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Paul Newman, famous actor turned entrepreneur, died in 2008. Prior to his death, Newman created Newman’s Own, a company that began by making and selling salad dressing and expanded into other food products. Newman wanted to give away all profits generated from Newman’s Own to charitable causes by creating Newman’s Own Foundation (the “Foundation”), the parent company of Newman’s Own. Several years before his death, Newman’s attorney drafted a letter of intent memorializing Newman’s intention to give his children the major voice in distributing funds for charity which Newman later reiterated at least twice in the years just prior to his passing. In a surprising move, however, a mere two months before his death, Newman updated his estate plan and named two associates, rather than his children, to control the Foundation. In response to multiple purported misdeeds by the associates, as members and directors of the Foundation, his daughters, Susan Kendall Newman, and Nell Newman, just filed a lawsuit seeking $1.6 million in damages in a Connecticut state court.

Charitable causes were important to Newman during his life. He pledged $1 million to open a recovery center in his predeceased son’s name after his son died from a drug and alcohol overdose in 1978. Interestingly, in 2011, the Foundation stopped funding to the center, and it closed shortly thereafter. In 1982 Newman famously said “let’s give it all away” with respect to the profits generated by Newman’s Own. The company’s website indicates that it gives 100% of the profits away each year and has donated more than $570 million worldwide since 1982. Charitable giving was so important to Newman that during his life, he charged his daughters with making charitable donations to organizations that supported education, health, the environment, arts and culture, international affairs, emergency relief, animal welfare, and scientific and human services. Newman planned for those distributions to continue after his death. While it’s clear that contributions have continued, it’s unclear whether they have occurred as Newman envisioned.

Susan and Nell’s lawsuit declares that by eliminating awards to organizations focusing on arts, climate change, and the environment in favor of other sectors, the Foundation has abandoned its founder’s recommendations. The lawsuit further alleges that the Foundation improperly reduced the mandated contributions to charitable entities designated by the daughters. Newman’s Estate Planning documents granted the Foundation publicity and intellectual property rights if it continued a $400,000 annual disbursement to each of his five daughters. Reportedly, each daughter was to take a “reasonable salary” from those funds and distribute the remainder to charities they chose. After several years of these payments, the Foundation decided unilaterally to cut that payment in half. The lawsuit maintains that the reduction in allocations fails to comport with Newman’s stated intent. The complaint asserts improper behavior by one of the directors, including enjoying prohibited perks. Finally, the daughters claim that Newman set up his estate while incapacitated and subject to undue influence. In support of these allegations, they contend that Newman intended to give them control of the Foundation by making them successor members or giving them seats on the board of directors and cite the letter of intent and its verbal confirmations. As indicated above, though, Newman’s plan failed to do that. Instead, Newman appointed long-time advisors as members and directors of the Foundation and vested them with ultimate decision-making authority.

Newman’s daughters face an uphill battle. First, undue influence and lack of capacity claims rarely succeed. Plaintiffs in these cases often have trouble meeting the high burden of proof. Second, while Newman’s comprehensive pour-over Will contained provisions about what was to happen to his tangible assets, corporate interests, and intellectual property rights, it failed to reveal any details about his intangible assets or the provisions of his trust. It’s clear, however, that he engaged an attorney’s services to complete the plan. Third, while the daughters claim that their father intended them to have more control over distributions to charities and he signed a letter of intent to that effect during his life, his final plan failed to name either daughter as a member or director of the Foundation, thereby depriving the daughters of the power they seek. Had Newman intended for the daughters to control distributions, he could have and should have made it clear in the documents he signed just prior to his death.

The daughters intend to donate the funds sought to their foundations for charitable giving. It’ll be interesting to see whether the court imposes the constructive trust that Newman’s daughters seek. Incapacity and undue influence are among the hardest cases to prove. Unfortunately, disputes often arise over family foundations and Estate Plans in general. With my services, I can help avoid those disputes for clients by guiding them to create a clear plan and communicating that plan to their family. In any context in which the clients want to involve future generations, it’s better to set that up earlier rather than later. That gives the clients time to work together toward the common stated goals. Finally, the biggest lesson for all is that it’s better to let loved ones know of your Estate Plan prior to death. While it’s certainly not required, it helps everyone understand your reasons and goes a long way in preventing hurt feelings and unnecessary litigation after death.

Talk of interest rates seems inescapable as inflation hovers at a forty-year high and we feel that impact every time we open our wallets. Many sophisticated Financial and Estate Planning techniques derive their value from the prevailing interest rate. Certain techniques work better in low-interest rate environments, while others produce better results in high-interest rate environments. This second part will detail the use of techniques that work better in a high-interest rate environment, including the Charitable Remainder Trust (“CRT”) and a Qualified Personal Residence Trust (“QPRT”).

