Basic Estate Planning

Estate and Gift Tax Planning

  1. Estate and Gift Tax
    1. Estates and gifts are taxed using a unified rate schedule.
    2. Each person has a credit, known as the applicable credit amount that is currently the equivalent of a $2,000,000 exemption from federal estate and gift tax (the applicable exclusion amount). Thus, the first $2,000,000 of property transferred is exempt from tax. This exemption amount will remain at $2,000,000 through December of 2008. In 2009, the applicable credit amount is $3,500,000. Under current law, the estate tax is repealed for the year 2010. In the year 2011 and thereafter, unless additional legislation is passed, the applicable credit amount is $1,000,000.
    3. Annual Exclusion
      1. An individual can make annual gifts to any number of persons without incurring gift tax. The amount of the annual exclusion is currently $12,000 per donor to an individual donee.
      2. Married persons can combine their annual exclusions to give away a maximum of $24,000 to each donee, regardless of whether the assets being given are in the name of the husband, wife or both. However, when a gift is made from one party but “split” with another, a gift tax return must be filed to elect the split gift treatment.
      3. These annual exclusion gifts are not counted against the $2,000,000, the applicable credit amount detailed above.
      4. Gifts must be a present — not future interest.
    4. New York State Estate Tax
      1. On February 1, 2000, the NY estate tax became a “sop” or “pick-up” tax. This meant that the NY estate tax was equal to the amount of the allowable federal credit for state death taxes pursuant to the Federal estate tax return. This was true until 2004.
      2. In 2004, when the Federal applicable credit amount increased to $1,500,000, New York estate tax again became an issue since the NY legislation was drafted for increases with the applicable credit amount only up to the $1,000,000 exemption amount. As such, in New York, estates in excess of $1,000,000 pay estate tax to New York State. This means that an estate may have no federal estate tax due if under the $2,000,000, but will have New York estate tax due if $1,000,000 or over.
  2. A Few Basic Rules of Estate Planning
    1. Unlimited Marital Deduction
      1. An individual can leave any amount to his or her spouse and there will be no federal estate tax when the first spouse dies. However, this does not necessarily mean that spouses should leave everything to each other where there could be a taxable estate at the death of the surviving spouse.
      2. The Credit Shelter
        1. As a result of the applicable exclusion amount, in 2006 an individual can leave $2,000,000 to a non-spouse and there is no tax (this is often referred to as the “credit shelter amount”).
      3. The Credit Shelter Trust
        1. Basic estate tax planning can exempt $4,000,000 (in 2006) from federal estate tax. This is accomplished by leaving $2,000,000 in a “credit shelter trust” (also known as a “by-pass trust”) for the benefit of the surviving spouse.
        2. The surviving spouse receives income, and principal invasions if necessary for support, education, welfare and maintenance (Additionally, if provided for in the trust document, invasions are allowed to the extent of the greater of $5,000 or 5% of the principal per year) from the trust. At the death of the surviving spouse, the trust principal is distributed to the children (or any other designated beneficiaries). At the death of the surviving spouse, the trust amounts from the first estate are not considered owned by the now deceased surviving spouse. Thus, the trust principal is not included in the surviving spouse’s gross estate.
        3. To achieve this maximum exemption from our tax, splitting assets between husband and wife makes sense. Spouses should each have at least $2,000,000 in their individual names so each fully utilizes the applicable exclusion amount.
      4. Irrevocable Life Insurance Trust (ILIT)
        1. Life insurance proceeds (the death benefits) are taxable in an insured’s estate.
        2. To avoid inclusion, planners often recommend the creation of an ILIT and have the trustees of the ILIT own the life insurance on the life of the insured.
        3. The insured makes a gift to the trustees each year in an amount at least sufficient to pay the premium.
        4. The ILIT would provide income, and principal invasions when necessary, for the benefit of the spouse (same basic strategy as in a credit shelter trust). At the death of the spouse, the children receive the assets of the ILIT.
        5. Thus, on the insured’s death, there is no tax because the insured did not own the life insurance asset, and the same is true at the death of the spouse.
        6. The life insurance trust is designed to accept life insurance death benefit proceeds on the death of the insured.
        7. The trustee of such a trust, usually named as beneficiary on the life insurance policy, uses the proceeds for the specific purposes and objectives of the insured, which is very often to provide liquidity, pay administrative expenses and estate taxes upon death of the insured.
          1. This can be accomplished in many ways.Very often, the Trust will purchase assets from or loan money to the estate of the insured.
        8. The Internal Revenue Code provides that proceeds from a life insurance policy moved to a trust (or otherwise transferred) within 3 years of the date of death will be brought back into the estate. Therefore, any new policies purchased after the creation of the irrevocable life insurance trust should be purchased by the trustee of the trust rather than the insured to avoid possible inclusion in the insured’s estate. (When an insured transfers an existing policy, the grantor must outlive the transfer by 3 years in order for the proceeds to escape estate taxation.)
        9. The irrevocable transfer of an insurance policy constitutes a gift. Generally, the gift is measured by the replacement cost of the policy. The $12,000 annual gift tax exclusion is available, provided the Crummey withdrawal provisions are included in the Trust and followed.
          1. Crummey withdrawal provisions are beyond the scope of this lecture. But generally provide to make a gift of an otherwise future interest into a gift of a present interest which then qualifies for the $12,000 annual exclusion.

