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In 2020, each person can give away $11.58 million during life. Whatever portion they haven’t used during life, they can use it at death. However, that generous exclusion will be cut in half at the end of 2025. Beginning in 2026, the exclusion will be only $5 million adjusted for inflation from the 2011 base year. If you use the exclusion before it falls back, you won’t be penalized by a “clawback” upon your death in 2026 or later.

For example, let’s say Mary has $11.58 million and gives it all away in 2020. Let’s assume she lives off her social security and dies with nothing in 2026. She would not owe any estate tax, even though she had given away $11.58 million and the exclusion at her death in 2026 is half that amount.

In other words, if Mary uses her exclusion before 2026, she won’t have to worry about having to pay estate tax because of the gifting she did of an amount within the exclusion during her lifetime, even though that exclusion later decreases.

Does that mean Mary should wait until 2025 and then decide what to do? Unfortunately, not. Some voices in Congress have called for an earlier repeal of the law which included the doubling of the exclusion to its current level. Some voices have even called for the exclusion to be lowered even further, to $3.5 million per person, or less.

A shift in power in Washington after the 2020 elections could bring those voices to power and see their vision realized. Does that mean Mary could wait until legislation is passed by Congress and signed by the President to act? Again, unfortunately not. Legislation could be passed late in 2021 and could be retroactive to January 1, 2021. In other words, to be safe, you would need to act before the end of 2020.

For a married couple, perhaps the best way is for one of them to give their full exclusion into a trust for the benefit of their spouse and descendants. This is called a Spouse And Family Exclusion (“SAFE”) Trust (also sometimes called a Spousal Lifetime Access Trust (“SLAT”)). Let’s look at an example. John and Liz are married and have $15 million. John could give $11.58 million to a SAFE trust for the benefit of Liz and their children and grandchildren. Liz could be the trustee of the trust and decide how the assets are invested and distributed, within the ascertainable standard set in the trust (typically “health, education, maintenance, and support”). The assets in the SAFE trust are outside both John and Liz’s estates.

By doing this, John and Liz would have taken advantage of John’s $11.58 million exclusion and would not have an estate tax due even if the exclusion falls back to $3.5 million. Even better, Liz still has control of the money and can use it for her own benefit and that of their children and grandchildren.

Having planned now, John and Liz can rest easy and not worry about what legislative changes might be coming after the election in November.

Maybe you grew up without much. You worked hard. You earned a good education. You succeeded in life even though the streets were not paved with gold where you grew up. In fact, maybe you grew up in a very impoverished, oppressed community.

Now you (and your spouse if you are married) have accumulated enough so you are comfortable. Maybe you are not a billionaire, but you feel like you have achieved a reasonable level of material success. After your death, you would like to provide for your loved ones so they can be a step up the ladder of financial stability and so they can get a good education and get a good start in life.

Deciding to whom you want to leave your assets is often the easy part. Often the difficult decision is determining the best way to leave them your assets. Let us say you want to leave your assets to your children at your death. What is the best way to do it?

You could leave your assets to them outright. That might be the right solution sometimes, but all too often, that is not the right solution. This is the third in a series of blogs examining different ways to leave assets to a beneficiary and when and why that might be appropriate.

A Special Needs Trust is tailored to help a beneficiary with special needs receive an inheritance without jeopardizing their current or future public needs-tested benefits, such as Medicaid or Supplemental Security Income (“SSI”).

If you have a child or other beneficiary who has special needs, you want to provide them the best chance to lead a full and meaningful life, just like any other child or beneficiary. If you leave assets to them outright, it could jeopardize public needs-tested benefits which they are on.

Let us look at a quick example. Betty is leaving assets to her son, Jackson. Jackson has special needs. Betty loves Jackson and wants the best chance for him. But she knows Jackson will have unique challenges in life. Betty has $800,000 in assets and she has two children, Jackson and Abigail. Both her children are now adults and Abigail attends college. If Betty leaves assets to Jackson, he would be ineligible for needs-tested public benefits. Betty could leave all the assets to Abigail and ask her to watch out for Jackson. However, if Betty did that, the funds intended for Jackson would be lost if Abigail had financial difficulties from creditor issues, divorce, mismanagement, etc.

