I am happy to announce that we have finally finished creating a series of short videos regarding the estate planning and estate administration process. Here is our third video in which Kevin A. Pollock, Esq., LLM is being interviewed by Pierson W. Backes, Esq., the head of our estate litigation department, regarding the things a person should think about before meeting with an estate planning attorney.
Some of the things people should think about include where you want your money to go, who you want to be in charge of your estate, who you would want to act as trustee of any trusts you create, and who should be guardians of any minor or disabled children.
The role of the attorney should be help people put the legal structure in place, including setting up trusts, and to make the plan tax efficient. A good estate planning attorney will also help you understand the options on how to get money to different people. For example, if you want to leave $100,000 to a sibling, it might be more tax efficient to name them as beneficiary of a life insurance policy rather than naming them as a beneficiary under your Will,
To learn more about estate planning or hiring an elder law Attorney, please visit us at: https://pollockfirm.com/
Showing posts with label Trusts. Show all posts
Showing posts with label Trusts. Show all posts
Friday, January 18, 2019
Monday, January 23, 2017
Why Titling Of Assets Is So Important In Second Marriages
I was talking to another estate planning recently and discussing how much of our work involves assisting clients who have blended families. Blended families generally refers to clients who are married but at least one of the spouses has a child from a previous relationship.
In comparing stories and ways that we can assist clients, we discovered that the biggest hurdle that we face is with respect to titling of assets. To understand the problem, you must realize that the following are examples of things generally trump whatever you put in your Will or Trust:
So, to put this another way, if you have two children from a previous relationship and are married to a new spouse, you may want 1/3 to go to each of your two children, and 1/3 to your spouse. Well, even if you have a Will which says 1/3 goes to each person, this will not happen if some of your assets name a beneficiary or are in a joint account with someone.
Let's say in the example above Husband is the parent to 2 children and he owns the following: A $400,000 house in New Jersey with Wife (who has no children), a $1,500,000 apartment in New York in just his name, a business worth $10,000,000 owned 70/30 with a partner, a 401k worth $3,000,000 naming his wife the beneficiary, a life insurance policy worth $1,000,000 naming his wife as a beneficiary, a brokerage account in his name worth $2,000,000 and a checking account with Wife worth $100,000. Accordingly, the Husband has a net worth of $15,000,000. (I'm only including $7M of the $10M business.) It is Husband's desire to give $5M to each.
Without any additional planning and assuming that Husband and business partner have no agreement in place, a Will that leaves everything 1/3 to each child and Wife has the following consequences:
1) The Wife would get the NJ house, the 401k, the life insurance, plus the joint checking account for a subtotal of $4,500,000. Additionally, she would receive 1/3 of everything else (another $3,500,000) for a total of $8M.
2) Each of the kids would receive $3,500,000 of assets - far less than what H intended.
3) The business would be owned 23.33% by each of the children, 23.33% by the Wife and 30% by the business partner.
Unfortunately, however, life is usually even more complicated than this! Frequently, there is a divorce agreement that might require that the life insurance be payable to the children. Sometimes either the surviving spouse or the child is named as executor - and then the surviving spouse does not get along with the children.
Because these situations are so complex, they are very likely to result in estate litigation. To minimize the costs of an expensive an hostile administration, it is very important to understand that title of assets frequently overrides what a Will or Trust might state and plan accordingly.
In comparing stories and ways that we can assist clients, we discovered that the biggest hurdle that we face is with respect to titling of assets. To understand the problem, you must realize that the following are examples of things generally trump whatever you put in your Will or Trust:
- Life insurance beneficiary designations;
- IRA/401k/403b and other retirement beneficiary designations;
- Annuity beneficiary designations;
- Owning real estate as husband and wife;
- Owning real estate with a survivorship clause;
- Owning real estate with a life estate;
- Having someone on your bank account as a Pay on Death (POD) or Transfer on Death (TOD) beneficiary;
- Owning a bank account or brokerage account jointly with someone;
- Contractual agreements (such as a buy-sell agreement or divorce decree);
- Joint ownership of cars and other vehicles; and
- Joint ownership of bonds.
So, to put this another way, if you have two children from a previous relationship and are married to a new spouse, you may want 1/3 to go to each of your two children, and 1/3 to your spouse. Well, even if you have a Will which says 1/3 goes to each person, this will not happen if some of your assets name a beneficiary or are in a joint account with someone.
Let's say in the example above Husband is the parent to 2 children and he owns the following: A $400,000 house in New Jersey with Wife (who has no children), a $1,500,000 apartment in New York in just his name, a business worth $10,000,000 owned 70/30 with a partner, a 401k worth $3,000,000 naming his wife the beneficiary, a life insurance policy worth $1,000,000 naming his wife as a beneficiary, a brokerage account in his name worth $2,000,000 and a checking account with Wife worth $100,000. Accordingly, the Husband has a net worth of $15,000,000. (I'm only including $7M of the $10M business.) It is Husband's desire to give $5M to each.
Without any additional planning and assuming that Husband and business partner have no agreement in place, a Will that leaves everything 1/3 to each child and Wife has the following consequences:
1) The Wife would get the NJ house, the 401k, the life insurance, plus the joint checking account for a subtotal of $4,500,000. Additionally, she would receive 1/3 of everything else (another $3,500,000) for a total of $8M.
2) Each of the kids would receive $3,500,000 of assets - far less than what H intended.
3) The business would be owned 23.33% by each of the children, 23.33% by the Wife and 30% by the business partner.
Unfortunately, however, life is usually even more complicated than this! Frequently, there is a divorce agreement that might require that the life insurance be payable to the children. Sometimes either the surviving spouse or the child is named as executor - and then the surviving spouse does not get along with the children.
Because these situations are so complex, they are very likely to result in estate litigation. To minimize the costs of an expensive an hostile administration, it is very important to understand that title of assets frequently overrides what a Will or Trust might state and plan accordingly.
Monday, August 29, 2016
Income Taxation of Trusts - Determining Which State Can Tax the Trust
Determining the situs of a trust (i.e. the residence of a trust) is not always an easy matter. Each state has its own rules regarding whether a trust is a "Resident Trust", and often these rules are different from the tax rules, and in some states these rules have been challenged in Court as unconstitutional, where the taxpayer has prevailed, but yet the "unconstitutional rule" is still on the books.
This brings us to the wonderful worlds of New Jersey and Pennsylvania. (Although I am sure a challenge is coming to New York soon.)
Let's take four different situations:
1) A NJ Resident Trust;
2) A Non-Resident NJ Trust;
3) A PA Resident Trust; and
4) A Non-Resident PA Trust.
In situation 1, a Trust is considered a NJ Resident Trust for state income tax purposes, and must file Form NJ-1041, if:
a) The Trust consists of property transferred by a NJ decedent via his/her Will;
b) If a NJ person gifts property to an irrevocable trust; or
c) If a NJ person owns assets in a revocable trust dies and now the trust is irrevocable.
It is important to note that an irrevocable trust is NOT considered a NJ Resident Trust if it was created in another jurisdiction even if all the trustees and beneficiaries are now NJ residents unless the trust situs is changed to New Jersey.
Moreover, even if the trust is considered a NJ Resident Trust, it is NOT subject to New Jersey income tax if:
a) It does not have any tangible assets in NJ;
b) It does not have any income from NJ sources; AND
c) It does not have any trustees who are NJ residents.
It is probably worth creating a separate post on what it means for a person to be domiciled in a particular state, but for now, let's say that it is clear that a person has fixed, permanent home in New Jersey.
All of the above can be gathered simply by looking at the instructions for NJ Form-1041. However, what happens if the Trustees and beneficiaries move out of state? Can NJ still tax the entire trust if only a portion of the income is attributable to NJ? In 2013, the Tax Court of New Jersey decided in Residuary Trust A under the Will of Fred E. Kassner, Michele Kassner, Trustee v. Director, Division of Taxation, that New Jersey could not impose a tax on undistributed income generated by the trust simply because the Trust owned an S-Corporation created in New Jersey when the Decedent was a New Jersey domiciliary, but the Trustee was located outside of NJ and all of the other assets of the trust were located outside of NJ.
