Advanced Estate Planning
The attorneys at Millhorn Elder Law Planning Group understand that no two clients are alike. Each family has specific needs and goals when it comes to preparing their estate plan. Whether you are considering asset protection or providing for the education of your grandchildren, our attorneys will help you plan your estate in a manner that meets your needs and goals. Below are descriptions of various Trusts to consider if you have advanced estate planning needs:
Click on Any of the Advanced Estate Planning Areas Below to Learn More:
- Asset Protection with a Revocable Trust
- Self-Settled Asset Protection Trust
- Private Foundation
- Charitable Lead Trust
- Charitable Remainder Trust
- Irrevocable Life Insurance Trust (ILIT)
- Grantor Retained Annuity Trust (GRAT)
- Stand-Alone Education Trust
- Alaska Community Property Trust
- Inheritor’s Trust
- Qualified Personal Residence Trust
- Young Person’s Trust
- Family Bank Trust/Lifetime Bypass Trust
- Dynasty Trust
- Physician Planning
- Stand-Alone Retirement Trust
- Special Needs Trust
Asset Protection with a Revocable Trust
A revocable trust provides no asset protection for the trust maker during his or her life. Upon the death of the trust maker, however, or upon the death of the first spouse to die if it is a joint trust, the trust becomes irrevocable as to the deceased trust maker’s property and can provide asset protection for the beneficiaries, with two important caveats. First, the assets must remain in the trust to provide ongoing asset protection. In other words, once the trustee distributes the assets to a beneficiary, those assets are no longer protected and can be attached by that beneficiary’s creditors. If the beneficiary is married, the distributed assets may also be subject to the spouse’s creditor(s), or they may be available to the former spouse upon divorce.
Trusts for the lifetime of the beneficiaries provide prolonged asset protection for the trust assets. Lifetime trusts also permit your financial advisor to continue to invest the trust assets as you instruct, which can help ensure that trust returns are sufficient to meet your planning objectives. The second caveat follows logically from the first: the more rights the beneficiary has with respect to compelling trust distributions, the less asset protection the trust provides. Generally, a creditor ‘steps into the shoes’ of the debtor and can exercise any rights of the debtor. Thus, if a beneficiary has the right to compel a distribution from a trust, so too can a creditor compel a distribution from that trust. [Top of Page]
Self-Settled Asset Protection Trust
Most states prohibit so-called ‘self-settled’ asset protection trusts, or a trust you establish yourself for your benefit, yet which purports to protect the trust assets from creditors. However, there is a trend among the states to allow these types of trusts, and several states have recently changed their laws to permit them including Alaska, Delaware, Nevada, Rhode Island, South Dakota, and Utah and a few others.
With a domestic self-settled asset protection trust, you irrevocably transfer assets to the trust and name yourself as a beneficiary to receive distributions within the discretion of an independent trustee. You may, however, retain certain rights, including the right to remove and replace the trustee as long as the replacement trustee is also independent and not a related or subordinate party as defined in the Internal Revenue Code. By retaining a limited power to appoint the trust assets to specific family members at your death, the transfer is incomplete for gift tax purposes and therefore you are not required to file a federal gift tax return. If the trust is designed as incomplete for gift tax purposes, the trust remains part of your estate but the assets should remain free from the claims of your creditors. If designed as a completed gift for tax purposes, others will be the primary beneficiaries but you might still entitled to receive discretionary needs benefits should you be without sufficient resources to maintain your lifestyle.
The self-settled asset protection trust laws vary from state to state and, therefore, there may be advantages to selecting one state’s laws over another in your particular circumstances. Fortunately, you can elect to have your trust governed by a particular state’s statute as long as you meet the requirements of that statute, which typically include that the trust assets be located within that state and managed by a local trustee. Note that self-settled asset protection trusts are only effective for future creditors, as the fraudulent transfer laws of all states prohibit transfers to avoid existing creditors. Also, the trust must be in existence for at least 10 years to protect you against creditors in bankruptcy. [Top of Page]
A private foundation is a non-governmental, nonprofit organization having a principal fund of its own, managed by its own trustees or directors, and established to maintain or aid social, educational, charitable, religious or other activities serving the common welfare. A private foundation may serve as a private, family controlled receptacle for charitable contributions by family members, trusts established for their benefit (including charitable remainder trusts and charitable lead trusts) or family business entities.