Betty could leave the portion intended for Jackson in a Special Needs Trust for him. Abigail could be the trustee of that trust and distribute from it for Jackson’s special needs. This would allow the funds to be used for Jackson to enjoy life through education, vacations, and other “special needs” without jeopardizing his needs-tested public benefits. Also, if Abigail had creditor issues, her creditors could not attach the assets in Jackson’s Special Needs Trust.

From an income tax standpoint, the Special Needs Trust for Jackson is treated as a separate taxpaying entity. A separate tax ID number would be needed for the trust. The trust’s taxable income might be carried out to Jackson if there are distributions to or for Jackson’s benefit that year. Otherwise, the trust would pay its own taxes.

As demonstrated by the three articles in this series, leaving assets to beneficiaries can be tricky. Often the best way to leave an inheritance to someone you love is not leaving it outright. Rather, it is often better to leave them assets in a trust with provisions tailored for their benefit. For some beneficiaries, a Special Needs Trust is appropriate. For other beneficiaries, an Asset Protection Trust is best. For still other beneficiaries, a Divorce Protection Trust is best.

Maybe you grew up without much. You worked hard. You earned a good education. You succeeded in life even though the streets were not paved with gold where you grew up. In fact, maybe you grew up in a very impoverished, oppressed community.

Now you (and your spouse if you are married) have accumulated enough so you are comfortable. Maybe you are not a billionaire, but you feel like you have achieved a reasonable level of material success. After your death, you would like to provide for your loved ones so they can be a step up the ladder of financial stability and so they can get a good education and get a good start in life.

Deciding to whom you want to leave your assets is often the easy part. Often the difficult decision is determining the best way to leave them your assets. Let us say you want to leave your assets to your children at your death. What is the best way to do it?

You could leave your assets to them outright. That might be the right solution sometimes, but all too often, that is not the right solution. This is the second in a series of blogs that will examine different ways to leave assets to a beneficiary and when and why that might be appropriate.

The first article in the series discussed the “Divorce Protection” Trust or “Access” Trust. The second way which is the topic in this article is a fully discretionary trust, often called an “Asset Protection” Trust or a “Sentry” Trust. In many ways these trusts are opposites. While the beneficiary of an Access Trust has the right to demand whatever they want, whenever they want it, the beneficiary of a Sentry Trust cannot demand anything ever. The distributions from the trust are in the complete discretion of the Trustee.

A completely discretionary trust has many benefits. First, it allows the trustee to use their discretion and withhold distributions if they think the beneficiary is acting unwisely or inconsistent with their best interests. For example, this type of trust might be good for someone with a substance abuse problem or a gambling addiction.

This type of trust also is the best way to provide asset protection. A creditor of a beneficiary stands in the beneficiary’s shoes. So, if the beneficiary can access funds so can their creditor. In this trust, the beneficiary cannot demand anything, so neither can their creditors.

Let us look at a quick example. Jane is leaving assets to her son, Bill. Bill has a history of substance abuse and drunk driving. In fact, Bill is currently incarcerated related to his substance abuse issues. Jane would like to be sure Bill’s inheritance is protected and used for his best interests. Jane leaves the assets in a Sentry trust for Bill’s benefit. The trustee, who should not be Bill, can use the assets for Bill’s benefit, in the trustee’s discretion. But Bill cannot force any distributions from the trust. This way, the assets are protected from Bill’s creditors and Bill’s indiscretions. If there is a victim of the crime, there could be restitution owed. Even if it is a victimless crime, most states charge inmates for the privilege of being housed and fed during their stay. For example, for a recent three-year stay, Florida charged $55,000. As prisons pay inmates little or nothing, they often come out with large debts that could wipe out an inheritance if it were not left in a protected trust.

From an income tax standpoint, this trust is treated as a separate taxpaying entity. A separate tax ID number is needed for the trust. The trust’s taxable income might be carried out to Bill if there are distributions to Bill that year. Otherwise, the trust pays its own taxes (at a compressed rate schedule).