Specifically, the Court stated that the due process clause bars NJ from taxing undistributed income of a trust to the extent the trustee, assets and beneficiaries are outside of New Jersey, citing Pennoyer v. Taxation Division and Potter v. Taxation Division.
So, even if a trust is considered a NJ Resident Trust, it does NOT mean it will actually be subject to NJ income tax.
In situation 2, a Non-Resident NJ Trust, which can best be described as any trust that is not a NJ resident Trust, is only subject to NJ income tax to the extent the trust has income from NJ sources, such as a NJ business, real estate or gambling winnings. (Although hopefully your trustee is not actually gambling!)
With respect to Situation 3, the rules for determining whether a Trust is a PA Resident Trust are almost identical to New Jersey. However, where NJ had some clear exclusions whereby a trust was not subject to the NJ income tax, PA tries to tax all income if there was a resident trust. This can be a big problem if you have a PA grantor of a Trust or a PA decedent where following the creation of the trust, the Trustees and the beneficiaries are all out of state.
Now, all is not lost as there was very recently an important case, McNeil vs. Commonwealth of Pennsylvania, in which the Court decided that Pennsylvania did NOT have the right to tax the income of a trust, which was created by a PA Grantor, when the trust was created in another jurisdiction, the Grantor had died, the Trustees where located outside of PA, and the only connection to PA where some discretionary beneficiaries that had not in fact received any income.
Pennsylvania seems to have acquiesced considerably in this decision. While they still say "Resident Trusts" are subject to PA income tax and must file the PA Form 41, the instructions on that form, Pennsylvania allows a Resident Trust to be converted to a Non-Resident Trust by change the trust situs if it lacks sufficient nexus to PA. It appears that the Trustees must follow certain steps to do this, but once done, the trust will no longer be subject to PA income tax. (See page 3 of the form and 20 PA Code Section 7708.)
With respect to Situation 4, if there is a PA Non-Resident Trust (basically a trust that was not created by a PA resident), PA generally takes the position that the Trustee must only file a tax return in PA if the trust has PA source income or if there is a resident beneficiary. The requirement to file the return when there is a resident beneficiary is new and particularly problematic because the requirement to file is true EVEN IF THE TRUST MAKES NO DISTRIBUTION TO THAT BENEFICIARY.
Importantly, the failure to file the PA-41 (Income tax return for a PA Trust) can trigger interest and penalties as high as 50%.
This brings us to the wonderful worlds of New Jersey and Pennsylvania. (Although I am sure a challenge is coming to New York soon.)
Let's take four different situations:
1) A NJ Resident Trust;
2) A Non-Resident NJ Trust;
3) A PA Resident Trust; and
4) A Non-Resident PA Trust.
In situation 1, a Trust is considered a NJ Resident Trust for state income tax purposes, and must file Form NJ-1041, if:
a) The Trust consists of property transferred by a NJ decedent via his/her Will;
b) If a NJ person gifts property to an irrevocable trust; or
c) If a NJ person owns assets in a revocable trust dies and now the trust is irrevocable.
It is important to note that an irrevocable trust is NOT considered a NJ Resident Trust if it was created in another jurisdiction even if all the trustees and beneficiaries are now NJ residents unless the trust situs is changed to New Jersey.
Moreover, even if the trust is considered a NJ Resident Trust, it is NOT subject to New Jersey income tax if:
a) It does not have any tangible assets in NJ;
b) It does not have any income from NJ sources; AND
c) It does not have any trustees who are NJ residents.
It is probably worth creating a separate post on what it means for a person to be domiciled in a particular state, but for now, let's say that it is clear that a person has fixed, permanent home in New Jersey.
All of the above can be gathered simply by looking at the instructions for NJ Form-1041. However, what happens if the Trustees and beneficiaries move out of state? Can NJ still tax the entire trust if only a portion of the income is attributable to NJ? In 2013, the Tax Court of New Jersey decided in Residuary Trust A under the Will of Fred E. Kassner, Michele Kassner, Trustee v. Director, Division of Taxation, that New Jersey could not impose a tax on undistributed income generated by the trust simply because the Trust owned an S-Corporation created in New Jersey when the Decedent was a New Jersey domiciliary, but the Trustee was located outside of NJ and all of the other assets of the trust were located outside of NJ.
Specifically, the Court stated that the due process clause bars NJ from taxing undistributed income of a trust to the extent the trustee, assets and beneficiaries are outside of New Jersey, citing Pennoyer v. Taxation Division and Potter v. Taxation Division.
So, even if a trust is considered a NJ Resident Trust, it does NOT mean it will actually be subject to NJ income tax.
In situation 2, a Non-Resident NJ Trust, which can best be described as any trust that is not a NJ resident Trust, is only subject to NJ income tax to the extent the trust has income from NJ sources, such as a NJ business, real estate or gambling winnings. (Although hopefully your trustee is not actually gambling!)
With respect to Situation 3, the rules for determining whether a Trust is a PA Resident Trust are almost identical to New Jersey. However, where NJ had some clear exclusions whereby a trust was not subject to the NJ income tax, PA tries to tax all income if there was a resident trust. This can be a big problem if you have a PA grantor of a Trust or a PA decedent where following the creation of the trust, the Trustees and the beneficiaries are all out of state.
Now, all is not lost as there was very recently an important case, McNeil vs. Commonwealth of Pennsylvania, in which the Court decided that Pennsylvania did NOT have the right to tax the income of a trust, which was created by a PA Grantor, when the trust was created in another jurisdiction, the Grantor had died, the Trustees where located outside of PA, and the only connection to PA where some discretionary beneficiaries that had not in fact received any income.
Pennsylvania seems to have acquiesced considerably in this decision. While they still say "Resident Trusts" are subject to PA income tax and must file the PA Form 41, the instructions on that form, Pennsylvania allows a Resident Trust to be converted to a Non-Resident Trust by change the trust situs if it lacks sufficient nexus to PA. It appears that the Trustees must follow certain steps to do this, but once done, the trust will no longer be subject to PA income tax. (See page 3 of the form and 20 PA Code Section 7708.)
With respect to Situation 4, if there is a PA Non-Resident Trust (basically a trust that was not created by a PA resident), PA generally takes the position that the Trustee must only file a tax return in PA if the trust has PA source income or if there is a resident beneficiary. The requirement to file the return when there is a resident beneficiary is new and particularly problematic because the requirement to file is true EVEN IF THE TRUST MAKES NO DISTRIBUTION TO THAT BENEFICIARY.
Importantly, the failure to file the PA-41 (Income tax return for a PA Trust) can trigger interest and penalties as high as 50%.
Tuesday, May 3, 2016
Reasons to Value a Trust
Recently I gave a lecture on the valuation of trusts. While I am not an accountant nor am I a valuation expert, I live and breathe trusts... and frequently the question comes up, what is value of a particular beneficiary's interest in a trust.
Keep in mind, just because a trust is worth $1M, it does not mean that the beneficiary's interest is worth $1M if they have limited rights to invade the trust or control it. Here's are a few reasons to value a trust:
Keep in mind, just because a trust is worth $1M, it does not mean that the beneficiary's interest is worth $1M if they have limited rights to invade the trust or control it. Here's are a few reasons to value a trust:
- When a person dies, that person may have a beneficial interest in a trust. Depending upon the type of interest a person has, it may or may not be includible in his/her taxable estate. If the interest is includible in the deceased beneficiary's taxable estate, then the executor of the deceased beneficiary must report it on federal and state estate tax returns.
- Similar to the above, but slightly different, when a person dies, he or she may leave a beneficial interest in a trust to another person. Particularly in New Jersey and Pennsylvania, you see this come up a lot when a person leaves money to a class A beneficiary in trust (such as a spouse), and then the remainder interest to an non class A beneficiary (such as a nephew or niece). This triggers something known as the Compromise tax.
- Financial Aid - Some colleges and schools will look at the trust terms, others won't. Each school is different regarding the questions they ask on their forms.
- Divorce. Depending upon the state, a person's interest may be subject to equitable distribution, alimony and especially child support.
