Estate, Gift & Trust Tax Update

Brian T. Whitlock CPA, JD, LLM

Illinois CPA SocietyChicago, Illinois

January 20, 2010

•The 2009 Estate, Gift, and GST Taxes• Individuals dying in 2009• Gift and GST rules for 2009• Illinois $2 million vs. the IL QTIP

•The 2010 Transfer Tax• Gift Tax Rules

• Carryover Basis

• No Illinois transfer tax currently

• The 2011 Transfer Tax?• Estate Planning in 2010 – What is safe?• Knight – the 2% Floor and Trusts

Overview

2009 Estate, Gift and GST

• Estate Tax– $3,500,000 Equivalent Exemption – 45% Maximum Tax Rate

• Gift Tax– $13,000 Gift Tax present int. annual exclusion– $1,000,000 Equivalent Exemption

• Future Interest; or

• Amounts in excess of annual exclusion

• Generation Skipping Tax– $3,500,000 GST Exemption– Flat 55% tax rate

2009 Illinois Estate Tax

• $2,000,000 Illinois Estate Tax Equivalent– $1,500,000 Gap with Federal Exemption– Illinois Exemption is Prorated, if multistate

• EXAMPLE: Estate of Edna - $2,000,000 of Illinois Assets and $2,000,000 of Florida Assets. Florida has no estate tax. The Illinois Exemption Equivalent is only 50% of $2,000,000 or $1,000,000

– NEW: Retroactively effective to January 1, 2009 Illinois allows QTIP Trust to post-pone Illinois tax

• Elect out of Marital deduction on Illinois return• Language of trust document should be reviewed

Obama Legislative Agenda

– Election Trifecta• Democrats Control(?) White House and Congress• Reagan used Control as a “Legislative Mandate”

– Obama Campaign Priorities• Health Care• Energy • International Tax Reform

– Window (Jan 2009 to April 2010)– The Economy (Stimulus) Trumps all

• Clinton – “It’s the Economy,–Stupid”• Mid-Term Elections in November

– Estate Tax Reform was not a priority

O

The Senate

– The 2009 Health Care Debate• 60 Votes – A fragile total

– Byrd Amendment vs. a 10 year solution– Filibuster– Filling the Kennedy Void

• The Lobbyists– Insurance– Unions

• Promises, Promises, Promises– Will there be anything left?

• Petty Bickering – Harry Reid

Congressional Priorities

– Job #1 - Getting Re-elected– Health Care – by the end of January

• Must reconcile House and Senate Versions

– Extenders - February– The Economy (Stimulus) - March

• Need time to have an impact on Economy

• Voters vote their wallets

• Remember Job #1

– Estate Tax – Retroactive Fix(?)– International Tax Reform and Energy

2010 Estate, Gift and GST

• Estate Tax– The unthinkable ….None ….. Really!?!– Carryover basis above $1,300,000– Marital Property $3,000,000 basis adjustment

• Gift Tax– $13,000 Gift Tax present int. annual exclusion– $1,000,000 Equivalent Exemption

• Future Interest; or• Amounts in excess of annual exclusion

• Generation Skipping Tax– None…... Really!?!

2011 Estate, Gift and GST

• Estate Tax– $1,300,000 Equivalent Exemption (indexed)– 55% Maximum Tax Rate– 5% Excise Tax -over $10 MM-lower brackets– Credit for State Death Taxes Paid

• Gift Tax– $13,000 Gift Tax present int. annual exclusion– $1,300,000 Equivalent Exemption (indexed)

• Future Interest; or

• Amounts in excess of annual exclusion

2011 Estate, Gift and GST

• Generation Skipping Tax– $1,300,000 GST Exemption (indexed)– Flat 55% tax rate

• Dilemma– What about the $3,500,000 GST Exemption

allocated between 2004 and 2009?

2011 Estate, Gift and GST

Sec. 901. SUNSET OF PROVISIONS OF ACT.

(a) IN GENERAL.—All provisions of, and amendments made by, this Act shall not apply—

(1) to taxable, plan, or limitation years beginning after December 31, 2010, or

(2) in the case of title V, to estates of decedents dying, gifts made, or generation skipping transfers, after December 31, 2010.

