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2019 Estate Tax PlanningOpportunities

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2019 Estate Tax Planning Opportunities In December 2017, President Trump signed into law the Tax Cuts and Jobs Act. This law increased the estate and gift tax exclusion amounts from $5 million to $10 million, adjusted for inflation. The inflation-adjusted exclusion amount for 2019 is $11,400,000. The current gift and estate tax rate is 40%. Spousal Exemption Current law provides for portability of the Federal spousal estate tax exemption (called the Deceased Spouse Unused Exemption Amount or “DSUEA”); that is, if a predeceased spouse does not fully utilize his or her $11,400,000 for 2019 estate tax exemption, the surviving spouse could utilize the unused exemption of his or her predeceased spouse, subject to certain requirements. The New York State Estate Tax Trap The benefits of the increased estate and gift tax exemption and the DSUEA apply only to one’s Federal taxable estate or taxable gifts. These benefits are inapplicable to a client’s New York State taxable estate. In New York, the estate tax exclusion is $5,740,000 for decedent’s dying on or after January 1, 2019 and before January 1, 2020. However, New York has implemented an estate tax “cliff” precluding decedents with a taxable estate more than 5% of the applicable exclusion amount (i.e. estates larger than $6,027,000 in 2019) from taking advantage of the exclusion. Unlike many other states, there is no gift tax in New York. High net worth clients need to be aware of the differences between the Federal estate tax law and the New York estate tax law and take advantage of the planning opportunities, such as gifting, that result from these differences. The New York State estate tax that may be saved as a result of making large gifts can be significant. Unlike years prior, this is especially valuable given that gifts, regardless of when they were made, will no longer be included in the calculation of a New York gross estate for decedent’s with dates of death on or after January 1, 2019. For example, assume that an unmarried client has an estate with a value of $11,400,000. If the client does no estate planning and dies on or after January 2019, there would be no Federal estate tax due. The New York State estate tax would be approximately $1,290,800.

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If the client did estate planning, he could gift some of his assets (for example, $5,660,000) to his children (or to a trust for them). If the client were to make a gift of $5,660,000 prior to his death and die after January 1, 2019, there would be no Federal gift or estate tax to pay and no New York estate tax liability. By engaging in gift and estate tax planning, the client could save approximately $1,290,800 in New York State estate taxes for his family. Leveraging the Gifts Estate planning is not limited to outright gifts which reduce the estate and gift tax exclusion dollar for dollar. High net worth clients would be wise to take advantage of leveraged gifting. This can be done through the use of a number of gift tax strategies, such as Grantor Retained Annuity Trusts (GRATs), Qualified Personal Residence Trusts (QPRTs) and Charitable Trusts. For estates of significant value the use of Intentionally Defective Grantor Trusts can be helpful. Grantor Retained Annuity Trusts (GRATs) Funded with LLC Units A Grantor Retained Annuity Trust (GRAT) is an irrevocable Trust which requires that a percentage of the value of the trust property be paid to the Grantor each year (annuity payment) for a term of years. When the term of years end, the trust assets pass to the trust beneficiaries. The value of a gift of property to a GRAT is reduced by the value of the annuity payment to the Grantor because the annuity is considered money that the Grantor did not give away. The value of the gift to the trust can be further reduced if the GRAT is funded by assets which are themselves discounted, such as nonvoting minority units of limited liability companies (LLCs) which own real estate. Therefore, combining the GRAT with discounted nonvoting shares in an LLC can maximize gift and estate tax savings. For example, a client with a taxable estate could take a $5,000,000 portfolio of real properties, establish a Delaware LLC, and transfer the properties to this LLC in exchange for 4 voting and 96 nonvoting shares of the LLC, called “membership units.” This could also be accomplished with business interests and/or liquid assets. The Delaware LLC would then be appraised and an appraiser could determine that a 30% or greater discount applies to the nonvoting units because the units are nonvoting and are not marketable. The client could then gift the already discounted nonvoting LLC units to two 3% Grantor Retained Annuity Trusts (GRATs). One GRAT would last for five years and the other GRAT would last for seven years. The client will retain an income stream of 3% of the funding value of the LLC units during the GRAT period. Once the client outlives each GRAT term the assets in the two GRATS (the 96 nonvoting LLC units), would pass to children, grandchildren or trusts for their benefit without estate taxation. When each GRAT is funded, the client decides the term and the annual rate of return.

