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The Train is Leaving the Station Estate Planning in 2012 October 10, 2012 William L. Montague Frost Brown Todd LLC 3300 Great American.

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Presentation on theme: "The Train is Leaving the Station Estate Planning in 2012 October 10, 2012 William L. Montague Frost Brown Todd LLC 3300 Great American."— Presentation transcript:

1 The Train is Leaving the Station Estate Planning in 2012 October 10, 2012 William L. Montague Frost Brown Todd LLC 3300 Great American Tower 301 East Fourth Street Cincinnati, Ohio (513) Turfway Road Suite 210 Florence, Kentucky (859)

2 William L. Montague is a member of the Cincinnati and Northern Kentucky law firm of Frost Brown Todd LLC, where his practice is concentrated in estate, business and estate planning, charitable giving and estate administration. He received his B.A. degree, magna cum laude, from Wittenberg University and his J.D. degree from the University of Cincinnati College of Law. Mr. Montague has co- authored several articles and is a frequent speaker on the topics of estate planning, estate administration and taxation. He has been repeatedly recognized as a Best Lawyer in America and Ohio Super Lawyer. William L. Montague is a member of the Cincinnati and Northern Kentucky law firm of Frost Brown Todd LLC, where his practice is concentrated in estate, business and estate planning, charitable giving and estate administration. He received his B.A. degree, magna cum laude, from Wittenberg University and his J.D. degree from the University of Cincinnati College of Law. Mr. Montague has co- authored several articles and is a frequent speaker on the topics of estate planning, estate administration and taxation. He has been repeatedly recognized as a Best Lawyer in America and Ohio Super Lawyer.

3 Historic Time Period Next 3 Months Gift Tax Exemption - $5,120,000 sheltered from gift tax ($10,240,000 for a married couple) for gifts in 2012 Gift Tax Exemption - $5,120,000 sheltered from gift tax ($10,240,000 for a married couple) for gifts in 2012 Depressed Asset Values – The values of many assets, including marketable securities, business interests and real estate, remain low in many cases Depressed Asset Values – The values of many assets, including marketable securities, business interests and real estate, remain low in many cases Historically low interest rates Historically low interest rates For loans, the interest rate for a 9 year loan in October 2012 is.93% For loans, the interest rate for a 9 year loan in October 2012 is.93% For other transactions such as GRATs and CLATs, the interest rate for October 2012 is 1.2% For other transactions such as GRATs and CLATs, the interest rate for October 2012 is 1.2%

4 Take Advantage of Larger Gift Tax Exemption Next 3 Months Direct Gifts to Children – simple, but not as much protection for the children Direct Gifts to Children – simple, but not as much protection for the children Direct Gift to Irrevocable Trust for Children – Protects the gifted assets from estate taxation at the children’s deaths, from the children’s creditors, and from the divorce of a child. Can also provide asset management, if needed Direct Gift to Irrevocable Trust for Children – Protects the gifted assets from estate taxation at the children’s deaths, from the children’s creditors, and from the divorce of a child. Can also provide asset management, if needed Direct Gift by One Spouse to Irrevocable Trust for Other Spouse and Children – Provides same protections for children, but provides the additional benefit of making assets available to the other spouse if living needs require in the future Direct Gift by One Spouse to Irrevocable Trust for Other Spouse and Children – Provides same protections for children, but provides the additional benefit of making assets available to the other spouse if living needs require in the future

5 Take Advantage of Larger Gift Tax Exemption Next 3 Months Leveraged Gift to Irrevocable Trust for Children – Protects the gifted assets from estate taxation at the children’s deaths, from the children’s creditors, and from the divorce of a child. Can also provide asset management, if needed Leveraged Gift to Irrevocable Trust for Children – Protects the gifted assets from estate taxation at the children’s deaths, from the children’s creditors, and from the divorce of a child. Can also provide asset management, if needed Leveraged Gift by One Spouse to Irrevocable Trust for Other Spouse and Children – Provides same protections for children, but provides the additional benefit of making assets available to the other spouse if living needs require in the future Leveraged Gift by One Spouse to Irrevocable Trust for Other Spouse and Children – Provides same protections for children, but provides the additional benefit of making assets available to the other spouse if living needs require in the future

