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Estate Planning Primer



A number of important changes have been made in the past several years in estate and gift taxation. This memorandum summarizes the current rules concerning estate and gift taxation as they affect estate planning.

1. THE MARITAL DEDUCTION: The Internal Revenue Code ("IRC") and New York State grant an unlimited gift and estate tax deduction for all transfers to a spouse whether made during life or at death. Thus, any one may give or leave his or her entire estate to the surviving spouse without gift or estate taxes. To the extent that a marital deduction is taken, that property will be taxed in the estate of the survivor.

The following qualify for the marital deduction: Outright gifts and bequests, jointly-held property, life insurance, joint and survivor annuities, certain life estates in real estate, and trusts of which the surviving spouse is sole income beneficiary for life.

2. MARITAL DEDUCTION ("Q-TIP") TRUST: The IRC permits a marital deduction in the estate of the first spouse to die, for a trust which provides for all income to the surviving spouse for life. Upon his or her death the balance in the trust will pass to the person or persons named in the trust clause. This kind of trust - called a "Q-TIP" - may be used to prevent a diversion of assets from the decedent's family, such as may occur upon a remarriage of the surviving spouse. An additional feature of the Q-TIP trust is that it enables the executor to elect to qualify all or a portion of the trust for the marital deduction, thereby allowing flexibility in post-death estate planning.

3. THE CREDIT SHELTER TRUST (or "Applicable Exemption Trust"): Substantial estate tax benefits can usually be obtained by combining the use of the marital deduction with a trust of the amount of property that can pass free of Federal estate tax in the estate of the first spouse to die, known as the "credit shelter amount" or the "applicable exemption amount".

Under current law, the Federal estate tax exemption is $5,490,000, indexed for inflation, and the highest estate tax rate is 40%.

The amount being sheltered in the first estate is usually put into a trust (a "credit shelter trust", or an "applicable exemption trust"). This trust is most often either a family trust (for the benefit of all family members), or a marital trust (for the sole benefit of the surviving spouse). The balance of the first estate over the amount of the credit shelter trust can pass tax-free to the spouse under the marital deduction, either outright or in trust. All Federal taxes (and New York State taxes, if the Credit Shelter Trust is limited to $5,250,00, currently) are avoided in the first estate, and the property in the credit shelter trust escapes taxation in the survivor's estate. The credit shelter amount can also be passed outside a trust by direct transfer to other family members if that is an appropriate step to take in the overall plan.

A note of caution about applicable exemption trusts: An applicable exemption trust can only be funded by property held in the individual name of the decedent; it is not generally available where property is jointly-held property that passes automatically to the survivor. And jointly-held property between spouses will not be available to fund the applicable exemption trust, unless the survivorship interest is disclaimed, because the value of the property which passes to the surviving spouse automatically qualifies for the marital deduction.

4. CHARITABLE DEDUCTIONS: All outright bequests to churches, synagogues and other qualified charities are deductible for estate tax purposes. The value of trust principal which is given to charity following the death of the income beneficiary - usually a family member - is also deductible if the trust is properly drafted. Other trusts paying income to charity with the assets going to a family member at the termination of the trust generate significant charitable deductions. People who have supported charities during their lifetime may wish to consider charitable gifts in their Will as long as the security of the family is not affected.

5. DISCLAIMERS: Where appropriate, provision may be made in a Will which anticipates a disclaimer (i.e., a renunciation) by the surviving spouse or other beneficiary of all or a portion of a bequest, with the effect that the disclaimed property passes without gift tax to others or is added to a credit shelter trust. Disclaimers must be made within 9 months of the death of the first decedent if they are to avoid gift tax.

6. JOINTLY HELD PROPERTY: Only one-half of the value of property held by husband and wife in joint ownership with the right of survivorship is includible in the estate of the first spouse to die. Because the property passes to the survivor and will qualify for the unlimited marital deduction, the inclusion will have no significant estate tax effect. However, the survivor will have a different basis for capital gain purposes should he or she sell the property: one-half will be the value of a half interest in the property as of the date of death of the first decedent; the other half will be one-half of the historical pre-death adjusted cost basis (purchase price as adjusted) of the property in the hands of the husband and wife.

Joint property held by a non-spouse results in a presumption that the property is fully includable in the estate of the first of the joint tenants to die unless it is proven that the survivor contributed all or a portion of the purchase price of the property, in which case the date of death value of the property is attributed to the decedent and the surviving joint tenant in proportion to their respective contributions to the purchase price.

7. EMPLOYEE BENEFITS: Although an estate tax deduction is no longer available for lump sum distributions under qualified pension and profit-sharing plans, there are some planning possibilities that remain for approved plans. For example, the designation of a spouse as a beneficiary of a plan would qualify the employee benefit for the marital deduction. There also are a variety of income tax options available to a plan participant or a beneficiary of a plan which should be discussed with your tax adviser, especially if you are planning your retirement.

