ESTATE PLANNING

Estate Planning: Basic

Every individual needs a Will. Frequently, a General Power of Attorney and a Health Care Power of Attorney with a Living Will is also recommended. A Will enables a person to appoint an executor or name a guardian for minor children to carry out that person’s wishes in the event of death. A basic estate plan will often include a General Power of Attorney, and a Health Care Power of Attorney with Living Will provisions. A General Power of Attorney is a document in which one individual authorizes another to handle his or her financial affairs, and to perform a variety of tasks or transactions. For example, a standard General Power of Attorney permits an agent to sign checks and tax returns on behalf of a principal, to manage investment assets, and to deposit and withdraw funds from a bank account. General Powers of Attorney are important because they enable a person to have financial matters handled easily and inexpensively in the event that he or she becomes incapacitated.

A Health Care Power of Attorney is a document that sets out an individual’s wishes with respect to medical decisions, if he or she becomes too ill or injured to make such choices independently. Typically, the principal will name a spouse, child, or other trusted individual as agent to oversee medical care. The health care agent will work with doctors and other health care providers to arrange medical care, based upon treatment preferences. Health Care Powers of Attorney may also include a “living will,” which is a written set of instructions to an agent and health care providers regarding the type of treatment to be followed if a terminal condition occurs. For example, a living will may specify the treatment that a person wants, or does not want, to prolong life, such as nutrition, hydration, and pain relief.

Estate Planning: Intermediate

A major dividing line for estate planning concerns whether federal estate tax planning is included. In 2015, an individual has a federal estate or gift tax exemption of $5,430,000. An individual with an estate worth less than that amount or a married couple whose combined estates are less than $10,860,000 may not be concerned about avoiding or reducing federal estate taxation. However, it may nonetheless be advisable for those in this category to establish a trust to distribute assets after death. A trust may provide investment management for children with distributions made at a designated age in adulthood. Trusts may also provide protection in the event of a child’s divorce or the subsequent remarriage of a spouse.

Revocable Trust

A Revocable Trust, also sometimes referred to as a “Living Trust,” is established during an individual’s lifetime. Its terms can be revised, and it can be revoked, by the grantor of the trust at any time. Assets are not necessarily transferred to the trust during the grantor’s lifetime, but the grantor can choose to do so whenever he or she deems it appropriate. As long as the grantor is in good health, he or she has full discretion to withdraw assets from the trust. However, in the event of disability, assets may be transferred to the trust, which would then be administered by a trustee for the grantor’s benefit for so long as the disability may continue. If the individual returns to good health, the trustee’s authority to act under the trust ends, and that individual resumes full control. On the other hand, in the event of the donor’s death, the trustee along with the executor named under the donor’s Will will distribute the assets held in the trust in accordance with its terms. A Revocable Trust is often used in situations where an individual owns real estate outside of Pennsylvania. The property is retitled in the name of the Trust, and by doing so, the additional cost and delay of ancillary probate in a different jurisdiction following the grantor’s death can be avoided.

Nonmarital Trust

A married individual with a sizable estate that is likely to be subject to federal estate tax at the death of the surviving spouse, may have a Nonmarital Trust. A Nonmarital Trust is funded with assets having a value up to the federal estate tax exemption (“Exemption”). The current Exemption is $5.43 million, and is indexed for inflation, so it is likely to increase from year to year. The Nonmarital Trust’s primary purpose is to utilize the exemption of the first spouse to die, which can substantially reduce estate taxes upon the death of the surviving spouse. It is typically structured so that the trustee has the discretion to make income and principal distributions to the surviving spouse during the spouse’s lifetime, with the principal paid to the couple’s children upon the death of the surviving spouse.

Marital Trust

A Marital Trust is often established along with a Nonmarital Trust. It shelters those assets in excess of the Exemption from federal estate tax at the first death by utilizing the federal estate tax unlimited marital deduction. In addition to taking advantage of the marital deduction, a Marital Trust is also an efficient management vehicle. If the surviving spouse is in good health, he or she may also have the ability to withdraw all of the assets from the Marital Trust and own them individually, as she may see fit. On the other hand, if the surviving spouse is unable or unwilling to assume full responsibility for the ongoing management of the assets due to illness or otherwise, the assets can remain in the trust to be administered for the surviving spouse’s benefit. Otherwise, the terms of a Marital Trust require that all of the income be paid to the surviving spouse at least annually, and often give the trustee the authority to make liberal principal distributions.

