Estate Tax and Legacy Planning Considerations
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Estate Tax and Legacy Planning Considerations

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Estate Tax and Legacy Planning Considerations

Estate Tax and Legacy Planning Considerations

Now that the Build Back Better (BBB) ‘Framework’ has evidently been shelved there seems to be no better time to contemplate estate tax and legacy plans.  Afterall what better time is there?  And who wants to give 40% of their assets to the US Government upon death??

  • None better!
  • No one!!

In lieu of throwing money at a hole I prefer to THINK about how to best take advantage of the higher estate tax exemption amounts while they presently remain available at $12.06 million in 2022.

Yes, you read that correctly, absent legislative reform, the federal applicable exclusion amount will increase by $360,000 ($720,000 for a married couple) in 2022 adjusted for inflation before it sunsets back in 2025.

Given that 2025 sunset, my family contemplated making use of these increased exemption amount before it reverts to draconian pre TCJA levels.

While many states have eliminated their state estate taxes — only 17 states and the District of Columbia still have them — the estate planning landscape has changed significantly over the last decade. Additionally, the presently available higher exemption presents a unique use-it-or-lose-it opportunity.

If you are blessed with generational wealth now is the time to be proactive.  Avoid taking a set-it-and-forget-it approach.

This is especially true for assets that may appreciate over time and helps ensure that the appreciation is not part of a taxable estate.  This area of wealth planning as it pertains to matters of estate and generation skipping transfer tax can be very complex, so make sure you contact me or someone you trust.

My family was marshalled through an extensive exercise in our planning efforts that culminated in the following ‘to-do’ list.

  • Make (generously) annual gifts of $15,000 as per tradition.
  • Make IRA contributions.
  • Create 529 Plan accounts for children and grandchildren
    • Front-load the accounts with five years’ worth of annual exclusion gifts
    • Take into account any gifts made during the year to each recipient.
  • Pay tuition & non-reimbursable medical expenses directly to the school or medical provider.
  • Make charitable gifts (including charitable IRA rollovers).

What we went through to get to the above list was remarkable

We balanced 2021 gifting of high basis appreciated assets with retaining low basis appreciated assets until death to receive a stepped-up tax basis.

We also revisited the prospects of the 26 U.S. Code § 645 – Certain revocable trusts treated as part of estate election, such as.

  • granting certain beneficiaries a general power of appointment over the trust assets.
  • utilizing the trust’s distribution provisions to distribute assets directly to beneficiaries, so that the assets may obtain a step-up in basis upon the death of the beneficiary to whom it was distributed.
  • converting a beneficiary’s limited power of appointment into a general power of appointment by a technique commonly known as “tripping the Delaware tax trap.â€
  • Now the assets included in the beneficiary’s estate should – legislative grace willing – receive a step up in income tax basis at the beneficiary’s death but also encumbers the beneficiary’s unused federal estate tax exemption amount.

Gifting Techniques to Take Advantage of the Increased Applicable Exclusion Amount

  • We gifted liberally under the annual exclusion amount and maxed out the lifetime exclusion amount.
  • We attempted to balance the true cost differential between making gifts under the lifetime exclusion against the prospective estate tax liability.
  • This allowed for the removal of some income and appreciation from the estate.

Of course, my pain in the ass brother – (for whom I will take a bullet in a heartbeat) has been challenged backing off his countervailing consideration that the gifted assets will not get a step-up in basis to the beneficiaries upon death and will thus generate a larger capital gains tax for the beneficiaries upon disposition.  He is correct.

My rebuttal of course was that the beneficiaries should not sell the gifted assets, and instead use those assets for the establishment of their own legacy plan.

This is how we worked through our differences

We agreed to the following factors when developing the lifetime gifting strategy including each specific asset’s:

  • Basis
  • Projected income
  • Position of business in its respective business development life cycle
  • Prospective appreciation over 5, 10 and 20 years

These factors worked for us because the assets involved are well above the current applicable estate tax exclusion amounts.