A private foundation is established as a nonprofit corporation or trust under state law and obtains tax-exempt status for federal income tax purposes by filing an exemption application with the Internal Revenue Service. In addition, a private foundation may be required to obtain additional exemptions from state and local income and/or property taxes. A private foundation operates under the scrutiny of the Internal Revenue Service and the Attorney General of the state in which the private foundation is organized and operates.
There are several types of private foundations. The most common variety of private foundation is a non-operating private foundation, which serves to make grants to other nonprofit charitable organizations (typically established public charities). The basic role of the non-operating private foundation is to receive and hold funds as an endowment, and to give its income and possibly a portion of its corpus to other entities that operate for charitable purposes. The scope of permissible recipients includes all types of charitable organizations, ranging from large, established public charities such as United Way and the American Heart Association, to churches, colleges, universities and hospitals, to smaller local charitable organizations. A non-operating private foundation may make distributions for use in foreign countries, though such distributions are typically made to the U.S. affiliate of a foreign charitable organization.
The private operating foundation is a type of private foundation which directly carries on an exempt activity, and which uses a specified portion of its assets and/or income for its exempt purpose. Examples of private operating foundations include certain museums, cultural centers and educational institutions. Private operating foundations generally do not differ significantly in their activities from charitable institutions that constitute public charities for income tax purposes. The significant difference between a private operating foundation and a public charity is the level of support which a public charity receives from members of the general public (typically 1/3 or more of the organization’s support), whereas the private operating foundation generally receives its support from the members of one family and/or related entities established by or for the members of that family.
There are significant income, estate and gift tax benefits which flow from the establishment and funding of a private foundation, and the use of a private foundation has substantial estate and gift tax benefits to donors. Contributions to private foundations (both operating and non-operating foundations) are deductible for federal gift and estate tax purposes. The private foundation may be funded during the donor’s lifetime or may receive the bulk of its funding from distributions from the donor’s revocable living trust at the donor’s death. In addition, the private foundation may serve as the charitable receptacle for distributions from charitable remainder trusts and/or charitable lead trusts established by the donor.
Significantly, the private foundation may provide a tremendous opportunity for donors to educate family members as to the donors’ philanthropic goals, and may also provide younger family members with a sense of responsibility and stewardship of family wealth. The private foundation may be structured to limit the scope of its charitable activities, by defining the permissible donees for charitable distributions, or may be structured to allow for unlimited charitable activities. Moreover, the private foundation may employ family members (subject to limitations as to reasonable compensation) to coordinate the foundation’s activities for generations to come. [Top of Page]
Charitable Lead Trust
The Charitable Lead Trust is a type of charitable trust that can reduce or virtually eliminate all estate tax on wealth passing to heirs. In order to accomplish this goal, you create a trust that grants to a charity or charities, for a set number of years, the first or ‘lead’ right to receive a payment from the trust. At the end of the term of years, your children or grandchildren receive the balance of the trust property’which often is greater than the amount contributed’free of estate tax in most instances. Although the Charitable Lead Trust is a complex estate planning strategy, the steps to implement it are few and simple from your perspective. Here is how one of the most frequently used Charitable Lead Trusts, the Charitable Lead Annuity Trust, operates:
You, as grantors, create a Charitable Lead Trust as part of your revocable living trust planning. Upon the death of the survivor of the two of you, a substantial amount of property will pass to the Charitable Lead Trust. The income beneficiary of the Charitable Lead Trust will be a qualified charitable organization, chosen by the two of you or by the survivor of you, named in your revocable living trust. The charitable income beneficiary receives a fixed, guaranteed amount from the trust for a certain number of years (determined by you with the assistance of your legal and financial advisors). Generally, any charity that has received tax-exempt status through an IRS determination qualifies, but this is not always the case. It is possible for you to name a private foundation established by you as the charitable beneficiary. If so, you must have very limited authority over which charity is to receive money from the foundation. Too much control while you are alive will result in adverse tax consequences.
At the end of the Charitable Lead Trust’s term, the remaining assets in the trust pass to non-charitable trust beneficiaries such as children and grandchildren, free of estate and gift tax. These assets can pass outright to the beneficiaries, or can continue to be held in trust, either in new trusts or in trusts previously established for the benefit and protection of beneficiaries.
