WILL A simple will, if properly executed and witnessed, can serve to inform your family and the courts how you want your assets distributed at your death. The basic will should mention who you want to serve as the personal representative (executor) of your estate. Without a will, the state where you live will decide how to distribute your assets and personal property based on statutory law.
REVOCABLE TRUST The revocable trust ("living trust") is frequently used because it reduces some expenses related to administration of probate and permits earlier distributions to family members and other beneficiaries than a normal probate process allows. Assets in a revocable trust are not considered part of the probate estate. When properly funded, the assets will avoid the probate process entirely. The trust is called revocable because the trustor can remove assets from the trust at any time and has full control of the assets during his or her lifetime.
Learn More POUROVER WILL
The pourover will distributes (or pours) all of your assets to a trust at your death. Assets distributed by a pourover will must go through probate.
LIVING WILL A living will is a written document that states whether you wish to decline life support or other medical treatment during your final illness. The living will generally takes effect when you become terminally ill, permanently unconscious, or have irreversible brain damage. A living will allows you to specify which forms of medical treatment you want and do not want.
GENERAL POWER OF ATTORNEY A power of attorney gives another person the authority to act legally in your place to manage your affairs. A durable general power of attorney remains effective if you become disabled or incompetent. The power can be drafted to take effect immediately or at the time you become mentally or physically unable to manage your own affairs.
HEALTH CARE DIRECTIVE AND POWER OF ATTORNEY This document gives another person the authority to make decisions related to your medical care on your behalf when you are not personally able to give informed consent. The health care directive can include specific desires you have about the medical procedures you will allow and not allow.
MARITAL DEDUCTION PLANNING Married couples with combined assets approaching or exceeding the estate tax credit amount (currently $1,000,000 is sheltered), should carefully consider the use of estate planning services that take full advantage of each spouse's credit against estate tax. The basic concept is to set aside a portion of the estate of the first spouse to die, which will pass free of tax because of the credit. This portion generally is placed into a bypass trust carefully drafted to avoid being included in the estate of the second spouse. The surviving spouse may, however, serve as trustee of the bypass trust, receive its income, and have some access to the principal. The remaining assets of the first spouse to die can be given outright to the surviving spouse or placed in a trust or multiple trusts as necessary. Larger estates will require careful planning in this regard so as to provide the desired control of distributions and tax avoidance. In almost all situations, the remaining assets of the first spouse to die will go to the survivor in a form that will qualify for the unlimited marital deduction from the estate tax.
IRREVOCABLE LIFE INSURANCE TRUST The ILIT is an irrevocable trust used for the purpose of acquiring life insurance on the trustor. The trust is irrevocable in order to prevent the death benefit payment from being included in the decedent's estate at death. The ILIT is often used to provide access to cash at the death of the trustor in order to pay estate taxes due without being forced to sell businesses, farms, or other assets difficult to liquidate.
FAMILY LIMITED PARTNERSHIP The FLP holds family assets in a partnership entity. Typically the parents will keep a 1% general partner interest at all times which allows them to control the assets in the FLP. The income of the partnership flows through to the partners, without a second level of taxation. The limited partner interests can be used as part of a gifting plan to children. This can allow the younger generation to gain valuable experience and knowledge relating to the management of the family assets before Mom and Dad pass away. The main benefit of the FLP is the opportunity for discounts in valuation of the assets. During the parents' lifetimes, the discounts allow for more tax-free gifting than would otherwise be allowed without the FLP structure. The lower valuation results from a minority interest discount and a marketability discount. The discounts can significantly lower the value of the parents' estate and thus, save large amounts of tax.
Learn More GENERATION-SKIPPING TRUSTS FOR CHILDREN Gifts from a parent to a child, either during lifetime or at death, can be placed in a trust, which protects the amount of such assets, plus any appreciation, from inclusion in the child's estate for estate tax purposes. Such trust can also be drafted to avoid the "generation-skipping transfer tax" by allocating GSTT exemption to such gifts. Currently, each person has a $1,100,000 GSTT exemption, i.e. a couple can place up to $2,200,000 of assets into trusts for their children without creating a GST tax at the children's deaths. The trust property "skips" a generation free of transfer taxes. Each GSTT trust can provide for all income to the child; principal as necessary for support, maintenance, health care and education; $5,000 or 5% (whichever is greater) of the principal per year if desired by the child; and the child may have a limited power of appointment to appoint the trust assets to whoever he or she wishes at his or her death. The trust assets will also be safe from claims by the child's creditors and from a former spouse of a child in the case of divorce.
CHARITABLE REMAINDER TRUST The CRT is a commonly used tool for charitable giving. The donor places an amount in trust. The donor receives income from the trust during his or her lifetime. At the donor's death, the remaining value of the trust is transferred to a named charitable organization. This plan can provide an income tax deduction in the year of trust creation which varies by age of the donor and amount of the assets placed in trust. At death, all of the trust assets avoid estate tax.
CHARITABLE LEAD TRUST
The charitable lead trust is in some ways the mirror image of a charitable remainder trust. It provides for a gift of income to charity for a period of time with the remainder either returning to the donor or passing to charitable beneficiaries at little or no transfer tax cost.
