Understanding Estate Planning and Probate Process

ESTATE PLANNING Jennifer Zelvin McCloskey | jzmac@udel.edu Director of Trust Management Minor | Instructor

Common Issue for Financial Planners Probate Trusts Taxes (Estate, Income, Gift)

PROBATE LEGAL PROCESS OF TRANSFERRING ASSET FROM DECEASED PERSON OWNERSHIP TO BENEFICIARY OWNERSHIP TRUSTS TAX EFFICIENT STRUCTURE CREATED TO CONTROL WEALTH DURING LIFE OR AFTER DEATH TO DEFER AND MINIMIZE TAXES, PROTECT WEALTH, AVOID PROBATE, CREATE GENERATIONAL WEALTH. SEPARATION BETWEEN LEGAL AND EQUITABLE OWNERSHIP.

TAXES 1. ESTATE TRANSFER TAX AFTER DEATH ($12M PER PERSON) 2. INCOME TAX IMPOSED ON ALL INCOME FROM WHATEVER SOURCE DERIVED (26 USC SECTION 61) 3. GIFT TAX IMPOSED UPON DONOR FOR GIFTS OVER $15K ANNUALLY

PROBATE APPLIES ONLY TO PROBATE ASSETS ALL TANGIBLE PERSONAL PROPERTY AND REAL ESTATE OWNED SOLELY OR AS TENANTS IN COMMON SOLELY (SEVERALLY) OWNED ASSETS OWN ALONE TENANCY IN COMMON FRACTIONAL OWNERSHIP IN COMMON WITH ANOTHER

PROBATE TRIGGERS WILL OR NO WILL (TESTATE OR INTESTATE) OFTEN AVOIDED BECAUSE IT IS TIME CONSUMING, PUBLIC, COSTLY, AND SUBJECT TO CREDITOR CLAIMS AVOIDED THROUGH TRUSTS, POD/TOD, BENEFICIARY DESIGNATIONS, JOINTLY OWNED ASSETS (JTWROS)

NON-PROBATE ASSETS JOINT TENANCY WITH RIGHT OF SURVIVORSHIP (JTWROS) (OPERATION OF LAW) BY CONTRACT (RETIREMENT VEHICLE OR ANY DESIGNATED BENEFICIARY) TRUST ASSETS

EXAMPLE # 1: WHAT IS SUBJECT TO PROBATE IF H DIES? ASSET OWNER AMOUNT Cash JTWROS $20,000 Brokerage Acct JTWROS $270,000 Husband 401K (Bene=wife) H $400,000 Husband IRA (Bene = wife) H $30,000 Wife 401(k) (Bene = Husband) W $175,000 Husband Life Insurance H $400,000 Wife Life Insurance W $400,000 Family home H $200,000

EXAMPLE # 2: WHAT IS SUBJECT TO PROBATE IF H DIES? ASSET OWNER AMOUNT Cash JTWROS $20,000 Brokerage Acct JTWROS $270,000 Husband 401K (Bene=wife) H $400,000 Husband IRA (Bene = wife) H $30,000 Wife 401(k) (Bene = Husband) W $175,000 Husband Life Insurance W $400,000 Wife Life Insurance H $400,000 Family home JTWROS $200,000

TYPICAL ESTATE PLAN FINANCIAL PLANNER SEE WILLS DOCUMENT THAT DIRECTS FINAL DISPOSITION OF PROPERTY OWNED AT THE TIME OF DEATH. VALIDITY LINKED TO PROPER EXECUTION DURABLE POWER OF ATTORNEY AUTHORIZES ANOTHER (AGENT) TO ACT ON BEHALF OF PERSON SIGNING (PRINCIPAL) LIVING WILL/ADVANCE HEALTHCARE DIRECTIVE AUTHORIZES HEALTHCARE AGENT AND END OF LIFE DECISIONS

GIFT TAXES ANNUAL EXCLUSION GIFTS: DE MINIMUS $15,000 PER PERSON ANNUALLY. CAN GIFT SPLIT IF MARRIED (DOUBLE THE GIFT TO EACH BENE) WITH SPOUSAL CONSENT LEGISLATIVE GRACE BDAY, HOLIDAYS, GRADUATION ETC.

