King & Wood, P.A.

Protecting Your Estate Tax Exemption

“Even though the federal estate-tax exemption is $5.49 million and just under $11 million for a couple, you still need to think carefully about whether to pass that “exempt” amount of wealth on to your surviving spouse through a trust.”

Barron’s recent article, “How to Protect Your Estate-Tax Exemption, explains that federally “exempt” wealth is still subject to state estate taxes. Typically, credit-shelter trusts (also called “bypass trusts”) are used to protect assets exempt from federal estate taxes, less any gifts made to your children while you’re alive. A more recent development is “portability.” This lets that same estate-tax-exempt wealth be transferred on death to the surviving spouse without a trust. However, portability has some limitations.

An option between portability and credit-shelter trusts—or a combination—is still a critical component of estate planning, despite the federal estate-tax exclusion dramatically increasing over the years. Twenty years ago, it was an easier decision: in 1997, the estate-tax exemption was only $600,000 and the top estate-tax rate was 55%. Credit-shelter trusts were popular to avoid some onerous taxes.  The exemption then began to creep up to the current $11 million for a couple. In 2012, Congress enacted portability to remove the need for credit-shelter trusts for married couples.

Some experts say that a credit-shelter trust is better than portability, even for couples below the $11 million level. However, portability doesn’t exempt state estate taxes. There are 18 states and DC that have either estate or inheritance taxes of various amounts and rates. There’s also no generation-skipping with portability. The surviving spouse can’t take the $5.49 million estate-tax exemption she got via portability, and place it in a tax-free trust for her grandchildren. She also can’t protect appreciating assets from capital gains. Portability won’t protect the assets of a new spouse if the surviving spouse remarries or from stepchildren.

Credit-shelter trusts also have some cautions. If you place a primary residence in a trust, there will be mortgage problems because banks don’t want to lend money to a trust. A house in a trust doesn’t get a further stepped-up value after the surviving spouse dies. Therefore, if the children want to sell the house, they may have a sizeable capital gains tax on the difference in value between the two deaths.

If you live in a state with an estate tax, you may want to ask your estate planning attorney about putting the amount of the state tax exemption in the credit-shelter trust and elect portability for the balance of the estate up to the $5.49 million.

Any major change in the estate tax exclusion, the capital-gains rate or a repeal will impact your decisions. Talk with an estate planning attorney to learn about the character of your assets and what kind of planning approach will work best for you.

Reference: Barron’s (March 25, 2017) “How to Protect Your Estate-Tax Exemption”

Why Should You Die with Debt?

“You’re probably going to die with some debt. A majority of people do.”

Research shows that 73% of Americans had outstanding debt when they died, according to December 2016 data reported by Credit.com. The Richmond Free Press says in a recent article, “Dying with debt: Advice from experts,” that those consumers had an average balance of more than $61,000, including mortgage debt. The average balance was $12,875, without a home loan.

Among the consumers who had debt when they died, about 68% had credit card balances. Here’s the rest of the list:

• Mortgage debt 37%
• Auto loans 26%
• Personal loans 12%
• Student loans 6%

In most states, debt isn’t passed on to your spouse and children when you die. Debt typically belongs to the deceased person or that person’s estate. But if your spouse or someone else co-signed or was a co-applicant on a credit card or a loan, they’ll be on the hook for any debt when you die. They may also not inherit anything because your estate becomes liable for your debt. Creditors can try to take any funds you leave behind to pay off your balances. If you have enough to pay the debts, the creditors get paid and beneficiaries receive whatever’s left. The creditors will get paid at the expense of the heirs.

If there’s real estate in the mix, it can be sticky. If a home’s your only asset, and it’s where your spouse or children also live, creditors can ask for a sale to cover your outstanding liabilities. Your surviving spouse or other relatives might have to sell the house to pay debts, such as outstanding mortgage payments—or they’ll have to assume your debts to keep the house.

One way to avoid this type of hardship is to purchase life insurance to help with your debts. In addition, you should draft a will. You may also consider setting up a trust to provide ongoing management and assurance that children or others will end up with your assets.

