Estate Planning. First-Quarter 2012

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1 Estate Planning First-Quarter 2012 The 2012 Family Opportunity Trust The current uncertainty regarding gift tax and estate tax legislation presents several challenges to prospective transferors of wealth. For example: How can such individuals effectively plan while current laws are potentially changing, expiring, or are completely unpredictable, even in the short term? Should such individuals and their advisors do nothing when favorable laws may vanish at year s end? How can flexibility and control be preserved given the unpredictability of one s own wealth in a volatile economy? How can affluent families remain flexible in their planning so that they are positioned to act quickly to leverage opportunities in this uncertain wealth planning environment? Most wealthy individuals have been advised, and are aware, of the tremendous opportunities for effective wealth transfer plans under current estate tax and gift tax laws, yet many of these same individuals are struggling to discover a suitable plan based on the above challenges. The first step to successful planning in this uncertain setting and one that should be considered now is a flexible and efficient container for transferred wealth. This special container will be referred to as a 2012 Family Opportunity Trust. The Opportunity The current tax, interest rate, and overall market environments have created unprecedented potential for effective and efficient wealth transfer. The following key factors have created a unique and potentially brief (possibly only through year-end) window of opportunity. Martyn S. Babitz National Director of Estate Planning martyn.babitz@hawthorn.pnc.com The lifetime exemption for making gifts without federal gift taxation increased from $1 million to $5.12 million per person in 2012 under the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 ("the Act"). Several points of interest about this exemption: This exemption can be used during an individual s lifetime, with the remainder available at death to offset federal estate tax liability. At the end of 2012, the exemption will return to $1 million absent action by Congress. This exemption is in addition to the annual Gift Tax exemption of $13,000 per person, per donee, as well as the exclusion for gifts to hawthorn.pnc.com

2 cover tuition and medical expenses. The current gift tax rate on transfers beyond these exemptions and exclusions, and the estate tax rate on assets remaining in one s estate at death beyond the exemption, is 35%, scheduled to increase to 55% after The Act also increased the Generation Skipping Tax (GST) exemption to $5.12 million per person in 2012, although it is scheduled to return to roughly $1.36 million per person after This exemption allows gifts to grandchildren, or to trusts for multiple generations (including children and subsequent generations), without being subject to an additional Generation Skipping Tax (currently 35%, scheduled to increase to 55% after 2012) or estate taxation upon the death of children and later generations. Combined with the lifetime gift exemption, transfers to multigenerational trusts can bypass federal estate taxation for as long as the trust is permitted to remain in existence, which in many states such as Delaware, is forever. 1 The historic low interest rate environment also makes several wealth transfer options attractive. These include intra-family loans, sales of assets, and Grantor Retained Annuity Trusts (GRATs), which are discussed later in this paper. Current low valuations for many asset classes, such as marketable securities and real estate, have enhanced wealth transfer opportunities as well. For example, if shares of XYZ Corporation have dropped in value from $100 to $50 per share, one can gift twice as many shares within the context of the increased exemptions without gift tax liability. Further, the opportunities presented by the current low asset valuation environment can be significantly magnified through leveraged gifting techniques such as GRATs. In addition, by utilizing Family Limited Partnerships (FLPs) or family Limited Liability Companies (LLCs), additional valuation discounts on the underlying assets may be available while preserving continuing control for the transferor over the assets transferred via the family interests. 