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Friday, February 9, 2007

Asset Protect Trusts vs. Family Limited Liability Companies

Occasionally, people who are interested in asset protection ask me what is more appropriate, a trust or some sort of FLC or FLP. Here is my response:

An asset protection trust is more secure than an FLC, but it is also more costly to maintain (high annual fees for an independent trustee) and you give up more control. The more money you have and the more at risk you are for a lawsuit, the more you want to set up a trust. For asset protection trusts to work properly, you must give up almost all decision making power over the assets (to a trusted advisor), and you will become, at best, a discretionary beneficiary of such trust.

A single person FLC does not offer much protection, but certainly some. A two person FLC without an operating agreement offers decent protection from any lawsuit arising out of assets in the FLC, but little protection for misdeeds done outside the FLC. With an operating agreement limiting distributions, you get much more protection and that is why there is more of a setup cost. This structure is good for people who really don’t want to part with their assets and/or think they will need it in the future. These receive more protection over time as the Grantor transfers shares of this down to issue (usually at a discount) because of the lack of marketability and lack of control.

There are many types of Asset Protection Trusts. Inter vivos ones (trusts set up during the Grantor’s life) are invariably more costly than one’s set up on death. Something as simple as a traditional ILIT can make a great Asset Protection Trust, especially if funded with Whole Life Insurance. Self Settled Asset Protection Trusts (where the Grantor is also a beneficiary) are available in a few jurisdictions such as Delaware, Alaska, Nevada and New Hampshire. These are high end domestic asset protection trusts. For even greater protection, we can go offshore.

So, basically, it comes back to what you, the client, is trying to accomplish.

Tuesday, February 6, 2007

Estate Planning When Contemplating Divorce

Once a divorce is final, your former spouse, and relatives of your former spouse, are generally not entitled to inherit any money from you upon your death. But what should you do during the lengthy time of your separation leading up to your divorce?

Ripping up a Will that gave everything to your surviving spouse does not solve your problems. New Jersey’s newest probate law (N.J.S.A. 3B:5-3), enacted in 2005, states that you are married and die without a Will a large portion of your assets, possibly all your assets, will pass to your surviving spouse. Accordingly, if you die before your divorce is final, your surviving spouse may still be entitled to all your assets (marital and non-marital). Additionally, your surviving spouse will be entitled to be the Administrator of your estate. This may be completely contrary to your real wishes.

If you do not want the person you are divorcing to receive all your assets, creating a new Will gives you greater control over where your assets go and allows you to pick your own Executor.

When drafting a new Will, keep in mind that any persons that you name under your Will to act as trustee or guardian for your children might be affected by your divorce. Accordingly, if you name a relative of your former spouse as a trustee, he or she may be ineligible to serve as a trustee of any trusts for your children unless clear instructions are given. You should also revisit your guardianship designations to make sure they are still appropriate given your current circumstances.

However, even with a new Will, you usually cannot completely cut out your spouse. Depending upon how far along you are in the process of your divorce, New Jersey’s Elective Share Statute may allow your surviving spouse to claim up to 1/3 of your estate. However, even if your surviving spouse is unable to collect his or her elective share, the Court may intervene if it thinks it would be inequitable to completely cut out your surviving spouse. In 1990, the New Jersey Supreme Court utilized its equitable powers to grant a surviving spouse an equitable share of the marital assets.

In addition to writing a new Will, to further protect yourself, your divorce attorney should consider provisions in your separation agreement whereby you and your spouse waive your right to claim the elective share of your spouse. Your divorce attorney may also wish to consider submitting a motion to the Court to prevent your spouse from making beneficiary changes to his or her life insurance, retirement plans and educational savings accounts.

Finally, do not forget to speak with your parents and siblings about their estate planning documents. If they have money passing to your spouse under the terms of their Wills, or if you or your spouse is named as a guardian, they may wish to update their Wills as well.

