Estate Planning Concepts
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Estate Planning Concepts
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Introduction This booklet is intended to help you understand some of the general principles of estate planning. We hope you will be encouraged to review or implement a plan to protect you and your family from unnecessary taxes and court actions. With a proper plan you can preserve the assets for your family's benefit in a manner consistent with your current needs and long-term goals. The materials contained in this brochure are general concepts and "generic." Each plan requires personalization to meet your individual objective, but these materials may help you reach some decisions. A Will or a Trust is not a once-in-a-lifetime activity. Personal finances, tax laws and family needs are constantly changing. A Will or Trust is your personal statement of how you would like your loved ones to be cared for when you cannot provide that care. Therefore, as your family life plans change, so should your Will or Trust. We suggest reviewing your legal documents periodically, at least every 5 years, to ensure that the baseline assumptions are still valid. The changing exemption from federal estate tax from 2002-2010 practically mandates a periodic review. Young families with relatively modest estates must still consider estate planning to protect the children in the event of an accident that leaves no parent surviving. Designating a guardian is one of the more important elements and often supersedes the relevance of taxes. The discussion of "contingent trusts" to retain assets for minors or young adults focuses on this point more than on taxes. For those individuals who may be non-U.S. citizens, or U.S. citizens who own considerable foreign assets, we have included a short section about international estate planning. Estate planning for foreign assets is complex and needs experienced advisors. Although this booklet touches on the subject, it is strongly recommended that each situation be carefully analyzed and reviewed. We have tried to make the concepts and the language understandable, but certain legal terms may bypass simplicity. A glossary of these terms may be found on page 30. This booklet contains extracts of a few common forms that are intended only to provide an insight into the concepts and are not necessarily appropriate for any specific plan. No document should be used without further explanation, understanding and appropriate modification.
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Back to Top Roskoph Associates has assembled the information in this brochure to help you understand some basic concepts of estate planning. It is designed to help you better understand the planning tools (Wills and trusts) and the tax implications of the alternatives. As professionals, we can ask the questions necessary to raise all the issues; you and your family members must make the choices to meet your objectives. These are difficult decisions for most people, but necessary for everyone.
Back to Top Estate planning is very personal. Proper planning requires an under-standing of property rights, community property law, tax law, and the coordination of that information with the personal needs and goals of each family. Ideally, the purpose of the plan is to meet the wishes and objectives for distributing the individual's property to his or her desired beneficiaries through proper documentation.
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California recognizes four important health care documents:
The Durable Health Care Power of Attorney.—(see Addendum II) transfers rights to a designated individual to make health care decisions on your behalf if, and only if, it is the opinion of your physician that you are personally unable, for physical or mental reasons, to make such personal decisions. Unlike the more common general power of attorney for the management of property, the Health Care Power of Attorney may not be exercised by a third person while you are competent. Your designated agent (also called "attorney-in-fact" but not necessarily a lawyer), when exercising this power, may act only as you would, and not as he or she might independently desire. Admittedly, this legal theory is subject to potential abuse, so care should be taken in selecting a person to act and in advising that person of your desires. Anatomical Gifts.— California law permits any adult (age 18) to authorize or direct the donation of his or her organs for an approved purpose (research or human use). The form is most effective when using the DMV form attached to a driver's license, but should also be written in the power of attorney for health care decisions. Oral declarations are permitted, but a written directive is always recommended. Do Not Resuscitate.— California expressly authorizes a Do Not Resuscitate form for use to paramedics and hospital personnel. This form—or the individual's clear intention—should be communicated to the family members, as the hospital personnel "on the front lines" will always want to know the individual's wishes if complications arise during any procedure. The official form is described in the statute, but a written directive can be used.
Back to Top There are alternatives to a Will, including:
A "pour-over" Will is a simpler document used in conjunction with a Living Trust (discussed below) to transfer to the trust property not held in a trust during lifetime.
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The estate plan for the family with young children and only modest equity such as in a residence, life insurance, limited investments and potential retirement benefits, should carefully consider a plan utilizing a contingent trust. The term "contingent trust" relates to the plan whereby a husband and wife would normally anticipate that their entire estate will pass to the surviving spouse. The plan is incomplete, however, if the Will or intestate disposition transfers the property to the children upon the death of the surviving spouse. If the children are minors (under age 18 in California and most states), the law will impose a court-supervised legal guardianship to control the assets until the child attains age 18. This procedure, while protective, is often cumbersome, costly, and overly- protective. Of greater concern, however, is the fact that the child will be legally entitled to all of the assets upon attaining age 18. Even in currently marginal estates, the assets may well amount to a substantial sum when the insurance proceeds and retirement benefits, paid in lump sum, compound during the child's minority years. Equity in a residence, which may be nominal to the parents, can be substantial when added to the other assets and transformed to cash. It is generally preferred to have the assets retained in trust to (1) avoid the court supervision and (2) defer the distribution to the children until an age when they are better able to personally manage the property. In the interim, a trustee designated by you would be in control of the property to invest it and distribute its income. The trustee normally has the discretion to use the trust principal for the support, health, and education of the child during minority and college years.