1 This potentially closing window of opportunity is represented by dramatically higher federal tax exemptions for wealth transfers, historically low interest rates, and low asset valuations and all of these factors combine to present unparalleled wealth transfer possibilities. The Vehicle The above unique combination of factors (favorable tax laws, low interest rates and low market valuations) can be maximized through a number of estate planning tools that can be executed through a specific type of trust. This trust, denoted here as a 2012 Family Opportunity Trust (hereafter the Trust ) for descendants, 2 contains a number of characteristics: The Trust is irrevocable. By making the Trust irrevocable, it will be out of the taxable estate of the grantor and will not be subject to federal Estate Tax upon the grantor s death. By utilizing the $5.12 million lifetime gift exemption ($10.24 million for a married couple), or what may be left of it if some has been previously utilized, transfers to the Trust up to this amount will avoid federal Gift Tax. It is perpetual. By applying the grantor s $5.12 million federal Generation Skipping Tax (GST) exemption ($10.24 million for a married couple) to the Trust, or what may be left of it if some has been previously utilized, the assets of the trust and any subsequent growth will escape federal Estate tax upon the death of the beneficiaries for multiple generations, perhaps in perpetuity. 2 March 2012

3 trust It is a for grantor income trust tax for but income not federal tax purposes. estate tax By purposes making (a the defective Trust a grantor trust), for the income assets will tax but remain not federal outside estate of the tax grantor s purposes taxable (a defective estate. However, grantor all trust), income the assets items will of the remain Trust outside will be of taxed the grantor s the grantor taxable individually. estate. However, Consequently, all income items the of Trust the Trust will not will be be depleted taxed to by the payment grantor of individually. taxes. In addition, Consequently, any transactions the Trust will between not be the depleted grantor by and payment the Trust of taxes. will be In taxneutral addition, for any income transactions tax purposes, between which the grantor can be advantageous and the Trust will as described taxneutral below. for income 2 tax purposes, which can be advantageous as described further The further Trust below. has a 2 Delaware situs. By utilizing Delaware situs for the Trust, it can The enjoy Trust the has benefits a Delaware of asset situs. protection; By utilizing optimum, Delaware flexible situs state for the trust Trust, laws; it access can enjoy to and the ease benefits of administration of asset protection; under optimum, the Delaware flexible court state system; trust and laws; allowance access to and for ease a Trust of administration Adviser who can under modify the Delaware many of the court trust system; terms and as appropriate allowance for and a necessary Trust Adviser during who the can long modify duration many of of the the Trust trust (the terms as Delaware appropriate advantage and necessary is discussed during further long below). duration of the Trust (the Delaware advantage is discussed further below). The Benefits The Benefits The 2012 Family Opportunity Trust In taking advantage of the current $5.12 million lifetime gift exemption, or $10.24 million In taking for advantage a married of couple, the current by transfer $5.12 in million trust, lifetime an individual gift exemption, creates a myriad or $10.24 of opportunities million for a married for the benefit couple, of by family transfer members, in trust, an individual creates a myriad of potentially opportunities for for generations the benefit to of come, family on members, a completely Exhibit 1 transfer potentially tax for free generations basis (transfer to come, taxes on being a completely defined as Exhibit Growth 1of $10 Million over 100 Years federal transfer Estate tax free Tax, basis Gift (transfer Tax, and taxes Generation being defined Skipping as Growth of $10 Million over 100 Years Tax). federal Assuming Estate Tax, a modest Gift Tax, 3% and net Generation annual growth Skipping rate of the 200 Trust s Tax). Assuming assets, $10 a modest million 3% would net grow annual to growth more than rate of the Growth at 3% 180 $186 Trust s million assets, over $10 a million 100-year would period, grow as to compared more than to about Growth at 3% with Estate Tax 160 $9 $186 million, or over less than a 100-year the initial period, amount as compared of assets, to over about 140 that $9 million, same period, or less if than the assets the initial are subject amount to of federal assets, Estate over 120 Tax that in same each period, generation if the at assets actuarially are subject reasonable to federal time Estate 100 intervals Tax each (see generation Exhibit 1). at In actuarially most or all reasonable states imposing time 80 death intervals taxes, (see the Exhibit assets 1). of the In most Trust or would all states avoid imposing this tax 60 liability death taxes, as well. the assets of the Trust would avoid this tax 40 liability as well. As a grantor trust for federal income tax purposes, the 20 Trust As a grantor would avoid trust for income federal tax income liability tax on purposes, taxable