As the opening paragraph indicated, the techniques that I recommend should be influenced by the prevailing interest rate. As a reminder, to grasp the impact of interest rates on Estate Planning, you need to understand interest rates in general. Each month, the Internal Revenue Service (“IRS”) publishes the Applicable Federal Rate (“AFR”) under Internal Revenue Code (“Code”) §1274 for short-term loans (0-3 years), mid-term loans (3-9 years), and long-term loans (more than 9 years) along with the §7520 rate which is 120% of the mid-term AFR rounded to the nearest 2/10ths. Practitioners use the §7520 rate to calculate annual payments for certain estate planning techniques. Use of the appropriate AFR on a loan between related parties prevents imputed income or gift taxes. Note that if the IRS considers the loan a gift, the lender/donor still may apply their annual per donee exclusion (currently $16,000) to the gift as well as using any portion of their applicable exclusion amount (currently $12.06 million) to cover the gift. Use of the appropriate AFR prevents use of the annual per donee exclusion or applicable exclusion amount.

As noted above, certain estate planning techniques, such as CRTs and QPRTs, work better with higher interest rates. A CRT has two beneficiaries, the non-charitable beneficiary who takes the lead or income interest, and the charitable beneficiary which takes the remainder interest. A CRT may be set up as either an annuity trust or a unitrust. An annuity trust pays out a fixed dollar amount each year to the lead beneficiary. A unitrust pays out a fixed percentage of the trust each year to the lead beneficiary. With a unitrust, if the trust corpus grows, the amount going to the lead beneficiary grows right along with it. With an annuity trust, the lead beneficiary’s payment doesn’t change if the trust corpus increases or decreases.

Charitable trusts provide numerous benefits. For example, although the Code considers the CRT a tax-exempt entity, the CRT may distribute the annuity or unitrust interest to a non-charitable beneficiary without jeopardizing that status. In addition, the grantor receives an income tax deduction, subject to limitations under Code §170, upon funding the CRT for the present value of the charity’s right to receive the remainder. A CRT removes the assets from the estate for estate tax purposes. Finally, the CRT provides the most benefit for highly appreciated assets. By transferring the appreciated assets to the CRT well in advance of the sale, the later sale by the CRT produces an income stream (in the form of the annuity or unitrust payment) for the grantor or other designated individual. Only as the grantor or other designated individual receives the annuity or unitrust payment will he or she recognize the capital gain which occurred when the CRT sold the assets. The tax attributes of the income earned over the life of the CRT flavor the distributions to the lead beneficiary.

To achieve the desired tax consequences, a practitioner needs to follow specific rules when creating a CRT. Failure to follow them precisely will cause the CRT to fail. For example, split-interest trusts that distribute all income to the lead beneficiary do NOT qualify for a charitable deduction, even if the entire remainder goes to charity. The greater the stream of payments going to the non-charitable lead beneficiary, the smaller the actuarial value of the interest going to the charitable remainder beneficiary. Thus, a higher rate of return will provide more income to pay the retained annuity or unitrust amount, thereby increasing the value of the assets remaining for the charitable remainder interest. The remainder value determines the charitable income, estate, and gift tax deduction available to the grantor.

The other estate planning technique that works better in a high-interest rate environment is the QPRT. The grantor contributes their residence to the QPRT. The terms of the QPRT allow the grantor to use the residence as their own during the initial term of the trust, while the remainder goes either outright or in further trust for named beneficiaries. Upon the expiration of the QPRT, the grantor must pay fair market value rent to the new owners of the home (i.e., the trust or the beneficiaries) for continued use of the home. If the grantor dies during the term of the QPRT, then the date-of-death value of the QPRT will be included in the grantor’s estate and subject to estate taxes. However, the grantor’s estate will receive credit for any tax consequences of the initial gift to the QPRT, putting the grantor in no worse a position than if he or she had never created the QPRT.

QPRTs provide several benefits to the grantor of the trust. Creating a QPRT results in a gift to the remainder beneficiaries of the discounted present value of the remainder interest of the QPRT using the rate under §7520. Any appreciation in the value of the home passes without additional estate or gift tax consequences. Use of the QPRT removes the home from the grantor’s estate as long as the client survives the term of the QPRT. In addition, QPRTs provide an asset protection component because the grantor only has a right to use the residence for a term of years, instead of the full bundle of property rights in the home. Not only does this reduce the value of the property rights for attachment by creditors, but it increases the inconvenience to the creditor because the grantor (or the creditor standing in their shoes) cannot force a sale of the home. Finally, using multiple QPRTs allows for discounting when determining the value of the gift.

As noted above, a QPRT works well if the home appreciates faster than the §7520 rate. A grantor can increase the estate tax savings by splitting the house into two or more fractions and establishing separate QPRTs for each piece. Splitting the house allows the grantor to discount the value of the house. If the grantor has a spouse, then it’s common to have each spouse put one-half of the home into separate QPRTs. This allows the clients to minimize the risk against one of them dying during the term of the QPRT. If the couple desires additional discounting or protection, then each could set up multiple QPRTs with differing terms thereby decreasing the likelihood of death during the term of the QPRTs.

The above techniques work better in high-interest rate environments. Remember that certain strategies like Tenancy in Common Fractionalization and Family Limited Partnerships or Family Limited Liability Companies do not depend upon interest rates at all. Finally, although the techniques discussed in Part 1 of this article work better in low-interest rate environments, it may make sense to utilize them in certain situations even when rates are higher.