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By utilizing leveraged gifting and employing an LLC and a GRAT together, and assuming the client has survived the GRAT terms, the client will have gifted $4,800,000 in real estate using $2,803,946.88 of gift tax exemption. The client has just leveraged approximately 42% of the value of the real estate. Any future appreciation in the real estate will also be outside the client’s taxable estate. Depending on the value of the taxable estate & the federal estate tax rates in effect at the clients’ date of death, leveraging the gift in this way can save the client’s estate a significant amount of money in federal estate taxes. At current federal estate tax rates, the estate would save approximately $800,000 in federal estate taxes (without considering a potential increase in fair market value of the gifted property), and an additional $800,000 in New York state estate taxes. The Qualified Personal Residence Trusts (QPRTs) A client may leverage a gift of his or her home (and/or a second home) by using a Trust called a QPRT (Qualified Personal Residence Trust). A QPRT is a trust that lasts for a term of years. During the QPRT term the client has the right to live rent free in the residence. At the end of the term the residence can remain in trust or pass to children, grandchildren or trusts for their benefit. The client can continue to use the residence under certain conditions. The primary benefit of the QPRT is that all future appreciation of the home will escape estate taxation once the client outlives the term. For example, a 72 year old client with a taxable estate who owns a $1,000,000 home transfers it to a 6 year QPRT and thereby has made a taxable gift of $692,030. After the client outlives the term, the $1,000,000 (with any additional appreciation) home is now outside of the client’s estate. There are additional techniques which can be employed to save additional estate taxes with the use of a QPRT funded by a client’s home. Please note that if the home is sold by the QPRT during the term, there may be capital gains tax liability. This liability may be reduced (or in some cases eliminated) by use of the $250,000 capital gains tax exclusion0F

1 for the sale of one’s personal residence. This exclusion is increased to $500,000 for married couples. Additionally, if a new home is not purchased within two (2) years of the sale, the QPRT must convert to a GRAT, which may reduce the estate tax savings of the QPRT. If the home is sold by the QPRT after the term, and if the trust is structured as a grantor – type trust then there may be capital gains tax liability. The capital gains tax liability may be reduced if the creator of the trust qualifies for the $250,000 capital gains tax exclusion ($500,000 for married taxpayers filing jointly). 1 It is important to note that the capital gains tax rates are lower than the estate tax rates.

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Wills and Trusts with Disclaimer Provisions Each Will or Trust can be structured so that upon the decedent’s death, the entire principal and accumulated income of the estate or Trust is held in a Marital Trust for the sole benefit of the surviving spouse.

The spouse, within the disclaimer period (nine (9) months from spouse’s date of death), may disclaim all or part of the assets of the Marital Trust. The disclaimed assets will be held in a Credit Shelter Trust for the benefit of the surviving spouse and the children or grandchildren.

The ability of the spouse to make a partial or total disclaimer of assets in the Marital Trust will facilitate the asset allocation between spouses if this division was not already accomplished during lifetime.

Asset allocation is especially important in New York State because New York State does not have a DSUEA provision which allows a surviving spouse to make use of the unused estate tax exemption of the deceased spouse. Additionally, the two trust system will provide flexibility to the surviving spouse and allow the spouse to help determine if any Federal or New York State estate tax will be paid upon the death of the decedent spouse.

Spousal Lifetime Access Trust (SLAT)

Frequently clients are reluctant to gift assets as part of an estate plan because they are concerned about losing control of their assets. A Spousal Lifetime Access Trust (SLAT) addresses this concern because it enables the spouse to gain access to funds transferred to the Trust while saving estate taxes. In this way, the donor spouse uses his gift tax exemption, his or her spouse retains some degree of control over the Trust assets, and the assets will be excluded from both spouses’ estates. A client can create a SLAT lasting for the client’s spouse’s lifetime.

Income and principal from the Trust could be distributed to the spouse, children or grandchildren in the sole discretion of the Trustee. The spouse could serve as a Co-Trustee of this Trust provided assets from the Trust are not used by the spouse to discharge the client’s obligation of supporting his or her spouse.

This spousal lifetime access trust is designed to work in a similar manner as the credit shelter trust under a Will; except it is a way that the spouse, during client’s lifetime, can get access to assets that the client has gifted to the Trust. Any assets remaining in the Trust on the client’s death can be used for the benefit of the spouse, children or grandchildren after the client’s death. These assets will not be included in the spouse’s

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estate on the spouse’s subsequent death and could pass either to children and grandchildren outright or to a trust for the benefit of children and/or grandchildren.

Although the amount of the taxable gift would be somewhat higher under this approach as compared to the GRAT/LLC approach, there is no requirement that the spouse survive a specific term of the Trust to gain its planning benefits. Estate Planning for Life Insurance

Generally, life insurance proceeds paid to a beneficiary are received income tax free. However, the value of the life insurance may still be included as part of your taxable estate for estate tax purposes. Under the current tax laws, if an individual dies owning life insurance on his own life, the insurance proceeds are included in that person’s Federal and New York taxable estate, which causes an increase in estate taxes.

Therefore, an irrevocable life insurance trust could be established and funded by an insurance policy purchased by the trustee of the life insurance trust. The policy would pay out the face value of the policy to the trust upon the death of the insured, and the entire policy proceeds would escape New York and Federal estate taxation and could be used for the benefit of the insured’s children and/or to pay any estate taxes owed at that time.