- New Jersey tends to be fairly friendly to a trust beneficiary. See Tannen vs. Tannen, where the Appellate Court ruled that a beneficiary's income interest should not be imputed for purposes of alimony. The general rule was already that such an interest was not subject to equitable distribution. (NOTE: This case law is likely to be challenged in light of the fact that NJ recently enacted the Uniform Trust Act.
- Pennsylvania is far less friendly to trust beneficiaries. The general rule in Pennsylvania is that marital property does not include trust property acquired by gift, bequest, devise or descent prior to or during the marriage, but it does include the increase in value of such property. See 23 Pa. Cons. Stat. 3501(a.1)
- As far as I am aware, both Florida and New York follow the NJ rule and generally considers trust property as separate property, not subject to equitable distribution.
- Massachusetts recently came down with a terrible case: See Pfannenstiehl. (Note: I'm not licensed in MA)
- An income stream
- The right to receive income or principal for health, education, maintenance and support
- An annuity stream (such as $2000/month)
- Principal distributions once the beneficiary reaches a certain age
- The right to take out $5000 or 5% per year
- A discretionary interest
Once you have figured out a person's interest in a trust, the next step usually involves hiring a certified appraiser to figure out the value of a person's interest. A trust attorney can assist the appraiser by advising them on the nuances of the trust and not-so-obvious options that a person may have in invading a trust.
If you are the beneficiary of a large trust, I would recommend that you have the trust reviewed to see if you should disclaim and renounce certain powers to minimize taxes upon your death.
Monday, April 4, 2016
New Jersey Enacts Uniform Trust Code into Law
While this may not sound like big news, it is actually very exciting that New Jersey has finally enacted the Uniform Trust Code (UTC) into law. The new law will go into effect on July 17, 2016. When it does, New Jersey will join Pennsylvania, Florida and a majority of other states in adopting most of the provisions of the UTC.
What does this mean for you though? For the most part, if you have have a trust and have ever said to yourself, "The trustees and beneficiaries all agree this is outdated and certain provisions should be modified", this law is for you!
The best part about the UTC is that it makes it easier to modify a trust without going to court to have it amended. There are obviously certain limitations, but simple things are much easier including:
1) like moving the trust from one jurisdiction to another;
2) interpreting confusing terms of a trust;
3) approving the resignation of a trustee;
4) appointing a new trustee;
5) granting or removing a trustee power;
6) determining trustee compensation;
7) approving an accounting;
8) terminating a trust (if not inconsistent with terms of trust);
9) reforming mistakes; and
10) allowing a parent to bind minor children and unborn children if there is no conflict of interest.
Some other interesting provisions in the new law include:
1) Even if a trust says that a beneficiary is not to be told about a trust, the Trustee must respond to the requests of certain beneficiaries and give them a copy of the trust document and other information related to the administration of the trust.
2) It clarifies some of the terms of trusts for animals/pets.
3) It clarifies the time-frame for a person to contest the validity of a trust.
4) It clarifies to what extent and how a trustee can rely on financial advisers.
The new law, while effective starting on July 17, 2016, will apply to all trusts, whenever created. This does not necessarily mean if you have a trust that you need to amend it. However, some people may want to amend the trusts as soon as possible if:
1) You really want to restrict your heirs from having the ability to modify the trust; or
2) You have a split interest charitable trust based in New Jersey (although it is unclear if the charity or the Attorney General of NJ will consent to this); or
3) You know that the trust document has a mistake and you'd rather try to convince the people alive now to fix it than wait for the next generation.
What does this mean for you though? For the most part, if you have have a trust and have ever said to yourself, "The trustees and beneficiaries all agree this is outdated and certain provisions should be modified", this law is for you!
The best part about the UTC is that it makes it easier to modify a trust without going to court to have it amended. There are obviously certain limitations, but simple things are much easier including:
1) like moving the trust from one jurisdiction to another;
2) interpreting confusing terms of a trust;
3) approving the resignation of a trustee;
4) appointing a new trustee;
5) granting or removing a trustee power;
6) determining trustee compensation;
7) approving an accounting;
8) terminating a trust (if not inconsistent with terms of trust);
9) reforming mistakes; and
10) allowing a parent to bind minor children and unborn children if there is no conflict of interest.
Some other interesting provisions in the new law include:
1) Even if a trust says that a beneficiary is not to be told about a trust, the Trustee must respond to the requests of certain beneficiaries and give them a copy of the trust document and other information related to the administration of the trust.
2) It clarifies some of the terms of trusts for animals/pets.
3) It clarifies the time-frame for a person to contest the validity of a trust.
4) It clarifies to what extent and how a trustee can rely on financial advisers.
The new law, while effective starting on July 17, 2016, will apply to all trusts, whenever created. This does not necessarily mean if you have a trust that you need to amend it. However, some people may want to amend the trusts as soon as possible if:
1) You really want to restrict your heirs from having the ability to modify the trust; or
2) You have a split interest charitable trust based in New Jersey (although it is unclear if the charity or the Attorney General of NJ will consent to this); or
3) You know that the trust document has a mistake and you'd rather try to convince the people alive now to fix it than wait for the next generation.
Monday, March 10, 2014
Calculating Trustee Commissions in NJ
From time to time, people ask me how executor's commissions and
trustee's commissions should be calculated. I have already written a post on calculating executor and administrator commissions, so this post will focus on Trustee commissions.
New Jersey statutes on trustee commissions are very difficult to interpret because they use the term fiduciary to apply to executors, administrators, trustees, guardians and conservators. This would not be a problem if the fees were calculated the same, but they are not. Additionally, there are different rules for testamentary trusts (trusts created under a Will) and intervivos trusts (a trust created while the Grantor was alive). Going forward, if a particular rule applies to everyone, I will call that person a fiduciary.
To start, the Grantor of a Trust can specifically provide for a trustee commission. However, for testamentary trusts, if the commission is higher than the amount allowed under the New Jersey statutes, the Will must specifically state that the testator is aware of the commissions allowed under the New Jersey statutes and expressly authorize payment in excess thereof. N.J.S.A. 3B: 18-31.
Failure to expressly authorize a commission in excess of the NJ statutory limit or failure to state whether or not a trustee is even entitled to commission will result in the trustee being able to take a fee as provided in New Jersey Statutes 3B:18-23 through 3B:18-29. These statutes also apply to Guardians and Conservators.
So how is the trustee's fee actually calculated?
Unlike an executor who typically takes a one time fee, Trustees are more likely to take annual commissions, especially if the trust goes on for a long time.
The fee is comprised of both an income commission and a corpus commission. A trustee is entitled to annual income commissions of 6% without prior court approval. N.J.S.A. 3B: 18-24.
The corpus commission is a bit more complicated to calculate:. Normally an executor will take a one time commission as follows:
A trustee is entitled to a minimum fee of at least $100 per year and corporate trustees may set their own rates.
Upon the termination of a trust, the trustee is entitled to a termination fee in addition to the annual fees he or she may have taken. 3B:18-28. The termination commission is as follows:
Let's presume the following facts: Trust owns a house worth $500,000, a $1,400,000 in stocks and bonds, and $100,000 worth of cash. This is the value at the end of the previous year.
Let's also presume that there is only one trustee and in the year in question the stocks and bonds gave off $56,000 of income.
Accordingly, the calculation would be as follows:
0.5% on the first $400,000 would be $2,000
0.3% on the next $1,600,000 would be $4,800
6% on the $56,000 of income would be $3,360
So the trustee would be entitled to a total commission of $10,160 for the previous year.
Final thoughts about trustee's commissions
Any commission that a trustee takes will be subject to an income tax. As a result, if the trustee is also a beneficiary, he or she may not want to take a commission. Additionally, many times relatives do not appreciate the amount of work involved and will become upset at a trustee if he or she takes a commission. You should think about the dynamics of your family before taking one.
A trustee that does extraordinary work can apply to the court for a commission in excess of the statutory fee. A trustee needs to prepare an annual accounting, and one that fails to adequately communicate with the beneficiary or otherwise behaves badly can be removed by the court. If a trustee is removed from office, he or she may be required by a judge to forfeit his commissions. This is not automatic though.
