Estate Planning & Tax Avoidance
The lawyers in McCarthy Fingar’s Charitable Gift Planning, Taxation and Trusts and Estates groups have many years of experience in developing and implementing estate planning recommendations to avoid or minimize taxes. In addition, McCarthy Fingar lawyers are leaders in the community, often lecturing on estate planning topics for bar associations, such as the New York State Bar Association (Trusts & Estates Law Section), the Westchester County Bar Association (Trusts & Estates Section) and the Westchester Women’s Bar Association (Trusts & Estates Section). Though our work, we help clients avoid or minimize (a) Federal and State estate, gift, inheritance and generation skipping transfer taxes; and (b) Federal, State and Local income taxes. We begin the process by conducting a thorough interview of a new client to obtain information that is necessary for us to make estate planning recommendations. Sometimes, after the conclusion of that review, we determine that a client requires relatively basic estate planning work, including a Will or Revocable Trust, a Durable Power of Attorney and a Living Will and/or Health Care Proxy. Sometimes, we make recommendations to avoid or minimize taxes.
Marital Deduction Planning
Introduction: 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
Qualified Terminable Interest Property (Q-Tip) Trust: The Internal Revenue Code (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. The Q-TIP Trust 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.
Planning for Noncitizens or Nonresidents: Under the Federal estate tax laws, there are limitations on deductions for marital transfers and on credits against estate and gift tax that are dependent on the citizenship and residency status of a client, or a client’s spouse. Thus, for clients who are aliens or who have assets in foreign jurisdictions (i.e., other countries and sometimes other states), we are often called upon to recommend appropriate strategies designed to minimize taxes or defer taxes.
“Credit Shelter” Planning
Introduction: The Credit Shelter Trust (or Applicable Exemption Trust): Clients can minimize taxes 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 $11.58 million, and the highest estate tax rate is 45%. 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 $5,850,000) 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.
Funding of 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.
New York Applicable Exemption Trust: Because the New York exemption is currently $5,850,000, while the Federal exemption is $11.58 million, 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. Thus, it is often appropriate to limit the funding of the Applicable Exemption Trust to $5,850,000 for New York residents.
Irrevocable Life Insurance Trust
An important way of avoiding or minimize 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.
Introduction: Lifetime giving presents a wonderful opportunity to minimize taxes and 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 (see below) 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.
Annual Gift Tax Exclusion. The amount of gifts that an individual can make without incurring gift tax liability (or using any of the lifetime exemption) is now $15,000 per donee per year, and is indexed for inflation. This means that $30,000 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).
Trusts for Children Using Annual Gift Tax Exclusion: 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 $15,000 ($30,000 for a couple), and various forms of charitable trusts.
Unlimited Gift Tax Exclusion: 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.
Federal Lifetime Exclusion: The Federal lifetime exemption for gifts is $11.58 million. The estate tax exemption equivalent is now $11.58 million.
New York Gift Tax: New York State no longer imposed a tax on gifts. However, the New York estate tax exemption equivalent is now $5,850,000.
Qualified Principal Residence Trust
Introduction: The IRC permits clients to minimize taxes 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.
Should you do a QPRT?: 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).
Introduction: Frequently clients, especially husbands and wives, have assets held in joint tenancy with a right of survivorship. Such “nonprobate” assets have important consequences on who shall receive your assets and require careful planning. Estate tax avoidance strategies are often influenced on the existence of joint assets or other nonprobate assets.
Spousal 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.
Jointly Held Property for Nonspouses: 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.
Introduction: 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.
Planning Solutions: One size most definitely does not fit all when it comes to business succession planning. However, liquidity issues can be solved through the use of life insurance. Other difficulties in business succession planning can be alleviated, if not solved, by careful planning during the business owner’s life.
Introduction: All outright bequests to churches, synagogues and other qualified charities are deductible for estate tax purposes. 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.
Gifts to Charity through Trusts: In addition to outright bequests, a charitable deduction is also available for certain qualified charitable trusts. The value of trust principal which is given to charity following the death of the income beneficiary – usually a family member – is also deductible for estate and income tax purposes 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.
Other Charitable Planning: Charitable giving is complex and requires careful planning. We can help clients evaluate all available options.
Generation Skipping Transfer Tax (GST Tax)
Introduction: The Generation Skipping Transfer Tax is a Federal tax imposed on a transfer, in addition to an estate or gift tax. The GST tax in general imposes a tax at the maximum estate tax rate (currently 45%) on all transfers outright or in trust for grandchildren or more remote descendants to the extent that the aggregate of such transfers exceeds a $11.58 million 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.
Qualified Plans and Employee Benefits
Introduction: Often, a large concentration of a client’s assets are in the form of qualified plans or employee benefits and IRAs or Rollover IRAs. Planning for such assets is a very important objective for the estate planner.
Designation of Beneficiary: Since substantial assets may be in a qualified pension or profit sharing plan or IRS, the designation of a beneficiary is an important decision to be made by a client as part of the objective to minimize taxes. 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.
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 McCarthy Fingar Approach in Estate Planning to Minimize Taxes
In helping clients avoid or minimize taxes (whether estate, gift, income or other taxes), McCarthy Fingar’s lawyers first spend the time to collect information and documents from our clients. Then, often in an initial meeting, we will suggest different options to help the client make decisions that are consistent with the client’s intentions on who would receive such assets on a client’s death. We then draft documents to carry out those intentions and carry out the important task of ensuring that the plan is implemented, through, for example, the transfer of an asset to a recommended trust, or an entity, such as partnership, limited liability company or a corporation.
McCarthy Fingar’s Estate Planning 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 (email@example.com) or phone (914-385-1026) or Frank W. Streng by email (firstname.lastname@example.org) or phone (914-385-1022).