After more than a year of debate over the provisions of the “Build Back Better Act,” President Biden signed the newly titled “Inflation Reduction Act” (the “Act”) into law on Tuesday, August 16, 2022. While the Act represents a scaled back version of the Build Back Better Act, it embodies the goal of reshaping the U.S. economy after the pandemic. Fortunately for Estate Planning purposes, the Act did not make any changes to the estate and gift tax. Instead, the Act focused on climate, healthcare, and income tax issues by lowering prescription drug costs, health care costs, and energy costs. For the first time, its legislation aimed directly at the climate crisis. According to whitehouse.gov “no one making under $400,000 per year will pay a penny more in taxes.” The package is expected to raise over $700 billion in revenue over the next decade with the vast majority of that coming from reductions in drug prices for Medicare recipients and tax hikes on corporations. Allegedly, significant revenue should also come from expanded Internal Revenue Service (“IRS”) enforcement funding over the next ten years. The Act allocates approximately $80 billion to the IRS which has suffered from underfunding in recent years.

Although the Act makes no changes to estate and gift taxes, it makes two significant changes to individual income taxes. First, it lengthens the limitation on pass-through business losses enacted by the 2017 Tax Cuts and Jobs Acts for two additional years, through 2028. Second, the Act extends the expanded health insurance Premium Tax Credits from the American Rescue Plan through 2025 for both high-income and low-income households by allowing higher-income households to qualify for the credit and boosting the credit for lower-income households. In addition to individual income taxes, the Act imposes a fifteen percent (15%) minimum tax on corporate book income for those corporations with profits over $1 billion for tax years beginning after December 31, 2022. Estimates indicate that this alone will bring in over $300 billion in revenue. The Act also creates a one percent (1%) excise tax on the value of stock repurchases during the taxable year with exceptions for stock contributed to retirement accounts, pensions, and employee stock ownership plans.

In addition to the above tax changes, the Act caps the amount that individuals on Medicare pay for prescription drugs bought at a pharmacy at $2,000 per year effective in 2025. It also limits the amount that those on Medicare will pay for insulin to $35 per month. The Act provides access to numerous free vaccines for Medicare beneficiaries. The Act lowers the cost of prescription drugs by allowing Medicare to negotiate the price of high-cost drugs and requiring drug manufacturers to provide a rebate when they raise prices faster than inflation. The Act extends subsidies in the Affordable Care Act for those purchasing insurance through the Marketplace.

Finally, the Act takes the most aggressive action on climate and clean energy in American history by including tax credits for the installation of efficient heating and cooling equipment. The Act also provides credits for home construction projects involving windows, doors, insulation, and other weatherization measures that prevent energy from escaping. The Act provides tax credits for the purchase of electric vehicles and gives direct rebates to individuals buying energy-efficient appliances.

It remains unclear whether additional bills will make changes to the tax code that may require action. Representatives Cohen and Beyer recently introduced proposed legislation titled the “Billionaire Minimum Tax Act” in the House of Representatives. Stay tuned to see if the Billionaire Minimum Tax Act or any other legislation becomes law.

It’s hard to look anywhere these days without seeing something about interest rates or inflation. All of us know that inflation hovers at a forty-year high and we feel that impact every time we go to the grocery store or gas pump. While these represent direct ways that interest rates impact us, interest rates have an indirect impact on Estate Planning as well. Many advanced Estate Planning techniques derive their value from the prevailing interest rate. Certain techniques work best in a low-interest rate environment, while others produce better results in a high-interest rate environment.

As the opening paragraph indicated, the techniques that we recommend need to change based on the prevailing interest rate. To fully understand the impact that interest rates have on Estate Planning, it’s important to understand a bit about interest rates. Each month, the Internal Revenue Service publishes the Applicable Federal Rate (“AFR”) under Internal Revenue Code §1274 for short-term loans (0-3 years), mid-term loans (3-9 years), and long-term loans (more than 9 years) along with the §7520 rate which is 120% of the mid-term AFR rounded to the nearest 2/10ths. Practitioners use the §7520 rate to calculate annual payments for certain estate planning techniques. Use of the appropriate AFR on a loan between related parties prevents imputed income or gift taxes. Note that if the IRS considers the loan a gift, the lender/donor still may apply their annual per donee exclusion (currently $16,000) to the gift as well as using any portion of their applicable exclusion amount (currently $12.06 million) to cover the gift. Use of the appropriate AFR prevents use of the annual per donee exclusion or applicable exclusion amount.

Planning during periods of low-interest rates often involves a lending strategy used to leverage the interest rates and transfer wealth with little or no gift tax. Parents or grandparents may make loans to children, grandchildren, or any other related party at the appropriate AFR for the desired loan term. This allows the younger generation to invest the loan proceeds and if the investment produces returns that exceed the AFR, the borrower keeps that excess value free of gift tax consequences. The borrower may use the funds for anything, such as purchasing a home or starting a business. If the lender feels generous, or simply wanted to gift the funds, but lacked sufficient applicable exclusion amount, the lender could forgive up to the annual per donee exclusion amount each year, reducing or eliminating entirely, the amount returned to the lender. Of course, if the lender had sufficient applicable exclusion amount, then they could forgive the loan at any time. In the right situation, the intra-family loan benefits both the lender and the borrower.