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Living trusts are popular because they avoid formal court-supervised probate proceedings. Costs associated with the initial implementation of a living trust are generally higher than those associated with the preparation of a Will. Administrative costs associated with probating an estate, however, often significantly exceed the costs associated with administering a trust. The present statutory fee schedule for executors and their attorneys for probate matters is based upon the full market value of probate assets, not merely the equity value (such as highly mortgaged real estate). Please refer to the section "What is a Living Trust" for more information.
Back to Top Community interests are somewhat akin to interests acquired by partners of a partnership where the ownership is equal. Management rights are equal; entitlements to the property are equal; interests in the income are equal; and the right to dispose of each respective 50 percent interest is equal. A valid marriage under state law is essential to establish the community interest of a couple while residing in California. If property is not community, it is separate, and thus owned only by the person who acquired it. Property may be categorized as "quasi-community" under particular circumstances; this is important in today's more mobile and transient society. If you previously lived outside California while married, but now reside in California, you should seek further information on the impact of "quasi-community" property to your estate plan. Separate property is important to identify because it is property owned and controlled by the person who acquired it. Separate property is defined in California statutes by specific example and includes property acquired:
California has a presumption that all property owned by a spouse is community. It is important, therefore, for a spouse who desires to retain control of separate property to maintain accurate records for proper asset identification. Anyone attempting to establish separate property and overcome the basic presumption of community property must "prove it." One question parents and grandparents frequently ask is: If I give my child (or grandchild) a gift, will my child's spouse own half? The initial answer is simple—No, at least not at the time of the gift. This is not to say that the child could not convert the property to community thereafter, either intentionally or through commingling of property. Property is commingled when it is combined with other assets through investment or otherwise and its title no longer clearly reflects that it is separate property of the named owner. Be careful to properly advise the child if it is important to maintain the separate nature of the asset. Wills are one way to communicate this message. Once an asset is passed by gift without restriction (i.e. in a trust), however, the asset belongs to the recipient beneficiary, and thereafter may be converted (transmuted) to that individual's community property.
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Back to Top Two objectives are common to all individuals: (1) eliminate the time and cost associated with the transfer of property to beneficiaries (generally encompassed within the general scope of "probate") and, (2) minimize or eliminate succession taxes (federal estate and state inheritance taxes). Other common objectives include the desire to provide financial security for a surviving spouse and family; preserve assets for the children until they reach maturity (whether defined chronologically or emotionally); and provide for elderly parents. Charitable objectives are also becoming increasingly important for personal and tax reasons. Identifying future financial needs includes retirement for you and your spouse during your lifetime together and the survivor's lifetime. It must consider inflation, health needs, retirement residences, financial resources from employer or self-employed retirement plans and, to some degree, anticipated social security entitlements. (These will be affected by the future of the social security system, and the income tax treatment of social security benefits.) Take time to analyze the assets you own or control. These include joint tenancy assets, life insurance policies, and trusts established by others that provide you with some power to determine who will receive the assets or trust income ("powers of appointment"). Such "powers" are found most often in plans coordinated within family groups. For example, a parent, grandparent, or "favorite uncle" may have established a trust to provide you with income for life. That same trust may have given you the right to direct the ultimate distribution of its assets ("power of appointment"). Adult children, actively involved in family businesses, often resist asking some of the important financial questions concerning the business, such as its value, the corporate structure, and the like, because family tradition "forbids" inquiry. Nonetheless, it is not possible to correctly plan one's estate without having the necessary relevant facts and information. The basic building blocks for estate planning are the understanding and identification of the manner in which title exists for each asset. The most prevalent form of title between husband and wife is "joint tenancy." This title cannot exist except in a written form that specifically includes the term "joint tenancy." It provides for the automatic succession of title to the surviving members of the joint tenancy group ("rights of survivorship"). (See the "Title to Assets" discussion below.) Other assets that may surface during this research period include: the beneficiary designation of life insurance, retirement plan death benefits and IRA accounts. Substantial amounts of property are transferred under this form, often without regular review, verification and coordination with the general estate plan. It is critically important to coordinate this asset information and the plan. It is also important to consider one's probable liabilities. Most retired individuals have reduced liabilities to a minimum. Retired individuals still active in investment may have "leveraged" the investments through mortgages, "margin" accounts or personal lines of credit. These factors should be considered in planning financial security for the prospective widow or widower. Liquidity is also critical when facing the payment by the estate (or its beneficiaries) of the federal estate tax due nine months after the individual's death. This tax may be deferred for the lifetime of the surviving spouse if the deceased was married at the time of death and the plan contemplated the use of the "marital deduction".
