Topics & 2011 Minnesota and IRS Estate Tax Comparisons 2. Qualified Small Business and Farm Property Exclusion 3. Estate Tax Common Mistakes 4. Fiduciary Tax Common Mistakes 5. Communication and System Changes at the Department
2010 & 2011 Estate Tax Minnesota M706 Exemption Amount of $1,000,000 Filing Requirement: Gross Estate Exceeds $1,000,000 or Federal Filing Requirement Non-Residents with MN situs property Federal 706 Exemption Amount of $5,000,000 Filing Requirement: Gross Estate, Plus Adjusted Taxable Gifts & Specific Exemption, Exceeds $5,000,000
IRS “Opting Out” For 2010 Decedents who died in 2010 could either choose to have: A) Estate tax and a step-up in basis or B) No estate tax and a modified carryover basis “Opting Out“ of Federal estate tax required the timely filing of Form 8939 to the IRS
How “Opting-Out” Affected MN Federal Elections Are Not Allowed: Alternate Valuation Special Use Valuation Qualified Domestic Trust Election(QDOT) Federal Qualified Terminal Interest Property(QTIP)
How “Opting-Out” Affected MN Federal modified basis adjustments controls for Minnesota income tax purposes Minnesota Statutes, Chapter 290 Minnesota individual income tax uses federal taxable income as its starting point. Basis for Minnesota purposes is the same as federal basis unless a Minnesota modification applies. (Minnesota Modifications M.S , subd 19(a), subd 19(b), and subd 19(f) ) Unless a Minnesota Modification applies, basis for beneficiaries on inherited assets is the same for Minnesota purposes as it is for federal purposes. This is true regardless of whether a Minnesota estate tax return is required or not.
When Gifts Make a Difference Gifts create MN estate tax when… 1. The taxable estate is under $1,000,000 but the gross estate is over $1,000,000 (gift taxes paid on gifts made within 3 years of death are included in the gross estate) 2. The gross estate is under $1,000,000 but the federal filing requirement is triggered (gross estate plus lifetime taxable gifts triggers the federal filing requirement) Certain gifts are ALWAYS taxable for MN purposes 1. Transfers with retained life estate 2. Transfers taking effect at death 3. Revocable transfers 4. Life insurance proceeds
Qualified Small Business and Farm Property Exclusion Topics: 1. Summary and Requirements 2. Commonly Asked Questions Fact sheet on our website
Exclusion Summary Decedents dying after June 30, 2011 Continuously owned qualified small business property or qualified farm property for the three-year period ending at decedent’s death Passed qualified property at death to a qualified heir Exclusion cannot exceed $4 million Pay recapture tax if the heirs default
Qualified Heirs & Family Members A “qualified heir” is a “family member” who acquired the property from the decedent. A “family member” is: the decedent’s ancestors (parent, grandparent, etc.); the decedent’s spouse; a lineal descendant (child, grandchild, etc.) of the decedent, of the decedent’s spouse or of the decedent’s parents; or the spouse of any lineal descendant described above.
Qualified Small Business Property Exclusion Requirements 1. The value of the property is included in the decedent’s federal adjusted taxable estate (after deductions, including debts, expenses and bequests to a surviving spouse) 2. The property consists of a trade or business property. 3. The decedent or spouse materially participated in the trade or business during the taxable year that ended before the decedent’s death. 4. The trade or business had gross annual sales of $10 million or less during the last taxable year that ended before the decedent’s death. 5. The property does not consist of cash or cash equivalents. 6. The estate and qualified heir agree to pay the recapture tax, if applicable.
Qualified Farm Property Exclusion Requirements 1. The value of the property was included in the decedent’s federal adjusted taxable estate, which is after deductions, including debts, expenses and bequests to a surviving spouse. 2. The property consists of a farm meeting the requirements of M.S The property was classified for property tax purposes as the homestead of the decedent or spouse under M.S The property was classified for property tax purposes as class 2a property under M.S , subd The estate and qualified heir agree to pay the recapture tax, if applicable.
Recapture Tax is Imposed if… 1. The qualified heir disposes of any interest in the qualified property (other than by a disposition to a family member), or 2. A family member ceases to use the qualified property in the operation of the trade or business during the three years following decedent’s death. The recapture tax equals 16% of the value excluded. The recapture tax must be paid to the Department within six months after the date of disqualifying disposition or cessation of use.
Signing the Recapture Agreement Question: Who has to sign the recapture agreement? Answer: The personal representative of the estate and the qualified heirs that received the excluded property are required to sign the agreement.
Operating the Trade or Business Question: Will property qualify if it is received from the decedent by a qualified heir but a family member other than the qualified heir uses the property to operate the trade or business? Answer: Yes. The requirements include that a (1) qualified heir received the property from the decedent and (2) family member continuously uses the property in the operation of the trade or business for three years after decedent’s death. There is no requirement that the qualified heir be the same as the family member who operates the trade or business.
$1 Million Exemption Amount Question: If decedent’s adjusted taxable estate includes $4.5 million in qualified property and an additional $400,000 of personal assets, can the estate exclude $4 million as qualified property and exclude the remaining $900,000 using the $1 million applicable exemption amount? Answer: Yes, the decedent can exclude $4 million as qualified property. After excluding $4 million, decedent’s adjusted taxable estate will be $900,000. Because $900,000 is less than the applicable exemption amount is $1 million, there is no Minnesota estate tax liability.