Similar to the intra-family loan, a sale to an Intentionally Defective Grantor Trust (“IDGT”) presents another great technique for use in a low-interest rate environment. Here, the grantor sells a highly appreciating asset to the IDGT. The grantor creates the IDGT and funds it with “seed money,” usually at least 10% of the value of the asset which the grantor intends to sell to the IDGT. The IDGT purchases the asset with a note. The IDGT then uses income received from the appreciating asset to make the interest payments on the note. The IDGT qualifies as a “grantor trust,” which means the lender/grantor reports the income and capital gains incurred by the trust on his or her individual tax return. This allows the assets to grow inside the IDGT on a tax-free basis. In addition, any appreciation of the assets above the AFR accrues to the beneficiaries free of gift tax.

A Grantor Retained Annuity Trust (“GRAT”), much like the sale to IDGT, allows for the transfer of significant assets to beneficiaries with little or no gift or estate tax consequences. The grantor establishes the trust and funds it with assets expected to appreciate. The grantor receives annuity payments for the GRAT term. The total value of all annuity payments will equal (or exceed) the initial value of the asset plus interest based on the §7520 rate. A lower §7520 rate means a lower bar for success. If the GRAT was structured as a zeroed-out GRAT, then any assets or appreciation remaining in the trust at the end of the GRAT term passes to the beneficiaries free of gift tax. Even if the assets in the GRAT fail to outperform the §7520 rate, the grantor suffers no adverse tax consequences.

The final technique that works well in a low-interest rate environment, the Charitable Lead Annuity Trust (“CLAT”) resembles the GRAT, except the Trust makes the annuity payments to a charity rather than the grantor. This entitles the grantor to a charitable deduction for the projected actuarial percentage passing to charity. The grantor makes a gift of the assets projected to pass to the non-charitable beneficiaries at the end of the CLAT term. Like the GRAT, I may structure both the CLAT to “zero-out” meaning that the grantor will incur no gift tax upon creation of the entity. Like a GRAT, a CLAT works best in a low-interest rate environment because any investment performance above the §7520 rate passes tax free to the beneficiary or beneficiaries at the end of the trust’s term. The lower the rate, the larger the potential tax-free transfer.

Many of the above techniques worked great in recent years while the interest rates were historically low. Some strategies like Tenancy in Common Fractionalization and Family Limited Partnerships or Family Limited Liability Companies do not depend upon rates at all. This makes these techniques important regardless of interest rates.

Asset protection planning, like estate planning, requires an understanding of the issues facing the client, knowledge of the various options available for the client based upon the situation, and follow through. The first part of this two-part series explored some of the most common asset protection techniques along with their benefits and detriments. This second part will focus on foreign trusts and a situation that went terribly wrong.

Clients may think that foreign trusts present a great asset protection vehicle, but many attorneys shy away from the use of foreign trusts for good reason. Some lack the knowledge or contacts to implement the plan, others take a conservative approach to Estate Planning. Yet some venture into foreign trust territory as a viable method of asset protection planning. Foreign trusts come with their own set of problems. Usually, the things that seem too good to be true are. That’s often the case with a foreign trust. A recent divorce case heard in the Illinois Appellate Court, First District, Third Division, In re Marriage of Harnack, provides yet another cautionary tale for anyone considering utilizing an offshore trust.

Harnack focused on the divorce proceedings of Pamela Harnack (“Harnack”) and Steve Fanady (“Fanady”). The original court hearing the matter entered a default judgment against Fanady finding that he has $7.3 million in assets while Harnack suffered health issues, had minimal income, and was unable to support herself. The court awarded 120,000 of Fanady’s 280.000 shares of stock in the Chicago Board of Exchange, Inc. (hereinafter the “Stock”) to Harnack. Fanady attempted to set aside Harnack’s default judgment and lost because, among other bad acts, Fanady hid assets overseas, failed to participate in the divorce proceedings, and engaged in underhanded efforts to prevent Harnack from receiving her share of their marital assets. The litigation between Fanady and Harnack continued and included several appeals and a trial. On December 11, 2020, the court ordered Fanady to transfer the Stock to Fanady within a week. Of course, Fanady appealed and lost. Shortly after the date by which Fanady was to transfer the Stock, Harnack initiated a show cause hearing for Fanady’s failure to comply with the court’s order.

Fanady claimed that because all his assets were held in a trust located in Belize that he could not comply with the order. Fanady asserted that he was unaware of what assets the trust held and that although the trust paid his living and legal expenses, he had no way to access the assets therein. Further, although Fanady sent a copy of the order to the offshore Trustee, the Trustee refused to comply with the order because Fanady was under “duress.” Offshore trusts often employ this tactic to prevent a creditor’s access to the trust assets. At a subsequent hearing, the court found that Fanady could comply with the order and was in contempt for failing to do so. The court ordered Fanady jailed until he transferred the Stock or its cash value to Harnack. Fanady responded to the order by claiming it was impossible for him to comply. This defense represents yet another commonly employed tactic when dealing with an offshore trust: the “impossibility defense.” It sounds great, yet rarely works.

The impossibility defense fails because the debtor creates the impossibility by moving his assets offshore. This, the individual facing contempt cannot comply with the order because of their own voluntary actions. For that reason, such individuals cannot avail themselves of the impossibility defense. When Fanady made this argument, the court disallowed his use of this defense because he created the impossibility by voluntarily moving his assets offshore.  Fanady was incarcerated on June 28, 2022 over his objection and as of this writing remains there. Courts have long demonstrated their unwillingness to allow a self-created impossibility as a defense to contempt. For what it’s worth, the jurisdiction used to create the offshore trust matters not.