8. THE IRREVOCABLE INSURANCE TRUST: An important way of avoiding estate taxes continues to be the ownership of life insurance by a trust. If a new policy is purchased by a properly drawn trust, the entire proceeds of the policy can pass through the estates of both spouses without tax. If an existing policy owned by the insured is transferred to a trust, the insured must survive such transfer by three years in order for the proceeds to be free of estate taxes. In each case, the trust must be irrevocable - a fact which requires that the most serious consideration be given before such a trust is created. The trust agreement must be carefully drafted to assure family security and to minimize taxes.

The life insurance trust can be funded with traditional insurance on one life or with second-to-die life insurance. Second-to-die life insurance is a life insurance policy on two lives, usually those of a husband and wife. The policy does not mature or pay out until the death of the second spouse. Because it is on two lives, the premiums are usually spread out over a longer period of time. This type of insurance is well suited to an insurance trust with both spouses as grantors.

9. ANNUAL GIFT TAX EXCLUSION AND LIFETIME EXEMPTION: The amount of gifts that an individual can make without incurring gift tax liability (or using any of the lifetime exemption) is now $14,000 per donee per year, and is indexed for inflation. This means that $28,000 may be given by a married couple this year (and the indexed amount for each subsequent year) to each child, grandchild, or others without incurring gift taxes (regardless of whose property is given). Moreover, an unlimited gift tax exclusion is provided for amounts paid on behalf of the donee for medical expenses and school tuition, provided that the payment is made directly by the donor to the school, doctor, hospital, etc. who or which provides the service. A payment made directly to a child or grandchild for tuition or medical expenses will not qualify for the exclusion.

The Federal lifetime exemption for gifts is $5,490,000, at least for 2017. New York State does not impose a tax on gifts.

Most of the income tax advantages of trusts for children have been eliminated. Nevertheless, various trust options are still available to achieve income, gift and estate tax savings in relation to gifts for children or grandchildren. These include "grandparent trusts" (or "2503(c) trusts"), which permit funding of educational or similar trusts up to the annual gift tax exclusion of $14,000 ($28,000 for a couple), and various forms of charitable trusts.

10. GENERATION SKIPPING TRANSFER TAX - (GST TAX): The GST tax in general imposes a tax at the maximum estate tax rate (currently 40%) on all transfers outright or in trust for grandchildren or more remote descendants to the extent that the aggregate of such transfers exceeds a $5,490,000 total exemption per transferor. Thus, for example, once the exemption has been consumed, a trust for a child for life, with remainder to grandchildren, is subject to the GST tax when the child dies notwithstanding a gift or estate tax was paid upon the initial transfer.

The provisions of the GST are enormously complex. Good estate planning can avoid or minimize the imposition of the tax.

11. NEW YORK STATE: Because the New York exemption is currently $5,250,000 currently, while the Federal exemption is $5,490,000 (indexed for inflation), and because only part of the New York estate tax is deductible against the Federal estate tax, careful planning is required to avoid any New York estate tax that might be imposed if a client wishes to otherwise take advantage of the larger Federal credit.

New York has not had a gift tax since 2000 when New York's gift tax was repealed. Consequently, a commonly used estate planning technique to reduce the size of a New York resident's estate tax was to make gifts within the allowable federal exemption. Not only was the donor able to make a completed gift without incurring gift tax liability in New York, but so long as she had not retained an interest in the gifted property, she was assured that the value of the gift would not come back into her estate for estate tax purposes. However, effective April 1, 2014, the 2014-2015 budget legislation (the "Executive Budget") made significant changes to New York's estate tax, which in part provided that lifetime taxable gifts made within three (3) years of death (if not otherwise includible in the federal gross estate), exclusive of gifts made (i) when the decedent was not a resident of New York, (ii) before April 1, 2014 or (iii) after December 31, 2018 must be added back to the NYS gross estate.  Gifts that are added back are not likely to be eligible for the state death tax deduction against the federal estate tax. Gifts added back to the decedent's estate under the new law will be subject to an additional tax of 6.4% as compared to having the same property included in the decedent's gross estate. Deathbed gifts will thus rarely be tax efficient under the new law. 

12. QUALIFIED PERSONAL RESIDENCE TRUST: The IRC authorizes gift/estate tax savings through a trust known as a Qualified Personal Residence Trust ("QPRT") to which the owner/grantor (the creator of the trust) transfers a personal residence for a term of years during which he or she must occupy the residence. At the end of the term full title passes to the children (or others). The grantor's right to occupy is valued in actuarial tables based on his or her age, and the difference between this value and the property's fair market value at the time of transfer is a taxable gift to the children. If the grantor survives the term, the property is not subject to estate tax in the grantor's estate upon his or her death, and the value of the property (including appreciation) passes to the children. If grantor dies during the term, the tax saving is lost.

A disadvantage of the QPRT is that the property which ultimately passes to the children will have a carry-over basis; that is, the children's tax basis in the property for capital gains purposes will be the same as that of the grantor, which due to appreciation may have a significant built-in gain. (Contrast this with the "step-up" in basis which a beneficiary of an estate receives - the beneficiary has a basis of the fair market value of the property as of the date of death).

