Wealth Transfer Planning

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1 Wealth Transfer Planning For Business Owners ESTATE PLANNING SERVICES

2 Merrill Lynch does not provide tax, accounting or legal advice. Any information presented about tax considerations affecting client financial transactions or arrangements is not intended as tax advice and should not be relied upon for the purpose of avoiding any tax penalties. Neither Merrill Lynch nor its financial Advisors provide tax, accounting or legal advice. Clients should review any planned financial transactions or arrangements that may have tax, accounting or legal implications with their personal, professional advisors. The case studies presented are hypothetical and do not reflect specific strategies we may have developed for actual clients. They are for illustrative purposes only and intended to demonstrate the capabilities of Merrill Lynch and/or Bank of America. They are not intended to serve as investment advice since the availability and effectiveness of any strategy is dependent upon your individual facts and circumstances. Results will vary, and no suggestion is made about how any specific solution or strategy performed in reality. All guarantees and benefits of the insurance policy are backed by the claims-paying ability of the issuing insurance company. They are not backed by Merrill Lynch or its affiliates, nor do Merrill Lynch or its affiliates make any representations or guarantees regarding the claims-paying ability of the issuing insurance company. Merrill Lynch Wealth Management makes available products and services offered by Merrill Lynch, Pierce, Fenner & Smith Incorporated (MLPF&S) and other subsidiaries of Bank of America Corporation (BAC). Trust and fiduciary services are provided by Merrill Lynch Trust Company, a division of Bank of America, N.A., Member FDIC. Insurance and annuity products are offered through Merrill Lynch Life Agency Inc., a licensed insurance agency. Bank of America, N.A., Merrill Lynch Life Agency Inc. and MLPF&S, a registered broker-dealer and Member SIPC, are wholly owned subsidiaries of BAC. Investment products, insurance and annuity products:. Are Not FDIC Insured Are Not Bank Guaranteed May Lose Value Are not Deposits Are Not Insured by Any Federal Government Agency Are Not a Condition to Any Banking Service or Activity MLPF&S and Bank of America, N.A. make available investment products sponsored, managed, distributed or provided by companies that are affiliates of BAC or in which BAC has a substantial economic interest, including BofA TM Global Capital Management Bank of America Corporation. All rights reserved. ARU PM

3 The Impact of the 2010 Tax Act The 2010 Tax Act 1 made dramatic changes to certain gift and estate tax laws Create new gifting and estate planning opportunities Increases the importance of having a well thought out wealth transfer plan 1 Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of

4 Topics for discussion Gifting and Trust Opportunities Dynasty and Delaware Trusts Intentionally Defective Grantor Trusts (IDGTs) 4

5 What is included in your estate? Financial Assets Investments Bank accounts IRAs and other qualified plan balances Life insurance proceeds from policies you own Business Interests Ownership in a private company Partnership interests Real estate investments Farm, ranch, timber property Other Property Your home and vacation property Vehicles, boats, plane Art, antiques, collections Personal belongings 5

6 Reducing your taxable estate through gifting Spouse Marital Deduction Unlimited tax-free transfers to spouses who are U.S. citizens Charitable Entities Charitable Deduction Unlimited transfers to qualified charities* free of gift and estate taxes Income tax deduction is limited in certain situations Beneficiaries Annual Exclusion $13,000 per recipient per year Lifetime Exclusion Reduces your available estate tax exclusion Taxable Transfers At gift tax rates Education and Healthcare Payments made directly to the provider for qualified tuition or healthcare expenses are not considered taxable gifts *This applies to private foundations as well as public charities. 6

7 Opportunities created by the 2010 Tax Act The 2010 Tax Act creates opportunities for Individuals who anticipate transferring more than $1 million to heirs Couples who anticipate transferring more than $2 million Those who want to leave assets to grandchildren or future generations Gifting now May reduce gift and estate tax liabilities Removes future appreciation from your taxable estate 7

8 Issues to consider Considerations Impact of a large gift on your future financial flexibility Impact of large gifts on recipients and their ability to handle the assets responsibly The need for safeguards to see that assets are Managed properly Protected from creditors and effects of divorce Distributed as you had planned Used in the manner that you intend 8

9 Ensuring assets are used as you intend Inheriting substantial wealth can make it more difficult to maintain financial discipline Placing assets in a trust enables you to Stipulate how the funds are to be used Appoint an independent trustee to control distributions 9

10 Additional benefits of a trust A trust can help you achieve additional goals Trusts May include incentives/conditions for next-generation beneficiaries: May be structured to encourage education May require gainful employment before distributions begin Protect assets from creditors including the effects of divorce Selection of trustee can ensure professional asset management 10

11 Need to review existing plans The 2010 Tax Act may have unintended impact on existing estate plans Estate Tax Exemption ($ millions) $1.5 $2.0 $2.0 $2.0 $3.5 $5.0 $5.0 $ Estate planning documents often contain formula clauses Designed to minimize estate tax liability Eliminate the need to update documents as exemption amounts change Higher estate exemption may leave certain beneficiaries with less than you intend 11

12 Case study Client situation Distribution of Assets ($ millions) John s Will was drafted in 2005 when his net worth was $5 million His children are beneficiaries of a bypass trust to be funded with his remaining exemption amount His second wife will receive the balance Had John died in 2005, $1.5 would have gone to his children and $3.5 million would have gone to his wife Current impact $1.5 $3.5 $5.12 $0.88 John s net worth is now $6 million If he passes away before the end of 2012, the bypass trust will receive $5.12 million, leaving his wife with just $0.88 million Children Wife 12