While you’re working with your estate planning attorney on the will and the trust, ask for two powers of attorney, if you become disabled or mentally incapacitated before you die. One POA is to allow a trusted party to make decisions on your healthcare needs, and the other to allow a trusted individual to handle your financial affairs.  You should also sign a living will, so your doctors will follow your instructions on end-of-life decisions, if you’re not able to communicate because of illness or an accident. Finally, top off the package with a written HIPAA release, so someone can have access to your medical records.

Reference: Richmond Free Press (March 24, 2017) “Dying with debt: Advice from experts”

Remember Your Furry Friends in Estate Planning

“Trusts have emerged as fairly common tools to ensure that a spouse, children or other family members receive financial assistance after you're gone, and their use can be extended to help family members with fur, fins or feathers.”

Pet trusts can provide legal instructions and protections for the care and placement of your furry friends, when you pass away or are incapacitated.

AZ Central’s article, “Who will care for your beloved pet after you're gone? A trust can help with that,” says that it's hard to guess the number of people who have trusts to benefit pets. It’s still a pretty new concept. However, more people are learning that you can and should include pets in your estate planning. Many pet lovers find that a trust is appealing and worth the cost.

A trust lets assets be transferred to others without going through probate. They also can provide ongoing financial support for beneficiaries who might burn though a lump sum. A revocable living trust can be changed, dissolved or redrafted, while you're still living and competent.

These are packaged frequently with documents like a pour-over will (for assets not titled into the trust) and financial and health-care powers of attorney, which appoints another person to act on your behalf in case of incapacity.

A pet trust designates a trusted person or organization to provide ongoing care for your animals and gives them the money to do so. Many people make informal arrangements. They ask friends or relatives to take in their animals, but without a trust or other legal document, there's no guarantee that your instructions will be followed.

As part of the process, an owner can detail how much medical care should be given to a pet, especially an older one (when euthanasia might be the preferred route). Trusts can help you prepare for those and other contingencies, so you’d have some control over what happens to your pet.

Designating the right trustee is critical. That is the person or organization entrusted with carrying out your wishes.

You can always just leave money with a friend or family member along with care instructions, but there’s nothing stopping that person from using the money for something else—and giving your pets away or sending them to a shelter.

Reference: AZ Central (March 25, 2017) “Who will care for your beloved pet after you're gone? A trust can help with that”

Will Trump Repeal the Estate Tax? Then What?

“One of the pieces of Donald Trump’s campaign platform that attracted a lot of attention was his pledge to repeal the federal estate tax.”

President Trump calls it “the death tax,” but now that he’s in the White House, will he repeal the estate tax? Is this an awesome opportunity for your generation to pass a large amount of tax-free wealth to your beneficiaries?

A recent Forbes article asks “Do You Still Need An Estate Plan If There Is No Estate Tax?” The article notes that it’s worth recalling that the estate tax laws in place for 2017 were set four years ago. This includes an exemption for individuals up to $5.49 million and $10.98 million for a couple for 2017.  There’s also no tax collected when one spouse dies and leaves everything to their spouse. Therefore, the repeal of the estate tax would really only affect those with a net worth over $11 million. The rest of us are finding ways to preserve and protect our assets for beneficiaries, rather than fretting over the tax repeal possibilities.

Estate tax repeal or no estate tax repeal, you’re still going to need an estate plan, with financial and medical powers of attorney. A repeal won’t address who’ll receive your assets, retirement benefits or the proceeds from a life insurance policy when you pass away. If you also have minor children, you’ll need to designate a guardian who’ll care for them if you die, especially if any have special needs.

You also want to time when your heirs can access the assets you pass to them, so that a large sum of money doesn’t land in the lap of a 19-year-old. Some folks choose to offer partial access to an estate when beneficiaries are in their 30’s and the rest when they are older. To create a trust managed by a trustee to help your heirs, speak with an estate planning attorney who will create a sound estate plan.

If the 40% federal estate tax is repealed, Uncle Sam will need to make up that revenue gap in his budget. One proposal under discussion is a new capital gains tax for inherited assets. This could mean the Microsoft stock you bought in 1981 and passed to your heirs would be treated differently.  The rules now say the cost basis for that stock would be set at the time of your death. Under the Trump proposal, the cost basis would be the original purchase price of the stock. As a result, your heirs would be looking at a huge tax burden which could be just as much as the current 40% tax.

