Category Archives: Tax

5 Reasons Parents Should Discuss Their Estate Plans with Children

Gift to Grandchildren“What should I tell my children?,” is a common question I hear after clients execute their estate plans.  Few people enjoy discussing their own mortality.  And few parents speak openly to children about what will unfold financially after the parents die.  Parents may fear that by speaking about their estate planning it could ignite a family fight over who will receive what.  Further, many of my clients worry that children may become entitled and lose motivation to be financially responsible.

However, open communication can benefit both generations.  The parents can explain their decisions and the children can better plan their lives.  Further, children can provide feedback about their needs or lack thereof.  Also, parents and children can discuss tax considerations and develop more efficient plans.

Here are five reasons to tell children what is included in your estate plan before you die:

1. You can calm angered heirs.

Resentment among related heirs runs rampant after discovering Dad and Mom’s final wishes for the distribution of their estate.  Talking over the rationale for making unequal distributions can smooth ruffled feathers.  I have seen clients give more to children who have more children of their own as opposed to a child with no offspring.  I have clients who leave a greater share of their estate to a financially irresponsible child in trust so the child will not deplete the assets but they task a responsible child with making the distributions. Such an arrangement can be doubly painful for the financially prudent child. I have also seen heirs who resent their parents for leaving significant bequests to charities.  Parents can explain these decisions during their lifetimes, in their own words, to alleviate angry or bitter feelings.

2.  You can save hassles and prevent mistakes.

Children will be emotionally spent following the death of a parent.  If they have to search far and wide for estate planning documents and assets, they will be psychologically, physically and financially spent too.  Parents should let children know where to locate estate planning documents and what to expect within those documents.  If children are surprised by the deceased’s wishes, they may not execute those wishes properly.

3.  You may benefit your children’s lives now.

Parents should devote time to listening to and learning from their children about their financial wherewithal and work ethic.  Holding regular meetings or open dialogues would provide a golden opportunity for the parent to share their plans with the children.  Parents may withhold assets from children during financial struggles as part of a “tough love” approach. Yet, this approach can be viewed as stingy and cause children to question why Mom and Dad chose to withhold assets during the child’s difficulties.

4. Children might give you a better idea

Many of my clients hold significant wealth in a home or business.  I have had numerous clients wrongfully assume that their children want to keep the valuable home or operate the business.  I have come to expect that parent business owners do not discuss with their children whether the children want to keep the business.  Placing stipulations on the continued operation of a business or keeping a valuable real property in trust may not be the desire of the heirs.  Recently, I dissuaded a client out from keeping a family cabin in the Sierra Nevada mountains in trust for his children’s lifetimes.  One child resides in another county and the other child works as a very busy professional in another state and has not been to the cabin in six years.  Seek your heirs input.

5. You may save children taxes

You should consider whether children need additional assets.  Also, be mindful of the type of asset you are passing down to a child.  Consider the difference between an IRA account in which future distributions will be taxed and a rental real estate property with an existing mortgage.  A beneficiary working as a school teacher will likely appreciate the additional income from the IRA much more than a beneficiary working as a highly-paid physician.  For even greater tax savings, you may be able to make asset transfers directly to grandchildren and skip the children altogether.

5 Ways to Transfer the Family Business

The following article on business succession planning appeared in the February 10, 2014 issue of Northern Nevada Business Weekly:

JCM ProfileAs a business owner, you will have to decide when will be the right time to step out of the family business and how you will accomplish a successful transition. There are many estate planning tools you can use to transfer your business. Selecting the right tool will depend on whether you plan to retire from the business or keep it until you die.

The transfer can be an emotional minefield where some family members are participants in the business and others are non-participants.  Those participants may feel “obligated” to stay in the family business when they would rather do something else.  In addition, the transfer can be complicated due to estate taxes, gift taxes and capital gains taxes.

Moreover, sometimes the family business is only profitable enough to support one child, even though the non-participants may believe the business’ finances should support them. Or, only some or none of your children may have the abilities or skills to run the business.

Transfer of the family business is further complicated when – as is frequently the case – the family business represents all or nearly all of the parents’ wealth.  Passing the business on to one or more children, while treating all your children fairly, is not easy.

Transparency and communication are vitally important. To achieve the best result, the entire family should receive (1) an explanation of your plan and why you are undertaking a particular strategy; (2) sincere, personal discussions clarifying that you love them equally; and (3) a promise that you are doing your best to be fair to all, while ensuring the future viability of the business.

Here are the 2014 tax exclusion and exemption amounts to consider when analyzing the various alternatives available for the transfer of a family business:

  • The annual exclusion for gifts is $14,000 per donee (meaning husband and wife can each gift $14,000 to a recipient); and
  • The federal gift and estate tax exemption for transfers during life or at death is $5,340,000.

Business sale to the participating child through an installment sale.  This is considered one of the simplest methods of transferring the family business to a child or children.  You can sell shares or partnership interests to a family member.  The benefit of this method is that installments payments can be made over time, which provides an income for you after your retirement. Another benefit is that the purchasing child can better manage his or her cash flow and does not have to come up with a large sum of money at once. However, you will incur capital gains if the business sells for more than what you have invested.    

Gift the business to some children and give cash to the others. Gift taxes are likely to be incurred with this strategy. A more practical concern than paying gift taxes is the fact that you may not have sufficient cash to equalize the value of the business assets going to your other children. This dilemma can be solved with a sizeable life insurance policy which names the non-participant children as beneficiaries. There are various ways to handle the life insurance, including setting up an irrevocable life insurance trust so that the life insurance benefits are not included in your estate for estate tax purposes.

