• Estate Tax Planning
  • November 24, 2009 | Author: John David Williams
  • Law Firm: Law Offices of John D. Williams - Westlake Village Office
  • The IRS is your patient partner waiting to collect around 40% for 2014 and 2015 of what you own in the form of Death Taxes. Estate planning is necessary to make sure that your assets go to family and charitable recipients rather than to the IRS. Estate taxes are generally due within nine (9) months of death.

    The following is a list of ideas and advice on steps you can take now to minimize the tax hit for your heirs.


    Presently, the first $5,430,000 worth of assets will pass estate tax free on death, although the threshold is reduced by any "lifetime taxable gifts." This has increased to $5,430,000 in 2015.

    Each person has the ability to gift up to $14,000 per year to any other person, or to special trusts that are established for other people who have special withdrawal rights over these trusts.

    For example, a married couple with three children could gift $84,000 worth of assets to their children or in trust for their benefit without this counting as a "taxable gift." 

    When a "taxable gift" is made by a donor a gift tax return is filed, but no gift tax is due until $5,000,000 in taxable gifts have been given by a donor.

    For example, if a husband and wife have two children, then their annual gifting allowance is $48,000. If they gift $248,000 in one year, then each of them would have used $100,000 of his or her $5,430,000 lifetime gift tax exemption.

    While there was obviously intent to eliminate the estate tax, the $1,000,000 lifetime gift tax exemption has never been scheduled for expansion. This assures Washington, DC, that if the estate tax was repealed and then brought back, there would still be plenty of assets held by the older generation which would be subject to estate tax upon passage.

    The exemption was $3,500,000 for 2009, and there was no estate tax for people who passed away in 2010. The estate tax exemption for 2011 is $5,000,000 with an tax rate of 35% for 2011 and 2012. The estate tax exemption for 2012 is $5,120,000 and for 2013 is $5,250,000. The estate tax exemption for 2014 is $5,340,000 and for 2015 is $5,430,000. The tax rate over the exemption amount is 40% in 2013 and 2014.


    It makes sense, therefore, to set aside wealth to be held outside the "taxable estate" of a financially successful individual by making use of the $14,000 per year per person gift tax exemption.

    To concentrate on annual gifting clients may consider the following:

    A. Outright Gifts to Children and Grandchildren

    This is the simplest form of gifting, but may result in unwise use of funds or gifted assets.

    B. Funding Uniform Gift to Minors Act Accounts

    The two big problems with Uniform Gift to Minors Act Accounts are that at age 21 the assets have to be handed over to the child whether the parent wants to or not, and if the child causes an automobile accident or is sued for some other reason, the assets in the account are exposed to his or her creditor claims.

    Where the person who funds the Uniform Gift to Minors Act Account also signs on the account as custodian, then under the estate tax law the account assets will be considered as owned by the custodian and taxable in that person's estate. This is why it is important to have someone other than the contributor be the custodian under the Uniform Gift to Minors Act Accounts.

    C. Establish 529 Accounts

    The tax law allows certain plans to be funded for the purpose of providing college education and associated living expenses for family members. These plans are sponsored by states and administered by investment firms.

    If the entire fund is spent on college tuition, support and living expenses during college and graduate school, then there is no tax whatsoever on the growth. If the funds are spent for other purposes, then the income within the 529 Plan Account is subject to tax as ordinary income, plus an additional 10% of that income is charged as an excise tax.

    The contributions to these plans must be made in cash, and cannot be made in property.

    The 529 rules also allow accelerated gifting by permitting front loading of the $13,000 per year gifting allowance for up to five years.

    For example, instead of gifting $14,000 per year to or for the benefit of a grandchild, a grandparent might elect to put $70,000 into a 529 Plan in one year and to consider that to be a gift of $14,000 per year for the year of the gift and for the next four years. If the person dies before the fifth year, then the contributions attributable to the years that have not yet occurred are considered as added to the person's taxable estate.

    Any further gifts during those years would be subject to the filing of a gift tax return and use of part of the lifetime gifting allowance.

    D. Irrevocable Gifting Trusts

    Many clients have wisely chosen to establish and fund irrevocable trusts for their descendants.

    While the client cannot maintain direct control over such a trust, the client can control who the trustee is, and can have the power to replace the trustee at any time and for any reason.

    Typically the trust will provide that the trustee can make distributions to or for the children, and possibly even for a spouse, as reasonably needed.

    On the death of the client or surviving spouse of the client, the trust will typically divide into separate equal shares for each child and may be held for the lifetime benefit of each child.