6 Take Advantage of Low Interest Rates Next 3 Months Direct Loan to Children – simple, but not as much protection for the children Direct Loan to Children – simple, but not as much protection for the children Direct Loan to Irrevocable Trust for Children – Protects the gifted assets from estate taxation at the children’s deaths, from the children’s creditors, and from the divorce of a child. Can also provide asset management, if needed Direct Loan to Irrevocable Trust for Children – Protects the gifted assets from estate taxation at the children’s deaths, from the children’s creditors, and from the divorce of a child. Can also provide asset management, if needed Direct Loan by One Spouse to Irrevocable Trust for Other Spouse and Children – Provides same protections for children, but provides the additional benefit of making assets available to the other spouse if living needs require in the future Direct Loan by One Spouse to Irrevocable Trust for Other Spouse and Children – Provides same protections for children, but provides the additional benefit of making assets available to the other spouse if living needs require in the future

7 Loan to Lifetime Trust

8 Loan to Lifetime Trust Step 1: Set up Irrevocable Trust and Fund it with Cash Husband & Wife Irrevocable Trust $100,000 cash

9 Loan to Lifetime Trust Step 2: Apply Generation Skipping Exemption on Gift Tax Return Husband & Wife Irrevocable Trust $100,000 GST Exemption

10 Loan to Lifetime Trust Step 3: Loan Money to Irrevocable Trust Husband & Wife Irrevocable Trust $900,000 loan (9 years at.93% interest )

11 Loan to Lifetime Trust Step 4: Pay Loan Back at End of 9 Years Husband & Wife Irrevocable Trust Original assets $1,000,000 Growth* $740,000 Loan payoff in year 9 ($900,000) Value of Trust in Year 9 $840,000 Payoff of loan $900,000 *Assumes 7% annual total return on investment and annual interest payments of.93%

12 Leveraged Gift to Lifetime Trust

13 Installment Sale to Grantor Trust Original Scenario Steve XYZ Manufacturing $15,000, shares 100% ownership $1,200,000 annual distribution

14 Installment Sale to Grantor Trust Creation and Funding of Irrevocable Trust Steve Irrevocable Trust XYZ Manufacturing Sale of 50 nonvoting shares ($5,250,000) with 30% discount) Gift of $600,000 cash $500,000 in cash and $4,750,000 promissory note 95 nonvoting shares ($14,250,000) 5 voting shares ($750,000) 3 2 1

15 Cash Flow (Year 1) Irrevocable Trust Steve XYZ Manufacturing 50% of profit distributions ($600,000) 50% of profit distributions ($600,000) $600,000 note payment IRS Taxes ($526,000) Installment Sale to Grantor Trust Life Insurance premium payments

16 Installment Sale to Grantor Trust Step Four: Sale of XYZ Manufacturing in 2017 for $30,000,000 Steve Irrevocable Trust XYZ Manufacturing Cash $30,000,000 $882,000 promissory note balance 50 nonvoting shares management control Buyer assets Cash $30,000,000

17 Installment Sale to Grantor Trust Step Five: Distribution of Sale Proceeds Steve Irrevocable Trust Cash $15,000,000 XYZ Manufacturing Cash $30,000,000 $882,000 promissory note 50 nonvoting shares management control $15,000,000 cash distribution 50 voting and nonvoting shares $15,000,000 cash distribution