interest, the 0 dividends, Trust would and avoid capital income gains tax until liability the grantor s on taxable death; interest, as Years such, dividends, items and would capital be taxed gains directly until the to grantor s the grantor. death; From as a Source: Hawthorn/Babitz/Petrunia wealth such, items transfer would perspective, be taxed directly this allows to the grantor. assets of From the a Source: Hawthorn/Babitz/Petrunia Trust wealth to transfer grow more perspective, rapidly, undiminished this allows the by assets income of the tax liability. Trust to grow The payment more rapidly, of income undiminished tax attributable by income to the tax Trust by the grantor, which directly liability. benefits The payment the Trust of income beneficiaries, tax attributable is not considered to the Trust a gift by by the the grantor, which to the Trust directly for benefits federal gift the Trust tax purposes, beneficiaries, allowing is not a significant considered Gift a gift Tax-free by the grantor transfer to the annually Trust for by federal the grantor gift tax for purposes, the benefit allowing of his a descendants significant Gift for the Tax-free duration transfer of his life. 3 Most annually states by that the grantor maintain for a state the benefit level income of his descendants tax follow this for federal the duration rule. of his life. 3 Most states that maintain a state level income tax follow this federal rule. The Trust can be created as a grantor trust for federal income tax purposes to accomplish The Trust can this be benefit created in as a number a grantor of trust ways. for The federal most income common tax is purposes to allow to the grantor accomplish the power this benefit to acquire in a number assets from of ways. the Trust The most for other common assets is of to equivalent allow the value. grantor 4 Such the power a power to acquire can provide assets significant from the Trust planning for other opportunities assets of as equivalent a grantor can reacquire value. 4 Such underperforming a power can provide assets from significant the trust planning for cash opportunities or higher growth as a grantor potential can assets reacquire of current underperforming equal value. assets from the trust for cash or higher growth potential assets of current equal value. Further, from the inception of the Trust, the trust s assets could be protected from creditors Further, from and the divorce inception claims of the of Trust, former the spouses trust s of assets Trust could beneficiaries. protected from Under creditors Delaware and the law, divorce the Trust claims can of former provide spouses flexibility of Trust to deal beneficiaries. with the many contingencies Under Delaware that law, may the arise Trust over can its provide long duration. flexibility For to example: deal with the many contingencies that may arise over its long duration. For example: Millions of Dollars

4 Exhibit 2 Utilizing Valuation Discounts Millions of Dollars With Valuation Discount Without Valuation Discount Years Source: Hawthorn/Babitz/Petrunia A Trust Adviser can be named to make administrative modifications in response to legal or tax changes; limit or cut off beneficial interests for beneficiaries involved in self-threatening activities such as drug abuse which receipt of money from a trust could exacerbate; add or eliminate charitable beneficiaries; or modify provisions for discretionary distributions to some or all beneficiaries to provide appropriate incentives. 5 Through a decanting process, a Trustee can modify a Delaware trust by pouring the assets of an existing trust into a new trust with different terms for the same beneficiaries without their consent and without the requirement of court approval. 6 The Trustee can delegate investment responsibilities and be exculpated from liability for poor performance, adding to the range of fiduciaries willing to serve as Trustee and increasing the range of choices for investment advisory services. 7 Delaware generally does not require Trustees to immediately notify beneficiaries of their interests in trusts, as do many other states. 8 Tools for Enhancing the Benefits As described above, simply investing a $10 million gift to the Trust at a 3% net annual rate of return would provide close to $200 million of transfer tax-free assets, protected from creditors and divorce claims to the great benefit of the family. Beyond this, however, one or more additional tools may be utilized to further enhance these benefits. Gifting Valuation-Discounted Assets to the Trust The assets targeted for gifting can first be contributed to an existing or newly created family entity such as a Limited Liability Company (LLC) or Family Limited Partnership (FLP). Gifting units in such an entity, restricted as to marketability and control under the entity operating agreement, may qualify for a valuation discount relative to the actual value of the underlying assets. 