After considering these factors we divided out the assets into 3 groups: high basis for current gifting; low basis for estate retention and step up upon death; and an ambiguous 3rd group in between low and high basis that was ultimately not gifted.

However, caution should be exercised before making gifts of low basis assets for estates with total assets close to or below their applicable exclusion amounts.

Instead, estates with these valuations should hold those assets until death in order to achieve a step-up in basis upon death for the beneficiaries.

This caused me to dive down a certain charitable planning rabbit hole…

Charitable Planning with a CLAT

The TCJA increased the AGI percentage limit for cash contributions to public charities from 50 percent to 60 percent.  Consideration should be given to accelerating charitable giving to possibly obtain a current income tax deduction and potentially reduce one’s taxable estate of both the contributed asset, as well as future appreciation.

Charitable Lead Annuity Trust (CLAT) combines philanthropy with tax planning with the following benefits:

  • A CLAT is an irrevocable trust that pays one or more named charities a specified annuity payment for a fixed term.
  • At the end of the charitable term, any remaining assets in the CLAT pass to the remainder, noncharitable beneficiaries.
  • To the extent the assets outperform the IRS assumed rate of return, those assets can pass transfer tax free to the chosen beneficiaries.

Alternatively, a strategy that works better in a high interest rate environment is a Charitable Remainder Annuity Trust (CRAT).

Charitable Planning with a CRAT

A Charitable Remainder Annuity Trust CRAT is an irrevocable trust that pays an annual payment to an individual (typically the grantor) during the term of the trust, with the remainder passing to one or more named charities.  It has the following benefits:

  • The grantor may receive an income tax deduction for the value of the interest passing to charity.
  • Because the value of the grantor’s retained interest is lower when interest rates are high, the value of the interest passing to charity (and therefore the income tax deduction) is higher.

Charitable Planning with a QCD

The Qualified Charitable Distribution (QCD) rules were made permanent by the PATH Act of 2015.  The PATH Act permanently extended the ability to make IRA charitable rollover gifts, which allow an individual who is age 70 1/2 or over to make a charitable rollover of up to $100,000 to a public charity without having to treat the distribution as taxable income.

Other types of charitable organizations, such as supporting organizations, donor advised funds, or private foundations, are not eligible to receive the charitable rollover.

Therefore, if you must take a required minimum distribution for 2021, consider arranging for the distribution of up to $100,000 to be directly contributed to a favorite public charity and receive the income tax benefits of these rules.

Due to new limitations on itemized deductions including the cap on the state and local tax deduction, some taxpayers may no longer itemize deductions on their personal income tax returns.

Without itemizing deductions you receive a de minimus income tax benefit of a charitable deduction for charitable contributions.

The general point is to Gift NOW be it to charity or to family to take advantage of the current higher estate exemption amount

Those gifts to family may be made to either an existing or newly created trust.  One common trust is a SLAT

Spousal Lifetime Access Trust (SLAT)

A spousal lifetime access trust (SLAT) gifts assets to an trust utilizing the current increased federal exemption amounts with the following benefits:

  • The gifted assets held in the SLAT should not be includible in your or your spouse’s respective taxable estates.
  • Distributions could be made to your spouse from the SLAT to provide him or her with access to the gifted funds, if needed, in the future.

Of course, marital stability needs to be considered. Being happily married, healthy and wealthy is one of life’s great trifectas. The SLAT is a tax perk that can make it even sweeter.

The ability to pull assets out of their taxable estates while still benefiting from them during retirement is key but it’s easy to get the requirements wrong, void your arrangement and end up owing the IRS.  But when done right I refer to it as the ‘Leave It to Beaver’ trust as it’s the ‘perfect’ tax break for the ‘perfect’ couple with the ‘perfect’ lifestyle, much like Ward and June Cleaver.  #DateMyself

The trusts are a form of so-called grantor trusts, in which a donor, or grantor, transfers assets but retains a degree of control. Grantor trusts appeared last fall to be on the chopping block when the House of Representatives released its first version of tax-and-spending legislation to finance President Joe Biden’s Build Back Better plan.