(b) APPLICATION OF CERTAIN LAWS.—The Internal Revenue Code of 1986 and the Employee Retirement Income Security Act of 1974 shall be applied and administered to years, estates, gifts, and transfers described in subsection (a) as if the provisions and amendments described in subsection (a) had never been enacted. And the Senate agree to the same. (emphasis added).

The Illinois Estate Tax

• 2010 – No Illinois Estate Tax– What about Surviving Spouse & Illinois QTIP?

• 2011 Credit for State Death Taxes Paid– Pick up tax Restored

The Short Term Prognosis

• Legislative “Limbo”– Before May 1st - Retroactive Fix Likely – After April 30th – Mid-term Elections Looming

• “Cake or Death”? Eddie Izzard • Gifts

– Outright Present Interest gifts – no risk– Indirect “Crummey” Gifts in Trust

• Allocating GST - <$1.3 MM safe• Allocating GST - >$1.3 MM risky

– Direct Gifts above $1 MM• Subject to 35% Gift Tax• Retroactive reinstatement = 41% or more

The Long Term Prognosis

• The Facts– Fed needs revenue

– IRS has only a few Estate Tax Auditors left

– IRS has no forms or regulations for Carryover basis

– Illinois does not have an independent system

• Most Likely Solution– $3,500,000 Estate Tax Exclusion Equivalent (indexed)

– $3,500,000 GST Exclusion Equivalent (indexed)

– Portability of Unused Credit for Surviving Spouse

– 45% top tax bracket

– $1,000,000 Gift Tax Exclusion

– Federal Credit for State Death Taxes Paid

2010 Planning Checklist

• Review Wills and Trusts (Esp. - 2nd marriage)– Spouse typically excluded from Family Trust– No marital Deduction = No Q-TIP Trust– Beware of Tax Formula driven allocations– Carryover Basis

• Avoid Probate – Revocable Trusts– Compare 1099s– Beware of Joint Tenancy, POD and TOD accounts – New Illinois Law – Convenience Accounts

• Asset Protection for Current Generation– Know the list of Protected Assets

• Qualified Plans, IRA, and Roth IRAs• Annuities and Insurance• Tenants by the Entirety

– Pre-nuptial (Post-nuptial) Agreements– Buy-sell Agreements

2010 Planning Checklist

• Asset Protection for Next Generation– Claims of Creditors– Buy-Sell Agreements– Dynastic Trusts (IDIOTS for Kids)– Cottage LLCs and Trusts

• Review Life Insurance - basics– Compare Owner and Beneficiary– Beware: New COLI Rules– ILIT maintenance (Crummey & GST Allocations)

2010 Planning Opportunities

• Section 7520 Rates are Low [Jan 2010 = 3%]– Zeroed out GRATS - favorable– CLATS – favorable– QPRTs and CRATS – unfavorable– Private Annuities to IDIOTS – favorable– Private Annuities to individuals - unfavorable– Split Interest Purchases

• Primary or Secondary residences – favorable• Other Asset - unfavorable

– “Applicable Family Member” Definition

• Short-term AFRs are Low [Jan 2010 = 0.57%]– Interest Free Loans ($10,000/$100,000)– Low Interest Intra-family Loans– Installment Sales to IDIOTS (Intentionally

Defective Income Only Trusts)

2010 Planning Opportunities

• Valuation Discounts still ok– Entities

• Closely Held Corporations• Family Limited Partnerships• Limited Liability Companies

– Type of Discount• Lack of Marketability • Minority Interest• Blockage

• Short Term GRATs still ok– Obama Proposal would limit GRAT terms to

no less than 10 years

Working with IDIOTS

• IRC is one book (Title 26) with several Chapters, including: – Chapter 1 – Income Tax

– Chapter 20 – Estate Tax– Chapter 25 – Gift Tax

Gift and Estate work hand in hand; Income tax, however, is largely independent of the Estate and Gift Taxes.