13 Impact of gifting now Advantages Ability to remove up to $5.12 million from your taxable estate free of gift taxes a potentially limited opportunity Appreciation on transferred assets is removed from your taxable estate Considerations Transfers are subject to the 3-year rule to avoid deathbed transfers You are transferring assets, which creates a need to understand the impact on your future financial flexibility Reduces estate taxes, even if the estate tax exemption is ultimately lowered ( claw back ) Reduces the need to rely on formula clauses * Even if the full amount of the gift is ultimately subject to estate tax, the appreciation will remain outside the estate. 13

14 What matters to you? Providing for your needs as well as those of family members Passing on your wealth and values Establishing deep connections with the next generation Achieving long-held family goals and aspirations Supporting philanthropic causes that are important to you 14

15 What should you consider? Gift Amount With the higher gift tax exemption, consider Assessing how much you are comfortable giving Implementing strategies to contain the cost of long-term care Gifting Strategies Consider strategies that Complement or update your existing plan Take advantage of the higher gift tax exemption and provide financial flexibility Transfer Structure Consider trusts that Direct who will receive assets and under what circumstances Encourage responsible use of funds by heirs Provide for professional management 15

16 Options for funding Long-Term Care Traditional LTC Insurance Annuities with LTC Rider Life Insurance with LTC Rider Hybrid Products 16

17 Topics for discussion Gifting and Trust Opportunities Dynasty and Delaware Trusts Intentionally Defective Grantor Trusts (IDGTs) 17

18 Preserving assets for future generations with a Dynasty Trust Dynasty Trusts are helpful in minimizing estate and GST taxes Important if you are taking advantage of the new higher gift tax exemption Appreciation escapes future transfer taxes Choice of state for trust administration may enable you to extend the term (consult with your legal counsel) Delaware, for example, imposes no limit on the term May protects assets from creditors, spendthrifts and the effects of divorce Can be particularly effective when assets are used to purchase second-to-die life insurance policy 18

19 What is unique about Delaware? Dynasty Trusts Maximize term/minimize taxes Administrative Trusts Used to give a client control over trust investments Asset Protection Trusts Protect assets from potential creditors No State Income Tax on Trusts Minimize state income tax Delaware trust services are provided through U.S. Trust Company of Delaware 19

20 Case Study: Transferring ownership in a family business Client situation Andrew and Eileen own a profitable business worth an estimated $7 million They eventually want to sell the business and anticipate its value will increase over time Although they want to gift interests to their children now to take advantage of the new, higher gift tax exemption, they want to maintain control of business decisions For Illustrative Purposes Only 20

21 Maintaining control with a Delaware Administrative Trust Client $5,000,000 company stock Delaware Administrative Trust Directed distributions Children Dividends Control of the company Company Andrew and Eileen contribute $5 million of company stock to a Delaware Administrative Trust, removing it from their taxable estate By serving as Investment Advisors to the trust, they are able to maintain control of The company The payment of dividends The decision to sell 21

22 Enhancing the after-tax return on a bond portfolio Case Study Husband and wife, aged 65 and 60 Net worth of $20MM $4MM municipal bond portfolio yielding 3.5% After 25 years, the bond portfolio will have grown to $9,452,980, but after taking estate taxes into account the IRR on the portfolio will be 1.73% assuming a 35% estate tax rate 0.25% assuming a 55% estate tax rate This case study summarizes a specific transaction. It does not represent the experience of every client and does not indicate future performance or success. Solutions presented are not appropriate for everyone. Private Wealth Advisors should review terms, conditions and risks of specific products or services with their clients. Insureds named in a life insurance policy must be able to prove insurability and meet the underwriting requirements of the issuer. 22

23 Enhancing the after-tax return on a bond portfolio Gift the portfolio to a Dynasty Trust Husband and wife each Gift $2M to a dynasty trust and utilize $2M of gift and GST exemption Trustee purchases a $13,300,000 second-to-die life insurance policy Trustee sells $125,000 of bonds to pay the initial premium* Trustee uses $125,000 of income from the bonds to pay subsequent premiums After income and estate taxes, 25-year IRR on the insurance strategy is 6.10% vs. 0.25% on the bonds Client $4 M Municipal Bond Portfolio Dynasty Trust $125,000 Annual Premium $13,300,000 Death Benefit $13,300,000 Second-to-Die Guaranteed Life Insurance Policy Assumptions: Husband and wife are both non-smokers in good health *Such a sale could cause the seller to be subject to income tax. 23

24 Topics for discussion Gifting and Trust Opportunities Dynasty and Delaware Trusts Intentionally Defective Grantor Trusts (IDGTs) 24

25 Intentionally Defective Grantor Trusts (IDGTs) Do you have: An estate worth more than 2x the estate tax exemption amount (currently $10MM+, but could be lower in 2013)? Assets that are likely to appreciate in value? A privately-held business? Real estate holdings that generate stable cash flow? A bond portfolio that generates more income than your needs? 25

26 Reduce estate taxes by removing future appreciation from your estate Client (Grantor) Loan or Sale of Assets Loan or Installment Sale Payments Appreciation in value Irrevocable Trust Appreciation in excess of loan or installment payments passes to children free of estate tax The new, higher $5.12 MM gift tax exemption allows clients to transfer more to the trust as a tax-free gift, making this technique more attractive Allow the grantor to recognize income earned by the trust so there is no taxable gain when property is sold to an IDGT 26

27 How IDGTs can help Reduce estate taxes by removing appreciation from the client s taxable estate If cash flow is strong enough, can transfer ownership of all or a portion of the underlying assets tax-free Can be structured to take advantage of minority discounts when transferring private company stock 27

28 Summary Unique opportunities through 2012: Review existing estate plans and documents Consider strategies to maximize wealth transfer Gifting Dynasty Trust Delaware Trust IDGT * Merrill Lynch Trust Company is a division of Bank of America, N.A. 28

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