Tag: estate planning

The Complicated Landscape of US Estate Tax

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Canadians who own assets in the U.S. may be subject to U.S. estate tax.

This tax is based on the fair market value of all U.S. assets owned at the time of death. It can reach 40%, depending on the value of U.S. assets and the world-wide estate.

But not all Canadians who own U.S. assets will be subject to U.S. estate tax. A close look at the new U.S. estate tax rules will help you determine whether your Canadian clients are exposed to U.S. estate tax.

New U.S. estate tax rules

On January 2, 2013, President Obama signed the American Taxpayer Relief Act of 2013 (the Act) into law. The Act resolves many of the issues raised by the fiscal cliff.

Pursuant to the Act, U.S. estate tax liability of non-U.S. residents depends on the answers to the following two questions:

  1. Is the value of the U.S. estate more than $60,000?
  2. Is the value of the worldwide estate greater than $5,250,000?

If the fair market value (FMV) of U.S. assets is less than $60,000 on the date of death, then there is no U.S. estate tax. If the value of U.S. assets on death exceeds $60,000, a Canadian’s estate may still be exempt from U.S. estate tax if the value of his or her worldwide estate upon death is less than what is known as the “exemption.”

Worldwide exemption for 2013 and beyond

The Act provides an exemption from U.S. estate tax if a non-resident dies with a worldwide estate with a FMV of less than $5,250,000. This exemption amount is inflation-adjusted. Everything counts when calculating a Canadian client’s worldwide estate—including RRSPs and life insurance.

Additionally, when advising a married couple about U.S. estate tax exposure, it’s important to calculate the value of both spouses’ estates combined.

Clients often ask whether the U.S. estate tax is on the worldwide estate. The answer is no; the IRS does not tax a Canadian resident (who is not a U.S. citizen) on his or her worldwide estate.

The only assets that are subject to U.S. estate tax for Canadians are U.S. assets.

What are U.S. assets?

Common U.S. assets include real estate in the U.S. and personally held stocks of U.S. corporations, both public and private.

Here’s a complete list of U.S. assets subject to U.S. tax:

  • real estate property located in the U.S;
  • certain tangible personal property located in the U.S., such as furniture, vehicles, boats and airplanes;
  • golf club equity memberships;
  • shares of U.S. corporations, regardless of the location of the share certificates (even inside RRSPs or RRIFs);
  • interests in partnerships owning U.S. real estate or carrying on business in the U.S.;
  • U.S. pension plans and annuity amounts (IRAs and 401K plans);
  • stock options of a U.S. company;
  • U.S. mutual funds;
  • money owed to Canadians by American persons; and
  • money market accounts with U.S. brokerage firms.

The following is a list of U.S. assets not subject to U.S. estate tax:

  • U.S. bank deposits;
  • certain debt obligations, such as U.S. government bonds;
  • American depository receipts;
  • term deposits/guaranteed investment certificates;
  • real estate situated outside the U.S.;
  • Canadian mutual funds denominated in U.S. dollars that invest in U.S. stocks;
  • life insurance proceeds payable on the death of a Canadian citizen and resident who is not an American citizen; and
  • non-U.S. stocks, bonds and mutual funds.

Many Canadians own assets subject to U.S. estate tax with vacation homes and shares of U.S. corporations topping the list. How can you help clients who own these assets?

The following scenario provides some answers.

Strategies for Canadians who own U.S. assets

Richard is a Canadian citizen and resident, single, with a worldwide estate of $10 million. He owns an $800,000 property in Ft. Lauderdale, Fla.

Richard’s inherited 25% of the shares of four Florida corporations from his deceased father, which he estimates have a value of $200,000. Each corporation owns an apartment building in South Florida.

The chart “Example estimates” (this page) approximates Richard’s 2013 exposure to U.S. estate tax.

Tax planning for U.S. real estate

The goal of any tax-planning for a Canadian owner of U.S. real estate is to ensure the estate of the Canadian decedent is not subject to U.S. estate tax. Consequently, title should not be in his or her name. Alternative ownership structures include:

  • corporation;
  • cross-border trust (irrevocable or revocable); and
  • limited partnership.

These ownership structures avoid probate and guardianship proceedings in the case of incapacity and can defer or avoid U.S. estate tax.

Tax planning for stocks

Although Richard’s shares of U.S. stock are considered U.S. assets, there are tax-planning techniques for avoiding U.S. estate tax.

01 Sell

This may trigger capital gains tax in Canada, though Richard may have some capital losses to apply against it.

