Friday, August 27, 2010

A Historical Perspective of the Estate Tax

The conservative Heritage Foundation has posted this summary of the history of the estate tax in the United States.  A key point is that, assuming we do in fact revert to a $1 million per person federal estate tax exemption next January, the relative exemption in 2011 will be about one-tenth of the exemption amount as was in effect when the "modern" estate tax was first implemented in 1916 

Thinking of Doing a Life Estate Deed? Think Again!

As people enter their "golden years," they become more acutely aware that they may someday need long-term care assistance. They may hear horror stories from family and friends about other people in similar circumstances who had to go to nursing homes and had their assets wiped-out by the costs, which in the Hudson Valley exceeds, on average, $10,000 per month.

Given the prospect of the potential loss of their life's savings, people understandably look for ways to protect their assets.  One commonly used strategy over the years has been for parents to transfer title to their home to their children, with the parents retaining a "life estate" interest.  On its face, a transfer of a home with a retained life estate holds great appeal.  It is a simple strategy to implement, and the execution of the deed immediately triggers commencement of the five-year "look back" period imposed by Medicaid for asset transfers.  That is, so long as the parent does not require long-term care for at least five years after executing the life estate deed, the home will no longer be subject to a lien by the county Department of Social Services should the parent thereafter apply for long-term care Medicaid coverage.  Because the parent retains "life rights" in the home, they retain sole and exclusive occupancy rights to the home, and ll property tax exemptions, including STAR, Enhanced STAR, and Veteran's.

However, there are serious disadvantages associated with the life estate deed.  This recent news article highlights one of the greatest deficiencies of this planning tool. As described in the article, an ailing 81-year-old widow, Joan Fleming, owns a home on Long Island that is valued at $300,000.  Some years ago, Mrs. Fleming executed a deed to her two children, reserving to herself a life estate interest.

Unfortunately in Mrs. Fleming's case, "the estate planning move went horribly wrong" when her son Michael subsequently filed for bankruptcy.  Since upon execution of the life estate deed Michael owned a vested interest in the home, the bankruptcy court ordered that Michael's 50% share of the remainder interest be put up for public auction to satisfy his creditors.

As a practical matter, Mrs. Fleming's life rights cannot be disturbed by any successful bidder for Michael's share of the remainder interest in his mother's home.  But since Mrs. Fleming's motives for engaging in this planning strategy almost certainly included preserving the value of the home for her children, these developments will undermine her goals.

What could Mrs. Fleming have done differently?  She, and her children, would almost certainly have been better served had she instead transferred her home to a Medicaid Asset Protection Trust ("MAPT").  Like the deed with a retained life estate, transferring a home to a MAPT triggers commencement of the Medicaid look back" period upon execution of the deed.  Unlike the life estate deed, however, none of the children or other trust beneficiaries receives a vested interest in the home during the parent's lifetime.  Had Mrs. Fleming conveyed her house into a MAPT, Michael's creditors would have had absolutely no claim on his interest in the home during Mrs. Fleming's lifetime.  Even betters, were such a MAPT structured to provide that after Mrs. Fleming's death the trust property was to be held in separate creditor protected trusts for each of her children, Michael's creditors would even then be unable to seize Michael's interest in his mother's home, regardless of the extent of his indebtedness.

Monday, August 16, 2010

Don't Wait Until Congress Acts to Work on Your Estate Planning!

Are you waiting until Congress enacts a "permanent" federal estate tax to do your estate planning?  This article points out many (but by no means all) of the reasons why estate planning is so much more than just estate tax planning.