QUALIFIED PERSONAL RESIDENCE TRUST The QPRT is an irrevocable trust where an individual transfers his interest in a residence to a trust. The trust then gives the person the right to occupy the residence for a fixed term of years. At the end of that term, the residence passes to beneficiaries the transferor named in the trust. Additional occupancy of the residence requires a valid lease agreement and fair market rental payments.
PRIVATE ANNUITY A private annuity is a "sale" of one's assets to family members in exchange for their agreement to pay the seller a certain amount periodically for the remainder of the seller's life (analogous to the purchase of an annuity from an insurance company). This goal of this device is to remove the asset from the seller's estate. However, this device limits the amount of interest that can be deducted by the family members, limits their basis to amounts actually paid under the annuity and may result in a purchase price in excess of value if the seller lives linger than his or her estimated life expectancy. In other words, this method of reducing estate tax values works best if the seller dies prematurely.
SELF-CANCELLING INSTALLMENT NOTE A self-cancelling installment note is a technique used to avoid the inclusion of a note receivable in the holder's estate. A SCIN is an installment obligation that terminates on the occurrence of a certain event (often the seller's death) before it is otherwise due. The buyer must pay a premium for the property to be sure that the sale is not a partial gift. A SCIN is not includable in the seller's estate. If the seller dies before the note is paid and the note/property is not included in his or her estate, the purchaser's basis will be adjusted to reflect the unpaid amount, or if the purchased asset has been disposed of, gain will be recognized.
INTENTIONALLY DEFECTIVE GRANTOR TRUST The sale of a property to a grantor trust is a very popular estate freezing device. THE IDGT is similar to an installment sale, except that the grantor trust adds the ability to avoid gain the intra-family sale and tax on the interest, as well as the seller's ability to pay income tax on the trust's income without gift tax consequences. The trust is drafted to make the seller responsible for payment of the trust's income. If the seller dies during the term of the note, the value of the note will be included in the seller's estate.
ASSET PROTECTION (OFFSHORE) TRUST Transfers to an irrevocable trust with a foreign situs may avoid the future claims of creditors. The transferor is the beneficiary of the trust and usually serves as one of the trustees, along with a friendly party in the U.S. and a foreign trustee (and two out of the three can make decisions). The main objective of the asset protection trust is to avoid the claims of creditors. However, the trust is also established to save estate taxes, and to provide a management vehicle for your assets with a trustee who has an international perspective. Although the trust is irrevocable, it is treated as a grantor trust for income tax purposes, with items of income and expense reported on the transferor's personal return.
Learn More FOREIGN INSURANCE POLICY (SELF-DIRECTED) Making investments through the purchase of a paid up variable foreign life insurance policy satisfies several objectives. The purchaser obtains more investment options than what a U.S. insurance company normally allows. Investing through the policy will reduce or completely eliminate income tax on the income and gains generated by the policy's investments. The policy also provides a high level of asset protection. Increased protection is obtained if the policy is owned by a family limited partnership.
THE GIFT TAX The gift tax is imposed on the transfer of money or other property when not transacted as a bona fide sale. The tax code imposes a progressive rate schedule (up to 50%) on all "taxable gifts". This term means the total value of all gifts made during the year minus allowable deductions. Gifts to charities and spouses allow unlimited deductions. In addition, the taxpayer may use an "annual exclusion" to deduct $11,000 per gift recipient each year. Theoretically, one could give up to $11,000 to every person he or she knows and avoid all gift tax liability.
After applying the applicable tax rate to taxable gifts, the resulting gift tax due may be reduced up to the estate and gift tax credit amount to the extent the credit has not been used in previous years. This credit effectively exempts the first $1,000,000 of gift transfers from tax. The credit amount is scheduled to increase in stages to $3.5 million in 2009, but drop to $1 million again in 2011.
THE ESTATE TAX The estate tax is imposed on the transfer of an individuals's property at death, but is not limited to assets that are physically in the decedent's possesion. The "gross estate" includes the value of interests in property. For example, if the decedent maintained a power to change the beneficiary of a life insurance policy on himself, the proceeds, while not includible in the recipient's income, will be included in the decedent's gross estate. Therefore, the gross estate may greatly exceed the value of assets physically possessed immediately before death.
The tax code allows deductions for funeral and administration expenses, for liabilities, plus unlimited deductions for transfers at death to a surviving spouse and to charities.
After deductions, the resulting "taxable estate" is computed by applying the same tax rate table as used for the gift tax. The net estate tax payable will be reduced by any remaining credit not used. Thus, the unified credit is used as needed during life against gift tax due and then following death against estate tax due.
GIFT PLANNING Today's estate planning techniques seek to minimize estate tax due at death by taking advantage of all deductions and exclusions. The $11,000 annual exclusion for lifetime gifts can be used to lower the gross estate prior to death. Lifetime gifts above the annual exclusion amount take advantage of the "tax exclusivity" of the gift tax. The tax is imposed only on the amount actually transferred. If the transfer was made by will, the estate will pay tax on the dollars used to pay the tax. The actual amount transferred to the recipient will be higher for lifetime gifts than for a similar gift by will.
Donors may of course make outright gifts during their lives. However, gifts can be designed to allow the donor to maintain some varying levels of control over the asset. Examples include annual exclusion trusts, education trusts, qualified personal residence trusts, generation-skipping trusts, custodianships for minors, and grantor retained annuity and unitrusts.
This page last updated October 2003.