Generation Skipping Tax Opportunity Clients whose children have taxable estates may wish to provide directly for their grandchildren without burdening their children with additional estate tax liability in the children’s estates. The transfer of property passing from a grandparent to a grandchild is called a generation skipping transfer. However, Generation Skipping Tax (GST) is imposed on such transfers above a $11,400,000 GST exemption. Clients need to plan to avoid both estate tax in their children’s estates and generation skipping tax on transfers to their grandchildren. A Generation Skipping Trust is a trust that can be established for the benefit of a client’s children and grandchildren which can save estate taxes in your children’s estate and minimize if not eliminate generation skipping tax . The generation skipping tax exemption is currently $11,400,000 for 2019. This means that if the client gifts $11,400,000 to a generation skipping trust, the client can allocate the $11,400,000 generation skipping tax exemption (on a gift tax return) to the trust and, as a result, shelter the trust assets (including all appreciation) from estate taxation in the estates of the client’s children and from generation skipping tax. New York Estate Taxes On April 1, 2014, the Executive Budget of 2014-2015 was signed into law and significantly altered the estate tax structure in New York.

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The new law immediately increased the New York State estate tax exemption from $1,000,000 to $4,187,500, effective for those passing away on or after April 1, 2016 and before April 1, 2017; the New York State estate tax exemption was increased to $5,250,000 for decedent’s dying on or after April, 2017 and on or before December 31, 2018. Currently, the estate tax exclusion amount is $5,740,000 for decedent’s dying on or after January 1, 2019 and before January 1, 2020.

Time Period New York Basic Exclusion Amount from Estate Tax

Prior to the 2014-2015 NYS Budget $1,000,000 April 1, 2014 – March 31, 2015 $2,062,500 April 1, 2015 – March 31, 2016 $3,125,000 April 1, 2016 – March 31, 2017 $4,187,500 April 1, 2017 – December 31, 2018 $5,250,000 On or after January 1, 2019 $5,740,000

These increases will certainly help reduce or eliminate the New York State estate tax liability for those under the exemption level at the time of death, however, may not be available to high net worth taxpayers with estates in excess of the estate tax cliff discussed above.

Income Tax Advantages Keep in mind that the opportunity to make larger gifts of income producing property free of gift, estate and generation skipping taxes includes the opportunity to shift income, which is generated by the assets the client gives away, to lower-income tax bracket taxpayers. Protecting Your Inheritance The use of trusts also provides an opportunity to protect assets from the claims of creditors and the marital problems of the client’s children. If the client is married, the gift could be to a trust which includes the client’s spouse (as well as children, grandchildren and even younger generations) as beneficiaries. As a result, the income need not be totally lost to the client’s household (at least as long as the client’s spouse is living). The gift can also be structured in a trust so that the client has access to the gifted asset while future appreciation escapes estate taxation. Hedging on the Future Tax Laws The motivation to make large gifts provides advance planning in the event that the federal

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and/or New York State tax exemptions should be reduced in the future. Further, if you have an estate that is appreciating in value with the possibility of exceeding the estate exemption amount in the future, gifts now can avoid estate tax later on. What Is the Down Side? It is very important that the client is comfortable with any outright gifts that are made as there is no requirement on the part of the recipient to hold on to the gifted assets (in case the client needs them back) and the gifted assets are subject to any claims made against your recipient. This is why trusts are often the recipient of gifts so that they can be held in a more protective way. By making the gift now, the gift recipient would take the asset with the client’s carryover basis. If the recipient of the gift sells the gifted asset, a capital gain tax could result based on the difference between the sale price and the client’s basis. On the other hand, if the client dies with the assets included in the client’s taxable estate, the basis would be “stepped up” to the asset’s date of death value. If the beneficiaries of the client’s estate sold the assets at its date of death value, no capital gains tax would be due. Therefore, even though there would be little difference in the estate tax result, if a large gift is made, the opportunity to obtain a beneficial adjusted cost basis could be lost. Keep in mind, however, that careful tax planning can defer and minimize the capital gain tax to some extent. As a result, the capital gain tax risk is speculative and difficult to value. Additionally, please remember that if the gifted assets increase in value, the appreciation would escape estate and gift taxation. Take steps now to protect your assets and minimize estate taxes. Contact us for a planning meeting today! Russo Law Group, P.C. advocates for and represents seniors and people with special needs and their families. Call us at (516) 683-1717 or visit us at www.VJRussoLaw.com for more information.

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NOTE: The above is merely informational and not legal advice. This guide was published in January 2019 and based on New York law. You should contact us for any changes or updates in the law or long term care planning. Future changes in law may render the above information inaccurate. If you have any questions regarding this guide, please do not hesitate to call RUSSO LAW GROUP, P.C. at (516) 683-1717 or contact us at www.VJRussoLaw.com. ©January 2019, Russo Law Group, P.C.

Prepared by:

Russo Law Group, P.C. Attorneys and Counselors at Law

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