2016 Estate & Estate Tax Planning

Nov 9, 2016
Estate Planning Trust Management & Settlement

Estate tax planning

Written by Greg Reese, President / CEO AmeriEstate Legal Plan, Inc.

Question: How much is the allowable gift and estate tax lifetime exemption amount for 2016?

Answer: the 2016 gift and estate tax lifetime exemption for 2016 will increase from $5,340,000 in 2015 to $5,450,000 per individual (or $10,900,000 for a married couple).

Question: What is meant by the “exemption amount”?

 Answer: The exemption amount is the amount of assets that can be gifted to others that are “exempt” from federal gift and estate tax.

Question: What is “Portability”?

Answer: Portability is an election filed on a timely estate tax return (IRS Form 706), the unused exemption amount of a deceased spouse may be claimed by a surviving spouse and added to the surviving spouse’s exemption amount. This new feature is known as “Portability” and was first included in the Tax Relief, Unemployment Reauthorization, and Jobs Creation Act of 2010.

Question: Are gifts or bequests to a spouse deductible?

Answer: Gifts or bequests to a spouse (outright or in trust) are generally deductible by the donor spouse. (If your spouse is not a US citizen, certain limitations may apply. We can walk you through these rules and the election rules for a deceased spouse described above.) Unchanged in 2016, each person has the ability to make annual gifts of up to $14,000 to as many individuals as they would like without reducing their exemption amount. This is called the “annual exclusion”. In addition, gifts may be made directly to educational institutions or medical providers on behalf of others without reducing your exemption amount. All other gifts that you make to individuals other than your spouse or qualified charities, during your lifetime and upon your death, are added together to determine your total lifetime gifts for federal gift and estate tax purposes.

Potential Trust Planning Opportunities in 2016

With “Portability” available for maximizing the available exemption amounts for married couples, many families currently using a Credit Shelter A/B Style Living Trust or QTIP  A/B/C style Living Trust may benefit from a review of their estate planning objectives and the means to achieve them.   A key feature of the A/B and A/B/C Living Trust was to create a mechanism to preserve the available exclusion amount of the first spouse to die.

Portability now provides another way to achieve this goal and in fact improves upon it, especially for those who are not able to capture the full exemption amount upon their death.    A downside of the A/B Style Living Trust is the fact that the Decedent’s B-Trust does not receive an additional Step-Up in basis after the death of the Surviving Spouse, while the Surviving Spouse’s A-Trust does.

Consider the following example.  John and Mary Smith had accumulated a $5M estate, mostly in real estate.  When John died in 2001, Mary undertook the required A/B Division dividing most of the real property equally among the Decedent’s B-Trust and the Survivor’s A-Trust.   As it was a 2nd marriage for both of them, they had originally named their own respective children to inherit their share of the Trust estate after the surviving spouse died.  In this case, John’s children would inherit the remainder of the B-Trust and Mary’s children would inherit the remainder of the A-Trust.  Mary passed away nearly 15 years later and in that time the combined estate had doubled to $10M.

The estate was subsequently liquidated and distributed to the heirs, $5M going to the children of John and $5M going to the children of Mary.  This was the fair and equitable distribution, John and Mary were hoping for…. or was it?

The amounts were the same, but the tax impact was different.  While Mary’s children received their inheritance free from all estate, income and capital gains taxes; John’s children incurred a capital gain of $2.5M and paid approximately $775,000 in State and Federal capital gains taxes.

Question: With today’s tax scheme and rules, how might we approach John and Mary’s estate differently given the same circumstances?

Answer: One approach could be to restate John and Mary’s Trust to an A/C style of Living Trust. The C-Trust would be a marital deduction trust to be created at John’s death instead of the credit shelter B-Trust.  Mary would still be provided for as she would have been with the B-Trust and his children would also be protected due to the irrevocable nature of the C-Trust.

The key difference is that Mary would elect Portability upon John’s death, securing the maximum exemptions available to both of them and the entire estate would receive a second step-up in basis upon Mary’s death, saving that $775,000 in capital gains taxes that John’s children had to pay in our original example.

For those couples with nuclear, non-blended families a Living Trust that is revocable throughout both spouse’s lifetimes, and which does not require an administrative division and ongoing separate management after the first spouse dies might be worth considering.

California Authorizes Transfer on Death (TOD) Beneficiary Deeds.

Effective January 1, 2016, a recently signed California law will allow revocable transfer on death deeds, or TOD deeds, to be recorded in California.

Question: What is a TOD deed?

Answer:  A TOD deed is a revocable beneficiary deed, involving the gift of a residence, which is signed, dated and notarized by the transferor. It must then, within 60 days of execution, be recorded with the county where the real property is situated.

The TOD deed, unlike other deeds, does not become a completed transfer (gift) until the transferor dies.

While the transferor is still alive, he or she can at any time revoke the TOD deed in the following ways:

  • By recording a written revocation with the same county recorder's office
  • By recording another TOD deed
  • Or by transferring or selling the real property and recording the irrevocable transfer deed.

The purpose of the TOD deed is to provide a less expensive option for those persons with simple estate planning goals that do not require a revocable living trust, or in those estate planning situations the joint tenancy or reserved life estate irrevocable deeds are not desirable approaches.

Specifically, consider a parent who wants to leave his or her residence without probate outright to one child whose circumstances do not necessitate the protection of a further trust. The TOD deed is intended for this simple situation.  Combined with a simple financial estate where it is possible to name Transfer on Death (TOD) beneficiaries to all of one’s financial accounts, may make this approach a simple, effective, and more affordable one.

Unlike the joint tenancy or the reserved life estate approaches the parent remains the sole owner till death and is free to do as he or she pleases with the residence.

Also, like the reserved life estate deed, when the parent dies the child receives a new tax basis equal to the date of death appraised value of the residence.

If, however, the parent intends that the residence is sold, after she dies, and the proceeds divided between multiple children, or if one or more of these children receives SSI or Medi-Cal, then a TOD deed may not be the answer and having a living trust with a single trustee in charge of settling the estate and a special needs trust for the children on SSI or Medi-Cal is still well worth the additional expense.

The TOD deed also does not protect against SSI or Medi-Cal claims, either those claims against the transferor or the transferee (gift recipient).

Because the TOD deed is revocable it is included in the transferor's estate for purposes of estate recovery claims related to the transferor’s receipt of needs based public benefits.

Thus, if the transferor him or herself received SSI or Medi-Cal benefits prior to death then California will place a lien on the residence when the transferor dies, regardless of the TOD deed.

Accordingly, the TOD deed is not really appropriate for someone wanting to avoid SSI or Medi-Cal estate recovery claims against their residence.

When multiple beneficiaries are involved, having one trustee in charge of marshaling, selling and distributing the decedent's trust assets – including assets other than the residence – will provide a compelling advantage over the TOD deed which results in multiple owners of the decedent’s residence having to cooperate amongst themselves regarding what becomes of the residence.

In summary, the TOD deed is not an equivalent to the revocable living trust. Rather, like the joint tenancy and life estate deeds, the TOD deed occupies a limited niche position.

The revocable living trust remains the most comprehensive and often times best approach to dealing with one’s estate planning needs.