9 Accordingly, for example, a family LLC holding $100 million of assets (e.g., real estate or marketable securities) might allow for a transfer of 15% of the LLC interests, which, at a 33% valuation discount, would represent a taxable gift of $10 million (an actual gift of $15 million of underlying assets). This would increase by 50% the amount of underlying assets transferred to the Trust using the same lifetime exemption of a married couple that initially formed the LLC and received back all the units prior to such gift. 10 Under the same assumptions of Exhibit 1, after 100 years, the Trust would hold approximately $279 million of asset value rather than $186 million (see Exhibit 2). Another potential benefit offered by family entities is control. By retaining the general partnership interest in an FLP, or the managing member interest in an LLC, the transferor of the restricted interests may retain control over management of the entity s underlying assets March 2012

5 Life Insurance Another means of leveraging the initial gifted assets could be the investment of some or all of the assets in a life insurance policy insuring the grantor, or the grantor and his or her spouse. If the insured(s) dies prior to life expectancy, the Trust could receive a windfall with a very high rate of return on the assets contributed to obtain the policy. Even at actuarial life expectancy, the tax-free internal rate of return on a policy, depending upon the quality of the product and the age and health of the insured(s), can significantly exceed the 3% assumed net annual rate of return in Exhibit 1. For example, as shown in Exhibit 3, a survivorship, or second-to-die, life insurance policy insuring a healthy 70-year-old husband and 68-year-old wife (hypothetical grantors to the Trust) with an initial premium of approximately $2 million would result in a death benefit of $10 million, or a net after-tax rate of return of 27.5% if the survivor dies in year 15, 11.22% if the survivor dies in year 25, or 6.47% if the survivor dies in year 32 when the younger spouse has attained age 100. In addition, with larger policies, the opportunity for private placement life insurance, with more customized investments for the internal policy values, can further enhance the potential returns on a tax-free basis 12 while diversifying the overall investment strategy with respect to the overall Trust assets. Exhibit 3 Leveraging the Trust with Life Insurance The 2012 Family Opportunity Trust Source: Albert E. Gibbons, CLU, ChFC, AEP, President, AEG Financial Services Source: Albert E Gibbons CLU ChFC AEP President AEG Financial Services 5

6 Purchase of GRAT and CLAT Remainders A Grantor Retained Annuity Trust (GRAT) is an irrevocable trust, which pays an annuity to the grantor for a term of years, with the remainder passing to beneficiaries (or a trust for beneficiaries) with low, or zero, gift tax consequences if structured properly. 13 The actuarial present value of the annuity is subtracted from the initial value of the assets transferred to the GRAT to determine the value of the gift. If the annuity value is equal to or greater than the value of the assets initially transferred to the GRAT, the value of the gift of the remainder is zero (a Zeroed Out GRAT). As the annuity value is based on the Section 7520 rate set monthly under the Internal Revenue Code, investment return on the assets in the GRAT exceeding this rate, often referred to as the hurdle rate, will inure to the benefit of the beneficiaries of the remainder interest at the close of the annuity term. The Section 7520 rate for February 2012 is 1.4%, thus establishing a very low hurdle rate. A major downside of GRATs is that they are not effective for generation skipping planning. The problem is that GST exemption cannot be applied to the remainder until the close of the annuity distribution period. 14 The objective is that the remainder will be substantial at that time, passing Gift Tax free to the beneficiaries of the remainder interest, typically family members or trust(s) for their benefit. At that time, however, there may be insufficient GST exemption that can be applied to cover the remainder, resulting in Generation Skipping Tax liability if the beneficiaries of the remainder interest are skip persons or a trust for such beneficiaries. A possible solution is to have the 2012 Family Opportunity Trust, which is itself exempt from GST, purchase the GRAT remainder from the remainder beneficiaries of the GRAT shortly into the GRAT term when the actuarially projected fair market value of the remainder interest is very low. This approach, when executed properly, generally passes muster with the IRS. 15 A Charitable Lead Annuity Trust (CLAT) is similar to a GRAT. A key difference, however, is that the annuity recipient is a charity, or charities, possibly a private foundation established by the grantor. 