02 Create a Canadian holding corporation

Transfer the shares of U.S. stocks on a tax-free basis into a Canadian corporation, of which Richard is the shareholder.

Should Richard pass away with U.S. stock in his Canadian holding company, there will be no U.S. estate tax because Richard no longer owns shares of a U.S. company; he only owns shares of a Canadian holding corporation that owns shares of the Florida companies that Richard’s father passed on to him.

The U.S. Foreign Investment in Real Property Tax Act (FIRPTA) may apply to Richard’s transfer of U.S. stocks into a Canadian company. FIRPTA requires that 10% of the sale price or transfer value of U.S. real estate by a non-resident of the U.S. be withheld and remitted to the IRS. Richard can avoid this with proper structuring and reporting, which we’ll explain next time. No withholding will be required and no disposition will have occurred.

Example estimates of U.S. Estate Tax Payable for 2013

Article by:

David A. Altro

Of:

Altro Levy LLP

The Gift of Education Re: Estate Planning

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Many grandparents want to enrich the lives of their grandkids, but are not sure the best way to accomplish this with their estate plan. I encourage clients to consider helping their grandchildren with the future costs of education. The proper planning can help grandkids avoid hefty loans and be tax-efficient for the donor.

A grandparent may currently gift up to $14,000 per grandchild (or to anyone) per year tax free ($28,000 if a married couple gift-splits). Any gift over that amount requires the filing of a gift tax return.

However, if you pay for a grandchild’s education expenses directly to the provider (i.e., educational institution), the gift is excluded from your annual exclusion amount. For purposes of this exclusion, the term “educational institution” covers a broad range of schooling, such as primary, preparatory, vocational or university institutions. This kind of payment is also exempt from the generation-skipping tax (which is too complicated to explain herein, but can significantly reduce a grandparent’s gifting amount). In short, if you pay $40,000 to cover your grandchild’s tuition directly to the school, you can still gift up to $14,000 tax free to him or her in the same year. Some institutions may even allow a donor to pay upfront the applicable years of education at a locked-in tuition rate, so as to avoid rate hikes.

Another option to consider is a 529 college-savings plan. One of the biggest benefits of this plan is that it can continue operation when the grandparent is no longer around to write checks to an institution. A grandparent can gift up to the annual exclusion per year tax free, or make up to five years’ worth of the annual exclusion gift ($70,000 per single donor or $140,000 per couple) in one year to benefit a single individual. However, this has its drawbacks. If you gift the five year maximum amount in one year, any other annual exclusion gifts to that beneficiary for the next five years will incur gift tax consequences. Further, if you die within five years of the date of the gift, a prorated portion of the gift will be included in the estate tax calculation.

Article by:

Terri R. Stallard

Of:

McBrayer, McGinnis, Leslie and Kirkland, PLLC

The Effect of the Fiscal Cliff Deal on Estate Planning

An article by Susan C. Minahan with Michael Best & Friedrich LLP, The Effect of the Fiscal Cliff Deal on Estate Planning, was recently featured in The National Law Review:

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In an attempt to avert the “fiscal cliff” at the end of 2012, the American Taxpayer Relief Act of 2012 (the “2012 Act”) was passed by Congress on January 1, 2013, and signed into law by the President on January 2, 2013. The 2012 Act has significant impact on all taxpayers, and is a game changing piece of legislation in the estate, gift, and generation-skipping transfer tax area.

The 2012 Act permanently extends the $5,000,000 unified federal estate, gift, and generation skipping transfer (GST) tax exemptions implemented under the 2010 Tax Relief Act for all such transfers occurring after December 31, 2012. All three exemptions are indexed for inflation. As a result, the exemption amounts in 2013 are $5,250,000. The 2012 Act increases the maximum tax rate from thirty-five percent (35%) to forty percent (40%) for any transfers in excess of the exemption amounts.

The 2012 Act also permanently extends portability of unused estate tax exemption for married couples. Portability, a concept introduced in the 2010 Tax Relief Act, allows a surviving spouse to “port” or add a deceased spouse’s unused estate tax exemption amount to the surviving spouse’s exemption amount without the use of a traditional credit shelter trust. However, portability, as noted in our client alert dated December 20, 2010, should not be solely relied on as an estate planning substitute for several reasons. First, the ported amount can be lost if the surviving spouse remarries. Second, portability does not provide the same asset protection after the first spouse’s death that is provided by traditional credit shelter trust planning. Third, portability does not apply to the GST exemption; therefore, to leverage GST planning, careful dynasty trust planning is still necessary.

