January – February 2013

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MONTH YEAR: Lead Article: 1 ¾ pages [2nd page about 45 lines]
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Lead Article Title: The Intelligent Valentine’s Day KISSSummary: Is there a more romantic topic for Valentine’s day then estate planning? KISS –Keep It Simple Stupid. “Since I don’t have a $10 million estate I want a short and simple will and I don’t want to spend much ‘cause it doesn’t matter.” That will likely become the mantra of many folks addressing estate planning after the American Taxpayer Relief Act of 2012 (ATRA) made the $5 million inflation adjusted exemption and portability (you can benefit from the unused exemption of your deceased spouse) all permanent. This is a sea-change. Most wealthy folks feared the return of the $1 million exemption and 55% estate tax rate. Well that fear is now gone. But planning for those worth $5 (single) or $10 (couple) million+ hurdle remains complex and time sensitive (see Checklist). But the cavalier application of the KISS principal will likely undermine your financial security and that of your loved ones. Yes, in many cases planning can be simpler and less costly for those under the $5/$10 million wealth range. But a more intelligent application of the KISS principal to simplify planning when and where appropriate, will be the way to go. To understand the Intelligent KISS we sought the counsel of none other than Christian Grey. “For those under the new exemption amounts, planning remains a hot topic,” swoons Grey. “While the KISS principal can apply there remain at least 20 shades of estate planning.” 20 shades will still require more than a form will to accomplish your goals. “Your estate planner needs new tools in his or her estate planning playroom to deal with the new planning environment,” he adds. Mr. Grey’s suggestions for celebrating Valentine’s Day appear on page 5.