Estate Planning

What happens if a person dies without a will?

  1. If a person dies without a Will, New York State intestacy laws dictate who receives the estate of the decedent. EPTL §4-1.1 provides that where a decedent has passed without a Will, the estate of the decedent will be distributed as follows:
    1. If a decedent is survived by:
      1. A spouse and issue, fifty thousand dollars and one-half of the residue to the spouse, and the balance thereof to the issue by representation.
      2. A spouse and no issue, the whole to the spouse.
      3. Issue and no spouse, the whole to the issue, by representation.
      4. One or both parents, and no spouse and no issue, the whole to the surviving parent or parents.
      5. Issue of parents, and no spouse, issue or parent, the whole to the issue of the parents, by representation.
      6. One or more grandparents, or the issue of grandparents (as hereinafter defined), and no spouse, issue, parent or issue of parents, one-half to the surviving paternal grandparent or grandparents, or if neither of them survives the decedent, to their issue, by representation, and the other one-half to the surviving maternal grandparent or grandparents, or if neither of them survives the decedent, to their issue, by representation; provided that if the decedent was not survived by a grandparent or grandparents on one side or by the issue of such grandparents, the whole to the surviving grandparent or grandparents on the other side, or if neither of them survives the decedent, to their issue, by representation, in the same manner as the one-half. For the purposes of this subparagraph, issue of grandparents shall not include issue more remote than grandchildren of such grandparents.
      7. Great-grandchildren of grandparents, and no spouse, issue, parent, issue of parents, grandparent, children of grandparents or grandchildren of grandparents, one-half to the great-grandchildren of the paternal grandparents, per capita, and the other one-half to the great-grandchildren of the maternal grandparents, per capita; provided that if the decedent was not survived by great-grandchildren of grandparents on one side, the whole to the great-grandchildren of grandparents on the other side, in the same manner as the one-half.

Why have a will?

  1. The Last Will and Testament is a good document for the distribution of both personal and real property.
  2. Aside from retaining the right to distribute property according to the decedent’s wishes (as opposed to New York State law), the Will provides an individual the opportunity to make additional directions in relation to an estate.
  3. The Last Will and Testament is a good document for designating the individual or individuals responsible for carrying out the wishes of the Testator. An individual can designate an executor who is the person to administer an estate and make distributions to beneficiaries.
  4. An individual can control the timing of an inheritance. For example, if a beneficiary is a minor, the Will can provide for various directives regarding when the minor should receive money.
  5. The Last Will and Testament is used for the distribution of property that does not pass by any other means. This means property of the probate estate.
    1. Money can be held until a beneficiary attains the age of 21, or longer if trust provisions are included in the Last Will and Testament. If a Testamentary Trust is included in the Last Will and Testament, the Testator can also designate the trustee to administer the Trust.

Planning Considerations with Gifting

  1. Is It Better To Make A Gift During Lifetime Or To Transfer Assets At Death?
    1. The greatest advantage of a lifetime gift is that a gift of property removes future appreciation from the estate. This is obviously most valuable where the asset is likely to appreciate significantly.
    2. The most significant disadvantage of a lifetime gift is that the recipient of the gift inherits the basis of the person making the gift.
    3. The greatest advantage of transferring property at death is that the recipient at death receives a stepped-up basis at death.