It’s going to pay to rely on an experienced estate planning lawyer to keep you up-to-date with wherever the legislation goes.  It is also important to note that 18 states and D.C. will still have their own estate tax laws. These thresholds may be even lower than those set by the federal government.

An experienced estate attorney can create a trust and help you with an estate plan that will help your heirs to avoid paying unnecessary taxes—while at the same time placing controls on specific assets. A sound estate plan makes financial sense regardless of what happens with the estate tax. Your heirs will thank you.

Reference: Forbes (March 23, 2017) “Do You Still Need An Estate Plan If There Is No Estate Tax?”

Pay for the Grandkids’ Preschool and Be a Star in the Family and with Your Taxes

“You already know that college expenses are skyrocketing. High-end preschools can be nearly as bad.”

CNBC’s recent article, “Grandma to the rescue: The $20,000 way to cover preschool,” has a way for baby boomers to share their wealth with their kids and grandkids. They suggest that they pay the expenses of preschool, while eliminating some gift taxes at the same time.

One year of pre-kindergarten at a private elite school can cost thousands of dollars. Generous grandparents can pay these expenses and save on gift taxes.  However, this takes some careful planning.

Grandparents can give money to their grandchildren in several ways, without being subject to gift taxes. First, you can make a gift up to the annual gift tax exclusion of $14,000 per recipient (or you and your spouse together can give away up to $28,000). You can also give money away under your lifetime gift tax exemption of $5.49 million, but whatever portion of this amount that you use in “taxable gifts” during your life, will decrease the amount you can pass to your heirs without an estate tax. If you are married, you and your spouse each are entitled to your own lifetime gift tax exemption of $5.49 million. Third, you can pay directly for the grandchild's tuition or medical expenses, even if it is over the annual gift tax exclusion.  However, the payments have to go directly to the service provider.

When it comes to preschool, you need to prove to the IRS that your grandchild's pre-kindergarten is educational. To qualify as a nontaxable gift, tuition payments to a preschool must be made to an "educational organization" as defined by the IRS. That means a regularly enrolled student body (no day-care) and the school must also have a regular faculty. A big issue with preschool is that it’s frequently considered custodial care, not educational.

If your grandchild's preschool won’t qualify as an "educational organization," but you still want to help them, consider these alternatives:

1. Pay for preschool, but stay under the limit;
2. Fund a 529 college-savings plan with a five-year front load, that’s up to $70,000 per beneficiary (the same as $14,000 annually for five years); or
3. Provide a low-interest intra-family loan, but talk to an estate planning attorney and draft a formal agreement with your adult child for this option.

Reference: CNBC (March 23, 2017) “Grandma to the rescue: The $20,000 way to cover preschool”

Planned Giving to Minnesota University is Rewarding for Retirees

“Today, the Whitehouses receive income that will continue throughout their lifetime from a Charitable Remainder Unitrust that will also benefit the university and Calvary Church for years to come.”

Neil and Marilyn Whitehouse like to see how Bethel University is making a difference in the world because as donors, they know they are part of Bethel’s story.

As Bethel University News reported, in its article entitled “Former Trustee Stays Connected to Community through Giving,” that the Whitehouses first became involved at Bethel through friendships formed at their church. They’ve been a part of the President’s Circle for more than 30 years, which is the giving level for those who donate more than $1,000 annually to Bethel. Neil said that they see the benefits of their financial gifts.

In the 1980s, Neil was asked by the Bethel president about serving on Bethel’s Board of Regents.

While he was on the board, two of the Whitehouse children attended school there.

Neil set up a Charitable Remainder Unitrust that will benefit Bethel and their church.

“Hearing about the significant impact Bethel is having on the community and students across the country is so encouraging,” says Neil. “It’s exciting to see that Bethel is expanding into areas they haven’t offered in the past. Efforts made on behalf of the students by the faculty and administration have made Bethel the place it is today.”

Neil recommends giving to Bethel because the University community will feel the benefit for years to come.

Reference: Bethel University News (March 17, 2017) “Former Trustee Stays Connected to Community through Giving”

Think Hard About Naming Your Beneficiaries

“Before you name a beneficiary, you may want to gain a basic understanding of beneficiary designations.”