Disclaimer Trust

A Disclaimer Trust can be built into the terms of an individual’s Will, Revocable “Living” Trust, or Irrevocable trust, and is identical in structure to a Nonmarital Trust. However, it is not funded automatically at the death of the spouse who dies first. Instead, it is funded only if the surviving spouse chooses to disclaim assets otherwise inherited from the spouse who dies first. A disclaimer is a formal action that must be executed within nine months after death and satisfy certain other technical requirements of both federal and state tax law. Depending on the surviving spouse’s age, the value of assets, and the amount of the federal estate tax Exemption in effect at that time, the survivor may decide to disclaim his or her interest in all or a portion of the assets received from the deceased spouse. The Disclaimer Trust established after the death of the spouse who dies first can be an effective means of keeping the growth of the Trust assets out of the survivor’s estate for federal estate tax purposes. Estate tax is saved not only on the exemption amount, but also for any growth during the survivor’s lifetime. A Disclaimer Trust gives the surviving spouse, who would otherwise be the beneficiary of these assets, the flexibility to decide whether to accept ownership of them or to allow them to pass to the Disclaimer Trust after the first death has occurred.

Estate Planning: Advanced

Typically this type of planning is designed to eliminate, reduce or avoid federal estate and gift taxes. In order to do so effectively, estate gift and income tax consequences need to be considered. Typically, a transfer of assets, by gift or sale, may be made after an individual or couple feels comfortable that they will not outlive the ability to have a financially secure lifestyle.

Irrevocable Life Insurance Trust

People have more wealth at death than during life if they own life insurance policies. For the most part, an insured individual with a substantial estate need not be the owner of a life insurance policy. By giving up ownership of a policy, the insured can remove the value of its death benefit from the estate for federal estate tax purposes. That death benefit might have been taxed otherwise at a federal estate tax rate of 40 percent. An Irrevocable Life Insurance Trust permits the exclusion of the policy’s death benefit for federal estate tax purposes. As a result, the insured’s family receives the entire value of the policy proceeds, rather than only 60 percent after the 40 percent estate tax rate is paid to the IRS.

Grantor Retained Annuity Trust

A Grantor Retained Annuity Trust (“GRAT”) is established by transferring assets to an irrevocable trust, in which the grantor retains an annuity interest for a term of years. For transfer tax purposes, the amount of the taxable gift is the fair market value of the property transferred minus the value of the grantor’s retained annuity interest. A GRAT is one of the estate planning techniques based primarily on interest rate assumptions. Clients create GRATs using assets that are likely to earn more than the Internal Revenue Service’s measuring standard (the Section 7520 interest rate) during the GRAT term in an effort to pass the appreciation in the assets, and any income generated in excess of required annuity payment, to the beneficiaries of the trust free of gift and estate tax. GRATs also offer the opportunity to transfer assets at a reduced value for federal gift tax purposes.

Sale to a Irrevocable Grantor Trust

The transfer of assets to an Irrevocable Grantor Trust (“IGT”) is structured as a sale. The grantor sells assets to the trustee of the IGT in exchange for a promissory note with a value equal to the fair market value of the transferred assets. Upon the grantor’s death, the value of the assets is removed from his or her estate for federal estate tax purposes. However, the value of the note receivable is included in the grantor’s gross estate, to the extent that it is unpaid upon the grantor’s death. The same principle applies with an IGT as with a GRAT: federal estate tax savings are realized if the transferred assets appreciate in value at a rate that exceeds the interest rate payable on the note receivable from the Trust. However, the interest rates used to determine the interest payable under the terms of the promissory note are lower than the interest rate applicable to GRAT transactions. Consequently, the IGT can shift more value than a GRAT because its payment burden is less. The IGT is a grantor trust, which means that the grantor owns the Trust for federal income tax purposes (but not for federal estate tax purposes). Consequently, the IGT’s income is taxed to the grantor, but held in the Trust or distributed to its beneficiaries. The grantor’s payment of income tax covers a cost that would otherwise be borne by the beneficiaries, but is not considered a taxable gift. Because the grantor is treated as the owner of the IGT for federal income tax purposes, the sale of assets to it does not result in capital gain. Moreover, interest payments on the note by the IGT to the grantor are not subject to federal income tax.

Spousal Access Trust

A Spousal Access Trust is similar to Nonmarital and Disclaimer Trusts. However, it features a gift of an asset made during life, rather than after the death of the first spouse. The advantage of the Spousal Access Trust is that by putting assets in the trust today, an individual can grow the gifted assets free of estate tax for his or her spouse’s remaining lifetime, rather than only for his or her lifetime after the death of the first spouse. If an individual establishes a Spousal Access Trust, and lives 20 years, and then his or her surviving spouse lives for ten more years, $1 million might grow to $2 million. If, instead, an individual puts $1 million aside in trust today, $1 million might grow to $8 million over 30 years. A Spousal Access Trust is typically structured so that the trustee would have the discretion to pay more or less income and/or principal of the Trust to the spouse during his or her lifetime. The funds could be distributed as the spouse needs additional money from time to time. At the spouse’s death, the funds remaining in the Trust are usually distributed to children and/or grandchildren, or managed for their benefit.

Qualified Personal Residence Trust

A Qualified Personal Residence Trust (“QPRT”) permits a transfer of a residence to be made at a discounted value for federal gift tax purposes. It is discounted because the gift is measured by the value of the “remainder interest” in the residence (determined by subtracting the actuarial value of the grantor’s right to live in the residence for a term of years from the fair market value of the property). A QPRT has a mortality risk, so that if the grantor were to die while the trust is in effect, the residence would be included in his gross estate for federal estate tax purposes. However, if the grantor survives the QPRT term, the value of the residence, including any appreciation, is removed from the grantor’s estate federal estate tax purposes, which means that it completely avoids federal estate tax at the grantor’s death.