Finally, as discussed in back in May of 2013, an attorney who is serving as a trustee may be entitled to a fee for legal services AND a commission.
New Jersey statutes on trustee commissions are very difficult to interpret because they use the term fiduciary to apply to executors, administrators, trustees, guardians and conservators. This would not be a problem if the fees were calculated the same, but they are not. Additionally, there are different rules for testamentary trusts (trusts created under a Will) and intervivos trusts (a trust created while the Grantor was alive). Going forward, if a particular rule applies to everyone, I will call that person a fiduciary.
To start, the Grantor of a Trust can specifically provide for a trustee commission. However, for testamentary trusts, if the commission is higher than the amount allowed under the New Jersey statutes, the Will must specifically state that the testator is aware of the commissions allowed under the New Jersey statutes and expressly authorize payment in excess thereof. N.J.S.A. 3B: 18-31.
Failure to expressly authorize a commission in excess of the NJ statutory limit or failure to state whether or not a trustee is even entitled to commission will result in the trustee being able to take a fee as provided in New Jersey Statutes 3B:18-23 through 3B:18-29. These statutes also apply to Guardians and Conservators.
So how is the trustee's fee actually calculated?
Unlike an executor who typically takes a one time fee, Trustees are more likely to take annual commissions, especially if the trust goes on for a long time.
The fee is comprised of both an income commission and a corpus commission. A trustee is entitled to annual income commissions of 6% without prior court approval. N.J.S.A. 3B: 18-24.
The corpus commission is a bit more complicated to calculate:. Normally an executor will take a one time commission as follows:
- 0.5% on the first $400,000 of all corpus received by the executor; plus
- 0.3% on the excess over $400,000. (N.J.S.A. 3B: 18-25)
A trustee is entitled to a minimum fee of at least $100 per year and corporate trustees may set their own rates.
Upon the termination of a trust, the trustee is entitled to a termination fee in addition to the annual fees he or she may have taken. 3B:18-28. The termination commission is as follows:
- If the distribution of corpus occurs within 5 years of the date when the corpus is received by the fiduciary, an amount equal to the annual commissions on corpus authorized pursuant to N.J.S. 3B:18-25, but not actually taken by the fiduciary, plus an amount equal to 2% of the value of the corpus distributed
- If distribution of the corpus occurs between 5 and 10 years of the date when the corpus is received by the fiduciary, an amount equal to the annual commissions on corpus authorized pursuant to N.J.S. 3B:18-25, but not actually received by the fiduciary, plus an amount equal to 1 1/2 % of the value of the corpus distributed;
- If the distribution of corpus occurs more than 10 years after the date the corpus is received by the fiduciary, an amount equal to the annual commissions on corpus authorized pursuant to N.J.S. 3B:18-25, but not actually received by the fiduciary, plus an amount equal to 1% of the value of the corpus distributed; and
- If there are two or more fiduciaries, their corpus commissions shall be the same as for a single fiduciary plus an additional amount of one-fifth of the commissions for each additional fiduciary.
Let's presume the following facts: Trust owns a house worth $500,000, a $1,400,000 in stocks and bonds, and $100,000 worth of cash. This is the value at the end of the previous year.
Let's also presume that there is only one trustee and in the year in question the stocks and bonds gave off $56,000 of income.
Accordingly, the calculation would be as follows:
0.5% on the first $400,000 would be $2,000
0.3% on the next $1,600,000 would be $4,800
6% on the $56,000 of income would be $3,360
So the trustee would be entitled to a total commission of $10,160 for the previous year.
Final thoughts about trustee's commissions
Any commission that a trustee takes will be subject to an income tax. As a result, if the trustee is also a beneficiary, he or she may not want to take a commission. Additionally, many times relatives do not appreciate the amount of work involved and will become upset at a trustee if he or she takes a commission. You should think about the dynamics of your family before taking one.
A trustee that does extraordinary work can apply to the court for a commission in excess of the statutory fee. A trustee needs to prepare an annual accounting, and one that fails to adequately communicate with the beneficiary or otherwise behaves badly can be removed by the court. If a trustee is removed from office, he or she may be required by a judge to forfeit his commissions. This is not automatic though.
Finally, as discussed in back in May of 2013, an attorney who is serving as a trustee may be entitled to a fee for legal services AND a commission.
Monday, June 10, 2013
A Trust can Qualify for a Section 121 Deduction (For Sale of a Personal Residence)
Typically, people take it for granted that there will not be any tax when they sell their personal residence. Technically, there is a tax, but the government also offers a limited exclusion under Section 121 of the Internal Revenue Code.
For individuals who sell their primary residence, you can exclude the first $250,000 of gain. After that, it is subject to a capital gains tax. For married couples, you can exclude the first $500,000 of gain.
In order to qualify for the exclusion, you must have OWNED and USED the residence as your principal residence for 2 of the last 5 years ending with the date of sale (it does not have to be consecutively). If the home was previously used as a rental property, in a business or for another non-qualified use, there may be longer holding requirements or a reduced exemption amount.
One common estate planning tool that many attorneys create is a revocable living trust. A revocable living trust, also known as just a Living Trust, is device to manage a person’s assets during life and after death. While the Grantor is alive, the Grantor can manage his or her trust funds as the Grantor wishes. When the Grantor passes, it acts like a Will but with the added benefit of avoiding probate. If a person sets up a revocable trust, it is highly recommended to transfer all real estate into this trust, including the primary residence.
Another common estate planning tool, particularly for individuals doing Medicaid planning or VA benefit planning, is to move the primary house to an irrevocable trust, which is set up as an intentionally defective grantor trust (IDGT). An IDGT is a type of trust that is outside a Grantor’s estate for estate tax purposes while simultaneously requiring the Grantor to be taxed on the income earned in the Trust.
Under Internal Revenue Code Treasury Regulation 1.121-1(c)(3)(i), if a residence is owned by a trust, for the period that a taxpayer is treated under sections 671 through 679 (relating to the treatment of grantors and others as substantial owners) as the owner of the trust or the portion of the trust that includes the residence, the taxpayer will be treated as owning the residence for purposes of satisfying the 2-year ownership requirement of section 121, and the sale or exchange by the trust will be treated as if made by the taxpayer.
So, the long winded answer to the question is, yes, if a trust owns a primary residence and it is set up correctly, it can qualify for the Capital Gains Tax Exclusion under Section 121 of the Code.
For individuals who sell their primary residence, you can exclude the first $250,000 of gain. After that, it is subject to a capital gains tax. For married couples, you can exclude the first $500,000 of gain.
In order to qualify for the exclusion, you must have OWNED and USED the residence as your principal residence for 2 of the last 5 years ending with the date of sale (it does not have to be consecutively). If the home was previously used as a rental property, in a business or for another non-qualified use, there may be longer holding requirements or a reduced exemption amount.
One common estate planning tool that many attorneys create is a revocable living trust. A revocable living trust, also known as just a Living Trust, is device to manage a person’s assets during life and after death. While the Grantor is alive, the Grantor can manage his or her trust funds as the Grantor wishes. When the Grantor passes, it acts like a Will but with the added benefit of avoiding probate. If a person sets up a revocable trust, it is highly recommended to transfer all real estate into this trust, including the primary residence.
Another common estate planning tool, particularly for individuals doing Medicaid planning or VA benefit planning, is to move the primary house to an irrevocable trust, which is set up as an intentionally defective grantor trust (IDGT). An IDGT is a type of trust that is outside a Grantor’s estate for estate tax purposes while simultaneously requiring the Grantor to be taxed on the income earned in the Trust.
Under Internal Revenue Code Treasury Regulation 1.121-1(c)(3)(i), if a residence is owned by a trust, for the period that a taxpayer is treated under sections 671 through 679 (relating to the treatment of grantors and others as substantial owners) as the owner of the trust or the portion of the trust that includes the residence, the taxpayer will be treated as owning the residence for purposes of satisfying the 2-year ownership requirement of section 121, and the sale or exchange by the trust will be treated as if made by the taxpayer.
