The Legal Side of Estate & Succession Planning Peter B. Scott, Attorney Coan, Payton & Payne, LLC

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1 The Legal Side of Estate & Succession Planning Peter B. Scott, Attorney Coan, Payton & Payne, LLC

2 Speaker Introduction Peter B. Scott, Attorney, Coan, Payton & Payne, LLC Greeley, CO Estate planning and business, farm and ranch succession planning for 43 years Nationally recognized educator and author Co-host of The Retirement and IRA Show on Greeley s News Talk Radio 1310 KFKA, on Saturdays from 8 to 10am. Coauthor or contributing author of five books on estate and succession planning J.D degree and LL.M (Tax) degree from Washington University, St. Louis, MO

3 Legal Update The American Taxpayer Relief Act of 2012 ATRA Health Care and Education Reconciliation Act of 2010 Affordable Care Act (ACA) Both effective on January 1, 2013

4 American Taxpayer Relief Act Estate Tax: Passed January 1, 2013 $5,000,000 (currently $5,430,000) per person exemption from: Gift Tax Estate Tax Generation Skipping Tax

5 American Taxpayer Relief Act Estate Tax: Portability increases exemption to $10,860,000 for married couples 99.7% of U.S. Citizens are exempt from estate tax

6 American Taxpayer Relief Act Estate Tax: Exemption amount is indexed for inflation: In 20 years: $9,807,184 at average of 3% per year $11,897,799 at average of 4% per year $14,407,407 at average of 5% per year Average life expectancy today is increasing

7 American Taxpayer Relief Act Income Tax: Increase in top income tax rates (2015): 39.6% for ordinary income over: $464,850 for married couples filing jointly $413,200 for single filers $12,300 for estates and trusts

8 Affordable Care Act Affordable Care Act adds new section % surtax on individuals, trusts and estates For trusts, tax is on lesser of Undistributed Net Investment Income or Amount of AGI taxable at top marginal rate For $12,300

9 Affordable Care Act New IRC 1411 Imposes a 3.8% Medicare tax on: Net Investment Income for Individuals, estates and trusts On AGI over: $250,000 for married couples filing jointly $200,000 for single filers $12,300 for estates and trusts

10 Portability Allows surviving spouse to use decedent s unused basic exclusion amount Also referred to as DSUEA: Deceased Spousal Unused Exclusion Amount Election must be made on decedent s estate tax return Not automatic

11 Portability Can be used by surviving spouse to offset gift or estate taxes Is not indexed for inflation Doesn t apply to generation skipping tax (GST)

12 Step-up in Basis Income tax basis on inherited assets is fair market value at the date of the decedent s death All the capital gain goes away In 2008 we had a step-down in basis Assets must be included in decedent's estate Subject to estate tax, even though no tax is due

13 Step-up in Basis Certain assets don t receive a step-up in basis IRAs, 401(k)s, pensions Tax deferred annuities CDs Savings accounts

14 Step-up in Basis Recipients of gifts made during lifetime receive carryover basis Basis of donor Gifts generally not included in donor's estate

15 Tax Planning If your estate value is more than the estate tax exclusion ($5,430,000 if single, $10,860,000 if married) Want excess assets out of the estate at death To avoid estate tax If your estate value is less than the estate tax exclusion Want excess assets to be included and reported in the estate So can get the Step-up in basis

16 2015 Copyright Peter B. Scott Transition Flow Chart EXTERNAL TRANSFERS TRANSITION OBJECTIVES TRANSITION TARGETS INTERNAL TRANSFERS Liquidation Third Parties Partners or Employees Family TRANSITION STRATEGIES Public Private Auction Negotiated Sale Private Auction Mergers Consolidations Reverse Mergers Buy Out Buy/Sell Put/Call Rt of 1 st Refusal Buyouts/Ins Phantom Stock SARs ESOPs CRTs Stay Bonus Gifts Sale SCINs GRATs FLPs IGTs CRTs CLTs Tax Free Reorg Priv. Annuities

17 Lifetime Gifts vs. Transfers at Death Carryover tax basis Carryover tax basis Want excess assets out of the estate at death Avoid estate tax Hold until death Step-up in tax basis at death New depreciation basis Less gain on sale

18 2015 Copyright Peter B. Scott Transition Flow Chart EXTERNAL TRANSFERS TRANSITION OBJECTIVES TRANSITION TARGETS INTERNAL TRANSFERS Liquidation Third Parties Partners or Employees Family TRANSITION STRATEGIES Public Private Auction Negotiated Sale Private Auction Mergers Consolidations Reverse Mergers Buy Out Buy/Sell Put/Call Rt of 1 st Refusal Buyouts/Ins Phantom Stock SARs ESOPs CRTs Stay Bonus Gifts Sale SCINs GRATs FLPs IGTs CRTs CLTs Tax Free Reorg Priv. Annuities