16 Other differences are that a CLAT can be established during the life or at the death of the grantor, rather than solely during the grantor s life as in the case of a GRAT. Further, with a GRAT, if the grantor dies during the annuity distribution term, the assets will be included in the grantor s estate, which is not the case with a CLAT. 17 Furthermore, a CLAT can be established as either a grantor trust or complex trust for income tax purposes during the annuity distribution term to charity, whereas a GRAT is a grantor trust during the annuity distribution term. 18 Similar to GRATs, utilizing a CLAT as a generation skipping tool is difficult. Under a special rule, the amount of GST exemption allocated at the creation of a CLAT is not determined until the close of the annuity distribution term to charity under a special formula. This makes it impossible to accurately allocate the correct amount of GST exemption at the time of the CLAT s creation, likely resulting in a waste of GST exemption or the imposition of GST liability at the close of the charitable annuity term. 19 Accordingly, as with a GRAT, a sale of a CLAT remainder interest by the remainder beneficiaries to the 2012 Family Opportunity Trust may better and more efficiently provide for a Generation Skipping planning objective to further enhance the Gift Tax or Estate Tax free transfer to the remainder beneficiaries (by having the Family Opportunity Trust, already entirely GST-exempt, purchase the remainder at its exact value). Additional care, however, must be taken in the case of a CLAT as the private foundation rules proscribing certain sales between a CLAT and 6 March 2012

7 a disqualified person (which may include the Trust) apply and must be carefully navigated to avoid substantial penalties. 20 The 2012 Family Opportunity Trust Family Loans The historic low interest rate environment allows significant possibilities utilizing loans by the Family Opportunity Trust to family members. Intra-family loans, such as those between the Trust and its beneficiaries, require that an interest rate be charged in order to avoid adverse gift tax consequences. The interest rate is published monthly by the Internal Revenue Service pursuant to a formula tied to current treasury interest rates under the Internal Revenue Code. For February 2012, the required interest rate for short-term loans (demand loans or loans with a term of three years or less) is currently 0.19%, 1.12% for mid-term loans (between three and nine years), and 2.58% for long-term loans (more than nine years). 21 By allowing the Trustee to make loans to family members, the Trust can provide a source of capital for business opportunities, purchase of real estate, or other objectives of specific family members. In the case of the purchase of a home, the Trustee can take back a security interest in the property, fulfilling its duty of prudence and protecting the interest of all beneficiaries while simultaneously providing for the possibility of a mortgage interest deduction for the beneficiary for tax purposes. All of this can be accomplished within the context of a lower-thanmarket interest rate and avoidance of the risk that the beneficiary might not qualify for the mortgage in more traditional lending channels. The Trust could also make loans for entrepreneurial opportunities to be pursued by a beneficiary that could provide a greater potential return than possible were those assets invested more traditionally within the Trust. Again, concern for all beneficiaries interests would need to be considered by the Trustee in evaluating such loans. Purchase of Assets from Grantor Another wealth transfer technique tied to low interest rates, the same rates that apply to intra-family loans, involves the sale of additional assets by the grantor to the Family Opportunity Trust. Using cautious planning, the Trust s purchase can typically be leveraged by assets equaling at least 10% of the purchase price and financed by a promissory note given by the Trustee to the transferor. 22 For example, following a $10 million gift to the Trust, the Trust could perhaps purchase as much as an additional $100 million of assets from the grantor at fair market value, with a promissory note at attractive interest rates for the Trust and its beneficiaries. Furthermore, if the assets transferred can possibly be discounted in value, for example, by first creating LLC or FLP interests restricted in marketability and control, the actual underlying assets transferred may well exceed this 10:1 ratio. The transaction between the grantor and the Trust (a grantor trust for income tax purposes) is income tax neutral. The terms of the note can be flexible, such as interest only with a balloon payment at maturity. Alternatively, the note can be structured as a private annuity valued based upon the actuarial life expectancy of the transferor/grantor. 23 The note might be structured as a Self-Cancelling Installment Note (SCIN) that terminates upon the death of the transferor. A primary purpose of private annuities or SCINs is to avoid the problem of the note s value being included in the transferor s estate (a private annuity or SCIN is designed to be valued at zero upon the transferor s death). There are a number of concerns over potential IRS challenges to such a position, particularly with respect to 7

