2014–15 tax guide: Estate and gift taxes

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Estate planning keeps getting better. Interest rates remain at historic lows, and asset values are climbing as the economy recovers. This makes it an ideal time to put estate-planning techniques in play. Whether you’re using trust-planning techniques or transferring business interests, make sure you use the low interest rates and high gift and estate exemptions while you can. But there are new important elections that need to be made on a timely basis, such as the portability election to allow a spouse to benefit from an unused estate tax exemption.

Planning tip: Leverage historically low interest rates
The past two years presented a historically favorable time for transfer tax planning. Asset values were down, exemptions were high, taxes were low, and interest rates were through the floor. Don’t worry, it’s not too late. Although tax rates are higher and asset values are recovering, the unified gift and estate tax exemption is still very generous, and this may be one of your last opportunities to take advantage of historically low interest rates. Many transfer wealth strategies hinge on interest rates, and there are signs that with the economy speeding up, rates are set to begin creeping up again.

Tax referebce guide
Planning tip: Make taxable gifts
Much estate planning focuses on leveraging your lifetime exemptions, but making taxable gifts can have significant benefits. For one, the amount of gift tax paid is removed from the estate. The gift tax is “tax exclusive” because you don’t pay tax on the gift tax itself, while the estate tax is “tax  inclusive.” This means that giving away wealth while living results in less tax than passing wealth at death.

Imagine a taxpayer who has exhausted her lifetime gift and estate tax exclusion and has $1.4 million in disposable assets outside of the income that she needs to live comfortably. Will her heirs receive more if she gives this $1.4 million now? Yes.
Transfer now
  • $1 million gift
  • $400,000 in tax paid by giver
  • $1 million passed to heirs    
Transfer at death
  • $1.4 million in estate
  • $560,000 in tax paid by estate
  • $840,000 passed to heirs
Why? The 40% gift tax is applied only to the amount of the gift, but the 40% rate will be applied to the entire taxable amount of $1.4 million if left in the estate at death. Caution: If you transferred property with a low basis, the step-up in basis received at death might have been more valuable to your heirs.

Giving business interests
If you’re a business owner, you may be able to leverage your gift tax annual exclusions by giving ownership interests that are eligible for valuation discounts. So, for example, if the discounts total 30%, you can give an ownership interest equal to as much as $20,000 tax-free because the discounted value doesn’t exceed the $14,000 annual exclusion. Because the IRS may challenge the value, an independent and professional appraisal is highly recommended to substantiate it.

Whether or not you own a business, there are many reasons to consider a family limited partnership (FLP) or limited liability company, including the ability to consolidate and protect assets, increase investment opportunities and provide business education to your family. Another major benefit is the potential for valuation discounts when interests are transferred. For example, you can transfer assets (such as rental property or investments) to an FLP, then give FLP interests to family members. The valuation discount, combined with careful timing of the gifts, may enable you to transfer substantial value free from gift tax. An FLP can work especially well for transfers of rapidly appreciating property.

Be careful, though: The IRS is scrutinizing FLPs and has had great success challenging FLPs in which the donor retains the actual or implied right to enjoy the FLP assets, or when the donor retains the right to control the FLP. You shouldn’t transfer personal-use assets to an FLP, transfer so much of your assets that you leave insufficient means to pay for living expenses or have unfettered access to FLP assets for your own use. Lawmakers have also proposed legislation to limit valuation discounts for FLPs. If you wish to create an FLP, discuss the risks and benefits with a Grant Thornton tax professional.

Trusts are versatile planning tools
Trusts are often part of an estate plan because they can be versatile and binding. Used correctly, they can provide significant tax savings while preserving some control over what happens to the transferred assets. There are many different types of trusts to consider:
  • Qualified domestic trust: This marital trust can allow you and your non-U.S. citizen spouse to take advantage of the unlimited estate tax marital deduction.
  • Qualified terminable interest property (QTIP) trust: This type of trust passes trust income to your spouse for life, with the rest of the trust assets passing to your children or others you’ve designated. A QTIP trust gives you (not your surviving spouse) control over the final disposition of your property and is often used to protect the interests of children from a previous marriage. The trust takes advantage of the estate tax marital deduction to reduce the estate tax liability of the estate of the first-to-die spouse.
  • Irrevocable life insurance trust (ILIT): The ILIT owns one or more insurance policies on your life, and it manages and distributes policy proceeds according to your wishes. An ILIT keeps insurance proceeds, which would otherwise be subject to estate tax, out of your estate (and possibly your spouse’s). You aren’t allowed to retain any powers over the policy, such as the right to change the beneficiary. The trust can be designed so that it can make a loan to your estate or buy assets from your estate for liquidity needs such as paying estate tax.
  • Crummey trust: This trust allows you to enjoy both the control of a trust that will transfer assets at a later date and the tax savings of an outright gift. ILITs are often structured as Crummey trusts so that annual exclusion gifts can fund the ILIT’s payment of insurance premiums.
  • Dynasty trust: A dynasty trust allows assets to skip several generations of transfer taxation. You can fund the trust either during your lifetime by making gifts or at death in the form of bequests. The trust remains in existence from generation to generation. Because the heirs have restrictions on their access to the trust funds, the trust is excluded from their estates. If any of the heirs have a real need for funds, the trust can make distributions to them. Most states have rules against perpetuities, so special planning will likely be required if you would like to maximize the term of the trust.
  • Qualified personal residence trust: This is a trust that holds your home but allows you to live in it for a set number of years. At the end of the term, your beneficiaries own the home. You may continue to live there if you pay fair market rent. This allows you to transfer the value of your home at a reduced transfer tax cost.
  • Grantor-retained annuity trust (GRAT): A GRAT allows you to give assets to your children today — removing them from your taxable estate at a reduced value for gift tax purposes (provided you survive the trust’s term) — while you receive payments from the trust for a specified term. At the end of the term, the principal may pass to the beneficiaries or remain in the trust. It’s possible to plan the trust term and payouts to reduce, or even zero out, the taxable gift.


David Walser
+1 602 474 3410

Dustin Stamper
+1 202 861 4144

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