While this article examines a particular case that demonstrates the flaw in using a foreign trust, they work well in others. The first occurs when the debtor leaves the United States with the intent to remain overseas either indefinitely or until resolution of the creditor issues. The second happens when the debtor uses the foreign trust to force settlement negotiations with those creditors without the time, resources, or desire to pursue a contempt order against the debtor. Finally, offshore trusts make sense for international families with overseas interests. They make less sense for a wealthy individual living in New York, or elsewhere, with no plan to cut ties with the United States should the creditors come calling. The basic tenants of asset protection planning match those of Estate Planning generally; not every solution or technique works for every individual. I listen to the specific set of facts and circumstances and craft a plan that meets the client’s needs and addresses the client’s most pressing concerns.

Asset protection planning has legitimate uses. When done properly, asset protection planning removes a client’s assets prior to problems arising which protects the assets before the issue occurs. If that claim has occurred or the client knows that it will, the asset protection ship has sailed and any acts to protect those assets constitute fraud on creditors which has dire consequences for the client.

Some clients arrive to meet with me with an article in hand claiming that a particular firm, company, or other attorney creates “bulletproof” asset protection vehicles, often involving some form of “asset protection trust.” This puts me in an awkward position of reviewing the article, then explaining why the method advertised may not have the intended result, and that the attorney will not undertake such planning because these schemes rarely work and come with significant drawbacks. In truth, few asset protection strategies offer an iron-clad solution to every problem. Asset protection planning, like estate planning, requires an understanding of the issues facing the client, knowledge of the various options available for the client based upon the situation and follow through. This first part of a two-part series will explore some of the most common asset protection techniques and their benefits and detriments. The second part will focus on foreign trusts and a situation that went terribly wrong.

Clients usually have some concerns regarding the level of asset protection that will result from the Estate Plan they create. I have numerous tools in my arsenal that allow me to suggest various techniques based upon the degree of protection the client desires and the client’s individual circumstances. Some asset protection planning takes little effort to implement. For example, one of the simplest ways to achieve a degree of asset protection requires obtaining an umbrella insurance policy. The umbrella policy covers accidents and injuries exceeding the coverage limits under your primary home, automobile, and boat insurance policies. It limits liability for your own injuries or damage to your own property and won’t cover things like intentional acts or injury, business losses, criminal acts, or business losses. Umbrella insurance requires little effort and provides significant protection.

Retitling assets offers another easy way to undertake asset protection planning. For example, about half of all states allow married individuals to take title to assets as tenants by the entirety. In the states that recognize this form of ownership, some allow it only for real property, while others allow it for any asset, real or personal. Tenants by the entirety ownership requires that a creditor be a creditor of both spouses to attach an asset titled in that manner. Holding an asset as tenants by the entirety protects the asset while the couple remains married and both spouses live. Upon the death of the first spouse, the asset passes by operation of law to the surviving spouse and the protection ends. Even in states that do not recognize tenants by the entirety as a form of ownership, individuals may avail themselves of other forms of ownership. For example, transferring income-producing property, such as a rental property, to a limited liability company (“LLC”) limits a creditor’s recourse to the assets in the LLC. Thus, a client could establish several entities and fund each with just one income-producing property thereby protecting each against creditors of another.

Giving the assets away removes the gifted assets from the reach of the donor’s creditors. The donor could gift outright to a spouse, child, or another beneficiary. Of course, the client’s circumstances at the time of the gift may cause problems. If the individual were divorcing or otherwise facing known creditor issues, a court may interpret the client’s transfer as a fraudulent conveyance. If the transfer constitutes a fraudulent conveyance, then the creditor may be able to unwind the transaction or obtain a money judgment against the transferee, depending upon state statutes. An outright gift offers no protection for the recipient.

If the donor wanted to confer a benefit but was against outright distribution to a beneficiary because of the lack of creditor protection, then contributing assets to a 529 Plan, a 401(k) or retirement plan could be a reasonable solution to the problem. These plans follow statutory requirements regarding allowable contribution amounts, beneficiaries, and distributions but yield another opportunity for an individual to undertake easy asset protection planning.

Certain types of trusts contain an asset protection component. For example, many irrevocable trusts used in advanced estate planning techniques such as a Qualified Personal Residence Trust, an Irrevocable Life Insurance Trust, and a sale to an Intentionally Defective Grantor Trust, all protect assets from creditors of the grantor if established prior to the existence of any creditor issues. In addition, if properly structured, these trusts provide asset protection for the beneficiaries of such trusts.