19 Lifetime Sale New tax basis equal to purchase price Cash Sale Gain recognized in year of sale Spike in income may increase taxes in year of sale Cash sale not normally possible Installment Sale Gain spread out over number of years Avoids spike income Potentially less tax on gain from sale

20 Lifetime Sale Installment Sale (continued) Income from farm is used to make installment payments Bank financing may not be feasible Risk of forfeiture and/or receipt of payments Loss of control

21 2015 Copyright Peter B. Scott Transition Flow Chart EXTERNAL TRANSFERS TRANSITION OBJECTIVES TRANSITION TARGETS INTERNAL TRANSFERS Liquidation Third Parties Partners or Employees Family TRANSITION STRATEGIES Public Private Auction Negotiated Sale Private Auction Mergers Consolidations Reverse Mergers Buy Out Buy/Sell Put/Call Rt of 1 st Refusal Buyouts/Ins Phantom Stock SARs ESOPs CRTs Stay Bonus Gifts Sale SCINs GRATs FLPs IGTs CRTs CLTs Tax Free Reorg Priv. Annuities

22 SCIN Self Canceling Installment Note Sale on installment basis Promissory note that cancels on seller s death before note paid Note excluded from seller s estate since it cancelled Term must be less than life expectancy of seller Gain on death of seller is recognized on income tax return of estate Buyer s basis is the purchase price Even though possibility exists that all payments may not be made

23 2015 Copyright Peter B. Scott Transition Flow Chart EXTERNAL TRANSFERS TRANSITION OBJECTIVES TRANSITION TARGETS INTERNAL TRANSFERS Liquidation Third Parties Partners or Employees Family TRANSITION STRATEGIES Public Private Auction Negotiated Sale Private Auction Mergers Consolidations Reverse Mergers Buy Out Buy/Sell Put/Call Rt of 1 st Refusal Buyouts/Ins Phantom Stock SARs ESOPs CRTs Stay Bonus Gifts Sale SCINs GRATs FLPs IGTs CRTs CLTs Priv. Annuities

24 Private Annuities An annuity is the promise to make a specific periodic payment to the seller for the rest of the seller s life Taxable gain is realized on difference between seller s basis and the present value of the annuity Under proposed regulations gain is taxed on date of transaction

25 SCIN v Private Annuity SCIN Advantage SCIN can be secured by collateral SCIN can have lower annual payments Interest portion of SCIN payments is deductible to buyer May design SCIN to be treated as an annuity exempt from the proposed regulations PA Disadvantage PA can not be secured by collateral Actuarial calculations may create large annual payments (may be out of sync with cash flow of asset purchased) Buyer does not receive stepup in basis Immediate recognition of gain on appreciated assets

26 2015 Copyright Peter B. Scott Transition Flow Chart EXTERNAL TRANSFERS TRANSITION OBJECTIVES TRANSITION TARGETS INTERNAL TRANSFERS Liquidation Third Parties Partners or Employees Family TRANSITION STRATEGIES Public Private Auction Negotiated Sale Private Auction Mergers Consolidations Reverse Mergers Buy Out Buy/Sell Put/Call Rt of 1 st Refusal Buyouts/Ins Phantom Stock SARs ESOPs CRTs Stay Bonus Gifts Sale SCINs GRATs FLPs IGTs CRTs CLTs Priv. Annuities

27 GRAT Grantor Retained Annuity Trust What is a Grantor? A person who creates a trust, or A person who contributes property to a trust What is a Grantor Trust? Grantor retains certain rights in the trust Right to control beneficial enjoyment of trust property Right to revoke the trust Right to substitute property of equal value

28 GRAT Irrevocable trust to which Grantor contributes appreciating assets Grantor retains right to receive fixed annuity for a fixed term of years After term ends, beneficiaries receive remainder The present value of the remainder is a gift

29 GRAT Advantages Freezes the value of the asset in the estate Gift is discounted because of annuity Greater discount by combining with other techniques Family Limited Partnerships Can design GRAT for zero gift tax Control retained if Grantor is trustee

30 GRAT Disadvantages Must use lifetime exclusion amount If Grantor dies during term of trust asset included in estate Grantor liable for income taxes on income of GRAT Lose step up in basis if Grantor survives term of GRAT

31 2015 Copyright Peter B. Scott Transition Flow Chart EXTERNAL TRANSFERS TRANSITION OBJECTIVES TRANSITION TARGETS INTERNAL TRANSFERS Liquidation Third Parties Partners or Employees Family TRANSITION STRATEGIES Public Private Auction Negotiated Sale Private Auction Mergers Consolidations Reverse Mergers Buy Out Buy/Sell Put/Call Rt of 1 st Refusal Buyouts/Ins Phantom Stock SARs ESOPs CRTs Stay Bonus Gifts Sale SCINs GRATs FLPs IGTs CRTs CLTs Priv. Annuities

32 Family Limited Partnership Partnership that exists among family members Partnership agreement designates general partner who has control Fractionalizes ownership of real estate or business Limited partnership units gifted to children Valuation discounts General partner retains control Ensures family retains ownership