One of the biggest decisions in estate planning is determining the beneficiaries on your life insurance policies, pension plan accounts, IRAs and annuities.

Some people automatically put down their children or nieces and nephews, and then fail to consider the substantial estate and income tax consequences that each beneficiary may have from your generosity.

The Cape May County Herald, in “Naming Beneficiaries: What You Need to Know,” advises that it’s important to know that beneficiary designations supersede a will. Designating your beneficiaries is critical, but you also should talk with an experienced estate planning attorney to be certain that your beneficiary arrangements are consistent with other estate planning documents.

There are several different financial products and investments that allow you to name a beneficiary, but each of them may have some subtle nuances that can be hard to flesh out and understand.

Remember that designating a beneficiary is also a legal arrangement. A beneficiary designation requires that you include certain language to be certain that your wishes are accurately recorded and carried out. That is why it is important to consult with a qualified estate planning attorney when deciding who to name as beneficiaries and how to properly document your wishes. In addition to the specific person you’ll name as your beneficiary, you should consider the following:

• The age of the beneficiary, because most policies and plans won’t directly transfer assets to minors, until a court approves a trustee or guardian;
• The ability of a beneficiary to manage assets, because if he or she has trouble with finances, a trust in the person’s name may be a better option than a direct transfer; and
• When looking at your pension plan, the law requires a spouse to be the primary beneficiary of the account, unless he or she waives this designation in writing.

Go with a Pro. Naming beneficiaries is not a simple matter. It requires some real planning and thought to be sure that your decisions are consistent with your financial and estate planning goals.

An experienced estate planning attorney will help you to review your beneficiary designations and suggest options that are appropriate for your situation.

Reference: Cape May County (NJ) Herald (March 17, 2017) “Naming Beneficiaries: What You Need to Know”

Read What You Are Signing When You Purchase a Life Insurance Policy

“Life insurance policies are legally enforceable contracts and are subject to the general rules of contract law.”

The Aiken Standard notes in its recent article, “Life insurance policy is a contract,” that the required premiums for a whole life policy—which are invested at the company’s earning rate over the life expectancy of the insured—should be equal to the death benefit that will be paid. If you as the policy owner pay the premiums that are required, then when the insured dies, the insurance company will pay the death benefit.

When looking at term insurance, note that since the death benefit is payable only for the period of time specified in the policy, the term premium is based on the probability of death occurring during that period of coverage.

Since the death benefit is much bigger than the annual premium, life insurance contracts are aleatory (based on chance): both parties realize that, depending on unforeseen circumstances, the policy owner may receive a value that’s out of proportion to the value that is given up, especially in the early years of a policy.

Life insurance contracts are also unilateral because only the insurer makes an enforceable promise to pay a death benefit in exchange for the performance by the policy owner of just one action, which is paying the premiums. When the policy is issued by the insurance company and the first premium is paid, the contract is in effect.

One more interesting part of a life insurance policy is the suicide clause. This clause is designed to protect the insurance company from those who might buy insurance on themselves with the intention of committing suicide. Life insurance companies have added language into most all life insurance policies sold in the U.S., which states that if the insured commits suicide within two years of the policy’s issue date, the payable death benefit is limited to a return of the premiums plus interest.

The Supreme Court upheld the suicide provision.

In addition, to add more protection for life insurance companies, policies now state that the suicide provision applies regardless of whether the insured was sane or insane.

Reference: Aiken (SC) Standard (March 18, 2017) “Life insurance policy is a contract”

Tennessee Exec’s Will Challenged by His Kids, Who Say Step-Mom Had Them Disinherited

“Five adopted children, who say their stepmother maliciously removed them from the massive estate of late Astec Industries CEO J. Don Brock, are heading to the highest Tennessee court to argue their case.”

The Chattanooga Times Free Press reported in “Tennessee Supreme Court agrees to hear J. Don Brock estate challenge,” that the Tennessee Supreme Court agreed in March to hear whether Melissa Sue Brock Adcock, Krystal Gail Brock Parker, Jennifer Rebecca Brock, Daryl Williams Brock and Walter Edward Brock were purposely disinherited from their father's will, when he died of mesothelioma in 2015.