8 SCINs, that are beyond the scope of this article but should be considered carefully in structuring the note. 24 The key objective with a sale of assets to a Family Opportunity Trust is that the growth of the purchased assets will exceed the required payments back to the transferor. As the interest rates are currently very low (and lower than the interest rate used in determining the actuarial value of a GRAT remainder, which is 120% of the mid-term family loan interest rate), and the terms can be creative and flexible, this is a distinct possibility. Further, utilizing a GST-exempt Trust eliminates the generation skipping planning problem associated with GRATs. On the downside, a sale of assets to a family trust can backfire if the value of the assets transferred drops, leaving the grantor with a promissory note in his or her taxable estate that exceeds the value of the assets transferred. Clearly, the objective is that the assets transferred to the trust will appreciate significantly in value. However, such assets are often volatile and, in the uncertain markets of the past several years, may well go in the other direction while the note held by the transferor remains fixed. On the other hand, if the value of property transferred to a GRAT declines, the grantor will simply get more of the assets or all of them back as distributions, in which case the GRAT will fail but will not create the negative impact of increasing the value of the grantor s taxable estate beyond what it would have been had the GRAT not been created at all. Another negative concerning the sale of assets to family trusts is that such transactions are not directly sanctioned by the Internal Revenue Code, as are GRATs, but rather depend upon guidelines established over the years by analogous judicial decisions, IRS rulings, and best practices developed within the estate planning community. The transferor s appetite for risk must be considered in this light, with those more risk-averse individuals perhaps opting for GRATs and the possibility of selling the remainder interest to a Family Opportunity Trust, as outlined above. Conclusion Conclusion The current window of opportunity presented by the $5.12 million lifetime federal gift tax exemption ($10.24 million for a married couple), low interest rate environment, and low asset valuations in several classes will not remain open forever. Specifically, the $5.12 million exemption is scheduled to expire and revert to the former $1 million level on January 1, 2013, absent action by Congress. A 2012 Family Opportunity Trust presents an ideal vehicle for taking advantage of the wealth transfer opportunities presented in the current environment. The Trust can provide complete exemption from federal (and state) transfer tax for many generations, protect against creditor and divorce claims for the transferor and beneficiaries, and allow flexibility in dealing with beneficiaries and changing laws over the long duration of the trust. Furthermore, in concert with several other estate planning tools, such as valuation discounted assets, life insurance, sales of GRAT or CLAT remainders, family loans, and sales of assets to the Trust, the wealth transfer possibilities of a 2012 Family Opportunity Trust can be substantially magnified. Clients and their advisors may want to review and seriously consider implementing a 2012 Family Opportunity Trust before the window closes on these unprecedented wealth planning possibilities. 8 March 2012

9 1 Under President Obama s administration, repeated proposals have been made by the Treasury Department to eliminate valuation discounts for family entity interests such as LLCs and FLPs. 2 Revenue Ruling 85-13, C.B. 184, Private Letter Rulings and Revenue Ruling , I.R.B , 7 (July 6, 2004). 4 Section 675(4)(C) of the Internal Revenue Code of 1986, as amended ( IRC ) Delaware Code, Section Delaware Code, Section Delaware Code, Section Delaware Code, Section Estate of Smith v. U.S., 658 F.2d 999 (5 th Cir. 1981); Estate of Newhouse v. Commissioner, 94 T.C. 193 (U.S. Tax Court 1990). 10 The appropriate discount, if any, will vary in light of many factors specific to each individual situation and should be determined with the assistance of professional valuation experts, legal and tax advisors. 