Short Lived Planning Opportunities for the Rest of 2012

The current gift tax exclusion is scheduled to expire at midnight on December 31, 2012, bringing to an end the highest exemptions ever seen. Under current law for 2012, each person has the ability to gift or dispose of assets at death of up to $5,120,000 without the imposition of a gift tax, estate tax or a generation-skipping transfer tax.

Unless Congress acts within the next 90 days or so (and in the current political climate that seems unlikely), the current exemption will revert to $1 million, and any amounts gifted that exceed $1 million will be taxed at the rate of 55%.

Since Congress will not act, you should act.  You should consider taking steps now to take advantage of the favorable tax laws before year-end. Whether you are in a position to give away assets, or need to still keep some control, there are some planning options that will let you take advantage of the exemptions:

1. Buy or transfer a life insurance policy:

Consider transferring existing life insurance policies to an irrevocable life insurance trust (ILIT) for the benefit of your family members or contributing funds to a trust to purchase a new policy.  The policy proceeds received by the trust can be payable at your death or at a later time.  If your irrevocable trust purchases a life insurance policy, the life insurance proceeds will be distributed to the named beneficiaries estate tax free upon your death.  In addition to avoiding estate tax, insurance policies have attractive income tax benefits. On the other hand, if you purchase a life insurance policy and hold it yourself as the owner, the proceeds will be part of your estate and subject to estate tax at up to the maximum tax rate (which is scheduled to revert to 55% in 2013).

2.  Outright Gifts:

The increased $5,120,000 gift tax exemption creates an opportunity to give away up to $5,120,000 of assets by the end of the year without paying the 35% gift tax.  In addition, gifts in excess of the $5,120,000 exemption amount will be taxed at the lower 35% rate.  Furthermore, under current law (which legislators have proposed changing), gifts of fractional interests in real property and minority interests in businesses may be “discounted,” or valued to reflect the lack of marketability and control associated with the gifted interest.  For example, a gift of a 20% interest in a business worth $10,000,000 might be valued for gift tax purposes at $1,500,000 rather than $2,000,000.

3.  Gifts in Trust:

If you are not yet ready to transfer significant wealth to your children or grandchildren outright, consider making such gifts in trust which can become available to your designated beneficiary at a chosen age or be maintained for generations.

4.  Spousal Lifetime Access Trust (SLAT):

For couples reluctant to actually make asset transfers to children because they are no longer able to access the assets for themselves, a SLAT eliminate any such fears. Under such a trust, a husband and a wife can each gift assets into a trust for the other and your children, that can be accessed by the other (since they will be the sole trustee) for the health, education, maintenance or support of any of these beneficiaries.  The assets in these trusts, once the two spouses pass away, including the appreciation on the assets that were gifted, will avoid estate taxation.  This is a very appealing planning vehicle because the spouse could continue to utilize the assets for living expenses.

5. Sell or loan assets to a trust:

If giving away a significant amount of wealth makes you uneasy, but you still wish to take advantage of current gifting opportunities, you may consider selling property or loaning funds to a trust for the benefit of your family members. As long as the transferred asset appreciates more than the interest rate you charge, you will have removed the future appreciation from your taxable estate while maintaining the current value of the asset for yourself. For this reason, this approach is often called an ‘estate freeze’ technique.

6. Create a trust that pays you dividends:

In a grantor retained annuity trusts (GRAT), the donor transfers assets to a trust and retains the right to receive an annual payment from the trust for a period of years. If the assets in the GRAT appreciate at a rate greater than the so-called hurdle rate, the excess appreciation will pass to the donor’s beneficiaries free of gift tax when the trust terminates.

7. Transfer your home:

Qualified Personal Residence Trusts (QPRT) are a perfect way to transfer your primary home or vacation home to your children over time.  As a result of depressed real estate prices, now is an opportune time to gift a residence.

8. Forgive a family loan:

If you have loaned money in previous years to family members, this is a good time to turn that loan into a tax-exempt gift. However, taxpayers who choose this tactic should be careful; the IRS has imposed taxes on forgiven loans in cases where there was no paper trail to show that those “loans” were not actually gifts at the time they were made. To create a paper trail where none currently exists, you might pursue this solution (with the help of a tax professional): Loan your family members the money needed to pay off the old loan, properly document the new loan, and then forgive it.

Regardless of your situation, we urge you to act quickly if you would like to take advantage of any of these planning opportunities. To discuss these tax savings opportunities, please contact a competent estate tax attorney.

Our law firm has helped hundreds of clients minimize and sometimes entirely avoid the estate tax.