Finally, seventeen states, including Alaska, Delaware, Hawaii, Michigan, Mississippi, Missouri, Nevada, New Hampshire, Ohio, Oklahoma, Rhode Island, South Dakota, Tennessee, Utah, Virginia, West Virginia, and Wyoming allow for a domestic asset protection trust (“DAPT”). In simple terms, a DAPT is a domestic self-settled asset protection trust that names the grantor of the trust as a permissible beneficiary of such trust. Most states do not allow this. In the states that do, to obtain the protections of the state law, the individual trustee administering the trust needs to reside in the state of establishment. Alternately, the grantor could appoint a corporate fiduciary in that state. The trust usually contains a completely discretionary distribution provision which gives the trustee total control when making distributions from the trust. If the trust contained an ascertainable standard, such as health, education, maintenance, or support, then a creditor could stand in the shoes of a beneficiary and force distributions from the trust that met that standard. If a grantor creates a DAPT in any state other than the seventeen states listed above, a creditor could pierce a trust that names the same beneficiary and grantor. While I would be concerned with fraudulent conveyances, the states that allow DAPTs make showing a fraudulent transfer more difficult. As with many estate planning techniques, anyone desiring to establish a DAPT needs to follow state statutes carefully to achieve the desired protections.

I have multiple options at my disposal in structuring a plan to protect assets from creditors. When done properly, asset protection removes a client’s assets from their control, or otherwise protects the assets to the greatest extent possible, prior to problems arising. If that claim has occurred or the client knows that it will, the asset protection ship has sailed and any acts to protect those assets constitute fraud on creditors which may have undesirable consequences for the client. 

The parent-child relationship is pretty well defined. Children generally don’t advise their parents. It’s the other way around. However, this dynamic can shift as parents get older and children become adults. This becomes especially prevalent when considering estate planning and elder law issues.

As parents grow older, adult children may start to have certain questions about the way mom and dad have planned ahead for the eventualities of aging. Being aware of what plans have been made opens the door for a conversation about what planning is left to be considered to make sure their wishes are carried out as they’d like them to be.

What’s Next?

Once an adult child comes to the conclusion that a discussion is needed with aging parents, determining how to proceed can be difficult. It’s not easy to reverse roles and ask parents to provide their children with sensitive financial information. One way for a child to approach the subject would be to explain their own estate planning efforts. By telling parents what you have done and why, you can then ask them what they have done. The question would arise naturally and organically. You have just explained your estate plan to your parents, so they may feel compelled to explain their plan to you.

This interaction is in their best interests, and it’s not just a conversation about the eventual transfer of financial assets. There is the matter of long-term care to take into consideration. Most Americans will need assistance with their day-to-day needs at some point in time. You may in fact notice that your parents are starting to have trouble getting around. This is something that impacts the entire family because most of the living assistance received by senior citizens comes from family Members, friends and neighbors. When this is not possible, seniors often enter assisted-living facilities. Medicare does not pay for an extended stay in an assisted-living community or nursing home. These facilities are extremely expensive, and many seniors may not understand the extent of the financial burden.

Sense of Relief

Once you have expressed an interest in the planning efforts of your parents they may actually be quite relieved. You are demonstrating a high level of maturity as you tackle a difficult subject as a caring family member. As you gain an understanding of their existing plan you can make suggestions. Assisting them in finding a qualified estate planning attorney may be an integral part of this process.

When your parents are aware of the fact that you want to be of assistance as they enter into the later stages of their lives, a new type of relationship may develop. They will know they can count on you as their own capabilities wane, and this can strengthen the parent-child bond.

As a practitioner who assists executors with completing and filing the Form 706 United States Estate (and Generation-Skipping Transfer) Tax Return (“Form 706”), Internal Revenue Code (“Code”) Section 2051 defines the taxable estate as the value of the gross estate less deductions taken under Code Sections 2053-2058.  Section 2053 deals with deductions for funeral expenses, administration expenses, claims against the estate, and unpaid mortgages, or any indebtedness in respect of, property includible in the value of the decedent’s gross estate.  The Internal Revenue Service (“IRS”) published final regulations for Code Section 2053 in 2009 (“2009 Regulations”) limiting the deduction for claims and expenses to the amounts actually paid in settlement or satisfaction of the item, with exceptions for ascertainable amounts, claims against the estate, and indebtedness.  The 2009 Regulations contained reservations for future guidance on the application of present-value principles in determining the amount of the deduction under Code Section 2053.  Among other items that include guidance on the deductibility of interest expense accruing on tax and penalties the estate owes, interest and expense accrued on certain loan obligations incurred by the estate, and amounts paid under a decedent’s personal guarantee, the recently promulgated proposed regulations (REG-130975-08) address proper use of present-value principles in determining the amount that an estate may deduct for funeral expenses, administration expenses, and certain claims.

The preamble to the proposed regulations makes clear that they sought to address the issue of the proper amount deductible under IRC 2053, especially in situations when the estate pays the obligation over time.  According to Section 20.2053-3(d)(2) of the proposed regulations, interest on a loan entered into by an estate to facilitate payment of the estate’s tax or the administration of the estate may be deductible if the following are true:  (1) the interest expense arises from an instrument or contractual arrangement that constitutes indebtedness under the applicable income tax regulations and principles of federal law; (2) the interest expense and loan are “bona fide in nature bases on all the facts and circumstances” and (3) the loan terms are “actually and necessarily incurred in the administration of the decedent’s estate.” The proposed regulations then expand on these concepts by including a list of eleven non-inclusive factors that collectively may support a finding that the requirements have been satisfied.