GIFT TAXES ANNUAL EXCLUSION QUALIFICATIONS: 1. PRESENT INTEREST (GIFT INTO TRUST WITH CRUMMEY POWERS) 2. OUTRIGHT GIFT CRUMMEY REASONABLE PERIOD TO WITHDRAW IF NOT EXERCISED GIFT REMAINS IN TRUST

PRESENT V. FUTURE INTEREST PRESENT INTEREST BENE HAS IMMEDIATE RIGHT TO ENJOY OR ACCESS GIFT FUTURE INTEREST BENEFICIARY HAS A DELAYED RIGHT/EXPECTANCY UPON THE NATURAL TERMINATION OF THE PRESENT INTEREST

TAX-EXEMPT GIFTS QUALIFIED MEDICAL AND EDUCATIONAL TRANSFERS BEHAVIORAL TAXATION UNLIMITED PAYMENTS DIRECTLY TO INSTITUTION ON BEHALF OF ANOTHER TAX FREE NO GIFT TAX AND DEDUCTIBLE TO DONOR IN ADDITION TO ANNUAL EXCLUSION GIFTS

ESTATE TAX APPLICABLE CREDIT (UNIFIED GIFT AND ESTATE TAX CREDIT) = $12M PER PERSON SUNSET 2025 CANNOT GIFT SPLIT

INCOME TAX CONSIDERATIONS BASIS STEP-UP OR INHERITED BASIS BASIS STEPS UP TO FMV AT DOD OR ALTERNATIVE VALUATION DATE (ELECTION BY EXECUTOR AND VALUED AS OF 6 MONTHS AFTER DOD) WHEN ESTATE TAX CREDIT IS HIGH MAKES SENSE TO ALLOW BENES TO INHERIT ASSETS AT HIGHER STEPPED-UP BASIS RATHER THAN MAKING LIFETIME GIFTS TO TRUST

EXAMPLE STEPPED UP BASIS PAID $500 FOR STOCK WITH A CURRENT MARKET VALUE OF $2,000 GIFT STOCK TO CHILD, HE ASSUMES SAME COST BASIS OR CARRY OVER BASIS. THEY SELL THEN THEY ARE TAXED ON $1,500 IN CAPITAL GAIN (LONG OR SHORT TERM) BUT IF CHILD INHERITS STOCK AT YOUR DEATH THE COST BASIS OF THE STOCK IS $2,000. THEY SELL NO TAX CONSEQUENCE

FINAL TAX CONSIDERATION GENERATION SKIPPING TRANSFER TAX (GST) THE DUPONT, ROCKAFELLER, GETTY TAX IMPOSED ON TRANSFERS TO TWO OR MORE GENERATIONS BELOW GRANTOR/DONOR OR FOR UNRELATED INDIVIDUALS THOSE 37.5 YEARS YOUNGER THAN DONOR PREDECEASED PARENT EXCEPTION STEP INTO PARENT S GENERATION FLAT TAX 40%

THE GROSS ESTATE FOR ESTATE TAX CALCULATIONS PROPERTY OWNED BY DECEDENT LIFE INSURANCE OWNED BY DECEDENT JOINT TENANCY PROPERTY JOINT AND SURVIVOR ANNUITIES RETAINED LIFE INTERESTS RETAINED POWER TO AMEND/REVOKE REVERSIONARY INTEREST GIFT TAX PAID WITHIN 3 YEARS OF DE4ATH GENERAL POWER OF APPOINTMENT

NOT INCLUDED IN GROSS ASSETS TRANSFERRED TO IRREVOCABLE TRUST ASSETS GIFTED INTER VIVOS DECEDENT S INTEREST IN A LIFE ANNUITY DECEDENT HOLDS LIMITED POWER OF APPOINTMENT IN TRUST ASSETS

LIFE INSURANCE OWNED BY DECEDENT IF HAS POWER TO CHANGE BENE HAS POWER TO SURRENDER FOR CASH VALUE HAS POWER TO BORROW AGAINST VALUES HAS POWER TO PLEDGE OR ASSIGN POLICY HAS POWER TO REVOKE ANY ASSIGNMENT