The children’s two attorneys claim that J. Don Brock drew up different wills in 1994, 1998, and 2006 that excluded the children at different times. They argued that a 2012 draft and a 2013 final will don’t mention the children, because their father's former secretary and second wife Sammye wanted to preserve the "assets and reputation of Astec Industries."

However, that argument was dismissed since Hamilton County Chancellor Jeffrey Atherton applied a 110-year-old Tennessee Supreme Court decision in February 2016. He held that the children couldn't contest the 2013 will, since they weren't included in the 2012 draft.

The ancient but still valid decision is known as the Cowan Rule, a focal point of the case. The five adopted children claim that the different wills show undue influence over time and argue that Cowan prevents them from getting those wills into evidence.  It also allows a "bad actor" to commit fraud. Sammye’s attorney argued that other state courts developed rules similar to Cowan to prevent people from holding estates “hostage” through litigation.

The attorneys named several Tennessee will cases that were impacted by Cowan in their brief to the Court of Appeals in Knoxville in 2016. In one case, a father disinherited several heirs from wills executed in 1997 and 1998.  However, the contesting heirs showed the court three previous wills that left them each $10. Nonetheless, the Court of Appeals held that $10 wasn't a "substantial enough" interest.

The 2006 will shows J. Don Brock leaving $800,000 each to Melissa, Krystal, and Jennifer.

In another will contest, 13 heirs attempted to challenge a will that never included them and the estate said that none of them was in previous wills. However, the heirs replied that an earlier version of the will left the estate to a trust that hadn’t been legally established at the time. The Court of Appeals said the heirs could challenge that will in 2000.

Reference: Times Free Press (March 21, 2017) “Tennessee Supreme Court agrees to hear J. Don Brock estate challenge”

Retirement Planning, Courtesy of Daffy Duck

“"It's mine, all mine!" cartoon character Daffy Duck wails, spit flying and lisp in full effect, as he stuffs Bugs Bunny down a rabbit hole in hopes of keeping the pile of treasure all to himself.”

Baby boomers can learn a lesson from Daffy Duck, with the treasure of gold coins as your Individual Retirement Account. A traditional IRA is funded with pre-tax dollars. This can help lower your taxable income. The contributions also grow tax free, according to CNBC in “Boomers: Take a page from Daffy Duck and his stash of gold.”

Nevertheless, there are still taxes when you withdraw money. The taxes typically begin on withdrawals in retirement, sometime after you reach age 59½ to avoid early withdrawal penalties. As a result, you should consider a Roth IRA. It’s funded with post-tax dollars and the contributions also grow tax-free. However, the withdrawals are not taxed—unlike a traditional IRA.

Don’t just select one type of IRA over another, but rather use them in concert to mitigate taxes now, as well as, in retirement. A sound strategy is to divide your money into three groups: (i) tax-deferred accounts, like a 401(k) or a traditional IRA, (ii) a tax-free Roth and (iii) taxable accounts such as brokerage or savings accounts. This diversification gives you the flexibility to pick where to withdraw funds to take advantage of the tax laws as they exist in the future.

Can I open a Roth? Couples earning more than $196,000 and singles making $133,000 are not eligible to open Roth accounts directly. An option for these folks is a conversion. That’s where you transfer the money from your regular IRA to a Roth. However, this will be taxed at your ordinary income rate, so plan ahead.

When do I make the switch? The optimal time to convert an IRA is when you have little or no income. For example, this would be if you take a leave of absence from work, are between jobs or just retired. Each of these times present opportunities, because your tax bracket may be lower.

How much do I move? It's your call as to how much money to move from a regular IRA to a Roth each year.  Therefore, you have some flexibility to avoid some higher taxes. You don’t want to convert everything at once, since this would put you into a higher tax bracket. Remember, the additional converted income is taxable.

How does it fit into my estate planning? The tax differences between Roth IRAs and traditional IRAs make them an effective estate planning tool. Consider a Roth conversion, if you want the money to go to your children and grandchildren. Children and grandchildren who inherit a Roth, can take money out over their lifetime, giving them a long time to get that money tax free.

Reference: CNBC (March 16, 2017) “Boomers: Take a page from Daffy Duck and his stash of gold”