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In the simplest situation, an individual will take title to an asset in his or her name. If he or she is not married, that person is the sole owner and no other person can claim an interest (assuming there is no other basis for making a claim, such as a constructive trust, conversion or fraud. These are beyond the scope of this booklet.) If the person is married and the property is in the name of just one person, the law presumes the asset is the community property of the husband and wife. As community property, each of them has an equal and undivided interest in the asset. This is only a presumption, however, and may be refuted by other evidence. It is misleading, however, to think that the asset is the separate property of the person in whose name the title is reflected. California law is clear that property acquired after marriage through the work efforts of a spouse is the community property of the married couple, regardless in whose name the title appears.
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Often the joint tenancy form contains that phrase "with rights of survivorship." It is helpful to have this phrase associated with the title to remind the owners of the future consequences. In California and many other states, however, the "survivorship" phrase is not required as a condition to establishing the joint tenancy title with the survivorship characteristic; that is, the survivorship feature attaches to the title even in the absence of the specific phrase. The rights of the co-owners under joint tenancy are similar to co- tenancy with the added factor of survivorship of the entire asset to the surviving joint tenant or tenants. Persons who hold title in their collective names, such as "A" and "B" or "A and B as tenants-in-common" (sometimes referred to as "co-tenants") possess equal, undivided interests. In this example, A and B each own a 50% interest in the asset. This would typically appear on a deed to real estate, but not on a bank account. Bank accounts among family members are more often held in joint tenancy. A co-tenant retains the right to dispose of his or her interest by Will. Thus, there is no automatic transfer to the other co-tenant.
Real estate between husband and wife is commonly found in joint tenancy form, but more so from tradition rather than a meaningful analysis of the consequences, or the result of proper planning. Joint tenancy may exist among more than just two people. It is uncommon for more than two individuals to hold title to an asset in joint tenancy, but it is perfectly legal and most appropriate for certain family situations. Joint tenancy provides full ownership to the surviving member(s) of the group holding title in joint tenancy. Many states recognize and provide for joint tenancy only between spouses. This title is commonly known as "tenancy by the entirety." It is not recognized in California, but it is effectively found in the California form of joint tenancy and community property.
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Revocable living trusts have received a great deal of publicity in recent years because they provide a workable vehicle to meet total estate planning needs. The discussion below is designed to explain what a living trust is, how it works, and why it is so beneficial. As with all matters there are some drawbacks in special situations. A good attorney and estate planner will review all these aspects of a living trust before selecting this estate-planning vehicle for you.
Back to Top A living trust requires a written document to accurately detail the grantor's rights with respect to the property, during the grantor's lifetime and its disposition thereafter. The living trust, while seemingly complicated, is a simple structure. It is established when one individual (the grantor or "G") delivers property to another (the trustee or "T") with the instruction "hold this for me." Possession of the property is transferred to T with the instructions that it is to be held for the benefit of G. In this simple situation, G is the creator, or grantor, of the trust and T is the trustee. G is also the beneficiary of the trust during G's lifetime. Since T only holds the property for G, T must give the property back to G when G directs it. If G fails to direct a disposition of the asset, it will pass by G's Will, or if there is a written trust instrument, it will pass according to the terms of the trust. Under the typical revocable living trust, the grantor will transfer title to property to the trustee for the grantor's own benefit. Thus, G is both the grantor and the beneficiary. California law permits G to also be the trustee. This flexibility simplifies the administrative process, but leads to initial confusion since it is a difficult concept to visualize one person representing all three separate legal capacities—the grantor, the trustee and the beneficiary. The trust is established to provide benefits to G during G's lifetime, and describe the distribution of assets upon G's death. These subsequent benefits, for example, may be for G's spouse, children or grandchildren, or other beneficiary. Alternatively, following the death of G's spouse, the trust may terminate. If it terminates, all assets are then distributed to G's children. These decisions are exclusively within the discretion of G (and G's spouse if a trust is established by husband and wife) and are described in the trust when it is established. Since the trust is revocable, it may be modified during G's lifetime. If G's spouse is also one of the grantors of the trust, the spouse's portion of the trust may also be amended during the surviving spouse's lifetime. In a community property state such as California, it is typical for G and G's spouse to create a single trust for the retention and administration of their assets, preserving their respective community interests and rights in their property.