3-YEAR RULE GENERAL RULE: INTER VIVOS GIFT BY DECEDENT DURING LIFE NOT INCLUDED IN GROSS ESTATE EXCEPTION: IF MADE WITHIN 3 YEARS OF DEATH GIFT IS INCLUDED IF IT IS (A) LIFE INSURANCE; (B) RETAINED INTEREST; (C) GIFT TAXES PAID

ESTATE TAX CALCULATION GROSS ESTATE MINUS FUNERAL EXPENSES, ESTATE ADMIN EXPENSES, DEBTS, TAXES, MORTGAGES, MEDICAL EXPENSES, LIENS, CASUALTY AND THEFT LOSS = ADJUSTED GROSS ESTATE TAXABLE ESTATE CALCULATION ADJUSTED GROSS ESTATE MINUS STATE DEATH TAXES, MARITAL AND CHARITABLE DEDUCTIONS = TAXABLE ESTATE

TRUSTS PURPOSES FOR USING TRUSTS PROFESSIONAL MANAGEMENT BY TRUSTEES MINIMIZE AND DEFER TAXATION (IRREVOCABLE ONLY) CREDITOR PROTECTION PREVENT ASSET WASTE (SPENDTHRIFT) SPLIT EQUITABLE INTEREST BETWEEN MULTIPLE GENERATIONS CHARITABLE PURPOSES

TYPES OF TRUSTS SIMPLE COMPLEX REVOCABLE IRREVOCABLE INTER VIVOS (DURING LIFE) TESTAMENTARY (AT DEATH EMBEDDED INTO A WILL) GRANTOR NON-GRANTOR

SIMPLE TRUST MUST DISTRIBUTE ALL INCOME ANNUALLY NO PRINCIPAL DISTRIBUTIONS NO CHARITABLE DEDUCTIONS TRUST INCOME IS TAXED TO BENEFICIARY (K1) NO ACCUMULATED INCOME PERSONAL EXEMPTION IS $300 NO STANDARD DEDUCTION

COMPLEX TRUSTS ALL TRUSTS THAT ARE NOT SIMPLE TRUST INCOME CAN BE ACCUMULATED IF DISTRIBUTED, TRUST INCOME IS TAXED TO BENEFICIARY BENEFICIARY INCOME TAX EXPOSURE IS LIMITED TO DISTRIBUTABLE NET INCOME (DNI) ALLOWS FOR POSSIBILITY FOR BENEFICIARY TO RECEIVE DISTRIBUTIONS TAX FREE EXEMPTION = $100 AND NO STANDARD DEDUCTION

REVOCABLE TRUSTS ALL REVOCABLE TRUSTS ARE GRANTOR TRUSTS GRANTOR PAY INCOME TAX ON THE TRUST GRANTOR CAN AMEND OR REVOKE AT ANY TIME WILL SUBSTITUTE NOT A TAX PLANNING TRUST IRREVOCABLE UPON DEATH OF GRANTOR

REVOCABLE TRUSTS ADVANTAGES: CONTROL RETAINED, GRANTOR CAN CONTINUE TO MANAGE ASSETS, CAN CONTINUE POS- MORTEM, AVOIDS PROBATE DISADVANTAGES: ATTORNEYS FEES, COST OF TRANSFERRING ASSETS, RISK OF PROBATE IF ASSETS ARE NOT TRANSFERRED

IRREVOCABLE TRUSTS GRANTOR RELINQUISHES CONTROL OVER TRUST PROPERTY AND MANAGEMENT AND RETAINS LITTLE TO NO RIGHTS TO CHANGE TRUST USED FOR HIGH LEVEL SOPHISTICATED TAX PLANNING (GIFT, INCOME AND ESTATE TAX PLANNING)

GIFT TAX EXPOSURE FOR TRUSTS WHEN ASSETS ARE TRANSFERRED BY GRANTOR IT IS TYPICALLY VIA GIFT TRANSFER REVOCABLE TRUSTS AND GRANTOR TRUSTS NO GIFT TAX BECAUSE THE GIFT IS NOT COMPLETED IRREVOCABLE TRUST IF GIFT IS IN EXCESS OF UNIFIED EXEMPTIONS GIFT TAX MAY BE DUE BECAUSE GIFT IS COMPLETED