Their proposed curb is no longer on the table, at least for now. The Senate Finance Committee, now working on its own changes to the Build Back Better bill passed by the House last month, didn’t mention any proposed restrictions on Dec. 11 when it released 1,180 pages of “updated text†to the bill.

How A SLAT works

  • A spouse sets up a SLATfor the benefit of her partner by transferring assets held in her name only. Most married couples own property and investment accounts jointly, so those need to be placed into separate accounts with separate ownership before being transferred (a lengthy process in community property states like California).
  • The idea is to transfer assets, including life insurance, into the trust so that your estate dips below the historically high federal exemption levels, now $11.7 million and $23.4 million, above which the 40% gift and estate tax kicks in. The levels, doubled after the 2017 tax-code overhaul, will drop to half as much, plus a little more for inflation, come 2026.
  • The donor pays taxon the trust’s taxable income when filing her personal return. Children or grandchildren can be named as later beneficiaries.
  • A SLAT has to have a trustee. That person can’t be the donor and can be the beneficiary only iftheir power to move money out of the trust is limited.
  • Under current law, individuals who inherit assets generally don’t owe tax on the gains made since the original owner acquired them. SLATs don’t get that benefit when the donor dies, which meansthat a beneficiary can owe big capital gains taxes when selling any of its holdings.
  • The donor spouse has effectively given the beneficiary spouse the assets.
  • But the spouse who’s the beneficiary can request withdrawals from the SLAT to fund basic lifestyle needs and pursuits, like vacations, mortgages or home remodeling.
  • Because both spouses typically live in the same home and vacation together — our perfect couple — the donor spouse benefits as well.
  • It’s an irrevocable gift, but if you ultimately need to tap into those funds, you can do so through your spouse.
  • It’s not a personal checking account.
  • That’s because the trusts are typically set up so that distributions are under what the IRS calls health, education, lifestyle maintenance or support
  • So-called HEMScan get squishy come tax return time.
  • Grieving the loss of your spouse in the French Riviera for 2 years might be outside of the guidelines.
  • If you get divorced, the donor spouse loses access to the trust.
  • Because a transfer of assets into a SLAT is irrevocable, that means your ex continues post-marriage as the beneficiary, a likely bitter pill to swallow.
  • A donor spouse whose partner diescan no longer access the trust.
  • While there are fancy waysa SLAT can be structured to allow money to be returned when a spouse dies and allow a new spouse to become the beneficiary (the so-called “floating spouse†provision), they’re complicated.
  • In general, you have to stay married and alive.
  • Things get turbocharged when each spouse creates a SLAT for the benefit of the other.
  • But even assuming our happy and healthy married couple stay that way, there are pitfalls to that twofer.
  • Under what’s known as the reciprocal trust doctrine, rules hammered out over the years by the U.S. Supreme Court and U.S. Tax Court ban what the IRS deems to be abusive arrangementsin which two identical trusts are used by the same married couple to avoid estate taxes while remaining in the same economic position as beneficiaries of the trusts.
  • SLATs are best suited for couples with a net worth under $50 million including:
    • doctors’ practice that might face medical liability issues
    • private businesses from which owners don’t take a lot of income.

Grantor Retained Annuity Trusts (GRATs) 

GRATs provide the grantor with a fixed annual amount (the annuity) from the trust for a term of years (as short as two years). The annuity the grantor retains may be equal to 100 percent of the amount the grantor used to fund the GRAT, plus the IRS-assumed rate of return applicable to GRATs with the following benefits.

  • As long as the GRAT assets outperform the applicable rate, at the end of the annuity term the grantor will be able to achieve a transfer tax-free gift of the spread between the actual growth of the assets and the IRS assumed rate of return.
  • Although the grantor will retain the full value of the GRAT assets, if the grantor survives the annuity term, the value of the GRAT assets in excess of the grantor’s retained annuity amount will then pass to whomever the grantor has named, either outright or in further trust, with no gift or estate tax.
  • Under current law, GRATs may be structured without making a taxable gift. Even if ALL applicable exclusion amounts are used, GRATs may be used without incurring any gift tax.
  • Because GRATs may be created without a gift upon funding, they are presently well suited for planning to pass assets to descendants without payment of gift tax.