Working with IDIOTS

• Chapter 1 – Income Tax– Subchapter J – Trusts

• Sections 671-679 – “Grantor” Type Trusts– Reversionary Interest >5% [673]

– Power to Control Beneficial Enjoyment [674]

> Power to add charitable beneficiaries (b)

> General Power of Appointment (d)

– Administrative Powers [675]

> Power Borrow without interest or security (2)

> Actual Loans from Trust (3)

> Power to Substitute Assets (4)

– Power to Revoke [676]

– Use income to pay insurance premiums [677]

– Foreign Trusts [679]

Working with IDIOTS

• Chapter 20 – Estate Tax– Sections 2033- 2045 – Estate Inclusion Rules

• Annuities [2039]• Joint Interests [2040]• General Powers of Appointment [2041] • Incidents of Ownership over Life Insurance [2043]• String Provisions

– Retained Life Estate Interests [2036(a)]– Retained Voting Control [2036(b)]– Transfers at Death [2037]– Revocable Transfers [2038]

• Certain Transfers within 3 years of death [2035]• Prior Marital Deduction Interests [2044]

Working with IDIOTS

• Disadvantage in violating Estate Inclusion Rules

• Advantage to Income Tax Grantor Classification– Grantor Trust is Not Subject to Fiduciary Income Tax

• Avoid multiple levels of income tax

– Grantor is Subject to Tax not Trust (all income, deductions, and credits taxed to Grantor)

• Interest not deductible to Payer, not taxable to Payee• Rent not deductible to Payer, not taxable to Payee• Sale not taxable to Seller, carryover basis to Buyer

– Grantor Trust is ideal • Intra-family Installment Sales• Intra-family loans• Private Annuity

•

Working with IDIOTS

• The “Other” IDIOT in the Family [678]– Power Exercisable Sole in Self to vest Corpus or

Income in himself (a)

– Beneficiary as Sole Trustee with Power to distribute income and principal subject to “ascertainable standard”

• Avoid Classification as a General Power of Appointment (2041)

• Health, Education, Maintenance, and Support (Reg. Sec .20.2041)

• Advantage to Income Tax Grantor Classification– Grantor Trust is Not Subject to Fiduciary Income Tax

– Tax on Accumulation’s deplete Beneficiary’s estate – Trustee/Beneficiary is Subject to Tax on all Trust

income and capital gains

Large Gifts Opportunities(?)• 35% Maximum Rate in 2010

– Tempting for High Net Worth Clients– No GST(?)

• Creative Uses of Disclaimer Gifts– Outright gifts are irrevocable - final– Gifts in Trust allow Flexibility

• Disclaimer Opportunities– Effective Disclaimer within 9 Months of transfer– After March 1st gives full 9 months on 12/31/10– Allow return to grantor or spouse if disclaimed

• Q-Tip Eligible Trusts– Election can be made up until April 15, 2012– Election postpones current tax– Clayton provisions allowed trust in absence of

Q-TIP election to default in favor of complex trust

Knight Decision

• US Supreme Court Decision (January 16, 2008)– Investment Advisory Expenses incurred by Trust

subject to 2% of Trust AGI Limitation unless the trustee can show that

• (1) there is an “incremental cost of expert advice beyond what would normally be required for the ordinary taxpayer, or

• (2) that the investment advisor imposed as special, additional charge applicable only to its fiduciary accounts, or

• (3) that the trust has an unusual investment objective, or requires a specialized balancing of the interests of various parties,

– then the incremental cost of expert advice beyond what would be normally required for an ordinary taxpayer, would not be subject to the 2% floor.

Knight Decision

– Legislative Action Unlikely (Revenue Loser)– IRS Announcement– AICPA Website

• Supreme Court Case

• AICPA TRP Task Force Resources

• AICPA Guidance

• AICPA Tax E-Alert dated October 18, 2007

• AICPA Tax E-Alert dated September 11, 2007

Brian T. Whitlock, JD, CPA, LLM

Blackman Kallick, LLP

10 S. Riverside Plaza

Chicago, IL 60606

Phone (312)207-1040

E-mail bwhitlock@blackmankallick.com

Twitter @Taxgems

Blog http://blog.untaxinglyyours.com

Questions & Comments