ESTATE TAX RULES FOR TRANSFERS TO TRUSTS ASSETS TRANSFERRED TO REVOCABLE TRUST ARE INCLUDABLE IN GRANTOR S GROSS ESTATE ASSETS TRANSFERRED TO IRREVOCABLE TRUST ARE NOT UNLESS GRANTOR HAS A RETAINED INTEREST OR OTHER SUFFICIENT LEVEL OF CONTROL LIFE INSURANCE TRANSFERRED INTO A TRUST WITHIN 3 YEARS OF THE GRANTOR S DEATH IS INCLUDABLE IN THE ESTATE

GRANTOR TRUSTS TAXES PAID BY GRANTOR COVERED UNDER SPECIAL RULES OF THE IRC USED WHERE GRANTOR IS LOOKING TO MAKE INCOMPLETED GIFTS TO TRUST

GRANTOR RETAINED TRUST GRANTOR RETAINED ANNUITY TRUST (GRAT) GRANTOR RETAINED UNITRUST (GRUT) QUALIFIED PERSONAL RESIDENCE TRUST (QPRT) GRAT GRANTOR RETAINS A FIXED ANNUITY STREAM OF INCOME AND REMAINDER PASSES TO BENEFICIARY. NO ADDITIONAL CONTRIBUTIONS. USED FOR HARD TO VALUE ASSETS, LOW BASIS ASSETS EXPECTED TO APPRECIATE, GRANTOR WANTS BENE TO RECEIVE APPRECIATION, FIXED STREAM OF INCOME

NON-GRANTOR TRUSTS TRUST STRUCTURE IS SEPARATE TAXPAYER. MOST IRREVOCABLE TRUST ARE NON-GRANTOR VARIETY OF SOPHISTICATED PLANNING TECHNIQUES LIKE CREDIT SHELTER TRUSTS, MARITAL TRUSTS, SLAT, CRT, ETC.

PLANNING TECHNIQUES USEFUL FOR FINANCIAL PLANNERS INTRA-FAMILY LOANS TO SUPPORT BUSINESS TRANSACTIONS WITH MARKET INTEREST RATES BELOW MARKET INTEREST RATE RISKS: INTEREST MAY BE DEEMED A GIFT BY THE LENDER AND INCOME PAID IN INTEREST MAY BE DEEMED INCOME TO LENDER BY IRS

PLANNING TECHNIQUES USEFUL FOR FINANCIAL PLANNERS BARGAIN SALE OR PART GIFT/PART SALE TRANSACTION: PROPERTY IS SOLD BELOW MARKET VALUE. IRS DEEMS DIFFERENCE BETWEEN FMV AND TRANSFER PRICE TO BE A GIFT

PLANNING TECHNIQUES USEFUL FOR FINANCIAL PLANNERS FLP AND LLC: FAMILY LIMITED PARTNERSHIP (FLP) OR LIMITED LIABILITY COMPANY (LLC) OWNER CAN GIFT LIMITED PARTNERSHIP INTERESTS OR LLC MEMBERSHIP UNITS TO FAMILY MEMBERS WHILE RETAINING GP INTEREST OR CONTROLLING MEMBERSHIP UNITS IN LLC. ALLOWS FUTURE APPRECIATION OF ASSETS TO BE TRANSFERRED OUT OF OWNER S ESTATE UTILIZES UNIFIED CREDIT AND ANNUAL EXCLUSION FOR TRANSFERS

PLANNING TECHNIQUES USEFUL FOR FINANCIAL PLANNERS BUY-SELL AGREEMENT: CONTRACT PREDETERMINING DISPOSITION OF BUSINESS ASSETS WHEN BUSINESS OWNER DIES, RETIRES OR BECOME DISABLED

QUALIFIED DISCLAIMERS BENEFICIARY CAN DISCLAIM AN ASSET AND ALLOW IT TO PASS TO ANOTHER BENEFICIARY MUST BE IRREVOCABLE, IN WRITING, AND DONE WITHIN 9 MONTHS OF THE TRANSFER DISCLAIMING PERSON CANNOT RECEIVE ANY BENEFIT WHATSOEVER FROM THE ASSET AND CANNOT HAVE CONTROL