    E. Spousal Benefit Annual Exclusion Trust

    A Spousal Benefit Annual Exclusion Trust would work like a gifting trust. It would permit a husband or wife who are married with three children and a grandchild to transfer $104,000 for 2011 into a Trust for the lifetime benefit of the other spouse, children, and grandchildren. An additional $5,000 can be contributed each year if the trust is also given an annual withdrawal power.

    The beneficiary spouse can be the trustee of this trust, and receive amounts as she might need for health, education, and maintenance during her lifetime. The beneficiary spouse might also have the right to appoint how the trust assets will be devised among children and grandchildren at the time of her eventual death.

    The "Lifetime By-Pass Trust" is commonly used in conjunction with a Family Limited Partnership or Limited Liability Company to facilitate discounted gifting.

    F. Discounted Gifting

    Many clients have wisely established family limited partnerships or limited liability companies, and then gifted partial ownership interests in these entities either to gifting trusts for the children or outright to the children.

    Assuming a 30% discount, a 10% ownership interest in a family limited partnership holding $2,000,000 worth of assets may be worth for tax valuation purposes only $140,000. A gift of that 10% interest effectively removes $200,000 of actual value plus 10% of the partnership's future growth from the client's estate.

    As stated above, a married couple with three children has the ability to gift $84,000 per year 2015 in value without making a "taxable gift." Assuming no other gifting and a 28% or more valuation discount, if this couple gifts a 5% interest in a $2,000,000 family limited partnership, then there would be no reportable gift, although the couple will have removed $100,000 in value from their taxable estates, assuming that there is proper structuring and administration of the limited partnership.

    The IRS does not like these discounts, but many court cases support them. The amount of discount to be taken will vary based upon the circumstances of the partnership or LLC arrangement. For large gifts, we recommend appraisal reports to determine the discount amount to be taken.

    G. Family Limited Partnership and Gifting Trust

    This technique provides significant estate and gift tax planning utility, while also providing a significant degree of creditor protection for the client who can remain in control of the partnership arrangement.

    It is often advantageous to make the trustee of the gifting trust a one-half of 1% general partner and the client or clients the other one-half of 1% general partner in order to divide control of the entity for discounting and other purposes.

    Properly structured gift trusts and family limited partnerships may be disregarded for income tax purposes, so that no separate tax returns need to be filed for these entities. As a result of this, the grantor or grantors of the trust simply report all of the income and deductions of the limited partnership and the trust on their personal return.

    Clients with family limited partnerships who have not engaged in annual gifting may wish to begin doing so based upon the greater possibility of an active estate tax existing for the foreseeable future.

    H. Freeze Transactions

    The most effective wealth transfer techniques now available involve "freeze transactions" whereby future growth in investments can be channeled to trusts that benefit a spouse and/or descendants. An example would be the ability to sell an ownership interest in a family limited partnership to a trust for children in exchange for a long-term low interest promissory note. A client holding $1,000,000 of investments could sell those investments to a Gifting Trust in exchange for a 9-year interest only 2.95% promissory note, and this would not be considered a gift. When the investments double in value, the only thing owed back to the client is the $1,000,000 plus interest at 2.95%. The excess growth inures to the Gifting Trust.

    If the same client owns a 50% limited partner interest in a limited partnership owning $2,000,000 in assets, then the 50% limited partnership interest, representing $1,000,000 in assets, might be sold to the Gifting Trust for a $650,000 promissory note, taking into account a 35% valuation discount. Now, the growth on $1,000,000 worth of assets inures to the trust for the children, which owes back only $650,000 plus interest at 2.95% to the parent. Conceptually, this immediately moves $350,000 worth of wealth from the parent's taxable estate, and if the $1,000,000 worth of assets increases to $2,000,000 worth of assets, the difference between $2,000,000 and $650,000 plus interest at 2.95% has been shifted to the trust for the children.

    Another technique involves something called a Grantor Retained Annuity Trust (GRAT). Under a GRAT, assets are simply transferred from the Grantor to a trust that pays a stream of monies and/or assets back to the Grantor based upon giving the Grantor a rate of return of approximately 4%. Any growth over the 4% rate of return can be held in the trust for the lifetime benefit of the Grantor's spouse and/or descendants without ever being subject to federal estate taxes. A properly tuned GRAT will use very little, if any, gift tax exclusion, but can obviously cause a significant amount of assets to pass estate tax free.

    I. Qualified Personal Residence Trust

    The estate tax law specifically condones placing a home or a vacation home in a "personal residence trust" whereby the donor retains the right to live in the home for a term of years, and thereafter the home can be rented from the trust with all trust value thereafter inuring to other family members. With real estate values now being low, many clients are considering a transfer of their vacation properties or personal homes to qualified personal residence trusts.


    Typically we find that three to four years after preparing estate planning documents, a review of financial and family information will result in appropriate changes being made for family protection purposes.