So, the long winded answer to the question is, yes, if a trust owns a primary residence and it is set up correctly, it can qualify for the Capital Gains Tax Exclusion under Section 121 of the Code.
Wednesday, October 22, 2008
Why Should I Hire an Estate Planning Attorney?
The short answer is: control. Proper estate planning is essential to controlling how much of your estate you pass on, to whom you pass it on, and when it is passed on. Back in March, I listed the Top 10 Reasons to Have a Will. However, not only should you have a Will, but in most instances it should be drafted by a qualified estate planning attorney.
“Do it yourself” will kits seem easy enough, but they can’t advise you. If you have children and will be naming guardians or setting up trusts, you need the advice of someone who knows the intricacies of estate planning laws. While providing for your children's protection, you need to consider how your money will be transferred to them. Who will control the money until the kids are old enough to take care of it themselves? Will they get staggered amounts as they hit certain milestone birthdays, or get it all at once? What if one of your children is a spendthrift (i.e. a reckless spender)? In this day and age, the issue of blended families can make drafting a will for your loved ones even more complicated. However, an estate planning attorney can not only draft a Will to provide for your wishes, but can also serve as a counselor, suggesting customized trusts that can be used to provide for your spouse and children on various levels. An estate planning attorney can even set up trusts that direct assets to someone other than family in a way that ensures your family has access to the money when that non-family member no longer needs it.
Moreover, tax and trust planning go hand in hand and should be considered simultaneously. In order to maximize how much of your estate stays intact and is passed to your family, you need to minimize the amount paid to the government and maximize the investments held in trust. This requires a considerable amount of coordination among your assets. In order for the trusts to work as intended, all assets must be accounted for, both at the time the trust is established and moving forward. I’ve written before about tax exemptions, but the short version is that if your estate is properly planned, you (and your heirs) can potentially avoid tax liability altogether.
So - pardon the pun, but if there is anything even remotely complicated about your plan, then a do it yourself Will will not do. Finally, this area has become some complex due to the ever changing tax laws, you really do want to have someone who does this work frequently, otherwise you really are just paying an attorney to fill out a Will kit for you.
Written by: Nancy McMillin & Kevin Pollock
“Do it yourself” will kits seem easy enough, but they can’t advise you. If you have children and will be naming guardians or setting up trusts, you need the advice of someone who knows the intricacies of estate planning laws. While providing for your children's protection, you need to consider how your money will be transferred to them. Who will control the money until the kids are old enough to take care of it themselves? Will they get staggered amounts as they hit certain milestone birthdays, or get it all at once? What if one of your children is a spendthrift (i.e. a reckless spender)? In this day and age, the issue of blended families can make drafting a will for your loved ones even more complicated. However, an estate planning attorney can not only draft a Will to provide for your wishes, but can also serve as a counselor, suggesting customized trusts that can be used to provide for your spouse and children on various levels. An estate planning attorney can even set up trusts that direct assets to someone other than family in a way that ensures your family has access to the money when that non-family member no longer needs it.
Moreover, tax and trust planning go hand in hand and should be considered simultaneously. In order to maximize how much of your estate stays intact and is passed to your family, you need to minimize the amount paid to the government and maximize the investments held in trust. This requires a considerable amount of coordination among your assets. In order for the trusts to work as intended, all assets must be accounted for, both at the time the trust is established and moving forward. I’ve written before about tax exemptions, but the short version is that if your estate is properly planned, you (and your heirs) can potentially avoid tax liability altogether.
So - pardon the pun, but if there is anything even remotely complicated about your plan, then a do it yourself Will will not do. Finally, this area has become some complex due to the ever changing tax laws, you really do want to have someone who does this work frequently, otherwise you really are just paying an attorney to fill out a Will kit for you.
Written by: Nancy McMillin & Kevin Pollock
Wednesday, May 7, 2008
Thoughts on Portability of Estate Tax Exemption
Currently the House and the Senate are mulling a proposal to allow married couples to transfer their estate tax exemption amount to a surviving spouse on death. Under the current law, it is a use it or lose it approach.
To give an example of what this would mean, let's take a couple with $4,000,000 worth of assets. The Husband has $3 Million in his name and the wife has $1 Million in her name. Under the current law, it is possible that this family's heirs could be taxed up to $900,000 in federal estate taxes. How you ask?
So how would portability of an estate tax exemption affect this? Well, in each of the above scenarios, there would be ZERO tax. The proposals being bandied about would allow a spouse to transfer his or her exemption amount to a surviving spouse. So in scenarios one and two above, rather than the surviving spouse having an exemption amount of only $2,000,000, he or she would be entitled to an exemption amount of $4,000,000. Generally, this fits in line with the current thinking of most tax provisions in that the government wishes to treat a husband and wife as a single unit.
By and large, there is not much downside to this idea for people. In most proposals, the only thing one must do to take advantage of this is to file an attachment to a person's estate tax return or their final income tax return. The people who would benefit most from this proposal would be those with large assets that they cannot transfer to a spouse (e.g. people who own large retirement accounts).
My one word of caution would be that this could lull people into a false sense of security regarding their estate planning. I know that if people are not worried about taxes, they may be less inclined to get the proper documentation in place. This would be particularly worrisome in the event of 2nd marriage situations where the children of a first marriage could potentially be cut out entirely.
A final note on the status of this legislation is that it has passed the House and is currently stalled in the Senate.
To give an example of what this would mean, let's take a couple with $4,000,000 worth of assets. The Husband has $3 Million in his name and the wife has $1 Million in her name. Under the current law, it is possible that this family's heirs could be taxed up to $900,000 in federal estate taxes. How you ask?
- Scenario 1. Regardless of whether Husband or Wife dies first, if they have a Will leaving everything to the surviving spouse before it goes to the children (an "I Love You Will"), then when the second spouse dies there will be a $900,000 tax. This is because the surviving spouse dies with assets worth $4,000,000 and an exemption of only $2,000,000. This assumes not increase in the value of the assets and the fact that the ederal estate tax rate stays at its current rate of 45%.
- Scenario 2. If Wife dies first and leaves the $1 Million to their children (or in a special trust for Husband), then on the subsequent death of Husband, there will be an estate tax of $450,000. This is because Husband would die with assets worth $3,000,000 and an exemption of only $2,000,000. Same assumptions as above.
- Scenario 3. This couple hires an intelligent estate planning attorney and the attorney helps them retitle their assets so that they each own $2,000,000. The attorney then sets up a special trust for the benefit of the surviving spouse so that he or she has access to all $4,000,000 ($2 Million of their own money and $2 Million in trust). However, this special structure makes full use of each spouse's estate tax exemptions - so that regardless of who dies first, there is no estate tax due and owing at the death of the second spouse.
So how would portability of an estate tax exemption affect this? Well, in each of the above scenarios, there would be ZERO tax. The proposals being bandied about would allow a spouse to transfer his or her exemption amount to a surviving spouse. So in scenarios one and two above, rather than the surviving spouse having an exemption amount of only $2,000,000, he or she would be entitled to an exemption amount of $4,000,000. Generally, this fits in line with the current thinking of most tax provisions in that the government wishes to treat a husband and wife as a single unit.
By and large, there is not much downside to this idea for people. In most proposals, the only thing one must do to take advantage of this is to file an attachment to a person's estate tax return or their final income tax return. The people who would benefit most from this proposal would be those with large assets that they cannot transfer to a spouse (e.g. people who own large retirement accounts).
My one word of caution would be that this could lull people into a false sense of security regarding their estate planning. I know that if people are not worried about taxes, they may be less inclined to get the proper documentation in place. This would be particularly worrisome in the event of 2nd marriage situations where the children of a first marriage could potentially be cut out entirely.
A final note on the status of this legislation is that it has passed the House and is currently stalled in the Senate.