Mitigate Trust Income Tax to Avoid the Medicare Surtax

A complex, non-grantor trust with undistributed annual income of more than $12,500 (adjusted for inflation, so the $13,050 threshold will increase in 2022) will be subject to the 3.8 percent Medicare surtax.

However, some or all of the Medicare surtax may be avoided by distributing such income directly to beneficiaries who are below the individual net investment income threshold amount for the Medicare surtax:

  • $200,000 for single filers
  • $250,000 for married couples filing jointly
  • $125,000 for married individuals filing separately

Bottom line – careful evaluation of beneficiaries’ circumstances and tax calculations should be made to determine whether trusts should distribute or retain their income.

529 Plan Changes

  • The TCJA expanded the benefits of 529 Plans for federal income tax purposes.
  • Historically, withdrawals from 529 Plans have been free from federal income tax if the funds were used towards qualified higher education expenses.
  • Under the TCJA, qualified withdrawals of up to $10,000 can now also be made from 529 Plans for tuition in K-12 schools.
  • As a result, the owner of the 529 Plan can withdraw up to $10,000 per beneficiary each year to use towards K-12 education.
  • The earnings on these withdrawals will be exempt from federal income tax under the TCJA.
  • However, because each state has its own specific laws addressing 529 Plan withdrawals, and not all states provide that withdrawals for K-12.

Reviewing Formula Bequests

  • Many estate plans utilize “formula clauses†that divide assets upon the death of the first spouse between a “credit shelter trust,†which utilizes the remaining federal estate tax exemption amount, and a “marital trust,†which qualifies for the federal estate tax marital deduction and postpones the payment of federal estate taxes on the assets held in the marital trust until the death of the surviving spouse.
  • While the surviving spouse is the only permissible beneficiary of the marital trust, the credit shelter trust may have a different class of beneficiaries, such as children from a prior marriage.
  • This formula could potentially result in a smaller bequest to the marital trust for the benefit of the surviving spouse than was intended or even no bequest for the surviving spouse at all.
  • There are many other examples of plans that leave the exemption amount and the balance of the assets to different beneficiaries.

Loan Forgiveness/Refinancing

  • If holding promissory notes from prior estate planning consider using some or all of the increased federal exemption amounts to forgive these notes.


  • Based on current law, the applicable exclusion amount also will be adjusted for inflation in future years.
  • Consider including alternate funding formulas in wills or trust agreements that would apply if the federal estate tax exemption amounts sunset in 2026.
  • Consider whether certain prior planning is now unnecessary and should be unwound, such as certain:
    • Qualified Personal Residence Trusts (QPRTs)
    • Family Limited Partnerships (FLPs)
  • Allocation of generation skipping transfer tax applicable exclusion amounts should be reviewed to ensure that it is utilized most effectively if one wishes to plan for grandchildren or more remote descendants.
  • Portability
    • A deceased spouse’s unused exclusion (DSUE) may not be available upon remarriage of the surviving spouse.
    • However, portability may be a viable option for some couples with estates below the combined exemption amounts.
    • Portability can be used to take advantage of the first spouse to die’s estate tax exemption amount (which, for taxpayers dying before 2026, should be $10 million adjusted for inflation), as well as obtain a stepped up basis at each spouse’s death.
    • Portability can also be used in conjunction with a trust for the surviving spouse (a QTIP trust) in order to incorporate flexibility for post-mortem planning options.
    • Factors to consider when relying on portability include:
      • The asset protection benefits of utilizing a trust
      • The possibility of appreciation of assets after the death of the first spouse to die
      • The effective use of both spouses’ GST exemption

For more on estate tax and legacy planning strategies contact me.