Repurposed Bypass Trust (credit shelter trust) – Your will could establish this type of trust and bequeath the federal exemption amount (or a lower state exemption amount) to it. Your surviving spouse could benefit but the assets, and any growth in their value after your death, would all be removed from your estate. That was standard planning for many years. Now what? ■ Many folks might still benefit from these trusts to remove assets from the reach of state estate tax (remember for this article we assume you’re under the $5/$10M inflation adjusted federal exemption). These trusts can still protect assets from a remarriage, lawsuits, etc. ■ If you keep these trusts in your will consider a couple of tweaks in how you apply them post ATRA. Consider giving an independent trustee a right to distribute the assets outright to your spouse and terminate the trust. In that manner, if the trust isn’t needed, or obtaining a basis step up on the surviving spouse’s death is beneficial the assets can be paid out. Basis step up means that assets included in your estate get an increase, or step up, in the amount on which gain or loss is calculated when the assets are sold (tax basis). ■ Some attorneys like disclaimer bypass trusts. You bequeath all the assets to your surviving spouse and then he or she can disclaim (renounce) some of the assets and they would go into a trust for him or her. This is theoretically a better approach, but few surviving spouses actually take that step. ■ Also, as the exemption amount increased in past years many bypass trusts were drafted to only benefit the surviving spouse, because the amounts were so large. But ATRA was a paradigm shift. For most taxpayers the income tax, not the federal estate tax, is the real birdie to keep your eye on. If your spouse, kids and all descendants are beneficiaries of the bypass trust, then the trustee can spray or sprinkle income to whichever beneficiaries are in the lowest income tax bracket. That can provide great flexibility to avoid the new 3.8% Medicare tax on passive investment income. ■ So you can repurpose a bypass trust to save income tax if you don’t need to worry about federal estate tax. There is another important spin to this planning. With portability, when your spouse dies you succeed to his or her unused exemption. So you may never need a bypass trust to avoid federal estate tax on your death. So assets in a bypass trust may result in higher income tax during the surviving spouse’s life, no federal estate tax savings, perhaps a state estate tax savings, but no basis step up on the second spouse’s death. So your old style bypass trust could cost you more in income tax while you’re alive, cost your heirs more in income tax when they sell assets after you’ve both died, and at best given you a state estate tax savings which may be less than all these costs. Not necessarily a winner. The challenge with all this is that the analysis can be affected by the nature of your assets (how do you invest), the tax basis in assets, future appreciation, and all sorts of other variables. ■ Christian, help, I’m in need of a KISS! So repurpose your bypass trusts with the changes suggested above will give lots more flexibility. How you invest (asset location) and other variables can also squeeze more bennies out of your repurposed bypass trust. ■ In some instances, such as when your estate is small enough that the alternative techniques suggested below may not be worthwhile, a bypass trust might remain the hot choice, but for many bypass trusts perhaps should be used but only as a backstop to better approaches discussed below. ■ Bottom line: you need to update your will and estate plan even if you’re under the exemption amount.
Repurposed Life Insurance – Folks under $5/$10 million in wealth use to buy survivorship life insurance to pay estate taxes. While still possibly useful for state estate taxes, in the new world of estate planning for those safely under the exemption amount survivorship insurance may be a hard limit. But don’t discard insurance planning, repurposed (like the bypass trust and other planning) it may be a real winner. Consider a permanent insurance policy on one life. Evaluate the projected return on a one-life rather than survivorship policy. Consider the increased income tax benefits of a permanent insurance policy in light of the increased income tax rates and the 3.8% Medicare tax on passive investment income. Investments can grow inside a life insurance policy free of income taxes. These dollars can be borrowed out later, often in a tax advantaged manner. Insurance can still be great, but for most folks, it will be applied in a different manner for different benefits.
Repurposed Irrevocable Life Insurance Trusts (ILITs) – The classic life insurance trust is a trust that held life insurance so claimants couldn’t reach the proceeds, beneficiaries couldn’t squander the proceeds, and it wouldn’t be included in your estate. If you’re under the new high exemptions the third component may not matter, but the first two benefits (and others as well) still are really important. That being said, instead of having a survivorship ILIT for those safely under the exemption amount, consider the repurposed ILIT: ■ Have an ILIT for one spouse’s life, not a survivorship or 2nd to die policy. ■ Own a permanent policy to take advantage of income tax savings of growth inside the policy. ■ Set it up so your spouse/partner is a beneficiary and funds can be borrowed out of the policy and distributed. This is akin to the Spousal Lifetime Access Trusts (SLATs) lots of advisers rave about. ■ Consider incorporating a long term care feature on the policy. ■ Bottom line: you need to update your ILITs and insurance plan even if you’re well under the exemption amount.
Multi-Purpose Irrevocable Life Insurance TrustsTM (MILITs) – Yea, so I made up a new name and acronym! But this can be the Intelligent KISS for estate planning for most folks with enough wealth to plan but not enough wealth to be willing to put up with the cost and complexity of the planning they would have if the federal estate exemption had dropped to $1-2 million. This is just a few additional steps from the repurposed ILIT described above. SLATs were the rave for many planners in 2012. It was a great way (when done right, but lots were not!) to remove assets from both spouses’ estates but let one spouse have significant access to the assets, and even, if done creatively and with a little risk (handcuffs not required), the spouse setting it up could benefit too! Well the MILIT can do everything a SLAT can do too! Why spend for two trusts if you can use one. Remember we want that KISS. But you can do better. Let’s say you live in one of the 20 or so states that have decoupled from the federal estate tax and that your state has a $1 million estate tax exemption. We’re going to ignore Connecticut since they have a gift tax and being domiciled in a state with a gift tax is a hard limit for MILITs. Under traditional bypass trust planning (see above) you’d put $1 million in a bypass trust under your will on your death for your spouse. But if your combined estate is say $4 million (well below the $10 million inflation adjusted federal exemption) you could still owe hundreds of thousands in state estate tax on the death of the surviving spouse. What’s the solution? A MILIT! Set up your MILIT today (you probably have or should have an insurance trust anyway). You can do more than just gift annual gifts to the trust to pay insurance premiums. Put more in, just like you would with a SLAT. As you get on in years, or if your health declines, you can put more money in. In your 60’s put in perhaps a few hundred thousand. When you hit 70 perhaps add $500,000. In your 80s maybe you gift more. You can put far more into your MILIT then a bypass trust could hold since after $1 million in our example, your estate would be paying state estate tax on the first death. And that’s a hard limit no-no even with only 20 shades of Grey. But in any decoupled state other than Connecticut, you can gift up to $5 million+ into your MILIT before death and reduce your state estate tax by far more than the old bypass trust planning could ever do. So what are the benefits: ■ All the benefits of the repurposed ILIT above. ■ Avoid much more state estate tax then the old bypass trust plan. Your surviving spouse won’t have to deal with the complexity following your death, the MILIT will already be up and running for years. ■ You might suffice to use a single trust with planning instead of an ILIT, SLAT and bypass trust. While that is far less acronyms for your estate planner (and less fees too!) it is simpler for you, better income and estate tax results for most folks, and all around its simpler. Give your Valentine the KISS of a MILIT! Laters baby!