What is the Probate Estate?

  1. The probate estate is comprised of property that does not pass to an individual by any other means. Property that normally passes outside of the probate estate is as follows:
    1. joint assets (example: joint bank account)
    2. life insurance
    3. retirement assets
    4. annuities
    5. trust assets
  2. What is the Difference Between a Probate Estate and the Gross Taxable Estate?
    1. The gross taxable estate is everything that an individual owns or has an ownership interest in at the time of death. This includes the full death benefit of life insurance, life estates in real property, certain trusts interest (for example living trusts), joint assets, retirement assets and, of course, individual assets.
    2. The probate estate consists of only those assets that do not pass by any other means. As such, while the gross taxable estate of an individual may be quite large, the probate estate could be considerably smaller.
    3. It is very important to understand the distinction between the gross taxable estate and the probate estate. It is also very important to understand what assets will pass under the Last Will and Testament and what assets will pass by other means.
    4. Many individuals (and sometimes professionals) are under the misconception that the Last Will and Testament speaks to all assets. This is not true. The Last Will and Testament only speaks to the assets contained in the probate estate.
  3. When Should an Individual Choose a Living Trust as Opposed to a Last Will and Testament?
    1. Many people are under the mistaken impression that a Living Trust saves estate taxes. Generally, a Living Trust is revocable. Where a Grantor retains the right to change or revoke a trust, he or she retains sufficient control over the assets contained therein, such that the assets are taxable in his or her gross taxable estate. As such, a Living Trust has no effect in terms of estate taxes.
    2. So if a Living Trust does not save estate taxes, why would an individual set up a Living Trust?
    3. While the Living Trust does not save estate taxes, it still has a beneficial use in some circumstances. A Living Trust might make sense in the following situations:
      1. An individual is quite elderly and there is some concern that capacity may be diminishing. In this case, the establishment of a Living Trust may make handling that individual’s affairs easier since generally the trustee’s powers will be broader than those powers provided to a Power of Attorney.
      2. If there is real concern that probate will be lengthy and costly, potentially involving a Will contest. If property is properly transferred and titled to the trust, then said property will pass pursuant to the Living Trust and not the Last Will and Testament, which will be under the jurisdiction of the Surrogate Court.
      3. However, where a Living Trust is established, a Last Will and Testament is also necessary just in case property comes into being after the establishment of the Living Trust and prior to the property being transferred into the Living Trust. For example, if the decedent dies in a car crash where there is a claim of action against the other driver, any proceeds from a lawsuit would be an asset in the decedent’s estate and, as such, a Last Will and Testament would still be necessary to transfer said proceeds. Those proceeds would not automatically pass under the terms of the Living Trust.
      4. It is also important to pay particular attention to the titling of assets once a Living Trust is established. Many individuals establish Living Trusts, but never transfer assets into them. A Living Trust which does not have assets transferred to it is ineffective.
      5. The administrative hassle of transferring the assets into the Living Trust and paying attention to future titling of all assets, as well as the cost of setting up the Living Trust, must be weighed against the potential savings of future probate fees and other issues associated with probate.
  4. What is Probate?
    1. The word probate means “to prove”. As such, the probating of a Will means the process during which a Will is put forth and proven to the court to be the Last Will and Testament of an individual.
    2. Generally, after an individual passes away, family members review important papers to locate that individual’s Last Will and Testament. Once the Last Will and Testament is located, the individual designated as executor, assuming he or she is willing to serve, will usually obtain the services of a lawyer to assist him or her in preparing a petition. In addition to the petition, the following documents are usually filed with the court:
      1. Original Last Will and Testament
      2. Attorney certified copy of the Last Will and Testament
      3. Certified Death Certificate
      4. Releases from beneficiaries (if all beneficiaries agree to the probate of said Last Will and Testament)
    3. If all beneficiaries are not in agreement with the probate of the Last Will and Testament and/or are unwilling to sign a release to either the Will, the appointment of the proposed executor or both, then the papers can be filed with the court and the court will cite any individuals who have not already agreed to the probate. The citation will be served on the beneficiaries who have not agreed to the probate of the Last Will and Testament and said beneficiaries will be given an opportunity to be heard by the court concerning the probate of the proposed Last Will and Testament. If the individuals do not appear on the return date of the citation, either individually or by their own attorney, the court will issue “Letters Testamentary” to the individual who prepared the petition and agreed to serve as executor.
