries while keeping any annuity, installment sale or loan payments low.

Depressed asset values also provide an additional benefit to the gift tax savings.  While the stock market has rebounded significantly, real estate and other non-publically traded assets have not.  Transferring these types of assets now will allow your beneficiaries to enjoy the appreciation of the property when values rebound.

Are there risks/disadvantages to making a 2012 gift?  Few planning opportunities are risk free.  Making 2012 gift comes with several including the possibility of running out of money if the donor does not retain sufficient assets; the transferred assets being included in an individual’s estate if they die within three years of making the gift; the potential of a ‘claw back’ of a portion of a 2012 if the exemption and tax rates are reduced; and the loss of a step-up in basis that property receives if the donor transfers the property at death.  It is therefore essential that anyone interested in making large-scale gifts consult with their attorneys, accountants and other advisors before making such a gift.

I don’t have $5.12 million.  Can I still make a 2012 gift?  You can and in some circumstances, you should.  Utilizing a portion of the full exemption can provide the same benefits to a person or family with a smaller taxable estate as it can to someone with a federal taxable estate.

Please contact info@levyestatelaw.com for more information about 2012 gift tax planning.