Checklist: Second Article 2 lines less than One Page [about 54 lines]:
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Checklist Article Title: Wealthy 2013 Plan

Summary: If your net worth is over the $5/$10 million federal threshold, you should plan fast and aggressively. Do I sound like the estate tax version of Chicken Little? Maybe, but President Obama has made his position clear that the wealth should bear more tax, more fiscal cliffs are looming, and President Obama has repeatedly called for changing key estate tax planning techniques that most in Washington would view as mere “loophole closing.” These include: Eliminating grantor trust benefits by including them in your estate. Grantor trusts make the income of a trust taxable to you even though the economic benefits accrue inside the trust (outside your estate). For the really wealthy, a grantor trust permits you to sell interests in a highly appreciated business to a trust and not recognize gain. Valuation discounts are on the block. So is the ability to allocate GST exemption for more than 90-years.

√ Get With the Program – If you’re in this wealthy category and did not gift your exemption amount last year, get moving before the game rules change. Most people that should have made gifts but backed off did so because they did not appreciate the significant mechanisms that can be provided to assure them, their spouse/partner and family access to the funds transferred. Yes, you’ll have to jettison the KISS principal, but at this wealth level if simplicity is your goal, and costs your concern, you’re not seeing the forest through the trees. You can set up non-reciprocal SLATs (each spouse or partner sets up a somewhat different trust for the other), self-settled trust (DAPT) or some hybrid variation of it, and more. If the “loopholes” above are closed these planning ideas won’t have the bang they did.
√ Top off Your Irrevocable Gift Trusts – If you set up an irrevocable gift trust last year but used less then all your exemption, if the trust was set up appropriately for your circumstances (e.g., sufficient access to the trust assets if you need them), top off the gift and use up the remaining exemption. Also, since the $5 million exemption is inflation indexed it increased another $130,000 in 2013. Gift that amount too. If you wait and the loopholes are closed you might need to have your current trust split into separate subtrusts to hold gifts before the change and those after. If your trust wasn’t drafted with enough flexibility, you might even need a new trust. Not a very practical prospect for $130,000. So gift now.
√ Sell Assets to Your Trust – If your wealth is substantial enough that gifting $5,250,000 (the maximum 2013 exemption amount) or $10,500,00 if you’re married, is only a down payment on your planning, you should evaluate selling assets (e.g., interests in a family investment LLC, real estate entities, etc.) to your grantor trusts (the trusts you set up in 2012 were likely grantor trusts, but be sure before you sign!). This is a great way to freeze the value in your estate and shift future appreciation to a trust outside of your estate. It can also lock in significant valuation discounts. If the loopholes above are closed this technique, which has been the keystone of many high net worth families plans, may be impractical. That will be a huge tax benefit to lose out on.
√ Revisit GRATs – Some advisers were pushing these last year because of the proposals to require a minimum 10 year term for GRATs. That would take much of the zing out of the technique and make the mortality risk of GRATs impractical for older or ill taxpayers to bear. Using GRATs if you hadn’t used your exemption rarely made any sense. But now, if you’ve used up most of your exemption on your 2012 gifts, using GRATs which can be structured to shift value out of your estate without using any significant current exemption, could be a great technique, If you have closely held business interests (even a family investment LLC) this is a potentially valuable approach to consider. Again, you have to move before the GRAT “loophole” is closed.
√ Decant and Clean Up – If you have old trusts and planning, the time to clean them up is now. If the grantor trust and GST “loopholes” are closed you will have fewer options and more difficulty cleaning up past planning “stuff.” Decanting is the process whereby you pour an old trust into a new and better crafted trust. While no one can be sure what if any “loophole” closing will occur or its impact on decanting, if you have old trusts that might need an overhaul, act now.