Types of Qualified Properties Question: If a farm worth $3 million consists of $1 million of cash, $1 million of farmland, and $1 million of equipment, can the entire $3 million be excluded? Answer: No, because cash cannot be excluded as either Qualified Small Business Property or Qualified Farm Property, the most that could be excluded is $2 million.
Inter Vivos Revocable Trusts Question: If decedent transferred property to an inter vivos revocable trust, is the decedent eligible to exclude the value of the property as qualified small business or qualified farm property? Answer: Under current law, no, but the Department is seeking legislation to correct this.
Life Estate Question: If during decedent’s life, decedent transferred a remainder interest in property to a qualified heir, reserving a life estate for herself, could the decedent exclude the property as qualified small business or qualified farm property? Answer: Yes, so long as all the necessary requirements are met, including that the value of the property is included in the decedent’s gross estate (per IRC § 2036) and that decedent continuously owned the property during the three-year period prior to death (either through the life-estate or ownership in the entirety).
Estate Tax Common Mistakes Topics: 1. Minnesota Situs Law 2. Charitable and Marital Deductions 3. Allowable Miscellaneous Deductions 4. Property Valuation
Minnesota Situs Laws Minnesota Statute § (9): "Situs of property" means, with respect to real property, the state or country in which it is located; with respect to tangible personal property, the state or country in which it was normally kept or located at the time of the decedent's death; and with respect to intangible personal property, the state or country in which the decedent was domiciled at death. Common Mistakes: Partnership or LLC Interests, Sole Proprietorships
Charitable & Marital Deductions Documentary support of bequest in Will, Trust, Disclaimer Result of joint tenancy or beneficiary(payable on death) Statutes and Court Cases: Reg § (a) Estate of Marine v. Commissioner, 97 T.C. 368 (1991) Bach v. McGinnes, 333 F.2d 979 (3d Cir. 1964) Estate of Leone Engelman v. Commissioner, 121 TC 54 (2003) Common Mistakes: Charitable deduction by beneficiary
Allowable Misc. Deductions Reg. § (a): Administration expenses of an estate are limited to expenses that are “actually” and “necessarily” incurred in the administration of the estate. “Necessarily” does not include expenses incurred for the individual benefit of the heirs. IRC §2053(a)(2); Reg. § (d)(2): “Expenses for selling property of the estate are deductible to the extent permitted by § if the sale is necessary in order to pay the decedent’s debts, expenses of administration, or taxes, to preserve the estate, or to effect distribution.” Common Mistakes: Repair and improvement expenses to sell property, family traveling expenses
Property Valuation 1. Appraisal Performed by a certified appraiser as of date-of-death 2. Sales Price “Freely negotiated agreement made reasonably close to the valuation date” (Estate of Shlensky v. Comm’r, TC Memo ) Cannot be a forced sale Must be an arms-length transaction 3. County Property Tax Value In some cases may be persuasive (Estate of Singer V. Comm’r, Minnesota Tax Court, September 16, 2011) Common Mistakes: Best valuation of property
Fiduciary Tax Common Mistakes Topics Reporting of Income Received After Death Residency Rules 1. Trusts 2. Estates
M2 Filing Requirements Estates and Trusts must file an income tax return if they have either: A) $600 or more of gross income assignable to Minnesota i.e. $600 from Minnesota sources only, for example: MN apportioned Partnership/S-Corp income Sale of Minnesota Real Property Rental income from tangible property located in Minnesota Sale of Minnesota apportioned partnership interest Intangible income earned by a resident estate or trust B) A nonresident alien as a beneficiary Common Mistake: Not recognizing taxable income or not reporting income received by the decedent after death
MN Trust & Estate Residency Rules - Trusts For trusts that became irrevocable or were first administered in Minnesota after December 31, 1995: A resident trust means a trust, except a grantor type trust, that either: was created by a will of a decedent who at his or her death was a Minnesota resident, or is an irrevocable trust, and at the time the trust became irrevocable, the grantor was a Minnesota resident.
MN Trust & Estate Residency Rules - Trusts For trusts that became irrevocable or were first administered in Minnesota before January 1, 1996: A resident trust means any trust administered in Minnesota. To be considered a resident trust administered in Minnesota, you must meet two of the following three criteria: A majority of the discretionary investment decisions are made in Minnesota, The majority of discretionary distribution decisions are made in Minnesota, and The trust’s official books and records are kept in Minnesota.
MN Trust & Estate Residency Rules - Estates An estate is considered a Minnesota resident estate for fiduciary tax purposes if either: Decedent was domiciled in Minnesota at the time of their death Personal representative or fiduciary was appointed by a Minnesota court, or the court administration was performed in Minnesota, in other than an ancillary proceeding Common Mistake: Misinterpreting the Minnesota trust & estate residency rules
Communication & System Changes New integrated system (December 2010) Batch processing Minimal data entry No more “acknowledgement of receipt” letters Limitation on Time for Assessment of Tax Changed to 3 ½ years after a complete return is filed Notification within 9 months after filing date 1. Closing letter (accepted as filed) 2. Request for documentation letter 3. Tax order
Contact Information Phone Cori: April: Estate & Fiduciary Tax: Individual Income Tax: Fax Websitewww.taxes.state.mn.us