However, if you gift your business, your child will not benefit from the step-up in basis to the current fair market value that is allowed when the business is purchased or inherited. For capital gains tax purposes, your child will step into your shoes and own the business at the basis that you own the business. Assuming the business increases in value over time, your child’s capital gains taxes will be higher. Of course, if the business is never sold, capital gains taxes may not be a concern.

Divide the business: the participating children receive the operating company and the non-participants receive the land and/or buildings used by the business. You could retain the real estate but provide that your children who are not participating in the business inherit it. By retaining control of the real estate during your lifetime, you could collect rent from the operating business to provide income. Later, your children who inherit the facilities could charge rent to their siblings running the operating company. How well your children work together under this strategy depends on family dynamics.

GRAT or GRUT. A more sophisticated business succession tool is a grantor retained annuity trust (GRAT) or a grantor retained unitrust (GRUT). GRAT/GRUTs are irrevocable trusts to which you transfer appreciating assets while retaining an income payment for a set period of time. At either the end of the payment period or your death, the assets in the trust pass to the other trust beneficiaries (the remainder beneficiaries). The value of the retained income is subtracted from the value of the property transferred to the trust (i.e., a share of the business), so if you live beyond the specified income period, the business may be ultimately transferred to the next generation at a reduced value for estate tax or gift tax purposes.

Intentionally defective grantor trust.  Another sophisticated technique is use of an intentionally defective grantor trust (“IDGT”).  The trust is intentionally defective so the grantor pays the income tax on the assets that are no longer considered part of the estate.  You create the IDGT, lend the trust money to buy an asset (the business) you expect will appreciate significantly. In return for lending the trust money, you receive interest payments for a set number of years. The lower the interest rate, the less the trust must repay you — and the more your heirs stand to benefit.

Nevada is Premier State for Domestic Asset Protection Trusts

Recently, a Probate and Property magazine article listed Nevada as the premier domestic jurisdiction for asset protection trusts.Locked Wallet  In the November/December 2012 issue, Barry Engel, founding principal of the Denver, Colorado firm of Engel & Raiman PC, was interviewed on “Asset Protection Developments.” Mr. Engel co-authored the 1989 amendment to the Cook Islands International Trust Act.  Mr. Engel complimented Nevada by stating:

In terms of domestic jurisdictions, we have used Nevada over the years more than any other state.  We like it for the protective legislation is has on the books, the quality of trustees available, its proactive attitude and approach toward domestic asset protection law, and how it seems to strive to make what it has even all the better.

Nevada continues to surpass other states in regard to its asset protection trusts and the protections available to debtors.  Our office can help you protect assets from creditors and assure your wealth preservation.

Democrats Divided Over Future of Estate Tax

One tax element overlooked in the negotiations over the “fiscal cliff” is how Congress and the President will resolve the future of the estate tax. The Wall Street Journal reports that several Democratic senators from conservative states will not embrace President Obama’s plan to raise the estate tax.  Under current law, the estate tax exemption amount will be lowered to $1 million with a 55% tax rate starting January 2013. President Obama proposes to return the estate tax exemption amount to $3.5 million with a 45% rate, the same terms as 2009.

Senator LandrieuSenator Mary Landrieu of Louisiana, Max Baucus of Montana, and Mark Pryor of Arkansas said they would prefer not to raise the estate tax.  This week, Ms. Landrieu took a very strong position by stating that she would oppose any deficit-reduction package that raises the estate tax. One common element among Landrieu, Baucus, and Pryor is their party affiliation, another more important aspect is that all three are up for re-election in 2014.  The three are diverging from the Democratic party’s position to endorse a position likely favored by their conservative constituents.

Republican lawmakers continue to support estate tax repeal altogether.  At the very least, the Republican leaders expect a continuation of the Bush-era tax cuts which would maintain the estate tax exemption at $5 million and a 35% tax rate.  Under the current policy, the Tax Policy Center estimates that $161 billion of tax revenue will be generated over the next 10 years.  Under President Obama’s proposal, $276 billion would be raised.  Considering the highly-charged political climate, we may not have a resolution to the future of the estate tax in the near future.

Open Shop in Reno, Save Taxes

ImageThe New York Times recently reported on Apple’s tax strategy which involves funneling profits through a Nevada corporation with offices in Reno, Nevada.  Apple has wisely taken advantage of Nevada’s non-existent corporate tax. In addition, Nevada does not have a corporate capital gains tax. While the tech giant is based out of Cupertino, California, Apple maintains a Reno office to collect and invest profits from its worldwide sales of iPods, iPhones, iPads, etc.

Estimates peg Apple’s current fiscal year profits at $46 billion, expected to be a record for an American business.  By largely avoiding California’s corporate tax rate of 8.84 percent, the tax savings are substantial.  Apple is not alone in seeking refuge in Nevada from the onerous California tax rates.  Microsoft operates a revenue recording center in Reno, Nevada to avoid the state of Washington’s royalty tax.

Not only does Nevada have low, or non-existent corporate tax rates, but also Nevada’s corporate laws are second-to-none.  Just a few of the protections afforded to Nevada entities are featured here.  If Apple and Microsoft embrace doing business in Nevada, should others consider following their lead?