Recent Developments Article 1/3 Page [about 18 lines]:

The American Taxpayer Relief Act (ATRA) permanently eliminated estate tax worries for most taxpayer. So now, what do you do with those family limited partnerships ( FLPs) and limited liability companies (LLCs) that you set up for estate planning discount purposes? No one enjoys the formalities of maintaining FLPS/LLCs, the cost and hassle of the extra income tax returns, and more. So if they don’t provide an estate tax benefit, deep six’em! Not. Repurpose them (just like lots of other planning can be modified for the New Normal of estate planning as illustrated throughout this newsletter). FLPs and LLCs continue to be benefit you by: ■ Providing control over assets (e.g. as a manager of a manager-managed LLC you can control within reason investment, distribution and other decisions). ■ Protect assets from creditors. In many states charging order protection is available (the claimant can get your share of distributions but cannot take over as a member or partner). ■ Limit irresponsible heirs by controlling how much say if any they have in FLP/LLC operations and what distributions they get. Even if the federal estate tax benefits were zapped, these entities should remain the cornerstone of many plans. But, just like those late night infomercials (don’t ya love Sham Wow!) there’s more! Given the restrictions on itemized deductions many high income taxpayers will find itemized deductions disappearing. Creative but careful use of FLPs/LLCs may secure certain deductions. Most important, FLPs/LLCs were historically used to shift income (subject to the family partnership rules of IRC Sec. 704(e)) to lower bracket family members. This can avoid the top 39.6% rate and perhaps the 3.8% Medicare tax on passive income. ■ Bottom Line: Retool your FLPs and LLCs and morph them into income tax planning tools. For really wealthy taxpayers, see the Checklist article. Gift discounted FLP/LLC interests now!

Potpourri ½ Page:

Be a Care Bear about 2012 Planning. You need to share more love with your 2012 planning to enhance the chance it will succeed. Ignoring what you’ve just done will almost assure failure. While there are lots of steps that will have to be taken, and they’ll all depend on the details of your particular plan, a list of many of the common steps to take (or avoid) might help you understand some of what is involved: ■ Typos and incomplete steps abound. No plan or document could have escaped oversights and lose ends with the mad rush to consummate gifts towards the end of 2012. Whatever you did, it all should be given a second look. ■ Many transfers were completed with the minimal documentation needed to conclude the transfer. For example, if you gave gifts of stock to a trust a stock power and assignment may have been signed. Circle back and be sure to issue a stock certificate to the trust, execute an amended and restated shareholders’ agreement, etc. ■ Some transfers were made without securing required lender or other approvals. Consider contact any third parties and obtaining the approvals. ■ Some trusts were funded with gifts of cash because appraisals or third party approvals could not be obtained in time. Consider swapping in the hard to value assets that you initially intended to be in the trust. ■ Gift tax returns will be required for almost all 2012 transfers. Be sure to ascertain which professional will have primary responsibility for the preparation and that they begin the process of obtaining the necessary information to file. ■ Income tax returns should reflect the consequences of 2012 transfers. This may require allocation of entity income to the time period before and after the transfers, filing returns for new entities and trusts, etc. ■ Review asset allocation and location decisions post transfers. ■ Review all insurance coverage to be sure all assets and risk remain covered and new ownership interests, entities, are properly reflected. ■ Distributions must be consistent with the post-transfer ownership interests. If 35% of an FLP was gifted to a trust, distributions must be made 35% to the trust. ■#Observe all post transfer formalities. If new entities were formed to hold assets given, be sure the right people with the appropriate positions/titles sign appropriate documents and confirm appropriate actions. If an investment trustee is require to approve trust investment decisions be sure that individual executes investment documentation. If another family member was named as manager of a family LLC the account opening documentation and investment policy statements likely should be signed by that person in his or her capacity as manager.

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