Monday, March 24, 2008
Top Ten Reasons to Have a Will
1. To determine who gets your money (Naming beneficiaries)
2. To determine guardianship (Saying who will take care of you children)
3. To determine who controls the money (Naming of executors and trustees)
4. To minimize estate or inheritance taxes
5. To avoid the cost of an insurance bond (If you do not allow for an executor or administrator to serve without paying for an insurance bond, the court will require one. In New Jersey, this can cost your heirs $500 for each $100,000 of assets you leave them)
6. To develop a trust for your heirs (This controls the timing of payout to beneficiaries)
7. To specify the authority of the Executor and Trustees (E.g. should they run a business, sell your property, or keep certain stocks?)
8. To determine who pays estate taxes (you can actually specify this and frequently should)
9. It provides for a quicker probate process
10. It clarifies your living intentions after your death (in other words, it maximizes the chance that your heirs will respect your wishes)
2. To determine guardianship (Saying who will take care of you children)
3. To determine who controls the money (Naming of executors and trustees)
4. To minimize estate or inheritance taxes
5. To avoid the cost of an insurance bond (If you do not allow for an executor or administrator to serve without paying for an insurance bond, the court will require one. In New Jersey, this can cost your heirs $500 for each $100,000 of assets you leave them)
6. To develop a trust for your heirs (This controls the timing of payout to beneficiaries)
7. To specify the authority of the Executor and Trustees (E.g. should they run a business, sell your property, or keep certain stocks?)
8. To determine who pays estate taxes (you can actually specify this and frequently should)
9. It provides for a quicker probate process
10. It clarifies your living intentions after your death (in other words, it maximizes the chance that your heirs will respect your wishes)
Friday, August 3, 2007
Business Succession Planning
Some of you may have seen these scary statistics:
According to the U.S. Small Business Administration, 90 percent of the 21 million small businesses in the U.S. are family-owned, but less than one-third of family-run companies succeed into the second generation, while only half of that make it to the third. Most often, the lack of a proper succession planning is to blame.
Proper business succession planning is particularly vital in the Northeast where taxes are so high.
Let's assume that an unmarried NJ decedent (Jane) has a company worth $5,000,000 at the time of her death. Without looking at Jane's other assets, I can tell you that her heirs have a potential federal estate tax liability of close to $1,350,000 plus a NJ Estate Tax liability of almost $400,000 for a total tax liability of close to $1,750,000. If she had no issue or parents living, this would also be subject to a $750,000 New Jersey inheritance tax. These taxes could decimate a small company at a time when the key person involved is not around.
The benefits of proper planning are countless.At a minimum, proper strategy will help you minimize taxes, maximize control and provide a clear path for continuity of the business. Planning an exit strategy is important as soon as you go into a business. This includes planning for death, divorce or a sale upon retirement.
Some popular planning techniques include:
One of the most important aspects of proper planning is gaining the ability to maximize the amount that you can pass down to your heirs through the use of Valuation Discounts.
When a person has a small business, it is often difficult to sell. The IRS recognizes this lack of marketability. Additionally, as many small business owners get on in years, they are not as involved in running the business. The IRS also recognizes this lack of control.
It is not uncommon to have restrictive agreements in place that will allow an owner to pass on his or her interest with a one-third discount for lack of marketability PLUS another one-third discount for lack of control. Discounts are very specific to each business and a proper appraisal is a MUST.
So how does it work?
Let's go back to our example above. Let's assume that Jane has one child, Dave, who is 35 years old and has shown some interest in the business. Ten years ago, Jane sets up an entity, let's say an LLC, with a restrictive operating agreement. As a result, the appraisal comes back and states that there is a 1/3 discount for lack of marketability. Jane can transfer Dave $1,012,000 of this company without any out of pocket gift tax consequences. Without the appraisal, this would result in a transfer of 20% of the company. With the appraisal, Jane could transfer as much as $1,518,000 of the LLC (a little over 30%) without gift taxes. Additionally, Dave could buy another 20% of the company with a promissory note at the lowest rate available for tax purposes. Let's say a ten year note of $666,666 at 6% interest. Finally, Jane is in good health, so for the next 10 years she uses her annual exclusion amount to gift Dave another $12,000 worth of the company annually. (Since annual appraisals would be expensive, let's assume we don't discount this.)
The result is that upon Jane's death 10 years later, her 100% interest in the company, which started at $5,000,000 company, has been reduced as follows:
1) Through the lifetime gift to Dave, her interest is reduced to a 70% interest, worth $3,500,000;
2) Through the promissory note, her interest is reduced just under 50%, with a value of just under $2,500,000.
3) Through the annual gifting, her interest in the business is reduced to $2,380,000.
Upon Jane's death her $2,380,000 interest will receive a 1/3 discount for lack of marketability and another 1/3 discount for lack of control. This will result in a tax valuation of approximately $1,060,000. After we add back in the $666,666 that she received for the 20 interest plus another $220,000 for interest payments, she will pass with a taxable estate of about $1,950,000.
Accordingly, upon Jane's death, her estate will not be subject to any federal estate tax liability. Additionally, the NJ Estate tax liability will be reduced to $96,000. This is a tax savings of over $1,600,000 - which far outweighs the costs involved in such preparation.
Obviously, there are many different ways to structure this type of transaction, but they are usually based upon the same methodology. The numbers and techniques involved will depend upon the individual needs of the client. For example, if Dave were not responsible or had no interest in running the business, Jane could give him his shares in trust. If Jane had a business partner, this structure could be done for each partner and combined with a buy-sell agreement funded by life insurance.
According to the U.S. Small Business Administration, 90 percent of the 21 million small businesses in the U.S. are family-owned, but less than one-third of family-run companies succeed into the second generation, while only half of that make it to the third. Most often, the lack of a proper succession planning is to blame.
Proper business succession planning is particularly vital in the Northeast where taxes are so high.
Let's assume that an unmarried NJ decedent (Jane) has a company worth $5,000,000 at the time of her death. Without looking at Jane's other assets, I can tell you that her heirs have a potential federal estate tax liability of close to $1,350,000 plus a NJ Estate Tax liability of almost $400,000 for a total tax liability of close to $1,750,000. If she had no issue or parents living, this would also be subject to a $750,000 New Jersey inheritance tax. These taxes could decimate a small company at a time when the key person involved is not around.
The benefits of proper planning are countless.At a minimum, proper strategy will help you minimize taxes, maximize control and provide a clear path for continuity of the business. Planning an exit strategy is important as soon as you go into a business. This includes planning for death, divorce or a sale upon retirement.
Some popular planning techniques include:
- Setting up an entity structure (LLC, C Corporation, S Corporation, Partnerships, etc.);
- Purchasing Life Insurance (combined with Buy-Sell Agreements);
- Creating agreements limiting control of potential takers to the business;
- The use of promissory notes;
- Selling or gifting ownership in the business to family members; and
- Selling or gifting ownership in the business to other entities or trusts that will benefit family members.
One of the most important aspects of proper planning is gaining the ability to maximize the amount that you can pass down to your heirs through the use of Valuation Discounts.
When a person has a small business, it is often difficult to sell. The IRS recognizes this lack of marketability. Additionally, as many small business owners get on in years, they are not as involved in running the business. The IRS also recognizes this lack of control.
It is not uncommon to have restrictive agreements in place that will allow an owner to pass on his or her interest with a one-third discount for lack of marketability PLUS another one-third discount for lack of control. Discounts are very specific to each business and a proper appraisal is a MUST.
So how does it work?
Let's go back to our example above. Let's assume that Jane has one child, Dave, who is 35 years old and has shown some interest in the business. Ten years ago, Jane sets up an entity, let's say an LLC, with a restrictive operating agreement. As a result, the appraisal comes back and states that there is a 1/3 discount for lack of marketability. Jane can transfer Dave $1,012,000 of this company without any out of pocket gift tax consequences. Without the appraisal, this would result in a transfer of 20% of the company. With the appraisal, Jane could transfer as much as $1,518,000 of the LLC (a little over 30%) without gift taxes. Additionally, Dave could buy another 20% of the company with a promissory note at the lowest rate available for tax purposes. Let's say a ten year note of $666,666 at 6% interest. Finally, Jane is in good health, so for the next 10 years she uses her annual exclusion amount to gift Dave another $12,000 worth of the company annually. (Since annual appraisals would be expensive, let's assume we don't discount this.)