The preamble to the proposed regulations explains that estates often need additional time to pay every deductible claim and expense, but that most pay nearly all their ordinary expenses within the three-year period immediately following the decedent’s date of death, and thereby “strikes an appropriate balance between benefits and burdens” by setting the time during which the estate may deduct the entire value of a claim at three years.  The proposed regulations amend the 2009 Regulations and require the estate to discount to present value amounts paid after the third anniversary of the decedent’s death and refer to that time from the date of death to the third anniversary as the “grace period.”  While the proposed regulations make sense and may provide a more economically accurate deduction, they substantially undercut a previously significant payment tool for illiquid estates:  the Graegin note.

The Graegin note was named after the case in which it was first recognized as valid, Estate of Graegin v. Commissioner, T.C. Memo 1988-477.  A Graegin loan has a set interest rate, the taxpayer may elect a fixed term of years, and the note prohibits prepayment of principal or interest.  Because of the fixed and determinable amount of the interest payment, the Graegin Court and numerous other cases that followed allowed a dollar-for-dollar estate tax deduction for the payment of interest, including future interest.  There was no limit on the term of the note which meant that the estate could receive an upfront deduction for interest that it wasn’t going to pay for several years.  This technique allowed executors of estates faced with a liquidity problem to use a properly structured Graegin note to borrow the cash necessary to pay the estate tax or otherwise administer the estate.  The technique usually also had the added benefits of allowing the family to keep more assets, eliminating a fire sale to raise funds quickly, and reducing the size of the taxable estate.

Prior to the proposed regulations, the power of using a Graegin note was that the estate could deduct the full amount, dollar-for-dollar of the interest paid in the future over the term of the loan on Form 706; no present-value reduction was necessary.  For example, if an estate borrowed $10 million at 5% interest on a 10-year note, the estate could structure the loan to defer all principal payments and interest until year 10 at which time the estate would make a balloon payment.  On Form 706 the estate could deduct that $5 million future interest payment ($10 million borrowed * .05 interest rate * 10 years), thereby further reducing the taxable estate and saving the estate an additional $2 million ($5 million * .40 tax rate).  In many ways, the Graegin loan was a home run.  Of course, the transaction had to have economic substance which included documenting the estate’s need for liquidity, providing detail regarding the structure of the note, calculating the interest due, and confirming that the note conformed to market standards.

While these proposed regulations have yet to become final, it seems that the Graegin note is destined to go the way of Blockbuster video stores.  The present value and interest limitations contained in the proposed regulations restrict the amount deductible under a Graegin arrangement, if allowed at all.  There may a small window during which the estates can continue to benefit from the use of a Graegin structure, but it’s closing fast.  Note that the proposed regulations will apply to the estates of decedents dying on or after the date the final regulations are published in the Federal Register.

Few baby boomers are prepared for their own funerals. Even though humans have a 100% mortality rate, less than 30% of adults do advance funeral planning. But here’s a secret: you don’t have to spend your children’s inheritance on a funeral. Here are some helpful tips about advanced funeral planning.

I’m always encouraging people to plan for this guaranteed inevitability. While I had put my wishes on file with a funeral home and got a price quote back in 2015, I didn’t pay for those arrangements at the time. In 2022, I finally decided to go ahead with finalizing and paying for my cremation.

What do you need to know before you go to a funeral home to pre-plan for your own eventual demise? We’ll cover these three tips …

Tip #1 – Know Your Preferences
Tip #2 – Preplanning Isn’t the Same as Prepaying

Tip #3 – You Don’t Have to Pay Everything Upfront

Tip #1 – Know Your Preferences

Before going to plan your arrangements, be educated about what you want and how to get it! If you want green burial or an outside-the-box send-off, be prepared to advocate for your choices.

Do your research before visiting the funeral home!

Tip #2 – Preplanning Isn’t the Same as Prepaying

You can put your vital information and choices on file with a funeral and not prepay. It’s good to have the details for a death certificate and your choices already noted. As a preneed salesperson pointed out to me, however, the cost of goods and services will increase over the years.

If you prepay with an insurance policy, it guarantees and “locks in” today’s prices for the costs that the funeral home controls. This includes their service fees, casket and embalming costs, memorial printing packages, and so forth. However, outside costs like obituaries, motorcycle escorts for funeral processions, and taxes are not guaranteed. Those will continue to go up.

When the funeral plans are finalized, tweaks made to the plans can result in money being returned to the family, or more money may need to be paid.

Tip #3 – You Don’t Have to Pay Everything Upfront

When you make funeral arrangements in advance, in most states, you don’t give your money directly to the funeral home. You buy an insurance policy that you own, with the funeral home as the beneficiary. Some states have funeral trust funds to keep consumers’ money safe. With insurance or a trust fund, if the funeral home goes out of business or is sold to another company, don’t lose your money.

When making preneed financing arrangements with insurance, you may be offered payment options, stretching from three to 20 years. If you are healthy and die before paying off the policy, it will cover the entire cost. If you have health issues, you may be issued a graded policy which will only cover the amount of money you’ve paid toward the policy. The rest would have to be paid upon the death of the insured.

However, financing charges over time will add to the total cost of the funeral arrangements, negating your preplanning cost-saving efforts. Payments of a few hundred dollars a month can add thousands to the overall cost. We were offered the option to pay the balance in 90 days, same as cash.

Should you move to another market, your insurance policy is portable. The money can be used to pay another funeral home, although you lose the benefit of “locking in” today’s prices with the original funeral home. If your money is held in a state’s funeral trust fund, you should be able to get your money back with interest.