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The major advantages to an estate plan that utilizes a living trust rather than simply a Will include: Assets that are titled in the name of the trustee of the living trust when the grantor dies are not subject to strict compliance with probate court rules and supervision. Relatively recent changes in California law have relaxed many of these procedures and have given the executor of the estate greater independent authority; nevertheless, probate is far more complex, time-consuming, costly and rigid than non-probate administration. The conservatorship procedure governs a living person's estate and is somewhat similar to probate. It is, in many ways, more complex and detailed. If an individual is unable to properly manage his or her financial affairs because of senility, illness, physical or mental incapacity or other disabling causes, the law requires that a court-supervised conservatorship be established for the assets of the individual. Thus, a third person, the conservator, will conduct the financial affairs for the individual, subject to court review and supervision. This procedure continues during the individual's lifetime. Accounting, fiduciary bonds to secure the value of assets, administrative proceedings, and legal representation will be required throughout the conservatorship. These procedures and the continuing court supervision are normally more cumbersome and troublesome than probate. Furthermore, the family generally feels the courts and public are taking too active an interest in their private, personal and family matters. If a living trust were implemented before the establishment of a conservatorship, the trust would eliminate the formal court-supervised conservatorship legal proceeding. This result follows from the fact that the assets are titled in the name of the trustee, not the incompetent individual. Thus, asset management continues uninterrupted.
Federal income tax law provides that the decedent's interest in assets receives a new tax basis for income tax purposes equal to the fair market value of the asset at the decedent's date of death (or alternative valuation date, if elected). If the asset is community property, the surviving spouse's one-half interest in the property similarly receives this new tax basis. This rule applies to community property held in either or both spouses names, or in a living trust. This may not be true if the asset is in joint tenancy and deemed not to be community property. A rebuttable legal presumption arises that an asset is not community property if title reflects "joint tenancy" or "joint tenants."
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The appropriate time to establish a living trust depends upon numerous factors and individual preferences. Some planners believe it is a basic estate-planning document that should be implemented at an early stage of estate planning. Under this concept, the trust is implemented without the concurrent transfer of assets, with the expectation that the trust will be available in the future if desired. Under the current law of California, the trust could be coordinated with a "durable" power of attorney authorizing a third party to transfer assets to the trust at a future date if the grantor becomes incapacitated. Assets may also be "declared" to be in trust by listing them on a signed exhibit to the trust. This procedure should avoid probate, but is subject to a court hearing and determination. Formal change of title to the Trustees during the grantor's lifetime is recommended. Although individual circumstances may justify an "unfunded" (deferred transfer) trust, in most cases assets should be transferred to the trust when it is implemented. This latter philosophy suggests that the trust should be established only when the assets of an individual are more permanent, and ready for transfer (stock investments, real estate investments, or a family residence). If the trust is delayed beyond the time of an individual's capacity, however, it may be too late to implement, with the result that a conservatorship and/or probate will be required.
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Any description of a revocable living trust that did not include a discussion of its perceived negative aspects might surely be suspect. The following "negatives" are the conclusions of that group of people who prefer to avoid the trust which, in their view, temporarily disrupts their "routine" activities. These include: (1) the current (lifetime) change of title to transfer assets to the name of the trustee; (2) the prospective complications associated with using trust assets to secure debt including mortgages, equity loans or refinancing homes; (3) the additional costs associated with establishing a living trust compared to a Will; and (4) dissemination of the non-public document to real estate title companies and stock brokerage firms. Solutions to those "negatives" are suggested. (1) Trust transfers: The trust should be immediately "funded;" that is, the assets presently in the names of the grantors should be re-titled to the name(s) of the trustee. This takes immediate action that would not otherwise be required. Real estate requires that a new deed be prepared, signed, notarized and recorded. (This is normally a simple, quick procedure handled in the office at the time the trust is signed.) If bank accounts and stocks are to be transferred to the trust, they too should be re-titled to reflect the ownership in the name of the trustee. This is more cumbersome where stocks are held in the name of the individual grantor, since the transfer agent must change the title, issue new certificates and reflect the correct information in the corporate stock records. If stocks are already in "street name" (usually listed in the name of the stock brokerage firm), a new street account may be opened in the name of the trustee of the trust. The account, and its portfolio, may then be electronically transferred to the trust. Stock brokerage firms typically assess no charge for this service. They may assess a charge to deliver the certificates from the "street account," whether in the name of the individual or the trust. (2) Financing transactions: Another situation that occasionally arises is a decision to sell or refinance existing real estate (usually the personal residence or a rental property). Lending institutions typically will not become involved in the work associated with loans to trustees and the necessary assurances that the trustee has the authority to procure a loan and provide that trust property as security. The practical successful conclusion to this situation, if the trust already exists, is simple: the property can be conveyed from the trustee to the grantor (a deed back to the grantor). The lending institution will then grant the loan, complete the paperwork, record the deed of trust against the individual owner (the grantor), and then permit the grantor to reconvey the property to the trustee. This is an extra step at the time of the refinancing transaction, but it is relatively simple, and seemingly worth the effort when compared with the cost and delay associated with a probate or conservatorship proceeding if the trust was not implemented or the property not transferred to the trust after the trust was in place. (3) The living trust is more costly to implement than a Will because of its detail, complexity, asset transfer cost and required additional legal explanation. These costs may be reduced by advanced preparation and planning to efficiently use legal services. The long-term administration cost savings, however, will produce significant cost reductions. (4) Finally, the trust agreement must be accessible to the real estate title companies or stock brokerage firms to comply with their internal rules and requirements of the National Association of Security Dealers. Thus, the document loses its absolute privacy when available to these entities, but it is not the full public record of a probate or conservatorship proceeding. Some title companies and brokerage firms will accept abstracts (summaries) of the pertinent provisions detailing the trustee's authority.