A Sentry Trust allows someone serving as Trustee to watch over the assets of the beneficiary and distribute them to the beneficiary in the Trustee’s discretion. This protects the beneficiary from the beneficiary’s creditors or misjudgment.

Maybe you grew up without much. You worked hard. You earned a good education. You succeeded in life even though the streets were not paved with gold where you grew up. Maybe you even grew up in a very impoverished, oppressed community.

Now you (and your spouse if you are married) have accumulated enough so you are comfortable. Maybe you are not a billionaire, but you feel like you have achieved a reasonable level of material success. After your death, you would like to provide for your loved ones so they can be a step up the ladder of financial stability and so they can get a good education and get a good start in life.

Deciding to whom you want to leave your assets is often the easy part. Often the difficult decision is determining the best way to leave them your assets. Let us say you want to leave your assets to your children at your death. What is the best way to do it?

You could leave your assets to them outright. That might be the right solution sometimes, but all too often, that is not the right solution. This is the first in a series of blogs that will examine different ways to leave assets to a beneficiary and when and why that might be appropriate.

The first way is similar to giving the assets to them outright after your death. It would be to give them the assets in a trust set up after your death from which they could demand the assets at any time they want. This type of trust is often called a “Divorce Protection” Trust or an “Access” Trust. From an income tax standpoint, this trust is treated the same as the beneficiary. In other words, no separate tax ID number is needed for that trust. It can use the beneficiary’s social security number for reporting.

If they can withdraw the assets whenever they want, then what is the benefit of the trust? The assets will retain their character as the beneficiary’s separate property and will not get comingled with their marital assets. Of course, since the beneficiary could withdraw the assets at any time, the asset would be subject to the beneficiary’s creditors. This type of trust would not be a good choice for a beneficiary who had creditor issues or who was irresponsible. But it might be a good choice for a beneficiary who was responsible and whom you just wanted to keep the assets separate in case they get divorced down the road (even if they’re not now married).
While the trust would keep the assets separate, in some states the court could consider these separate assets in making an asset allocation between spouses upon divorce or in awarding child support or alimony.

So, be careful with which trust vehicle to use and which is most appropriate for your situation.

Funding a trust is critical when you have a trust-based estate plan. A trust is a receptacle, like a box. Before you fund the trust, it’s like the box is empty.

You fund a trust by retitling assets into the name of the trust. Let’s say you have several items that you want in the trust. Let’s say you have items A, B, C, and D that you want to go to the trust. Let’s say you fund assets A, B, and C to the trust, but forget about item D. Maybe it’s an asset you don’t see frequently and it completely slipped your mind. Assets A, B, and C are in the trust and will avoid probate. Item D isn’t in the trust and will need to go through the probate process (assuming no non-probate transfer process applies to it, such as a beneficiary designation).

In some states, probate can be a costly and time-consuming undertaking, depending upon the nature and extent of the assets subject to probate. Typically, if it’s not real estate, a small amount of assets (which varies by state but typically is less than $100,000) can pass through probate using the express lane of “summary” proceedings where the formalities are loosened. In some states probate even above these levels isn’t as costly or time-consuming. It just depends upon your area.

But, if your trust is fully funded, the assets don’t need to go through the probate process. The Assignment and Nominee agreement is one way used by attorneys to fund the assets into the trust. Here’s how it works.

An Assignment and Nominee agreement has two parties, the “Trustee” and the “Trustor” (also known as the “Grantor” or “Settlor”). The Trustee is the person in charge of the trust assets. The Trustor is the person who sets up the trust. Sometimes they are the same person. In fact, most commonly they are the same person.

Let’s say Mike sets up a trust, so he’s the Trustor. He also names himself as the Trustee to manage the trust. So, he’s wearing both hats. With an Assignment and Nominee agreement, Mike as the Trustor assigns assets to the trust, thus transferring them to it. Then Mike, as the Trustee who manages the Trust, sends them back to Mike, in his individual capacity, (i.e. as Trustor), to hold the assets for the trust for safekeeping. So, even though the asset is back in Mike’s hands, it is owned by the trust and for the trust.