    4. Once an individual is appointed as “Executor”, it is his or her job to “marshal the assets” of the decedent. An individual marshals the assets of the decedent by gathering the assets of the decedent under the direction and control of the executor for the estate. Once the assets are marshaled, the estate must remain open for a period of at least seven months to allow creditors to file claims. Once the seven-month period has expired and assuming all bills of the decedent have been paid (and all claims against the estate have been paid), and also assuming that all estate taxes have been filed and paid, if applicable, the executor can then distribute the assets of the estate pursuant to the directives of the Last Will and Testament.
    5. Once the estate has been distributed and releases from all beneficiaries have been obtained, the estate can either be formally closed or informally closed. Most estates are closed informally. This means that the file in the Surrogate Court is closed, but the executor does not receive a formal discharge. Where there is no concern about creditors later coming forward and where all beneficiaries are family members in agreement with the distributions, estates are normally informally closed. However, if there is some contention among beneficiaries regarding distributions or concerns of future creditors, an executor may wish to be formally discharged.
    6. Lastly, if the assets of an estate are insufficient to pay all claims of creditors and make distributions to beneficiaries, an executor will normally petition the court to obtain a judicial settlement of the estate. The judicial settlement can occur by mutual agreement of all parties (through settlement negotiations) or by order of the court where payments to creditors are made pursuant to their priority as directed by the New York State Estate Powers and Trust Law.
  5. A Few Minor Points Regarding Estate Planning:
    1. Even though a new Last Will and Testament will state that it revokes all prior Last Will and Testaments, it is still a good practice to destroy all prior Wills. Not only should copies be destroyed, but originals should be retrieved from prior attorneys and from filing in the Surrogate Court. Many individuals do not understand that failure to retrieve a prior Will from filing in the Surrogate Court will result in both Wills being put forth for probate. While ultimately the court may find a later Will to be in fact the Last Will and Testament of a Testator, that prior Will must still be dealt with and may cost additional time and attorney’s fees in citing beneficiaries listed in a prior Will and/or obtaining releases.
    2. Choosing an Executor, Trustee, Health Care Proxy and/or Power of Attorney should not be a popularity contest. The individual or individuals chosen for each task should be based on the characteristics of the individuals chosen. Very often, parents will want to name all of their children as their Executors or Powers of Attorney. The old saying of “too many cooks in the kitchen” is often appropriate to remember in relation to estate planning.
  6. Powers of Attorney
    1. The purpose of a power of attorney is to authorize another person to transact business in the event of incapacity.
    2. New York State law allows an individual to designate another as the principal’s attorney-in-fact and this designation will be unaffected by the principal’s subsequent incapacity if the power of attorney specifically states that the powers will continue to exist even after the principal has become disabled or incompetent.
    3. A power of attorney can be in one of two forms.
      1. A power of attorney can take effect immediately upon execution by the principal.
      2. A power of attorney can be a “springing” power of attorney which means that the power of attorney becomes effective upon the disability or incapacity of the principal.
    4. An individual can appoint more than one power of attorney. However, if the individual designates more than one power of attorney, the individual most also designate whether the named attorneys-in-fact are to act separately or together. Generally, it is recommended that an individual designate only one individual to act as attorney-in-fact.
  7. Health Care Proxies and Living Wills
    1. A health care proxy is similar to a power of attorney except that it applies to health care decisions.
    2. In a health care proxy, a person appoints another individual to make decisions regarding medical treatment in the event the principal is unable to do so.
    3. Unlike a power of attorney, an individual can only designate one attorney-in-fact.
    4. It is recommended that the health care proxy also contain “living will” type language or that a Living Will be executed at the same time a health care proxy is executed. This language directs that extraordinary means be withheld in the event of terminal, incurable and irreversible illness. Wishes in relation to artificial nutrition and hydration must be specifically stated.
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