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Proper estate planning must consider the tax cost and liquidity requirements imposed by the tax assessed at death on the transfer of assets—the federal estate tax. Although the exemption (See page 31 for increasing exemptions) is substantial, the value of the residential property alone causes many families to be concerned with this tax. With proper planning in a community property state, a husband and wife may transfer two times the lifetime exemption ($2,000,000 in 2002 and a projected $3,000,000 in 2004) to their children or other beneficiaries free of this estate tax, and may defer taxes on their entire estate, regardless of value, during their respective lifetimes. Nevertheless, once the value of the estate of the surviving spouse, or of any single person exceeds the exemption, the tax cost is substantial. The tax rate in 2002 commences at 41% and increases to a maximum rate of 50%. The top rate is scheduled to drop by 1% each year until 2007, when it levels at 45%. This tax is due and payable nine months following the decedent's death. Thus, once an estate incurs the estate tax, liquidity planning is critical.
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The federal estate tax allows a deduction in determining the estate tax for all assets that pass to a surviving spouse. This is a major aspect of current estate planning. This deduction is available for assets that are transferred outright to the surviving spouse, or are transferred to a trust for the spouse's exclusive lifetime benefit. This latter type of trust takes two forms, one where the spouse has the power to redirect the ultimate disposition of the property (a taxable power) or, the more common "QTIP" Trust (an acronym for "qualified terminable interest property trust"). Under the "QTIP," the spouse receives all of the income at least annually and usually is granted access to principal for health and support, but has no right to redirect the assets at the spouse's death. If the right to income is restricted in any way, neither Trust form will qualify for the tax deduction. The benefit of this deduction, of course, is to defer the time of payment of the estate tax until after the death of the surviving spouse and to transfer the burden of the payment to a beneficiary other than the surviving spouse—typically, the children. Thus, there is no estate tax to pay during the lifetime of either spouse. A potential downside of deferring the tax is the fact that the assets will be taxed at the death of the surviving spouse at their fair market value at that later date. If the assets are subject to substantial appreciation, they may generate a much greater tax at the subsequent date. The substantial increase in the estate tax exemption—or even tax repeal—now makes deferral an important plan opportunity. The decision whether to defer the tax or pay it at the death of the first spouse is one that can be elected at the death of the first spouse based upon information available at that time. In addition to the surviving spouse's right to all the trust income, the surviving spouse may also have the right to consume the principal of the trust if required for that spouse's health and support. The surviving spouse may be the trustee and, thus, effectively retain all use and control over the assets. This means the surviving spouse may control the investments, so long as the decisions are reasonable and consistent with the intent of the trust. The decision whether the surviving spouse should be the trustee is a personal one and should be discussed as part of the overall estate plan. The marital deduction is available for federal estate tax purposes on transfers to a non-citizen surviving spouse, regardless of residency, only if the assets are retained in trust for the spouse with a U.S. bank or a U.S. citizen as trustee. The surviving spouse may be a co-trustee (Qualified Domestic Trust—see page 23).