Typically, you’re going to transfer most items by some other method, such as changing titles on each asset directly. But when you’ve forgotten about an asset, the Assignment and Nominee agreement can be a belt and suspenders approach to move that forgotten asset into the trust.

The Assignment and Nominee agreement is not a panacea, rather it is a backup to traditional methods of transferring assets into the trust. Also, the agreement by its own terms doesn’t apply to some assets, such as retirement plan assets.

Funding a trust is essential. Otherwise, the trust is like an empty box. The Pour-Over Will might move the assets into the trust at death, but that would be through the probate process. Also, you would have lost any lifetime benefit of the trust, such as management of the assets during a period of incapacity.

An Assignment and Nominee agreement can act as a backstop on the important funding process.

This article examines the application of the “Transfer for Value” rule and how to navigate around that rule while keeping the life insurance out of the taxable estate.

In the first article in the series, we saw that life insurance is included in the taxable estate if owned by the insured, even if the beneficiary isn’t the insured or their estate. In that article, we also saw that gifting the insurance to an irrevocable trust could remove it from the taxable estate, but there would be a three-year waiting period for the removal.

So, what could Mary do if she wanted to remove the policy from her estate right away? She could sell the policy to the trust for its fair market value. Let’s say the fair market value of the policy is $50,000. If Mary contributes $50,000 to the trust and the trustee of the trust purchases the policy from Mary, Mary wouldn’t have to wait the three years to remove it from her taxable estate. However, while this will solve Mary’s estate tax issue, it may cause the death benefit to be income taxable.

Normally, the life insurance death benefit isn’t included in taxable income due to section 101(a) of the Internal Revenue Code. But if the insurance had been transferred for valuable consideration, then it is subject to income taxation, except to the extent of the consideration paid, unless an exception to the Transfer for Value rule applies.

Here’s what would happen in our example of Mary and her trust: Mary owned a policy on her life. It has a death benefit of $3 million. She sells it to an irrevocable trust (which is not a grantor trust as to Mary) for its fair market value of $50,000. Mary dies and the trust receives the death benefit of $3 million. The trust will face income tax on the amount it receives, $3 million, less what it paid, $50,000. The trust will likely pay more than $1 million in tax on the $2,950,000 in taxable income from the life insurance death benefit. But there’s a way to draft the trust to fall within a safe harbor of the Transfer for Value rule.

There are 5 safe harbors from the Transfer for Value rule:

1. A transfer where the transferee derives their basis from the transferor. This would be in the case of a gift, typically. However, this rule has a couple of carve-outs such as if the policy had already been tainted by the Rule, a transfer by gift isn’t going to cleanse it. It just won’t create a taint itself.
2. A transfer to the insured. So, a sale of a policy to the insured will not be subject to the Rule because of this safe harbor. Importantly, a trust which is drafted as a grantor trust falls under this safe harbor.
3. A transfer to a partner of the insured.
4. A transfer to a partnership in which the insured is a partner.
5. A transfer to a corporation in which the insured is an officer or shareholder.

If the trust to which Mary sells the life insurance had been drafted as a “grantor trust” as to Mary, the sale of the policy to the trust would not trigger the Transfer for Value rule since the sale would have been considered the same as a sale to the insured herself, Mary, for income tax purposes. In that case, the trust would receive the $3 million death benefit and it would not be included in taxable income for the trust.

The Transfer for Value rule is just an example of the complexity which can be involved when considering the removal of life insurance from the taxable estate. It’s best to consult with an attorney who focuses their practice in estate planning so you and your loved ones can avoid the many traps out there.

First, why is life insurance in the taxable estate? Section 2042 causes inclusion in your estate if the life insurance on your life is either i) paid to your estate, or ii) if you had any significant control over the policy. Even if your estate wasn’t the beneficiary of the policy, if you could change the beneficiary of the policy or pledge the policy, among other things, it would be included in your taxable estate.

For example, Mary had a policy on her life that would pay the beneficiary, John, $5 million at her death. Assuming Mary has “incidents of ownership,” such as the ability to change the beneficiary, the policy on Mary’s life would be included in Mary’s taxable estate even though neither she nor her estate is the beneficiary.