It should be noted that the exemptions are “permanent” only as long as Congress chooses not to change them (no tax law change should ever be considered “permanent” with a new Congress every two years).

In light of the 2012 Act and the current estate planning environment, estate planning is still necessary, and the following are continuing opportunities for transferring wealth:

Low Interest Rate Planning

Historically low interest rates continue to present the opportunity for intra-family low interest loans or refinancing of low interest intra-family loans. The January 2013 mid-term applicable federal rate (for 3-9 year loans) is 0.87%. Low interest rate loans can also be combined with gifting, resulting in larger tax free transfers. Sales to intentionally defective grantor trusts (IDGTs) and grantor retained annuity trusts (GRATs) are commonly used techniques for this type of planning, and the 2012 Act fortunately did not impose limits on GRATs, IDGTs or valuation discounts that had been proposed earlier. Congress may impose limits on the use of these techniques in the future, but at least for the time being, the window of opportunity for these techniques remains open.

GST Planning

Dynasty trusts that utilize the GST exemption can be used to transfer assets from generation to generation for multiple generations of a family, avoiding estate, gift, and GST tax at each generation. With the high exemptions, a single person can protect $5,250,000 and a married couple can protect $10,500,000, indexed for inflation, in this manner. In addition, as previously noted, GST exemption is not “portable” and therefore, dynasty trusts are important for married couples in protecting the GST exemption of each spouse. Limitations on the number of years a dynasty trust can run were also not part of the 2012 Act.

Asset Protection

Trusts remain an important part of estate planning, even for smaller estates, because they provide means of asset protection. Trusts can be used to protect assets from a beneficiary’s creditors, including a divorcing spouse. Trusts can also protect assets in the event a beneficiary becomes disabled. Lifetime irrevocable trusts also provide an estate and gift tax “freeze” for a donor’s estate at the value of the trust as of the date of the lifetime gift.

Annual Gifts

In addition to the lifetime gift tax exemption, each taxpayer may make annual exclusion gifts to any number of donees. The annual exclusion was indexed for inflation with the 2001 Act, and in 2013 the annual gift tax exclusion amount is $14,000 per donee.

The following are some other notable provisions of the Act that impact individuals:

  • Extends tax cuts for individuals with incomes under $400,000 and married couples under $450,000;
  • Raises the ordinary income tax rate from 35% to 39.6% for individuals with income over $400,000 and married couples with income over $450,000;
  • Raises capital gains and dividend tax from 15% to 20% for individuals with income over $400,000 and married couples with income over $450,000;
  • Overall limit on itemized deductions are reinstated for individuals with income over $250,000 and married couples with income over $300,000, which may impact lifetime charitable giving plans;
  • Permanently indexes the alternative minimum tax (AMT) for inflation;
  • Expands employees’ ability to convert traditional retirement accounts such as 401(k)s and 403(b)s into Roth accounts; and
  • Extends through 2013 the tax free IRA “rollover” to qualifying charities after age 70½ (Note: special rules relate to actions that may be taken in January of 2013 to treat contributions as being made during 2012).

© MICHAEL BEST & FRIEDRICH LLP

2012 Wealth Transfer Tax Laws: The Window of Opportunity is Rapidly Closing

An article by Glen T. Eichelberger, Mary Elizabeth Mason, Bridget O’Toole Purdie, and Brian P. Teaff of Bracewell & Giuliani LLP recently had an article featured in The National Law Review regarding Wealth Transfer:

The window of opportunity to take advantage of the currently applicable wealth transfer tax laws is rapidly closing, and once shut, it is possible that we may never see such generous estate planning opportunities again.

The unique estate planning opportunities currently available are a result of the “Tax Relief, Unemployment Insurance Authorization, and Job Creation Act of 2010” (2010 Act). The 2010 Act introduced the following:

  • $5,120,000 exemption per person for Federal estate, gift and generation-skipping transfer (GST) taxes
    • Highest exemptions ever available
  • 35% maximum marginal rate for the estate, gift and GST taxes
    • Lowest rate in decades
  • “Reunification” of estate, gift and GST tax exemptions
    • Greater Planning Flexibility
    • Acting together, a couple can give up to $10,240,000 of assets (outright or in trust)

In addition, President Obama’s 2013 Budget Proposal contains proposed rules which would restrict a person’s ability to transfer wealth to their children and more remote descendants. The 2013 Budget Proposal includes the following rules:

Restrict grantor retained annuity trusts (GRATs) to a minimum of 10 years

Elimination of the availability of certain valuation adjustments associated with family limited partnerships

The generous provisions of the 2010 Act are temporary and without further Congressional action, these provisions will expire on December 31, 2012.  Act now before it is too late, so that you can benefit from the current advantageous estate opportunities and ensure you are not affected by the proposed rules from the 2013 Budget Proposal.