Back From Vacation

This is off-topic, but I was down in Orlando last week for the family summer vacation and have a few observations:
  •  The new Harry Potter "world" at Universal is spectacular, and the "Forbidden Journey" ride inside "Hogwarts" is the best attraction I've ever been on.
  • The crowds at Universal and Islands of Adventure greatly exceeded those of the two Disney parks we visited -- Epcot and Disney Hollywood Studios.  Disney better act fast to develop new attractions that appeal to older children and teens if it doesn't want to lose more market share.
  • America's obesity epidemic is spiraling out of control.  The grotesque size of the portions at many restaurants does not help the situation.
  • We must be crazy to go to Florida in August -- the heat, and especially the humidity, were oppressive.
  • Delta's "bag drop" line is a joke.  Having checked-in online and printed off boarding passes, you would think that dropping off your bags should be an expedited arrangement.  Think again.
  • I read The Big Short by Michael Lewis about the sub-prime mortgage mess.  The book confirmed my opinion that the top executives at most of the major investment banks should have been indicted for fraud, or at least some form of criminal negligence.

Sunday, August 1, 2010

An Estate Plan That Didn't Work

Recently a client of one of my litigation partners called me. This client – I’ll call him “Robert” – is, along with his brother, the beneficiary under his mother “Eleanor’s” will. Eleanor, who died in 2008 a resident of New Jersey, had a gross estate of over $6 million. Eleanor’s husband had predeceased her some years before her death.

I knew from my partner that Robert once had a thriving business, but that the “Great Recession” has left him with potential liabilities to various creditors in the millions of dollars. Robert’s creditors would surely be interested in getting their hands on Robert’s share of his mother’s estate.

Robert explained to me that he needed to “set-up” the trust established under his mother’s will for the benefit of he and his children. To determine what exactly needed to be done, I obtained from the New Jersey law firm that was administering Eleanor’s estate copies of her will and the filed estate tax returns.

In reviewing Eleanor’s will, I determined that Eleanor had established generation skipping trusts for both Robert and his brother “Alan.” Since Eleanor’s generation skipping tax exemption was $2 million at the time of her death in 2008, each of her son’s respective generation skipping trusts will be funded with $1 million. The good news is that if properly administered, the assets in each of her son’s trusts should be protected from the reach of their creditors, as well as creditors of any of their descendants. Assets in Robert’s trust can thus be used to pay for the “needs” of both himself and his descendants without being subject to invasion by any of their creditors.

While the generation skipping trusts established under the will might be deemed a planning “success”, other aspects of her estate plan leave much to be desired. In addition to the $1 million to be funded to his generation skipping trust, Robert is in line to inherit over $900,000 as an “outright” distribution. The problem here is that because Robert will be receiving those “excess” funds in his own name, his many creditors will have “first dibs” on those assets. It is unlikely that Robert will ever see a dime of that money.

What might Eleanor have done differently to protect her sons’ entire inheritance? Quite simply, she could have established “lifetime protective trusts” for each of her sons to be funded with their share of the inheritance in excess of the generation skipping tax exemption amount. Each such trust could have been designed to be accessible by Robert and Alan for their needs, but also to be out of the reach of their creditor claims.

So, why didn’t a woman of such means have such a provision in place? My guess is that at the time Eleanor executed her will years before her death, both of her sons were financially secure – or at least appeared to be. Her attorney likely did not focus on asset protection as an important element of Eleanor’s planning, but was rather more concerned with maximizing the generation skipping tax exemption. Robert’s financial condition did not begin to unravel until around the time of Eleanor’s death, and by then the die had been cast.

The other major problem with Eleanor’s estate plan was that from her over $6 million estate, the total estate tax bill exceeded $2.2 million. While her estate plan effectively manages the generation skipping tax exemption, Eleanor could have implemented a number of strategies that could have minimized, or even eliminated, her estate tax obligation. The attorney who drafted Eleanor’s will surely had the expertise to have implemented estate tax savings strategies. But such “advanced planning” techniques require a significant financial commitment from the client, and perhaps Eleanor was unwilling to get past the “cost” to engage in any of those advanced planning techniques. Or, perhaps she believed that Congress would have completely repealed the estate tax by the time of her death. Whatever the reason, a significant portion of Eleanor’s personal wealth was diverted to the government for its use, rather than to her loved ones.