Mary could remove the policy from her taxable estate by transferring it to an irrevocable trust, often called an “Irrevocable Life Insurance Trust” or “ILIT.” Mary should not be the trustee of the ILIT nor retain control over who is the trustee of the ILIT. Further, Mary cannot be the beneficiary nor change the beneficiaries of the ILIT without causing inclusion in her estate. But, at the outset, Mary can choose whomever she wants (other than herself) as the beneficiaries of the ILIT, like her three children.

If Mary makes a gratuitous transfer to the ILIT, then she would be making a gift of the current value of the policy, which would likely be far less than the death benefit. This may not be a concern if the value is low. However, if the policy is gifted, the policy’s death benefit would still be included in Mary’s taxable estate for three years after the transfer due to the application of another code Section, Section 2035, which only comes into play in certain narrow situations, including this.

So, what could Mary do if she wanted to remove the policy from her estate right away? She could sell the policy to the trust for its fair market value. Let’s say the fair market value of the policy is $50,000. If Mary contributes $50,000 to the trust and the trustee of the trust purchases the policy from Mary, Mary wouldn’t have to wait the three years to remove it from her taxable estate. However, while this will solve Mary’s estate tax issue, it may cause the death benefit to be income taxable.

A Power of Attorney is a document by which you appoint someone as your “Agent” to act on your behalf. If that Agent is unwilling or unable to act, the document can appoint one or more successor Agents. While a Financial Power of Attorney appoints an Agent to make financial decisions for you (as outlined in the first article in the series), a Healthcare Power of Attorney appoints the Agent to make Healthcare decisions for you. With a Healthcare Power of Attorney, when you are unable to make Healthcare decisions for yourself, your Agent is empowered to make them for you.

Let’s look at an example:

Mike is 19 and in college. Mike’s parents are divorced. Mike has named his father, Harry, as his Healthcare Agent. Mike fell ill due to COVID-19. He passed out and was brought to the hospital. The doctors needed to make decisions regarding his care and which of two routes to take in his treatment. Mike’s mother wants the doctors to take the first course of action and see what happens. Mike’s father wants the doctors to take the more aggressive course of action and put him on a ventilator until he improves. Because Mike named Harry as his Healthcare Agent, the doctors take the second course of action and put Mike on a ventilator and he recovers completely.

Sometimes a Healthcare Power of Attorney also includes a portion that is sometimes called an “Advance Directive” and sometimes called a “Living Will.” Often this portion could be in a completely separate document. It just depends upon the jurisdiction.

The U.S. Supreme Court, through sad cases such as Cruzan and Schiavo, has said the intent to be removed from life support when there’s no hope of recovery may be carried out if that intent is expressed clearly.

The Advance Directive or Living Will expresses your intent regarding what should happen to you if there is no reasonable hope of recovery. In other words, it expresses your intent regarding end-of-life decisions. Do you want to be kept on life support as long as possible, even if there is no hope of recovery? Or, if there is no reasonable chance of recovery, do you want to be kept out of pain to the extent possible, even if it might hasten your death? The decision is yours. Nobody wants to think about the possibility of being in a situation like that. But, if you express your end-of-life decisions now, your wishes can be carried out and your family can know they did what you wanted. Your expression will also help to circumvent a protracted battle among family members regarding what should happen, like the years-long battle in the Schiavo case. A Healthcare Power of Attorney ensures your healthcare decisions are made by the people of your choosing. An Advance Directive expresses your choice regarding end-of-life decisions. Both of these documents help avoid conflict among your family members regarding your treatment.

I wrote earlier that a Power of Attorney is a document by which you appoint someone as your “Agent” to act on your behalf. If that Agent is unwilling or unable to act, the document can appoint one or more successor Agents.

But what is a “HIPAA” Power? First, “HIPAA” is the Health Insurance Portability and Authorization Act of 1996. That Act brought about many things, including enhanced privacy in your health records. While HIPAA protections are a great addition to the law, they can thwart people who have a legitimate need to access your records, unless you give them the appropriate authorization. A “HIPAA” Power, otherwise known as a “HIPAA” Authorization, allows designated people to access your protected health information.