11 Caution should be exercised when allowing the transferor to retain control, directly or indirectly, over the management of the entity to avoid the risk of inclusion of the underlying assets in the transferor s taxable estate under IRC Section 2036(a). 12 Tax-Free Life Insurance: An Untapped Investment for the Affluent, New York Times, February 10, 2011, p. F7. 13 IRC Section 2702(b). 14 IRC Section 2642(f)(1). 15 Russell Fishkind and Robert Katz, Estate and Business Succession Planning, pp (Wiley 2002). 16 IRC Section 170(f)(2)(B). 17 The difference here is that the grantor s retained interest in the GRAT during the annuity term makes the assets includible in his or her taxable estate under IRC Section 2036(a)(1) if death occurs during the annuity distribution term; on the other hand, the grantor does not retain any interest in a CLAT after its creation. 18 IRC Section , 642(c); IRC Section IRC Section 2642(e). 20 IRC Section 4941, 4946; Treas. Reg. Section (d)-1(b)(3). Keep in mind that the CLAT is not a direct party to such a sale by the CLAT s remainder beneficiaries to the Family Opportunity Trust, thereby mitigating this risk. Court approval may nevertheless be required to accomplish a sale of a CLAT remainder to the Trust without violating the self-dealing rules of IRC Section Revenue Ruling , I.R.B (January 19, 2012). 22 See Karmazin v. Commissioner, Docket Number (stipulated decision entered October 15, 2003). 23 The annual payments to be made under private annuities are determined under IRC Section 7520 and the monthly interest rate published by the IRS under IRC Section 1274(d)(1) for GRATs. Care must be exercised to ensure the value of the annuity is equivalent to the value of the property transferred and represents a bona fide annuity to avoid possible IRS challenge that the transferor has a retained interest in the property exchanged for the annuity under IRC Section These concerns include the advisability of paying a premium to the transferor to compensate for the risk of premature death and cancellation of the SCIN. See Estate of Moss v. Commissioner, 74 T.C. 1239, (U.S. Tax Court 1980). 9

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12 Hawthorn is a registered service mark of The PNC Financial Services Group, Inc. ( PNC ). Hawthorn provides investment consulting, wealth management and fiduciary services, certain FDIC-insured banking products and services and lending of funds through the PNC subsidiary, PNC Bank, National Association, which is a Member FDIC, and provides certain fiduciary and agency services through the PNC subsidiary, PNC Delaware Trust Company. Insurance products and advice may be provided by PNC Insurance Services, LLC, licensed insurance agency affiliates of PNC, or by licensed insurance agencies that are not affiliated with PNC; in either case a licensed insurance affiliate will receive compensation if you choose to purchase insurance through these programs. A decision to purchase insurance will not affect the cost or availability of other products or services from PNC or its affiliates. Hawthorn and PNC do not provide legal or accounting advice and neither provides tax advice in the absence of a specific written engagement for Hawthorn to do so. Investments: Not FDIC Insured. No Bank Guarantee. May Lose Value. Insurance: Not FDIC Insured. No Bank or Federal Government Guarantee. May Lose Value. This report is based upon the assumptions stated herein which have been derived from the facts provided to us by you. Our recommendations to you contained in this report are based upon such assumptions and upon your goals, time horizon and risk tolerance as stated by you. Any changes in assumptions, goals, time horizon and risk tolerance would likely result in our making different recommendations. The projections and other information regarding potential future events or investment returns are hypothetical in nature, do not reflect actual investment results and are not guarantees of future results. This report and its hypothetical illustrations are intended to form a basis for further discussions with your legal, accounting and other financial advisors. We recommend that you review this report with your legal, accounting and other advisors. Actual future investment returns, taxes and rates of inflation are unknown. The following disclosure is made in accordance with the rules of Treasury Department Circular 230 governing standards of practice before the Internal Revenue Service: Any description pertaining to federal taxation contained herein is not intended or written to be used, and cannot be used by you or any other person, for the purpose of (i) avoiding any penalties that may be imposed by the Internal Revenue Code, and (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein The PNC Financial Services Group, Inc. All rights reserved.