The charity will receive the same dollar amount each year, no matter how its investments perform. The remainder interest ultimately passing to the heirs, however, will be affected by the performance of the trust’s investments.
Charitable Lead Annuity Trusts are particularly suited for hard-to-value assets (such as real estate or family limited liability company interests) and assets which are expected to grow rapidly in value. [Top of Page]
Charitable Remainder Trust
The Charitable Remainder Trust (‘CRT’) is a type of trust specifically authorized by the Internal Revenue Code. These irrevocable trusts permit you to transfer ownership of assets to the trust in exchange for an income stream to the person or persons of your choice (typically you, your spouse or you and your spouse) for life or for a specified term of up to 20 years. With the most common type of Charitable Remainder Trust, at the end of the term, the balance of the trust property (the ‘remainder interest’) is transferred to a specified charity or charities. Charitable Remainder Trusts reduce estate taxes because you are transferring ownership to the trust of assets that otherwise would be counted for estate tax purposes.
A Charitable Remainder Trust can be set up as part of your revocable living trust planning, coming into existence at the time of your death, or as a stand-alone trust during your lifetime. At the time of creation of the CRT you or your estate will be entitled to a charitable deduction in the amount of the current value of the gift that will eventually go to charity. If the income recipient is someone other than you or your spouse there will be gift tax consequences to the transfer to the CRT.
Charitable Remainder Trusts are tax-exempt entities. In other words, when a Charitable Remainder Trust sells an asset it pays no income tax on the gain in that asset. Therefore, after a sale the trust has more available to invest than if the asset were sold outside of the Charitable Remainder Trust and subject to tax. Accordingly, Charitable Remainder trusts are particularly suited for highly appreciated assets, such as real estate and stock in a closely held business, or assets subject to income tax such as qualified plans and IRAs. While the Charitable Remainder Trust does not pay tax on the sale of its assets, the tax is not avoided altogether. The payments to the income recipient will be subject to tax.
There are several types of Charitable Remainder Trusts. For example, the Charitable Remainder Annuity Trust pays a fixed dollar amount (for example, $80,000 per year) to the income recipient at least annually. Another type of CRT, the Charitable Remainder Unitrust, pays a fixed percentage of the value of the trust assets each year to the income recipient (for example, 8% of the value as of the preceding January 1). A third type, perhaps the most common, allows you to transfer non-income producing property to the CRT and have the trust convert to a Charitable Remainder Unitrust upon the sale or happening of a specified event, for example upon reaching a specified retirement age.
At the end of the term of a Charitable Remainder Trust, the remainder interest passes to qualified charities as defined under the Internal Revenue Code. Generally, any charity that has received tax-exempt status through an IRS determination qualifies, but this is not always the case. It is possible for you to name a private foundation established by you as the charitable beneficiary. [Top of Page]
Irrevocable Life Insurance Trust (ILIT)
Life insurance is a unique asset in that it serves numerous diverse functions in a tax-favored environment. Life insurance proceeds are received income tax free and, if properly owned by an Irrevocable Life Insurance Trust, life insurance proceeds can also be received free of estate tax.
An Irrevocable Life Insurance Trust (ILIT) is one of the most popular wealth planning devices. It is a trust designed to own a life insurance policy, usually on the lives of you and your spouse. You gift funds to the trust periodically and the trustee uses the funds to pay premiums on the life insurance policy. The trust is designed to produce benefits for your family.
• Make current gifts to family members.
• Accumulate assets outside the client’s taxable estate.
• Protect assets from claims of creditors.
• Avoid income tax on the accumulation of funds.
• Avoid estate tax upon the distribution of funds to the family.
• Create a source of liquidity to cover estate taxes or expenses.
• Replace assets that may have been given to charity. [Top of Page]
Grantor Retained Annuity Trust(GRAT)
The Grantor Retained Annuity Trust (‘GRAT’) is a type of trust specifically authorized by the regulations interpreting the Internal Revenue Code. This type of irrevocable trust permits you to make a lifetime gift of assets to an irrevocable trust in exchange for a fixed payment stream for a specified term of years.