Why do you need to give others access? Without access, others may not even know that you were brought to the hospital, are in the intensive care unit, or your condition and needs.

Who would you authorize to access your protected health information? Typically, you’d grant access to your Agents under your Healthcare Power of Attorney and your Financial Power of Attorney. This allows those Agents access to information about your condition. For example, the Agent under the Healthcare Power of Attorney would require this information to make prudent decisions for your benefit. Similarly, the Trustee or Successor Trustee under your Trust should also have access for similar reasons.

Let’s look at an example: Mary was 75 years old. Mary was at lunch with a friend and they were in an accident on the way home. They were taken to the hospital. Mary’s friend suffered only minor injuries, but Mary was in a coma from her injuries. Mary’s friend alerted Mary’s family. Mary’s family encountered problems when they tried to find information about Mary’s condition. With a HIPAA Power, Mary’s family would be able to discuss Mary’s condition and prognosis with her healthcare providers and see her records.

Without the HIPAA Power, Mary’s family may not be able to learn of her condition. Her Successor Trustee under her Trust wouldn’t know that she was incapacitated and that the Successor Trustee was called upon to step up to serve. Similarly, the Agent under her Financial Power of Attorney wouldn’t know that Mary was incapacitated and that the Agent was called upon to serve.

With the HIPAA Power granting authorization to her Agent under the Healthcare Power of Attorney, her Agent under the Financial Power of Attorney, her Successor Trustee of her Trust, and designated family members, she can rest assured that those upon whom she relies can have the information they need to make decisions for her in her time of need.

Make sure you have laid the foundation for even the most basic estate plan: A Financial Power of Attorney, a Healthcare Power of Attorney (and Advance Directive), and a HIPPA Power (or Authorization).

By now, most IRA owners have heard the bad news. The SECURE Act eliminates the stretch IRA for the majority of beneficiaries who inherit in 2020 or later. Instead, for most, a 10-year payout rule will apply. Here is how this new rule works and how, for some beneficiaries, there may be new planning opportunities available.

How It Works
This new 10-year rule works like the old 5-year rule worked. There are no annual RMDs. Instead, the entire account must be emptied by the 10th year after the year of death. In the 10th year following the year of death, any funds remaining in the inherited IRA would then become the required minimum distribution (RMD). If the funds are not taken by the deadline, a 50% penalty would be owed.

The Opportunities
While many IRA owners will miss the stretch IRA, for some, the 10-year rule may be beneficial. Even when the stretch IRA was available, not all beneficiaries used it. Not every beneficiary was interested in keeping an inherited IRA open for years and years. Some beneficiaries want the money faster. For them, the 10-year rule is a good fit.

Those beneficiaries that did take advantage of the stretch were locked into a rigid annual RMD schedule. The annual RMD had to be taken regardless of the beneficiary’s tax situation or there would be a 50% penalty. There were no other options.

What the new 10-year rule offers is flexibility. During the 10-year period, the beneficiary may choose to take nothing during a particular year or large distributions in others, as long as the account balance is emptied by the end of the 10-year term. This provides a tax planning opportunity. Distributions can be structured in such a way as to minimize the tax hit. There are no restrictions as long as the account is emptied by the end of the tenth year following the year of death.

The 10-year rule also provides a big opportunity for Roth IRA beneficiaries. Distributions from inherited Roth IRAs are almost always tax-free. A beneficiary could take no distribution until the tenth year, leaving all the earnings in the inherited Roth IRA to grow tax-free. The account could then be emptied in the tenth year after years of tax-free growth with no tax bill for the beneficiary.

Good Advice is Essential
Maybe you inherited an IRA in 2020 and are concerned about the 10-year rule. Or, maybe you are considering your estate plan and are thinking about how your beneficiaries will fare under the new rules. Now is a good time to consult with a knowledgeable tax or financial advisor. While the stretch IRA will be missed, the SECURE Act 10-year rule allows for new planning opportunities for those willing to think outside the box.