1. © Pearson Education, Inc. publishing as Prentice Hall22-1 Chapter 22: Estates and Trusts by Jeanne M. David, Ph.D., Univ. of Detroit Mercy to accompany Advanced Accounting, 10 th edition by Floyd A. Beams, Robin P. Clement, Joseph H. Anthony, and Suzanne Lowensohn

2. © Pearson Education, Inc. publishing as Prentice Hall22-2 Estates and Trusts: Objectives 1.Understand basic accounting for the estate of a decedent. 2.Understand the principal versus income issues in estate and trust accounting. 3.Understand basic accounting for a trust. 4.Understand how estates are taxed.

3. © Pearson Education, Inc. publishing as Prentice Hall22-3 1: Estates Estates and Trusts

4. © Pearson Education, Inc. publishing as Prentice Hall22-4 Understanding Estates Estates come into existence at the death of an individual (decedent) –Testate (with a valid will) –Intestate (no will or will not validated by probate court) Governed by state laws –Uniform Probate Code followed in text –Not all states have adopted it Court-appointed administrator or executor –Personal representative of deceased –Administers the estate

5. © Pearson Education, Inc. publishing as Prentice Hall22-5 Administering the Estate Executor or Administrator –30 days to inform heirs and devisees of appointment Those entitled to property according to will (devisees) and law (heirs) –3 months to file inventory of property Fair value Disclose liens and claims May exclude personal items of limited value –Notices in county newspaper for three consecutive weeks

6. © Pearson Education, Inc. publishing as Prentice Hall22-6 Intestate Succession All passes to spouse if –Decedent has no living descendants, or –All surviving descendants are also descendants of spouse Otherwise –Spouse receives first $100,000 –Plus one-half of remaining estate –Remainder to other descendants –Varies by state

7. © Pearson Education, Inc. publishing as Prentice Hall22-7 Exempt Property Uniform Probate Code allows –Homestead allowance $15,000 –Entitlement to personal property (furniture, vehicles) $10,000 –Family allowance Reasonable amount during administration of estate To surviving spouse (equally to minor children if none)

8. © Pearson Education, Inc. publishing as Prentice Hall22-8 Classification of Claims If estate is insufficient to pay all claims, payments are made –Administration costs and expenses –Reasonable funeral and medical expenses of last illness –Debts and taxes with legal preference –All other claims

9. © Pearson Education, Inc. publishing as Prentice Hall22-9 Accounting for the Estate Purpose –Property for which responsibility has been assumed –Manner in which that responsibility is discharged Liabilities of decedent are not assumed by executor/administrator –Record the payment of the debt, not the unpaid debt

10. © Pearson Education, Inc. publishing as Prentice Hall22-10 Charge-Discharge Statement Assets of estate –Included in inventory –Discovered after inventory Payments and distributions of estate principal –Cash payments for expenses, debts, to heirs and devisees –Distributions in kind in settlement of expenses, debts, or made to heirs and devisees Estate income: receipts and disposition

11. © Pearson Education, Inc. publishing as Prentice Hall22-11

12. © Pearson Education, Inc. publishing as Prentice Hall22-12 Record Inventory Cash – principal 30 Notes receivable93 Interest receivable2 FFF common stock40 Municipal bonds15 Summer home55 2005 Nissan8 Estate principal 243 Assets are recorded at fair value at decedent's death

13. © Pearson Education, Inc. publishing as Prentice Hall22-13 Collect on Receivables Collect the note and interest due. If additional interest had accrued, the additional amount is recorded Debit: Cash – income Credit: Estate income Cash - principal95 Notes receivable 93 Interest receivable 2

14. © Pearson Education, Inc. publishing as Prentice Hall22-14 Convert Some Assets to Cash Sell the Nissan for $9. –Fair value at time of death was $8 –Additional $1 is income to the estate If $9 was deemed to be the true value at time of death Cash – principal gets full $9 Credit: Estate – principal $1 Cash – principal 8 Cash – income 1 2005 Nissan 8 Estate income 1