13. BUSINESS INTERESTS: An individual who is the owner of a closely-held business should be aware that his or her estate will face special problems upon his or her death beyond the normal question of who will run the business when he or she is gone. These include: administration of the business during the period of estate administration; liquidity problems to pay for estate taxes if the business interest is passing to someone other than a surviving spouse; orderly liquidation of the business; etc. Many of these difficulties can be alleviated, if not solved, by careful planning during the business owner's life.

14. REVOCABLE TRUSTS ("Living Trusts"): The revocable trust is finding increased acceptance as an estate planning tool. This type of trust is a trust (which is an agreement) typically between the creator (or grantor) of the trust and the grantor and another as trustee. During the life of the grantor, the trust is freely revocable or amendable, and because of this, any transfers to the trust by the grantor are not treated as completed gifts (which would generate a gift tax). As long as the grantor is alive, all trust income (dividends, interest, realized capital gains) are taxed to the grantor individually, no trust income tax returns need to be filed. Upon the death of the grantor, the trust becomes irrevocable and the property passes to those individuals, organizations or trusts as dictated by the grantor. This transition happens without the involvement of the Surrogate's Courts and regardless of the existence of the Will of the grantor. However, some local Surrogate's Courts require the filing of a revocable trust where the Will pours over estate assets to the trust.

Because the grantor retains the right to revoke the trust, the assets in the trust do not avoid estate taxes on the death of the grantor. Yet, through proper planning, the estate tax avoidance techniques available to a client can be accomplished through either a Will or a Revocable Trust Agreement.

We believe, however, that a Revocable Trust can be even a more important vehicle for dealing with a grantor's actual or possible physical and/or mental disability. Thus, for clients whose assets may require managed care and/or who are concerned about their own ability to continue management of their own affairs, a Revocable Trust provides such clients with the opportunity to choose a family member, bank or other adviser to serve as co-trustee with the client; and if the client, at some future time, is unable to manage his or her financial affairs, then the co-trustee can continue the management of the clientfs assets, through the trust, without the need for supervision by any court.

Caveat: It is still imperative that the individual have a Will to cover the disposition of property which is invariably not titled in the name of the trust. Typically, tangible personal property is an example of this.

15. RIGHT OF ELECTION: Notwithstanding anything to the contrary stated above, the most carefully drafted Estate Plan can still be upset by a spousal right of election. In New York (as in most states) an individual does not have the unqualified right to disinherit his or her spouse. To protect against this, New York law provides that, regardless of the provisions of an individual's Will, an individual's surviving spouse has the right to "elect" to take up to one-third (1/3) of the estate outright. If this election is exercised, the electing spouse is deemed to have predeceased the decedent and the interest of the electing spouse is extinguished under the decedent's Will.

16. LIFETIME GIVING STRATEGIES: Lifetime giving presents a wonderful opportunity to take advantage of certain benefits under the estate and gift tax laws as well as allowing a donor to satisfy his or her desire to see the fruits of a gift during the donor's life. For instance, the gift tax annual exclusion (described at paragraph 9 above) is not available at death. Importantly, any lifetime gift will result in removing future appreciation on that asset from your estate. In that regard, lifetime giving will allow you to leverage your unified credit. Disadvantages of lifetime gifts are that the recipient (or "donee") takes a carry-over basis in the asset, and that any gift tax paid within three years of death must be added back to the donor's gross estate in the computation of estate taxes.

17. APPOINTMENT OF FIDUCIARIES: The individuals or organizations (banks or trust companies) you choose to act as executor, trustee and/or guardian must be given careful consideration. The following general comments may be helpful:

Executor: This is the person or bank you choose to collect your assets, administer your estate, pay your debts, and carry out the instructions of your Will.

Trustee: The person or bank who will hold money, invest it and distribute according to the terms of the trust.

Guardian: The individual you choose to look after the person or property of any minor child you may have.

18. ROTH IRA: Certain individuals may want to take advantage of a back-loaded IRA, the "Roth IRA." Individuals with income below certain levels are permitted to make a nondeductible contribution of $5,000 per year ($6,000 for individuals over the age of 50) to an IRA; distributions (including earnings) are not taxed if held in the IRA for at least five years. Eligibility to contribute to a Roth IRA begins to phase out for single individuals with AGI of $105,000, and for married joint filers of $166,000. Amounts in a regular IRA may be rolled over into a Roth IRA, but the distribution from the regular IRA will be taxable. Contributions to a Roth IRA are permitted after age 70-1/2, and the minimum distribution rules requiring the commencement of benefits at age 70-1/2 will not apply to a Roth IRA.

The above information is of general application and is subject to change by new laws, regulations and rulings. It is not, by any means, intended to constitute legal or tax advice or to cover all of the strategies available to minimize estate, gift or income taxes. Each particular estate plan must be analyzed to determine how best to achieve family security within the framework of the tax laws.


April 1, 2017


McCarthy Fingar LLP

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McCarthy Fingar's Trusts and Estates lawyers are dedicated to our clients' success. If you think you may require our assistance or have any questions about options, please contact Gail M. Boggio by email (gboggio@mccarthyfingar.com) or phone (914-385-1026) or Frank W. Streng by email (fstreng@mccarthyfingar.com) or phone (914-385-1022) or Howell Bramson by email (hbramson@mccarthyfingar.com) or phone (914) 385-1017.