The result is that upon Jane's death 10 years later, her 100% interest in the company, which started at $5,000,000 company, has been reduced as follows:
1) Through the lifetime gift to Dave, her interest is reduced to a 70% interest, worth $3,500,000;
2) Through the promissory note, her interest is reduced just under 50%, with a value of just under $2,500,000.
3) Through the annual gifting, her interest in the business is reduced to $2,380,000.
Upon Jane's death her $2,380,000 interest will receive a 1/3 discount for lack of marketability and another 1/3 discount for lack of control. This will result in a tax valuation of approximately $1,060,000. After we add back in the $666,666 that she received for the 20 interest plus another $220,000 for interest payments, she will pass with a taxable estate of about $1,950,000.
Accordingly, upon Jane's death, her estate will not be subject to any federal estate tax liability. Additionally, the NJ Estate tax liability will be reduced to $96,000. This is a tax savings of over $1,600,000 - which far outweighs the costs involved in such preparation.
Obviously, there are many different ways to structure this type of transaction, but they are usually based upon the same methodology. The numbers and techniques involved will depend upon the individual needs of the client. For example, if Dave were not responsible or had no interest in running the business, Jane could give him his shares in trust. If Jane had a business partner, this structure could be done for each partner and combined with a buy-sell agreement funded by life insurance.
Wednesday, March 21, 2007
QDOTs
Qualified Domestic Trust (QDOT) – A QDOT is a statutorily created trust designed to allow a non-citizen widow or widower qualify for the unlimited marital deduction. See I.R.C. §2056A.
Minor updates made on December 14, 2010.
1. Other than the citizenship requirements:
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a. A QDOT must qualify for the marital deduction as provided for in §2056.
1) Although I.R.C. §2056A does not expressly mandate the distribution of trust income to the spouse, the IRS has stated in letter rulings that a QDOT must also meet the general marital deduction requirements of Sec. 2056. Accordingly, a QDOT should provide that all income is distributable to the surviving non-citizen spouse.
b. The trustee of the QDOT must be a citizen of the United States and possibly even a corporate trustee depending upon the size and types of assets involved.
1) A “large QDOT” is a QDOT with assets in excess of $2,000,000.
i At least one of the trustees must be a U.S. bank or a trust company; or
ii The U.S. trustee (an individual trustee) must furnish a bond or letter of credit equal to 65 percent of the fair market value of the assets in the trust.
ii The U.S. trustee (an individual trustee) must furnish a bond or letter of credit equal to 65 percent of the fair market value of the assets in the trust.
2) A “small QDOT” is a QDOT with assets less than $2,000,000.
i There must be either a U.S. bank or a trust company as the trustee; or
ii No more than 35 percent of the trust assets can be real property located outside the United States.
ii No more than 35 percent of the trust assets can be real property located outside the United States.
c. As funds are paid out from the trust, the estate tax must be paid on each distribution and the trustee must have the right to withhold the taxable amount.
1) Income distributions from a QDOT are not subject to the estate tax;
2) A surviving non-citizen spouse may also be eligible for a hardship exemption.
1) Income distributions from a QDOT are not subject to the estate tax;
2) A surviving non-citizen spouse may also be eligible for a hardship exemption.
2. Planning Considerations
a. To avoid the difficulties associated with QDOTs, it is advisable for clients to make use of the $100,000 gift tax exemption (indexed for inflation, making it over $134,000 in 2010) available for transfers to a non-citizen spouse. Other planning tools such as ILITs should be considered.
b. A QDOT need not be created in the decedent’s Will (or in a revocable living trust); it may be created by the surviving non-citizen spouse provided it is funded prior to the due date for the federal estate tax return.
c. Citizenship – It is imperative to learn of the client’s citizenship and status to accurately plan and determine if any treaties apply.
b. A QDOT need not be created in the decedent’s Will (or in a revocable living trust); it may be created by the surviving non-citizen spouse provided it is funded prior to the due date for the federal estate tax return.
c. Citizenship – It is imperative to learn of the client’s citizenship and status to accurately plan and determine if any treaties apply.
1) If the surviving non-citizen spouse becomes a citizen prior to the filing of the estate tax return, there will be no need for a QDOT.
2) If the surviving spouse becomes a citizen after the assets are transferred to the QDOT, distribution of property from the QDOT will not be taxed if:
2) If the surviving spouse becomes a citizen after the assets are transferred to the QDOT, distribution of property from the QDOT will not be taxed if:
i the surviving spouse either was a U.S. resident from the date of death of the decedent or no taxable distributions were made from the QDOT prior to the surviving spouse becoming a citizen; and
ii the United States trustee notifies the IRS that the surviving spouse has become a U.S. citizen.
iii Note: Special rules apply if the QDOT had already made taxable distributions. See Treas. Reg. § 20.2056A-10
ii the United States trustee notifies the IRS that the surviving spouse has become a U.S. citizen.
iii Note: Special rules apply if the QDOT had already made taxable distributions. See Treas. Reg. § 20.2056A-10
d. A QDOT Rollover IRA should be considered for the decedent’s IRA and 401(k) assets to avoid an immediate income tax and estate tax. See also Treas. Reg. §20.2056A-4(c) for alternatives on handling non-assignable annuities and other such assets.
e. Joint property owned by the decedent and the non-citizen spouse will follow the rules established under I.R.C. §2040(a), which basically states that the asset will be includible in the gross estate of the person who paid for the asset. I.R.C. §2040(b), which provides an exception to married couples, does not apply.
f. The QDOT should only be funded with assets in excess of the federal estate tax limit, not in excess of the New Jersey estate tax limit (unless the spouse decides to become a citizen before any distributions are made from the trust).
e. Joint property owned by the decedent and the non-citizen spouse will follow the rules established under I.R.C. §2040(a), which basically states that the asset will be includible in the gross estate of the person who paid for the asset. I.R.C. §2040(b), which provides an exception to married couples, does not apply.
f. The QDOT should only be funded with assets in excess of the federal estate tax limit, not in excess of the New Jersey estate tax limit (unless the spouse decides to become a citizen before any distributions are made from the trust).
3. Tax Consequences
a. The QDOT should be taxed as a simple trust for income tax purposes.
b. The assets transferred into the QDOT are eligible for the unlimited marital deduction.
c. Each distribution from the QDOT triggers the federal estate tax.
d. Form 706-QDT must be filed annually to report the amount in the trust as well as the distributions made from the trust.
e. A non-citizen spouse cannot use the applicable exclusion amount to shelter any distributions of principal from a QDOT, because QDOT assets are never considered part of the non-citizen spouse's gross estate; they are part of the deceased spouse's estate for estate tax purposes.
f. A non-citizen spouse cannot use the applicable exclusion amount to shelter assets in a QDOT from estate taxes upon his or her death. However, the surviving non-citizen spouse may use the applicable exclusion amount ($2 million in 2006) to shelter his or her own assets from federal estate taxes.
f. The 2001 tax act (known as "EGTRRA") now provides that even though the Federal Estate Tax may be abolished, if assets pass to a QDOT as a result of a death before the phase-out is complete, the assets in the QDOT will be taxable upon withdrawal until December 31, 2020.
b. The assets transferred into the QDOT are eligible for the unlimited marital deduction.
c. Each distribution from the QDOT triggers the federal estate tax.
d. Form 706-QDT must be filed annually to report the amount in the trust as well as the distributions made from the trust.
e. A non-citizen spouse cannot use the applicable exclusion amount to shelter any distributions of principal from a QDOT, because QDOT assets are never considered part of the non-citizen spouse's gross estate; they are part of the deceased spouse's estate for estate tax purposes.
f. A non-citizen spouse cannot use the applicable exclusion amount to shelter assets in a QDOT from estate taxes upon his or her death. However, the surviving non-citizen spouse may use the applicable exclusion amount ($2 million in 2006) to shelter his or her own assets from federal estate taxes.
f. The 2001 tax act (known as "EGTRRA") now provides that even though the Federal Estate Tax may be abolished, if assets pass to a QDOT as a result of a death before the phase-out is complete, the assets in the QDOT will be taxable upon withdrawal until December 31, 2020.