15. © Pearson Education, Inc. publishing as Prentice Hall22-15 Pay Expenses and Debts Expenses and debts are paid from principal Payments and distributions must follow –State laws –Valid will Administration expense4 Funeral expense5 Medical expense19 Debts of decedent100 Cash - principal 128

16. © Pearson Education, Inc. publishing as Prentice Hall22-16 Distributions of Cash Cash distributions are from Cash – principal Cash – income Records are specific as to recipients Devise - L. Hunt19 Devise - S. Tyson6 Devise - Church10 Cash – principal 35 Devise - G. Olds1 Cash – income 1

17. © Pearson Education, Inc. publishing as Prentice Hall22-17 Distributions in Kind Distributions of assets other than cash Clearly indicate both –Item distributed –Recipient Devise - summer home to L. Hunt55 Devise - FFF common stock to M. Wallace40 Summer home 55 FFF common stock 40

18. © Pearson Education, Inc. publishing as Prentice Hall22-18 Settling the Estate After payments and distributions of cash and assets –Expenses and costs –Debts –All devisees or heirs other than residual beneficiary Nominal accounts are closed, with remaining assets left in account balances Make the final distribution to residual beneficiary (or trustee) Prepare the Charge-Discharge Statement

19. © Pearson Education, Inc. publishing as Prentice Hall22-19 2: Principal versus Income Estates and Trusts

20. © Pearson Education, Inc. publishing as Prentice Hall22-20 Principal and Income Estates and trusts often have separate treatment for income and principal –One may remain in trust, the other distributed –Distributions may be to different individuals Accounting must clearly differentiate principal and income amounts

21. © Pearson Education, Inc. publishing as Prentice Hall22-21 Measurement Initial fair values are recorded at the establishment of the Estate or trust Changes in value after that Income (loss) Adjustments for inaccurate fair values Change to principal Ex: Interest collected after establishing a trust Principal, if receivable at start of trust Income, if earned after start of trust

22. © Pearson Education, Inc. publishing as Prentice Hall22-22 Estate Income Accounting for estates has two control tools for income and principal Use separate accounts for cash –Cash – principal Cash in original inventory Cash from conversion of other principal Use separate Estate accounts Estate – principal Estate – income

23. © Pearson Education, Inc. publishing as Prentice Hall22-23 3: Trusts Estates and Trusts

24. © Pearson Education, Inc. publishing as Prentice Hall22-24 Accounting for Trusts Guidance –State laws –Uniform Trusts Act –Uniform Probate Code –Revised Uniform Principal and Income Act

25. © Pearson Education, Inc. publishing as Prentice Hall22-25 Purpose of Trust Accounting should provide sufficient evidence to show that the applicable laws and instructions of the particular trust Control for income and principal –Use separate net asset accounts Trust fund principal Trust fund income Often, trust funds do not segregate cash

26. © Pearson Education, Inc. publishing as Prentice Hall22-26 4: Estate Taxes Estates and Trusts

27. © Pearson Education, Inc. publishing as Prentice Hall22-27 Estate Taxes Estates may be subject to federal and/or state inheritance taxes Economic Growth and Tax Relief Reconciliation Act of 2001 –Reduces inheritance taxes with total repeal in 2010 Act expires in 2011 –Old inheritance tax rates will automatically reapply –Unless Congress takes action

28. © Pearson Education, Inc. publishing as Prentice Hall22-28 Estate Tax Planning Maximum tax rate in 2009 is 45% Estates under $3,500,000 are exempt For large estates, proper tax planning can lead to significant "savings" –Additional amounts available for heirs or devisees –Amounts available for charities and other organizations

29. © Pearson Education, Inc. publishing as Prentice Hall22-29 Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of the publisher. Printed in the United States of America.