33 Family Limited Partnership Can shift appreciation to younger family members Protection from creditors and predators Divorce Fractionalizes ownership of real estate or business for gifting Can protects assets from mismanagement

34 Family Limited Partnership Can protect assets from divorce of a partner Can reduce management expense Can establish management rules or restrictions Can discourage family fights Can provide a forum for resolution of family disputes

35 2015 Copyright Peter B. Scott Transition Flow Chart EXTERNAL TRANSFERS TRANSITION OBJECTIVES TRANSITION TARGETS INTERNAL TRANSFERS Liquidation Third Parties Partners or Employees Family TRANSITION STRATEGIES Public Private Auction Negotiated Sale Private Auction Mergers Consolidations Reverse Mergers Buy Out Buy/Sell Put/Call Rt of 1 st Refusal Buyouts/Ins Phantom Stock SARs ESOPs CRTs Stay Bonus Gifts Sale SCINs GRATs FLPs IGTs CRTs CLTs Priv. Annuities

36 Intentional Grantor Trust Ignored for income tax purposes Grantor labile for income tax on income of IGT Excluded from Grantor s estate at death Uses Grantor s social security number No gain or loss on transactions between IGT and Grantor Value of assets are effectively frozen in Grantor s estate

37 Intentional Grantor Trust How it works 1. Grantor establishes irrevocable Grantor Trust ( IGT ) Names children as beneficiaries of trust 2. Trustee of IGT purchases farm land from Grantor in exchange for promissory note Pays fair market value for land Uses Applicable Federal Rate (July Midterm Rate 1.77%) Promissory Note may be secured by farm land

38 Intentional Grantor Trust How it works (continued) 3. Trustee of IGT makes payments on promissory note to Grantor 4. Upon payment of promissory note, Trustee of IGT releases collateral and marks note paid in full 5. Grantor releases retained powers and trust is no longer a Grantor Trust 6. Farm land is no longer owned by Grantor and has been removed from estate without using Estate/Gift tax exclusion

39 2015 Copyright Peter B. Scott Transition Flow Chart EXTERNAL TRANSFERS TRANSITION OBJECTIVES TRANSITION TARGETS INTERNAL TRANSFERS Liquidation Third Parties Partners or Employees Family TRANSITION STRATEGIES Public Private Auction Negotiated Sale Private Auction Mergers Consolidations Reverse Mergers Buy Out Buy/Sell Put/Call Rt of 1 st Refusal Buyouts/Ins Phantom Stock SARs ESOPs CRTs Stay Bonus Gifts Sale SCINs GRATs FLPs IGTs CRTs CLTs Priv. Annuities

40 CRT Charitable Remainder Trust A highly appreciated asset is contributed to the CRT The trust sells the property No capital gain tax is paid by CRT A current income tax deduction is obtained The sales proceeds are invested by the CRT The Grantor receive income payments for life The property is excluded from the Grantor s estate One or more charities are benefited

41 CRT Reposition appreciated assets without paying capital gain tax Permits diversification of investments Additional income may be produced Creates additional cash flow through charitable deduction Control property after death of Grantor

42 CRT Provides post mortem planning May help reduce effective income tax rate in unusual income year Low yielding assets may be repositioned to generate greater income Entire value of asset captured for production of income

43 2015 Copyright Peter B. Scott Transition Flow Chart EXTERNAL TRANSFERS TRANSITION OBJECTIVES TRANSITION TARGETS INTERNAL TRANSFERS Liquidation Third Parties Partners or Employees Family TRANSITION STRATEGIES Public Private Auction Negotiated Sale Private Auction Mergers Consolidations Reverse Mergers Buy Out Buy/Sell Put/Call Rt of 1 st Refusal Buyouts/Ins Phantom Stock SARs ESOPs CRTs Stay Bonus Gifts Sale SCINs GRATs FLPs IGTs CRTs CLTs Priv. Annuities

44 CLT Charitable Lead Trust The mirror image of a CRT The income is paid to the charity The remainder is paid to a beneficiary Usually in the next generation Income tax deduction is equal to present value of income interest paid to charity Gift is equal to the present value of the reminder interest CLT works best in a low interest rate environment

45 2015 Copyright Peter B. Scott Transition Flow Chart EXTERNAL TRANSFERS TRANSITION OBJECTIVES TRANSITION TARGETS INTERNAL TRANSFERS Liquidation Third Parties Partners or Employees Family TRANSITION STRATEGIES Public Private Auction Negotiated Sale Private Auction Mergers Consolidations Reverse Mergers Buy Out Buy/Sell Put/Call Rt of 1 st Refusal Buyouts/Ins Phantom Stock SARs ESOPs CRTs Stay Bonus Gifts Sale SCINs GRATs FLPs IGTs CRTs CLTs Priv. Annuities

46 Thank You! Peter B. Scott Coan, Payton & Payne, LLC

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