At the end of the term of years, the balance of the trust property (the ‘remainder interest’) is transferred to the beneficiaries of your choice, typically children or grandchildren. The Grantor Retained Annuity Trust reduces estate taxes by removing assets from those that are counted in your estate for estate tax purposes.
The gift for federal gift tax purposes is based upon IRS published interest rates at the time of the transfer. This rate does not take into consideration any future appreciation in the value of the property and therefore you can reduce the value of the gift to as low as zero. The Grantor Retained Annuity Trust is particularly suited for assets that are expected to grow rapidly in value and property subject to discounts, such as interests in closely held businesses or limited liability companies.
During the term of years of the trust you must be paid a fixed amount annually or more frequently (for example, quarterly). The term of years and the amount of the payment are fixed at the time you create the trust (determined by you with the assistance of your legal and financial advisors).
During the term of years of the trust you can be the sole trustee or a cotrustee of the trust with complete control over all decisions of the trust and the assets in the trust.
Because the Grantor Retained Annuity Trust is a ‘grantor trust’ under the income tax laws, during the initial term of years you are treated as the owner of the property for income tax purposes. Therefore, all items of income, gain, loss and deduction with respect to the Grantor Retained Annuity Trust are treated on your personal income tax return.
If you die during the term of years the property in Grantor Retained Annuity Trust will be counted in your estate for estate tax purposes, but you will be no worse off than had you not created the trust. [Top of Page]
Stand-Alone Education Trust
A Stand-Alone Educational Trust is a type of trust that can pay for educational expenses, solve income tax issues, and provide an important piece of your estate plan. These trusts are specifically designed to manage socalled 529 plans, named after the Code section that creates these state sponsored savings plans. More and more clients are using 529 Plans as an educational savings vehicle for their children, grandchildren and other family members. These vehicles are immensely attractive because they are estate tax free, income tax free, and in some states protected from creditors. However, as you invest more and more money in 529 Plans, it becomes more critical that these assets are managed properly during your lifetime and after death.
A 529 Plan combined with an Educational Trust provides more flexibility to move assets between siblings (the one in medical school will need more money), and just as importantly, provides a smooth transition should you become incapacitated or die. Significantly, the trust funds can also be returned to you should you experience a financial emergency. You can create one Education Trust for all beneficiaries, or one trust for each beneficiary as his or her ‘special’ gift. [Top of Page]
Alaska Community Property Trust
The Alaska Community Property Trust is a specific type of trust that allows you to transfer assets to children and grandchildren in an asset protected manner while reducing or eliminating income tax on highly appreciated assets. Under the Internal Revenue Code, when someone sells an asset they must pay income tax on the amount above their ‘basis’ in the property. In its most simplified sense, basis is the amount you paid for an asset when you purchased it, or if you received it by gift, it is the donor’s basis in the property. For example, if you purchased 100 shares of a stock for $10 per share, your basis would be $1000. If you sold these shares today you would pay income tax (at capital gain rates) on the sale price less $1000.
The Internal Revenue Code also provides that when an individual dies, most property that he or she owns receives a ‘step up’ in basis to its fair market value on the date of death. With a married couple, in the majority of states (the so-called Separate Property States), only that property owned by the deceased spouse receives this basis adjustment. Therefore, if each spouse owns 50% of the property, one-half of their property receives a step-up in basis.
However, married couples who live in the ten Community Property states (Alaska, Arizona, California, Idaho, Louisiana, New Mexico, Nevada, Texas Washington, Wisconsin) and hold their property as community property receive a full ‘step up’ in basis to the date-of-death value upon the death of the first spouse to die. Thus, residents of community property states receive a significant capital gains tax benefit by holding appreciated property as community property.
