Lockey News

"Despite pending war, possible estate tax repeal or reform and an uncertain economy, should estate planning be a priority? Several clients and advisors believe this to be the case! Why?"

By Al W. King, III, J.D., LL.M.
Co-Chief Executive Officer
South Dakota Trust Company, LLC

The uncertainty and confusion associated with one's estate planning has never been more prevalent, however despite this, many advisors and clients are currently taking advantage of depressed asset values (i.e. investment assets, business interests, real estate, art, partnership interests, etc…), low Section 1274 and Section 7520 IRS interest rates, and flexible modern trust planning in order to preserve both family wealth and values. As mentioned in a January 2001 Trusts & Estates forecast article that I wrote entitled "Death Tax Uncertainty Makes Flexible and Family Value Estate Planning More Important than Ever", many families are more concerned with the inheritances that their families will receive than they are with the estate taxes themselves. These people want to ensure that their families inherit enough money to do something, but not enough so they do nothing. Consequently, value-oriented trusts promoting both fiscal and social responsibility for several generations in perpetuity via both grantor and beneficiary defective Dynasty Trusts have become a new priority despite the uncertainty with the death tax due to their flexibility.

Another reason for the popularity of the defective Dynasty Trust is that in the unlikely event of permanent death tax repeal, an individual cannot lose sight of a possible future phase-in or reinstatement of the estate tax. Today's death tax was enacted in 1916, but prior to that the death tax was enacted and repealed three times. The author believes that there will most likely be a compromise with higher estate and possibly generation-skipping exemption amounts, especially for farms and businesses, and lower estate and gift tax rates as opposed to a repeal. Additionally, it is unlikely the gift tax will ever be repealed due to the income tax shifting opportunities that would arise resulting in a substantial loss of income tax revenue. Consequently, many families are leveraging their existing gift tax annual exclusions (i.e. currently $11,000), one million dollar gift tax exemption and $1,120,000 generation-skipping tax exemption via flexible family-oriented defective Dynasty Trusts combined with Promissory Note Sales, and Home Security Trust which leverage the IRS Section 1274 Rate (i.e. currently 3.24%) the Walton Grantor Retained Annuity Trust (GRAT), and Charitable Lead Trust (CLT), which the IRS Section 7520 rate (i.e. currently 3.8%). Property transferred into both the Walton GRAT and Charitable Lead Trust result in minimal gift tax consequences to the grantor. The "Walton" GRAT, combined with the Promissory Note Sale to both grantor and beneficiary defective Dynasty Trusts not only reduces the valuation risks associated with the Promissory Note Sale but also allows the GRAT remainder men to sell their remainder interest to the defective Dynasty Trust which is exempt from the generation-skipping tax and shifts even more growth to the family. The same opportunity exists for the sale of the remainder interest of the Charitable Lead Trust. In many instances, the Walton GRAT and Charitable Lead Trust remainder interests are first being sold to defective "Remainder Trusts" then to the defective Dynasty Trusts in order to enhance both the capital gains and creditor protection aspects of the transaction. If properly structured the above referenced combination of trusts not only preserves family wealth and values, but also provides flexibility despite whether the current scheduled estate and generation-skipping tax phase-out (2002-2009) remains, or whether the estate and generation-skipping tax is repealed in 2010, or whether we return to the 2001 estate tax law in 2011 via the scheduled sunset provision or whether there is permanent repeal or whether there is reform or compromise prior to 2010. In the event of permanent repeal, a "Trust Protector" could terminate the Dynasty Trust, if desired, though not typically recommended, due to the non-tax advantages plus the risk the estate tax could return. Additionally, if the Dynasty Trust is defective under the current law in 2010 (i.e. repeal) the client could gift an unlimited amount into such a trust, which presents creative planning opportunities, particularly with the Promissory Note Sale and the Self-Canceling Installment Sale by coordinating the expiration of the note term with the year 2010.

Lastly, clients are purchasing domestic Private Placement Insurance polices via Dynasty Trusts, Irrevocable Insurance Trusts and Revocable Living Trusts to take advantage of the federal and state income tax free build up and withdrawals associated with these policies as well as the low onshore premium tax states like Alaska (10 basis points) and South Dakota (8 basis points) for premium payments in excess of $100,000. The low state premium taxes place domestic polices on more of a level playing field with offshore policies and thus result in increased popularity to U.S. citizens due to the recent offshore uncertainties.
Consequently, for many people the glass is half full regarding estate planning opportunities. The motto "people do not plan to fail; but often fail if they do not plan" has never been more appropriate. Carpe Diem!