In Conclusion:

While I have advocated preplanning your funeral for years, I finally took my own advice and committed funding for myself. If I can do this and live to talk about it, you can too.

The moral here is that you can be prepared for your own funeral without having to spend your children’s inheritance. You can reduce stress and conflict, save money, and help your loved ones hold a “good goodbye.”

If you’re serious about taking care of business (like Elvis), visit several funeral homes and shop BEFORE you drop.

According to Internal Revenue Code (“Code”) Section 6018, if the gross estate of an individual exceeds the basic exclusion amount in effect under Code Section 2010(c), then the executor shall file the Form 706 United States Estate (and Generation-Skipping Transfer) Tax Return (“Form 706”). In 2022, the Code set the basic exclusion amount at $12.06 million. Although a gross estate may not exceed the applicable exclusion amount, the executor may want to file Form 706 for another reason. If the decedent was married at death, then their executor may want to file Form 706 to take advantage of portability.

In 2010, President Barack Obama signed the Tax Relief Unemployment Insurance Reauthorization and Job Creation Act (“TRUIRJCA”) into law introducing the concept of portability, among other things. Portability allows the surviving spouse to take into account the decedent spouse’s Deceased Spousal Unused Exclusion (“DSUE”) amount in addition to their own applicable exclusion either during their lifetime or upon death. The Form 706 TRUIRJCA contained a sunset provision that would have terminated portability at the end of 2012. President Obama changed that and made portability permanent when he signed the American Taxpayer Relief Act into law in early 2013. An executor elected portability by filing a Form 706. An executor has nine months from the date of death with an automatic six-month extension to file the Form 706. If an estate was not required to file Form 706, then the Internal Revenue Service (“IRS”) had the discretion to extend the time for filing Form 706. Executors wishing to ask the IRS to exercise its discretion did so by obtaining a Private Letter Ruling (“PLR”). In part because of the significant amount of PLRs requested in this area, the IRS issued Revenue Procedure 2017-34.

In Revenue Procedure 2017-34, the IRS granted a blanket two-year extension to elect portability to any estate not otherwise required to file a Form 706. Thus, an executor had additional time to file Form 706 for the sole purpose of electing portability. If the executor missed that date, then the executed needed to obtain a PLR to seek portability. Once again, due to the numerous PLR requests for this relief, the IRS issued Revenue Procedure 2022-32 on July 8, 2022. In Revenue Procedure 2022-32 the IRS extended the time during which an executor may file a Form 706 to elect portability from two years to five years without obtaining a PLR. Of note, the executor needs to ensure that Form 706 has the following language at the top of page 1 “FILED PURSUANT TO REV. PROC. 2022-32 TO ELECT PORTABILITY UNDER § 2010(c)(5)(A).” This extended time will serve executors well and provides additional time to consider whether it makes sense for a particular estate to file Form 706 for portability. This will become increasingly important for executors of estates with decedents dying before January 1, 2026, at which time the provisions of the Tax Cuts and Jobs Act of 2017 which temporarily doubled the exclusion amount from $5 million to $10 million, as adjusted for inflation, is set to sunset.

Let’s review an example to see how portability works in practice. Assume that Bert and Ernie are married, have a net worth of $30 million, and hold all their assets as tenants by the entirety. If Bert dies leaving his entire applicable exclusion amount of $12 million (note that we assume the 2022 applicable exclusion amount of $12.06 million but rounded down for purposes of this example) unused and his executor fails to take advantage of portability, then his estate will avail itself of the unlimited estate tax marital deduction and have no federal estate tax liability. Clearly, Bert’s estate has suffered no economic loss. Of course, upon Ernie’s death a few years later when the applicable exclusion amount has risen to $13 million, Ernie’s estate will have an estate tax liability of $6.8 million ($30 million taxable estate – $13 million applicable exclusion * .40 tax rate). If, instead, Bert’s executor had elected portability, then Bert’s executor would have filed Form 706 to port Bert’s unused applicable exclusion amount of $12 million. Upon Ernie’s later death, Ernie’s estate would have had an estate tax liability of $2 million ($30 million taxable estate – $12 million DSUE – $13 million applicable exclusion * .40 tax rate). Obviously, portability produced much lower tax liability for Ernie’s estate.

Although portability has many benefits as demonstrated in the example above, it has some pitfalls. First, portability does not apply to the Generation-Skipping Transfer Tax Exemption which allows the transferor to avoid taxation on distributions to the next generation. Second, portability carries over only the applicable exclusion of the decedent upon death and does not account for any appreciation of the assets in the surviving spouse’s estate. Third, most states that impose a state estate tax do not have statutes that allow for the portability of the state estate tax exclusion amount. Finally, planning to use portability generally means that the surviving spouse receives the assets outright, which gives the surviving spouse the opportunity to distribute assets in a way not contemplated by the decedent spouse when the decedent spouse created the plan.

As this article demonstrates, extending the time during which an executor may elect portability gives the executor wide latitude to consider whether portability works best for the estate. The passage of Revenue Procedure 2022-32 provides extra time for me to help clients who had no obligation to file Form 706, but who may have missed the original two-year deadline for electing portability.