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Gift transfers are subject to federal tax unless they fall within the tax- exempt provisions of the law. For instance, individuals can make annual gifts of $11,000 (beginning in 2002) to each and every desired recipient without being concerned with the federal gift tax. (California has no gift tax.) Where estates are subject to the federal estate tax, it is important to consider annual gifts to reduce the estate for federal estate tax purposes if the individual has adequate income and resources to provide a comfortable and certain lifetime means of support. As part of the planning technique, it is important to understand how the gift tax and the estate tax, essentially identical, are coordinated. These taxes have identical rates and have a collective, single exemption of $1,000,000 (over and above the annual $11,000 gift exclusion). Thus, it is possible to make lifetime gifts of $1,000,000 without paying any gift taxes. This will eliminate for all practical purposes the $1,000,000 exemption that would otherwise be available against the estate tax. While this current law eliminates much of the incentive for making gifts in excess of the $11,000 annual amount, the larger gifts still are appropriate if the assets transferred have the potential for substantial appreciation during the transferor's lifetime, since the future appreciation may escape estate taxation. It may be easier to explain this concept through an example. Note: Although the exemption from estate tax increases periodically (see chart on page 31), the gift tax exemption is limited to $1,000,000. Assume Mr. and Mrs. Jones own a substantial number of shares in High Tech, Inc. and some unimproved land near Interstate 5, south of Gilroy. High Tech, Inc. is a speculative investment in a company they do not control. It does not pay dividends and, because of continuing research and development, it is unlikely to pay dividends in the foreseeable future. The real hope is that the company will be successful and eventually issue its shares in the public market. Similarly, Mr. and Mrs. Jones hope the unimproved real estate will significantly appreciate. Neither of these assets produces income to Mr. and Mrs. Jones, but each of the assets has high potential for appreciation. If the current value of these assets is $1,000,000, it may be an appropriate estate planning opportunity to transfer the stock and the land to their children. The transfer would not be currently taxable (since Mr. and Mrs. Jones would each be making a gift of $500,000) and any future increase in value would not be includable in their estates. The value of the gift at the date of transfer, $500,000 each by Mr. and Mrs. Jones, would be considered in determining the value of their estates, but the value would be limited to the value at the date of the gift and not the value of the asset at their date of death. Thus, if the asset values double over the lifetimes of Mr. and Mrs. Jones, their estates would be saved the estate tax on the appreciation of $1,000,000. Since it is not a perfect world, one of the tax costs associated with the lifetime transfers relates to the continued low basis for these assets in the hand of the recipients. Had the assets been retained in the estates of Mr. and Mrs. Jones, the children would receive these assets with an income tax basis equal to the fair market value at the date of death of Mr. and Mrs. Jones. Since the children received the property by gift, Mr. and Mrs. Jones's tax basis "carries over" to the children. Thus, they will ultimately have to pay the income tax on the capital gain if and when they sell the property. Proper estate planning must take all these factors into consideration. Limitations are imposed on tax-free transfers to a non-citizen spouse. The marital deduction also applies to gifts. Thus, one spouse may transfer to a U.S. citizen spouse unlimited amounts without incurring any gift tax consequences. Gifts to a non-citizen spouse, although still quite generous for the average estate plan, are restricted to $110,000 per year (in 2002). Any annual transfers to a non-citizen spouse over $110,000 are subject to the gift tax. This exclusion is adjusted by the cost of living adjustment, but only in $10,000 increments.
Back to Top The traditional generation-skip transfer plan to avoid the estate tax for one generation follows this guideline: A trust, established by the decedent for the benefit of the decedent's child (or children), provided to the child all the trust income for life. Upon the child's death, the property would pass to the child's children without the federal estate tax being imposed upon the assets at the death of the child, since the child never owned the property itself, but only the right to income. Thus, in substantial estates, it was an excellent planning opportunity to avoid the imposition of the estate tax upon the substantially appreciated property at the end of the child's lifetime. It still is, but has tax limits on the amount that can "skip" the inclusion in the children's estates. The current tax law imposes a flat tax at the highest rate of federal estate tax on the value of assets within such a generation-skipping plan. This rate was 55%, but is scheduled to be adjusted to 49%. This tax is imposed on the value transferred to such a trust (or directly to the grandchild) over a specified amount (see schedule on page 31). There are many complicated variations on this general theme of taxation, but for purposes of this survey, it is important to understand that the tax is imposed, whether the assets are held in trust for the lifetime of the children, or transferred directly to the grandchildren with a complete "skip" of the children (without preserving to the children the income interest). This tax applies any time a generation is skipped, whether the gift is within or outside the transferor's immediate family. It is possible to establish a trust to preserve the full GST exemption for each parent's estate and maximize tax-planning opportunities. This generation-skipping transfer technique may be used for estate taxes or gift taxes. The full $1,000,000 lifetime transfer (gift), however, would require a payment of gift taxes to the extent the value of the gift exceeded the exemption (see prior discussion of estate and gift taxes beginning on page 18).