The Alaska Community Property Trust permits non-Alaska residents to ‘borrow’ the Alaska Community Property law and avoid capital gains on their highly appreciated property upon the death of the first spouse. With this strategy, you transfer highly appreciated property to a trust drafted to take advantage of the Alaska Community Property Trust law, which includes the requirement that an Alaskan Trustee oversee the trust property. Then, upon the death of the first of you to die, the entire property steps up to its date-of-death fair market value. The survivor of you or your beneficiaries can then sell the property and be subject only to post death gains. [Top of Page]
An Inheritor’s Trust is a trust established for the specific purpose of receiving an inheritance in a manner that is protected from your creditors and excluded from your estate for federal estate tax purposes. The laws of nearly every state, including ours, prohibit so-called ‘self-settled trusts’ – an irrevocable trust you establish yourself for your benefit, yet which purports to protect the trust assets from your creditors. Therefore, once you receive an inheritance, you cannot asset protect the inheritance yourself. However, if you are expecting an inheritance – for example, from a parent or grandparent – and that person is unable or unwilling to set up your inheritance in an asset-protected trust, you can protect these assets yourself by creating an Inheritor’s Trust to be the recipient of the inheritance. An Inheritor’s Trust legally protects the inherited assets from creditors and divorce yet allows you to access them as necessary. This trust also removes the assets from your estates so that these assets will not be subject to federal estate tax upon your death. You can even have the ability to appoint these assets at your death to a trust that will provide similar protections to your children and grandchildren, yet be exempt from federal estate and generation skipping transfer taxes for generations. [Top of Page]
Qualified Personal Residence Trust (QPRT)
A Qualified Personal Residence Trust (‘QPRT’) is a type of trust specifically authorized by the Internal Revenue Code. It permits you to transfer ownership of your residence to your family during your lifetime and retain the exclusive right to live in the residence, while reducing the size of your estate for estate tax purposes.
The residence is transferred to the Qualified Personal Residence Trust for a designated initial term of years. Provided you survive the initial term of years, ownership of the residence will be transferred to your family at a fraction of its fair market value. If you die during the initial term of years the property will be brought back into your estate, but you will be no worse off than had you not created the Qualified Personal Residence Trust. You may transfer up to two (2) personal residences into Qualified Personal Residence Trusts.
The Qualified Personal Residence Trust is a particularly noteworthy estate planning tool to reduce federal estate taxes because it permits you to transfer a residence out of your taxable estate while retaining the right to use it during your lifetime. The gift for federal gift tax purposes is based upon IRS published interest rates at the time of the transfer, and this rate does not take into consideration actual appreciation in the value of the property. Accordingly, these trusts are particularly useful to transfer residences in which significant future appreciation is anticipated. The Qualified Personal Residence Trust permits you to continue to enjoy your residence, knowing that the value at the date of death will not be included in your estate.
During the term of years of the trust you have the absolute right to remain in the residence rent free. After the initial term you can be granted the right to rent the residence for the balance of your lifetime for its fair rental value.
During the term of years, you can be the sole trustee or a cotrustee of the trust with complete control over all decisions of the trust and the assets in the trust. You may also sell the residence and buy another residence during the trust term.
Because the Qualified Personal Residence Trust is a ‘grantor trust’ under the income tax laws, during the initial term of years you are treated as the owner of the property for income tax purposes. Therefore, all items of income, gain, loss and deduction with respect to the trust are treated on your personal income tax return. So for example, the deduction for real estate taxes remains available to you. In addition, favorable capital gains treatment, including capital gain rollover and the $250,000 exclusion of gain are still available to you. [Top of Page]
Young Person’s Trust
As the custodian of UTMA or UGMA assets (Uniform Transfer/Gift to Minor Acts), you are responsible for investing those assets for the child’s benefit. However, once the child attains 21 years (18 in some states), that child has the absolute right to control these assets – and do with them assets as he or she pleases. This is one of the significant disadvantages of UTMA and UGMA accounts.
A Young Person’s Trust is a type of trust that allows you to continue to manage these assets after the child attains age of majority. The child creates his or own revocable living trust (and ancillary documents) naming you as sole trustee, adding child as co-trustee upon attainment of a specified age (e.g., 25 or 30). The child may be made sole trustee after a specified period. The child then funds the UTMA or UGMA assets into the revocable trust upon attaining majority. This strategy creates an estate plan for the child and, further, creates a trustee-in-training program so that the child can better manage his or her assets as trustee. [Top of Page]
Family Bank Trust/Lifetime Bypass Trust
A Family Bank Trust, or Lifetime Bypass Trust, is a type of irrevocable trust that provides complete asset protection for your spouse and descendants, and removes the trust assets from your estate and the estates of your spouse and descendants for estate tax purposes. This type of trust is very similar to a ‘bypass’ trust (one that bypasses federal estate tax) at death. With a Family Bank Trust, you irrevocably transfer assets (typically up to $240,000, but no more than $1 million) to a trust of which your spouse is trustee (or co-trustee) and beneficiary. Your children and other descendants can also be beneficiaries during your spouse’s lifetime, or they can be remainder beneficiaries after the death of your spouse. You can also give your spouse the power to appoint, at death, the trust assets for your benefit during your lifetime if your spouse predeceases you. Both spouses can create similar trusts for each other’s benefit, and thereby obtain the asset protection and estate tax benefits, but the trusts cannot be identical in all respects. [Top of Page]
Imagine structuring a gift in such a way that it provides for generations of benefits to your descendants. Imagine creating a plan that ensures that every one of your heirs will always have the money to get a proper education, start a business, or pursue their dream.