Charitable Remainder Trust

A Charitable Remainder Trust (“CRT”) is an irrevocable trust in which the donor retains the right to receive an annual payout each year for either the remainder of his or her lifetime or a term of years, followed by an outright distribution to one or more qualified charities selected by the donor upon death (or upon the expiration of the term of years). In addition to providing funds to a charity, a CRT can also provide a charitably inclined donor with various tax benefits. The donor does not realize capital gain when making a gift of appreciated assets to a CRT. Because a CRT is generally not subject to federal income tax, capital gains are not incurred if the Trust later sells the gifted assets. The donor is also entitled to a charitable income tax deduction based upon the value of the CRT’s remainder interest (i.e., the value at the end of the donor’s life expectancy, reduced to a present value) for the tax year when the gift is made. The donor’s gift of a remainder interest in a CRT is also not subject to federal gift tax. The CRT’s assets are not included in the donor’s estate for federal estate tax purposes, and therefore, are not subject to federal estate tax or Pennsylvania Inheritance Tax at the donor’s death.

ESTATE ADMINISTRATION

In the event of death, a decedent’s estate needs to be managed and distributed. Estate administration is the process of gathering the decedent’s assets, paying final expenses, debts and taxes, and distributing assets to beneficiaries. The process can be cumbersome and confusing. We have administered many estates. Our attorneys and legal staff will work with you to make the process run as smoothly as possible by providing expert guidance and assistance with the many steps involved in the administration process, including the appointment of the executor, ascertaining and collecting the assets, preparation and filing of the Pennsylvania Inheritance Tax Return, Federal Estate Tax Return, and state and federal income tax returns for the estate and/or decedent. Our dedication to this activity generally permits us to act more quickly to finish the administration than many firms in which estate planning and administration are ancillary services.

IRREVOCABLE TRUST ADMINISTRATION

We directly provide trust administration services for many trusts which own life insurance policies. These trusts were established to avoid federal estate taxation of life insurance policies. In our experience, most corporate trust companies are either not inclined to administer irrevocable life insurance trusts or provide the service at a prohibitively expensive cost. Having a friend or family member serve as trustee rarely works well either. We believe that administering these trusts to comply with the requirements of the estate and gift tax law fills a gap at a reasonable cost. Our services in this regard are centered on administering the trust during the lifetime of the insured client.

BUSINESS SERVICES

Our business clients are typically owners of closely held businesses operated as S corporations (“S Corps”) or limited liability companies (“LLCs”). The majority are family-owned businesses, for which the successful integration of estate planning and business planning services is critical.

Formation

Selecting the right entity for both business and tax purposes is very important. We can advise clients as to whether a newly established business should be an LLC, an S Corp or C corporation, or a general or limited partnership. It may also happen that a business client wants to set up a new entity to assist a child, to own specific assets such as real estate, or to facilitate a new venture.

Buy-Sell Agreements

Any business with two or more owners should have a buy-sell agreement to define how it should be governed when its operation is underway. Any agreement may be more fundamental for a new business or more detailed for a mature business. Planning in advance in a thoughtful manner is far better than reacting to an unexpected event which overtakes its owners at an inopportune time. Any agreement should consider how the business will be valued and bought or sold in the event of an owner’s death, disability or retirement. An agreement typically restricts ownership so that transfers to outside owners may not be readily made, but transfers to family members can be made as the owners may desire.

For businesses with a sole owner, an agreement may be made with a key employee or even a friendly competitor. These agreements are often focused on a transfer in the event of death and are designed to reduce the pressure on a deceased owner’s spouse to sell the business at the worst possible time.

Succession Planning

Many family owned businesses do not continue to a second generation, and even fewer make it to a third. We have designed succession plans for businesses which are in their first, second or third generation of family ownership. This type of planning may involve a gift, or a sale, or a combined type of transfer, to ensure that the next generation will continue the business. In some cases, it may be better to transfer the business to one or more key employees or to an outside buyer. This type of planning typically involves working with various other professionals, frequently including accountants, appraisers, investment advisers, insurance professionals, and specialists who may play a specialized role in the continuation or sale of a family business.

Transactions

We have assisted clients who have sold, purchased or merged business interests in a variety of industries or professions. In representing a seller, we have dealt with buyers which are larger companies best referred to as “strategic” buyers who would fold our client’s business into a larger organization. We have also assisted those who might sell to a “peer company.” Or, we might advise a business owner on how to acquire an interest in a related business, or how to merge an interest into a somewhat larger entity. As is the case with business succession planning, transactional work often requires us to work closely with a client’s other advisers, and to deal effectively with the attorneys and other advisers of an owner on the other side of the transaction.