Monday, February 5, 2007

Irrevocable Trusts

There are many different types of irrevocable trusts. The most popular irrevocable trusts include:
  1. life insurance trusts;
  2. asset protection trusts;
  3. charitable trusts;
  4. trusts created upon death (such as QTIP trusts and bypass trusts); and
  5. special needs trusts.
Generally, an irrevocable trust is designed to prevent its terms from being modified in the future. As a practical matter, what this means is that a person (the Grantor) creates a document (the Irrevocable Trust) outlining how his or her beneficiaries should receive any assets that are placed into the trust.

The Irrevocable Trust document itself has provisions which state that the Grantor may not make changes or modifications to the trust. Unlike a Revocable Trust, the Grantor of an Irrevocable Trust gives up all control once the trust is created. There are times when such trusts can be later modified, whether by court or by consent of all the beneficiaries, but never by the grantor alone.

Frequently people also create an Irrevocable Trust because once assets are transferred to such trust they will receive favorable estate and inheritance tax treatment. Assets in Irrevocable Trusts receive favorable tax treatment because they are excluded from the gross estate of the grantor at the time of the grantor’s death.

Another reason people also create irrevocable trusts is to provide as a means of protecting the assets in the trusts. By giving up control of the assets (in a non fraudulent way), a potential creditor may not sue the Grantor and try to claim against the assets in the trust.

In most states, including New Jersey, a Grantor may not be a beneficiary of an asset protection trust. However, a few states do allow self settled spendthrift trusts.

Friday, February 2, 2007

Revocable Inter Vivos Trust (a/k/a the Grantor Trust)

The Revocable Grantor Trust is a favorite of practitioners who wish to help their clients avoid probate. The other advantage to the trust is that for individuals who wish to keep their family secrets out of the public domain, it provides a means to keep their estate planning wishes private.
1. The major benefit of the Grantor Trust is that it provides a method for managing the Grantor’s assets, which is particularly useful in the event of incapacity.
2. It is valuable for clients who are not sure if they plan to stay domiciled in New Jersey and may move to a part of the country where avoiding probate is of utmost importance.
3. Planning considerations
a. When transferring real property into any trust, there is a cost associated with the transfer. Additionally, there may be real estate transfer fees and if there is a mortgage on the property, the mortgage company may have an issue with the transfer.
b. Under Revenue Ruling 85-45, the sale of a person’s principal residence held in trust qualified for the I.R.C. §121 capital gains tax exclusion provided the person and trust otherwise qualified for the exclusion.
c. Probate of property in New Jersey is not as expensive or time consuming as in other jurisdictions, so the cost of establishing the trust may not always be justified.
4. Tax aspects
a. While the Grantor is alive, this trust will be ignored for tax purposes and taxed to the Grantor. The trust may also use the Grantor’s social security number until this time.
b. Upon the death of the Grantor, the taxation of the trust will be dependent upon the terms of the trust. A new tax ID number will usually be appropriate.
5. Administration
a. During the life of the Grantor.
1) The administration of Grantor trusts is quite simple while the Grantor is alive as the Grantor who acts as his own Trustee generally has complete control over all the assets as if he owned the assets outright.
2) At any time a Grantor may terminate (or revoke) the trust and receive all of his assets back. This may be especially useful if there is a third party Trustee who is not doing what the Grantor wants.
3) All bank accounts and titling of assets should be made as follows: “[Trustee Name], as Trustee of the [Trust Name]”.
4) To avoid confusion, a Trustee should always indicate when he or she is acting on behalf of the trust rather than in an individual capacity. Accordingly, checks, letters and any other documents should be signed as Trustee.
b. Upon the death of the grantor, the trust turns into an irrevocable trust. The administration will be dependent upon the actual terms of the trust instrument.
1) Unlike trusts created under a Will, the Trustee does not need to acquire Letters of Trusteeship from the Surrogate. This is both a time saver and a small cost saver.
2) Summaries of various common irrevocable trusts to be discussed later.