Minor updates made on December 14, 2010.
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
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.
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.
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.
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.
2) Summaries of various common irrevocable trusts to be discussed later.
Wednesday, January 24, 2007
Benefits of a Life Insurance Trust
I. What is a Life Insurance Trust?
A. Legal Relationship - A trust is a relationship that exists when one person or an entity (the Trustee) holds legal title to money or property for the benefit of one or more individuals or organizations (the Beneficiaries). The terms of the relationship are decided by the person providing money for the trust (the Grantor), and are usually evidenced in writing.
1. Grantor/Settlor - The Grantor or Settlor is the person or entity that creates the trust by providing the money or insurance to fund it.
2. Trustee - The Trustee is the person or entity that manages the trust assets for the benefit of the beneficiaries of the trust. The trustee is bound by a fiduciary duty to act in the best interests of trust, as directed by the Grantor or Settlor.
3. Beneficiary - A Beneficiary of a trust is a person or entity that is entitled to receive money from the trust. The manner in which a person receives such money varies from trust to trust, and generally a Grantor may put in a range of provisions to restrict a Beneficiary’s access to the money.
B. Design - A life insurance trust is specifically designed to hold life insurance.2. Trustee - The Trustee is the person or entity that manages the trust assets for the benefit of the beneficiaries of the trust. The trustee is bound by a fiduciary duty to act in the best interests of trust, as directed by the Grantor or Settlor.
3. Beneficiary - A Beneficiary of a trust is a person or entity that is entitled to receive money from the trust. The manner in which a person receives such money varies from trust to trust, and generally a Grantor may put in a range of provisions to restrict a Beneficiary’s access to the money.
1. Irrevocable – Once created, a life insurance trust is almost impossible to change.
2. Loss of Control - Generally, the insured must give up all rights to control the trust and the life insurance policy in favor of a trusted advisor. The Grantor should decide the terms of the trust upfront so that the Trustee may carry out the Grantor’s wishes.
3. Tax - A life insurance trust is typically designed to save money on estate and inheritance taxes. It should also allow the Grantor to use his or her annual gift tax exclusion so that the premium payments are not treated as a taxable gift.
2. Loss of Control - Generally, the insured must give up all rights to control the trust and the life insurance policy in favor of a trusted advisor. The Grantor should decide the terms of the trust upfront so that the Trustee may carry out the Grantor’s wishes.
3. Tax - A life insurance trust is typically designed to save money on estate and inheritance taxes. It should also allow the Grantor to use his or her annual gift tax exclusion so that the premium payments are not treated as a taxable gift.
II. What are the benefits of an insurance trust?
A. Reduces estate and inheritance taxes - If life insurance is owned by a trust, and the trust is structured properly, the proceeds from the life insurance will NOT be includible in the taxable estate of the Grantor. Note: A trust must purchase the life insurance, otherwise there is a three year look-back period.
B. Allows for control of assets after you die – Despite the fact that the trust is irrevocable and you lose control once it is established, with proper planning, the trust can allow a Grantor to decide when and how his or her heirs should get the proceeds of the life insurance.
C. Asset protection – By giving money to your heirs in trust, it ensures that your heirs are less likely to squander their inheritance. It also protects it from creditors.
B. Allows for control of assets after you die – Despite the fact that the trust is irrevocable and you lose control once it is established, with proper planning, the trust can allow a Grantor to decide when and how his or her heirs should get the proceeds of the life insurance.
C. Asset protection – By giving money to your heirs in trust, it ensures that your heirs are less likely to squander their inheritance. It also protects it from creditors.
III. Who should consider an insurance trust?
A. Recent Divorcees – Many divorce decrees call for an insurance trust to be established. It benefits the custodial parents by giving them assurance of the existence of the policy. It benefits the non-custodial parent by giving them a voice in when the child gets the money and ensuring that they money benefits the children, and not the person they just divorced.
B. Individuals with Significant Assets – Individuals with substantial wealth may benefit from a life insurance trust as a way to reduce taxes or to create liquidity for an estate that may have other tax or cash flow issues.
C. Individuals with Large Insurance Policies – By itself, a large policy can create estate tax issues, so even if a person is not otherwise wealthy, it makes sense to transfer the wealth you do have with minimum tax consequences.
D. Same Sex Couples – Despite the recent changes in some states, including New Jersey, that benefit same sex couples, many states and the federal government still treat same sex couples as nothing more than friends for tax purposes. Accordingly, a life insurance trust will ensure that your loved one benefits upon your death without a large tax bite.
E. Individuals married to Non-Citizen Spouses – A non citizen spouse is not entitled to the unlimited marital deduction for estate and gift tax purposes. Accordingly, if you are married to a non-citizen spouse, the best way to avoid a large estate tax upon your death is to create a life insurance trust.
B. Individuals with Significant Assets – Individuals with substantial wealth may benefit from a life insurance trust as a way to reduce taxes or to create liquidity for an estate that may have other tax or cash flow issues.
C. Individuals with Large Insurance Policies – By itself, a large policy can create estate tax issues, so even if a person is not otherwise wealthy, it makes sense to transfer the wealth you do have with minimum tax consequences.
D. Same Sex Couples – Despite the recent changes in some states, including New Jersey, that benefit same sex couples, many states and the federal government still treat same sex couples as nothing more than friends for tax purposes. Accordingly, a life insurance trust will ensure that your loved one benefits upon your death without a large tax bite.
E. Individuals married to Non-Citizen Spouses – A non citizen spouse is not entitled to the unlimited marital deduction for estate and gift tax purposes. Accordingly, if you are married to a non-citizen spouse, the best way to avoid a large estate tax upon your death is to create a life insurance trust.
Tuesday, January 23, 2007
Reasons for a Will
- General Benefits
a) Ensures a clear WRITTEN clear plan for the distribution of assets after your deathi. Provides proof of plan
ii. You get to choose who serves as executor, trustee and guardian
iii. A clear plan can help avoid infighting amongst surviving family members
b) Important means of ensuring that money will go to whom you wish it to go rather than according to state law
c) Eliminates need for Insurance bond for Trustees and Guardians (Savings of approximately $500 for every $100,000 that the estate is valued at) - Establish trusts for your children/grandchildren
a) Minors – allows for both discretion over distribution and control over timing of distributionsi. Tiered distribution – traditional means of giving money to children (age 21, 25, 30)
ii. Dynasty trusts – stays in family blood forever if funded with enough money.
b) Problem children – can give trustee discretion as to when to distribute money out - Flexibility
a) A Modern Will should allow for a great deal of flexibility because of the ever-changing tax laws.i. Regardless of whether a Testator’s estate goes up or down, the will should contain formulas to take into account the current state of the tax laws and future anticipated changes.
ii. Ability to take into account State Tax laws in conjunction with Federal Tax Laws
b) Trustee provisions - Many problems occur when beneficiaries are stuck with trustees whom they cannot remove. A modern Will should have the ability for trusted beneficiaries to replace trustees and appoint independent trustees to allow for invasion of principal to beneficiaries in a way that will not produce adverse tax consequences.
c) Post mortem planning - A will should allow for the surviving spouse or an independent executor to do planning after the death of the testator including tax planning.i. Disclaimers
ii. Limited Powers of Appointment – You can allow the surviving spouse to appoint the balance of a trust among your children as he or she sees fit. (This is especially useful when children have varied income levels.)
iii. Granting of a General Power of Appointment for tax purposes.
d) Side letters – Under New Jersey law, a testator may revise the provisions regarding disposition of tangible personal properties without redoing the entire will. (E.g. You can easily change your mind about who you want to leave your golf clubs to without redoing your Will.)
e) Combining trusts – A well drafted will (and trust) should allow you to combine two or more trusts with similar terms to save time and money. - Minimization of Tax consequences
a) Establishing trusts allows couples to make full use of both spouses’ tax exemptions.
b) Anyone who plans to distribute to non-lineal descendents, up or down, must plan to minimize inheritance taxes
c) Establishment of multiple trusts for minimization of Generation Skipping Transfer Tax (GST tax)
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