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Many opportunities exist for reducing estate taxes and income taxes through the use of charitable gifts and trusts. Sophisticated plans may be established whereby income is preserved for the donor's lifetime, with ultimate distribution of the assets to a charity (a charitable remainder trust) or where income is to be distributed currently to the charity with the ultimate remainder returning to the family members (charitable lead trust). Although the tax rules associated with these trusts are complex, they are now very well established and may be used in conjunction with appropriate planning to provide significant benefits to the individual families and charities. Charitable remainder trusts must take one of two general forms: the unitrust or the annuity trust. The unitrust provides income of a specified percentage (not less than 5%) measured by the value of the trust each year. The annuity trust also requires an annual distribution paid to the donor of a specified percentage, but the amount is measured by the value of the trust at its inception and does not fluctuate based upon the value of the principal.
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Many individuals, in addition to their normal estate planning needs, have connections outside the United States which they and their advisors need to consider. The first consideration is to advise your attorney if you are a U.S. citizen or a permanent resident. The citizenship determination is generally obvious. The permanent resident determination is much more subjective, and depends upon domicile. "Domicile" is a function of physical presence and intention. If you are a citizen of the U.S. or a permanent resident, you are subject to U.S. estate and gift taxation on all assets worldwide, subject to possible foreign tax credits and other possible adjustments made available by various treaties between the country of domicile and the United States. If you are not a citizen of the U.S., and not a permanent resident of the U.S. you are categorized as a non-resident alien. Non-resident aliens generally are subject to U.S. gift and estate taxation only on assets having a U.S. situs such as a real estate investment in the United States. U.S. citizens and U.S. permanent residents, by contrast, are taxed on all assets worldwide. Clients' need Wills and Trusts for their domiciles for normal estate planning reasons, and many need Wills and Trusts in other jurisdictions where they have affiliations. A common situation involves married couples, one spouse of which is not a U .S. citizen, regardless of domicile. In such cases, Wills and trusts with special planning need to be drawn to provide for an estate tax deferral if desired at the death of the first spouse if he or she is not a U.S. citizen at the time of the gift or death. These trusts are known as Qualified Domestic Trusts, known as "QDOTS." Special planning opportunities exist for non-resident aliens; that is, non-citizens who are not permanent residents (domiciliaries) of the U.S. and who have or contemplate having U.S. involvements. If such a person, categorized as a non-resident alien, makes gifts of property not having a U.S. situs or makes gifts of property having a U.S. situs which is intangible, for example, these gifts should totally escape the U.S. estate and gift tax transfer system. Furthermore, it may be possible for a non-resident alien who intends to become a permanent U.S. resident or acquire significant assets in the U.S. to take steps and restructure his or her financial affairs to remove significant assets from the U .S. estate and gift tax system, and possibly even the income tax system. It is critical in such cases, however, that the client's planning take place before an actual move or change in status. Once the move is made or the assets are acquired, the opportunities essentially will be lost. It should also be noted that the community property system in California and other states may provide a significant opportunity. One-half ownership of assets acquired during marriage by a non-resident or non-citizen spouse (and ultimately perhaps that person's children and family) may escape the gift tax or estate tax costs which would naturally otherwise apply where the other spouse is a U.S. citizen or permanent resident.
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Back to Top I, NAME, being of sound mind, willfully, and voluntarily make known my desire that my life shall not be artificially prolonged under the circumstances set forth below, do hereby declare: If I should have an incurable and irreversible condition that has been diagnosed by two physicians and that will result in my death within a relatively short time without the administration of life- sustaining treatment or has produced an irreversible coma or persistent vegetative state, and I am no longer able to make decisions regarding my medical treatment. I direct my attending physician, pursuant to the Natural Death Act of California, to withhold or withdraw treatment, including artificially administered nutrition and hydration, that only prolongs the process of dying or the irreversible coma or persistent vegetative state and is not necessary for my comfort or to alleviate pain. Note: This document is not complete in its present form and should not be used as a legal document.
Back to Top The health care decisions authorized hereunder shall include, without limitation: 1. Receiving and reviewing my medical records and consenting to their disclosure. 2. Consenting, refusing consent, or withdrawing consent to any care, treatment, service, or procedure to maintain, diagnose, or treat a physical or mental condition. 3. Consenting to my doctor not giving treatment or stopping treatment that would keep me alive. 4. Disposing of my body or parts thereof, pursuant to the Uniform Anatomical Gift Act, Chapter 3.5 (commencing with Section 7150.5) of Part 1 of Division 7 of the Health and Safety Code. I have been advised that I have and it is likely that the condition will hasten my death. I do not want my life artificially prolonged, but I do wish to avoid whatever discomfort I can; therefore, I specifically direct to withhold or withdraw life-sustaining treatment so that I may die naturally. Note: This document is not complete in its present form and should not be used as a legal document.