These are the goals ‘ and the reality ‘ of dynasty trust planning. Under the laws of some states, you can make sure that whatever money or other property you leave behind will remain in trust and available for the use and enjoyment of generations of your heirs. [Top of Page]
As a physician you have special talents and responsibilities. Those responsibilities often carry added liability. Many doctors even feel like they’re walking around with a target on their back.
Planning for physicians contemplates not only helping you properly structure your own incapacity and estate planning, but it also contemplates strategies to streamline your income tax profile, coordinate various business aspects of your professional practice, and provide a measure of protection from lawsuits. [Top of Page]
Stand-Alone Retirement Trust
IRAs and qualified plans create a unique planning challenge in that these assets are subject to income tax when received by the beneficiary. One way to help reduce the tax impact is to structure these accounts to provide the longest term payout possible; deferring income tax as long as possible minimizes the overall tax impact and allows the account to grow tax free. To achieve this maximum ‘stretch-out’, you should name individuals who are young (e.g., children or grandchildren) as the designated beneficiary of your tax-qualified plans and, significantly, the beneficiary should take only those minimum distributions that are required by law. The younger the beneficiary, the smaller these required minimum distributions. By naming a trust as the beneficiary of your tax-qualified plans, you can ensure that the beneficiary defers the income and that these assets remain protected from creditors or a former son or daughter-in-law. We recommend that this trust be a stand-alone Retirement Trust (separate from your revocable living trust and other trusts) to ensure that it accomplishes your objectives while also ensuring the maximum tax deferral permitted under the law. This trust can either pay out the required minimum distribution to the beneficiary or it can accumulate these distributions and pay out trust assets pursuant to the standard you set in advance (e.g., for higher education, etc.) [Top of Page]
Special Needs Trust
A Special Needs Trust is a trust that can supplement the needs of a special needs beneficiary while allowing the beneficiary to maintain his or her governmental benefits, including Supplemental Security Income (SSI), Social Security and Medicaid. With medical advancements, persons with disabilities are living longer and public benefits are often necessary, yet there is no guarantee that public benefits will provide adequate resources over the disabled person’s lifetime, or that existing public agencies will continue to provide acceptable services and advocacy over a disabled person’s lifetime.
If the special needs trust is established by you or someone other than the disabled person and the disabled person does not have the legal right to demand trust assets, the trust is not considered a ‘countable resource’ for purposes of government benefits. Therefore, the special needs trust beneficiary can continue to receive benefits even though he or she is a trust beneficiary. The trust will give the trustee the discretion to make distributions to the beneficiary to the extent possible without reducing benefits, and trust assets are available if the beneficiary no longer qualifies for governmental assistance or that assistance is no longer available.
If the trust is established on the beneficiary’s behalf pursuant to court order, for example as part of a personal injury settlement, the trust will not impact the beneficiary’s eligibility, but it may need to include a ‘payback’ provision that reimburses the state for its assistance before trust assets pass to the trust’s other beneficiaries.
Common savings vehicles for children, like Uniform Transfer to Minor Acts (UTMA) accounts, typical trusts, or designating a retirement plan, insurance policy or annuity directly to an SSI or Medicaid recipient will cause a reduction or elimination of public benefits. Recognizing this, some parents make the difficult decision to disinherit their special needs children, but this severe action is unnecessary.
If you are interested in learning more about the legal assistance our attorneys can provide in drafting a advanced estate planning documents, please contact our firm at (352) 753-9333. [Top of Page]