© 2012 Bracewell & Giuliani LLP

Once Is Not Enough: The Importance of Regular Communication Between Testators and Their Lawyers

 

When it comes to estate planning, an ounce of prevention is worth a pound of cure. Equally important, continuing consultation with a knowledgeable lawyer need not be time consuming or costly. Periodic reviews can ensure that estate papers provide for changes in circumstances and the law that would later prove difficult and expensive to resolve when the testator’s wishes must be implemented.

The example of George Wagner serves as a cautionary tale. In 1961, George, a childless bachelor, executed a last will and testament providing for a testamentary trust on his death, without a residuary clause. He appointed a corporate trustee as his trustee and executor, and bequeathed his property on his death to the trustee, in trust, for the benefit of his sister, Elizabeth, while she lived. On Elizabeth’s death, the trustee was to end the trust and distribute its property “only” to the “Ancient Free and Accepted Masons of Maywood, Illinois, Maywood Lodge No. 869,” with no interest to vest until the “the day upon which the Trust herein created shall terminate.” When George died in 1978, his will was admitted to probate, the trustee was appointed executor as he wished, and the trust was created with funds of $250,000.

Elizabeth died in 1986 in California, but nobody told the trustee, who administered the trust funds until 1995, when it learned Elizabeth had died. By then, the trust funds totaled over $500,000. The trustee also learned that the Maywood Lodge had been disbanded in 1982 and merged into another Masonic lodge, Pleiades Lodge No. 478.

The trustee’s duty was to fulfill George’s testamentary objectives, but because George did not say how to distribute the trust funds if the Maywood Lodge ceased to exist, the trust could be interpreted in different ways. If George meant to benefit any Masonic lodge into which the Maywood Lodge merged, the trust funds should go to the Pleiades Lodge. If George meant to benefit “only” the Maywood Lodge, his bequest lapsed when the Maywood Lodge was dissolved, and the trust funds should be distributed under the law of intestacy.

To resolve this issue, the trustee filed a complaint for construction of the trust in court, asking for directions on how to distribute the trust funds. A genealogical search found two paternal cousins of George in California, and the trustee named them and the Masonic lodges as defendants to the suit. George’s cousins and the Pleiades Lodge each asserted exclusive rights to the trust funds. There were no surviving witnesses who might have had insight as to George’s testamentary intent. The court was left to decide which legal doctrine to apply in the circumstances.

The court might have chosen the doctrine of deviation, which applies when a situation arises that is not covered by a trust’s specific provisions and was not anticipated by the settlor or testator. Under this doctrine, the court must gauge the overall purpose of the trust and fulfill the settlor’s intent by authorizing deviation from the trust’s terms, ascertaining as best it can what the settlor most likely would have done in circumstances that he or she did not contemplate. There are similar doctrines for charitable trusts, but those did not apply because George’s will did not contain an expression of charitable intent.

Alternatively, the court might have chosen the clear language rule, which holds that the court’s primary goal is to ascertain the settlor’s intentions, initially by looking to the trust language. If the words of the trust instrument are clear, the court must presume that they express the settlor’s intention and apply the language verbatim, without resorting to evidence of intent existing outside the trust instrument.

The court would have had a hard time making a decision. George plainly did not want his property distributed to strangers and had not anticipated that the Maywood Lodge would cease to exist before Elizabeth died. These circumstances would have occasioned application of the doctrine of deviation. But the language of the instrument was also unambiguous: the trustee was to distribute the trust property “only” to the Maywood Lodge, thereby excluding the Pleiades Lodge and leaving the trustee no choice but to distribute the trust funds under the law of intestacy. Either way, the court would at best have been approximating George’s intent.

In the end, the court did not need to resolve the controversy. The putative claimants settled the case, dividing the trust funds evenly. But the situation need not have arisen. Had George even occasionally consulted with a lawyer knowledgeable in estate planning, he could easily have updated his will and testamentary trust to include viable contingent beneficiaries if the Maywood Lodge ceased to exist before the time came to distribute his trust funds, and to include a residuary clause to distribute any remainder.

The case shows why clients should cultivate an ongoing relationship with lawyers who are well versed in estate planning, keep abreast of developments in the law, and will serve as a continuing resource as circumstances and needs change.

© 2012 Much Shelist, P.C.