Back to Top Simple Will—The phrase "simple Will" is often used when referring to a Will that provides for the entire estate to pass to the spouse, if surviving, or other- wise to the children in equal shares. Although this plan sets forth in general terms the basic desire of most family situations, it is usually too simple in that it fails to take advantage of tax-planning opportunities or to consider the consequences of disposition of assets to children at early ages. The law requires a guardian be appointed to manage and control the property of a child under age 18 with an annual accounting to the court for the expenditure of funds. The law also mandates that the child receive the property upon obtaining age 18. This is usually not advisable. Contingent Trust—This form of estate plan generally follows the simple Will format except that it provides for the establishment of a trust for the benefit of children if the surviving spouse dies before the children have attained an age where the parents are satisfied the children are old enough to receive the property. This trust may continue beyond the age of majority (18) for as long as is desired. Typically, the trust will continue until each respective child is 25, 30 or 35. It provides flexibility in that the trustee may distribute income or principal to the children as needed for the specific purposes desired by the parents. It may also allocate all the income to one child for a specified period of time (e.g. education through college) and then redirect all the income to another child for similar purposes or needs. The legal documentation for this type of Will is more complicated because of the trust provisions, but it provides much greater flexibility for planning purposes. Marital Deduction Trust/Will—This form of estate plan contemplates the creation of a trust for the benefit of the surviving spouse and is principally motivated to save estate taxes. Under existing law, it is possible to defer the payment of estate taxes so long as either spouse is alive. This passes the burden of the tax to the children but leaves all the assets available to the surviving spouse without reduction for payment of estate taxes. Several variations exist for the marital deduction trust and the selection of the appropriate marital deduction formula will depend upon the nature of the assets and the plan. Many commentators refer to the marital deduction trust as the "A/B" Trust. Living Trust—A revocable trust established by an individual or husband and wife to manage assets (usually by themselves as the appointed Trustees) during their lifetimes, administer the estate at death without probate supervision and publicity and retain estate tax planning opportunities. It substantially substitutes for the Will but is accompanied by a "pour-over" Will to avoid potential gaps in a plan. Statutory Will—California established two forms of statutory Wills in 1983. The first form follows the simple Will formula and the other is for a simple trust for the benefit of the spouse or children. These forms are complete by checking or filling in boxes. They are very useful for simple plans but do not contemplate any significant tax planning or alternatives to meet specific family situations. As with the law relating to intestate succession, these statutory Wills contemplate and implement the decisions made by the vast majority of individuals under normal circumstances. Trustee—Any plan that creates a trust must designate the trustee. The trustee is the individual or entity designated to manage the assets and distribute the income or principal. Guardian—A guardian for a minor child is necessary when neither natural parent survives or is able to care for the custody of the child. The guardian is charged with the physical well being and raising of the child until the child attains age 18. Executor/Administrator—An executor or administrator is appointed by a court to administer a decedent's estate during the probate proceedings. The executor is obligated to obtain information concerning all assets and debts of the decedent, prepare and file all necessary documents and tax returns and ultimately, distribute the assets to the beneficiaries.
Back to Top Donee—The person who receives a gift. Donor—The person making a gift. Exclusion, annual (gift tax)—The amount allowed annually ($11,000) for tax-free gifts of a "present interest" to any number of donees. Executor—A trust company or individual appointed to carry out the terms of a Will and administer an estate. Fiduciary—A person or institution having a duty created by his or her position to act for the benefit of a third person. Gross estate—All property in which the decedent owned an interest at his or her death, embracing life insurance, joint property and transfers intended to take effect upon death. Guardian—One named to manage the person or the property, or both, of a child during minority. Intestate—Death without a valid Will. Joint tenancy—Title to property owned by two or more persons with ownership transferring as a matter of law to the survivors; normally unaffected by a Will. Life estate—An interest in property for life. Marital deduction—A deduction for federal estate tax purposes from the gross estate of property passing to a surviving spouse in a manner conforming to the law; no limitation in amount. Pour-over Will—A document whereby assets controlled by the Will are directed to be poured over into a trust. Testator—The person who makes a Will. Trust—An arrangement whereby property is held by a bank or individual for the benefit of others. Irrevocable Trust—A trust that cannot be revoked. Inter Vivos Trust—A trust effective during the lifetime of the person creating it. Trustee—A bank or individual holding the trust property for the benefit of others. Will—An instrument disposing of property at death.
Increasing Exemption 2002—2011
*The GST Exemption will increase from $1,100,000 in 2003 by the Cost of Living Adjustment. **The estate and generation-skipping tax repeal is scheduled under existing law to apply only for decedents dying in the calendar year 2010. It is anticipated the law will be reviewed and modified to either eliminate or defer the repeal or repeal the reintroduction of the tax.
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© 2002 Roskoph Associates |