Thursday, February 1, 2007

Japanese Inheritance Tax vs. US Estate Tax

BRIEF OVERVIEW OF
JAPANESE INHERITANCE AND GIFT TAXES
vs.
AMERICAN ESTATE AND GIFT TAXES

NOTE: This information has been updated. The new post can be found at: http://willstrustsestates.blogspot.com/2011/04/japanese-inheritance-tax-vs-us-estate.html

I. Estate Taxes
A. America
1. Citizens and Permanent Residents
a. Tax on Worldwide property (credit for taxes paid to foreign countries)
b. Exemption of $2,000,000 in 2006; $3,500,000 in 2009; unlimited in 2010; and back to $1,000,000 in 2011)
c. Tax between 18%-46%
d. Unlimited Marital Deduction for Surviving Spouse if a citizen
2. Non-Citizens/Non-Permanent Residents
a. Tax only on Property in the United States (Cash in foreign banks and foreign stocks are not taxed)
b. Exemption of $13,000
c. Tax of between 18%-49% on rest
d. Unlimited Marital deduction if Surviving Spouse a citizen
B. Japan (Actually an Inheritance tax, not an estate tax)
1. Japanese Citizens and Permanent Residents
a. Exemption of ¥50,000,000 + (¥10,000,000 for each statutory heir); Possible additional exemption for insurance money, retirement savings, and money left to handicapped individuals
b. Tax between (10%-50%)
c. For property outside of Japan, a beneficiary that acquires property will be subject to Japanese inheritance tax if the beneficiary is a Japanese national and the beneficiary was domiciled in Japan at any time during the five years preceding the receipt of the inheritance.
d. A surviving spouse is entitled to a tax deduction. This is a complex formula based upon who is living at the time of the Decedent's death and where the money goes. Generally, a surviving spouse can deduct about 1/2 to 2/3 of the tax.
2. Non-Citizens/Non-Permanent Residents
a. If beneficiary is not Japanese and not living in Japan and property is not in Japan, appears Country where property located will tax such property.
b. If there is a tax, it appears a surviving spouse is entitled to the same marital tax deduction as for Japanese citizens.

II. Gift Taxes
A. America (18%-46%)
1. Citizens and Permanent Residents
a. Tax on all gift transfers of Worldwide property
b. Annual exemption of $12,000 per person/per donee (unlimited gifts for donees if different donors)
c. An annual gift to a non-citizen, permanent resident spouse, of $120,000 is available.
d. Lifetime exemption of $1,000,000
e. Gifts may be split with spouse
2. Non-Citizens/Non-Permanent Residents
a. Tax on all gift transfers of US Property (including Cash and Stocks in US companies)
b. Annual exemption of $12,000 per person/per donee (unlimited gifts for donees if different donors)
c. No Lifetime exemption
d. Gifts may be split with spouse
B. Japan (10%-50%)
1. Citizens and Permanent Residents
a. Annual exemption of ¥1,100,000 for each beneficiary (beneficiary taxed after this)
b. One time spouse exemption of ¥20,000,000
c. For property outside of Japan, a donee that acquires property will be subject to Japanese gift tax if the donee is a Japanese national and the donee was domiciled in Japan at any time during the five years preceding the receipt of the gift.
2. Non-Citizens/Non-Permanent Residents
a. Annual exemption of ¥1,100,000 for each beneficiary(unclear – enforcement is almost impossible)

III. Generation Skipping Taxes (Taxes on gifts or bequests to grandchildren)
A. America
1. Approximately $2,000,000 in 2006 is exempt; $3,500,000 in 2009 is exempt; there is no GST tax in 2010; $1,000,000 exemption in 2011 (but indexed for inflation)
2. Tax of 55% on rest
B. Japan
1. None


For more information on Japanese taxes, the Japanese government has a nice website in English with some helpful facts. This is a link directly to the inheritance tax information: http://www.mof.go.jp/english/tax/taxes2006e_d.pdf

(Revised on 2/2/09 to correct Japanese tax rates)