18 After Sale of XYZ Manufacturing Option 1: No Reimbursement for Income Taxes Irrevocable Trust Sales proceeds $15,000,000 Payoff of Note ($882,000) Net proceeds $14,118,000 Steve Sales proceeds $15,000,000 Note payment $882,000 Income taxes ($7,500,000) Net proceeds $8,382,000 IRS Installment Sale to Grantor Trust $882,000 promissory note payoff $7,500,000 tax payment

19 After Sale of XYZ Manufacturing Option 2: Reimbursement for Income Taxes Irrevocable Trust Sales proceeds $15,000,000 Tax reimbursement ($3,750,000) Payoff of Note ($882,000) Net proceeds $10,368,000 Steve Sales proceeds $15,000,000 Tax reimbursement $3,750,000 Note payment $882,000 Income taxes ($7,500,000) Net proceeds $12,132,000 IRS Installment Sale to Grantor Trust $882,000 promissory note payoff $7,500,000 tax payment $3,750,000 tax reimbursement

20 Installment Sale to Grantor Trust Bottom Line $14,118,000* is sheltered from estate tax inside the Irrevocable Trust at a gift tax cost of $600,000, which is leverage of more than 23 to 1! *Assumes Steve will not request reimbursement for income taxes paid on behalf of Irrevocable Trust.

21 Installment Sale to Grantor Trust Step One: Recapitalize company into voting and nonvoting shares Step One: Recapitalize company into voting and nonvoting shares Step Two: Seed the irrevocable trust with gifted assets so that the purchaser of nonvoting stock will be a “creditworthy” purchaser Step Two: Seed the irrevocable trust with gifted assets so that the purchaser of nonvoting stock will be a “creditworthy” purchaser Step Three: Steve sells nonvoting stock to the Irrevocable Trust, free of capital gain taxes, in exchange for an installment promissory note Step Three: Steve sells nonvoting stock to the Irrevocable Trust, free of capital gain taxes, in exchange for an installment promissory note Step Four: Make note payments back to Steve with cash flow generated by corporate distributions paid to the Irrevocable Trust Step Four: Make note payments back to Steve with cash flow generated by corporate distributions paid to the Irrevocable Trust

22 Installment Sale to Grantor Trust Issue #1: The only taxable gift is the gift of the seed money. The sale portion of the transaction is an arms length transfer, and is not subject to gift tax or generation skipping tax. Issue #1: The only taxable gift is the gift of the seed money. The sale portion of the transaction is an arms length transfer, and is not subject to gift tax or generation skipping tax. Issue #2: Be sure that the term of the note is not excessive, or the IRS could argue that the transfer is with a retained life interest. If the note is paid off prior to death, nothing gets reported on an estate tax return Issue #2: Be sure that the term of the note is not excessive, or the IRS could argue that the transfer is with a retained life interest. If the note is paid off prior to death, nothing gets reported on an estate tax return Issue #3: As is the case with all large gifts, valuation is critical!! Issue #3: As is the case with all large gifts, valuation is critical!!

23 Installment Sale to Grantor Trust Advantages Advantages No gain recognized by grantor on sale No gain recognized by grantor on sale Payment of income taxes by grantor rather than by irrevocable trust (reducing the size of grantor’s estate) Payment of income taxes by grantor rather than by irrevocable trust (reducing the size of grantor’s estate) Favorable interest rates Favorable interest rates Payment flexibility / refinancing Payment flexibility / refinancing Protected from estate taxation in multiple generations Protected from estate taxation in multiple generations Partial disclosure on gift tax return / no disclosure on income tax return Partial disclosure on gift tax return / no disclosure on income tax return

24 Installment Sale to Grantor Trust IRS attack in Karamazin IRS attack in Karamazin It is preferable to have the trust own assets other than interests in the entity being sold It is preferable to have the trust own assets other than interests in the entity being sold If personal guarantees would be required by a commercial lender, they should be used here If personal guarantees would be required by a commercial lender, they should be used here There should be sufficient entity income to assure repayment of the note There should be sufficient entity income to assure repayment of the note


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