There’s been a fundamental shift in advisors’ main estate planning concerns in recent years. With estate-tax exemptions considerably higher, there’s less need to worry about estate-tax minimization. Instead, there is a greater emphasis on income tax considerations and an opportunity to offer a different array of valuable planning ideas.
While some of these tips might require the involvement of the client’s lawyer or CPA, others are entirely within the scope of the wealth manager. Here are a few key ways advisors can add value for elderly clients, as well as for their heirs.
FOR AGING CLIENTS
Planners with older clients should make a checklist of items to cover with clients. Among them:
Watch for waning capacity. Many clients lose mental capacity as they age. If the client waits years between visits with his or her estate planning attorney, it will be the wealth manager who needs to sound the alarm on this issue. Perhaps the most important step is to make sure that clients update all existing estate planning documents while they can — not only to ensure that the documents reflect the client’s current wishes, but also to make certain that the documents are flexible enough to address future changes when it may no longer be possible to modify them.
Exercise swap powers. Many irrevocable trusts include a right for the person who sets up the trust to exchange assets outside the trust for assets in the trust. Why is this beneficial? Because if highly appreciated assets are swapped back into the client’s estate before death, the tax basis — that is, the amount on which capital gains are calculated — gets increased to the fair value at death. Advisors should monitor appreciation in trust portfolios, make sure there are adequate lines of credit in the client’s name to finance the swap, and help to carry out the plan.
Review trust principal distribution standards. Many trusts pay out income to beneficiaries, but some also permit distributions of principal. This may provide another mechanism to move highly appreciated trust assets back into the estate to garner an increase in tax basis.
Shift timing of charitable gifts. Only taxable estates benefit from an estate-tax charitable contribution deduction. If the estate does not face taxes, clients can (and should) prepay charitable bequests while they are alive so that they can qualify for income tax deductions. If the client is incapacitated, his or her agent under a power of attorney may be permitted to make charitable bequests. Just be certain that the charity acknowledges, in writing, that the donation is a prepayment of the bequest under the will so that it is not paid twice.
Amend family limited partnerships. Traditionally, family limited partnerships were formed to provide tax valuation discounts. For example, a 40% interest in a family partnership worth
There’s a simple solution: Have the counsel to the partnership amend the agreement to eliminate discounts. If a partner can liquidate his or her interest at its fair value on perhaps 30 days’ notice, there should be no discount. An alternative might be to liquidate the client’s interests, putting actual assets back into his or her name.
Trust situs. Situs is the state where a trust is based and, therefore, whose law governs trust operations. Historically, wherever a client created a trust, that state’s law applied. Now, however, more than 20 states permit “decanting” in which one trust can be merged into another trust. It is also becoming more common to draft trusts with provisions permitting a change in situs and governing law. This opens new planning opportunities. If a trust is in a jurisdiction whose laws are not favorable, it might be feasible to move that trust to a jurisdiction that permits better investment opportunities. For example, consider the state-by-state variations on the Uniform Principal and Income Act. Unitrust payment under
Planning for what happens after a client dies is also quite different in the new environment. As with pre-death planning, there are myriad different planning opportunities that planners should be aware of.
Here are a few details for advisors to consider:
Executor commissions. In the past, it was common for family members to take executor commissions. These commissions often provided a valuable estate-tax deduction at the high estate-tax rates, which were much higher than income tax rates. Now the differences between the highest income and estate-tax rates are the lowest in history. With the current high exemption, the estate tax is eliminated for many estates — so paying executor commissions may generate a significant income tax for the executor without reducing any estate tax. Review the personal economic and tax consequences of paying commissions. If it is not beneficial, the executor should formally waive commissions.
Unfunded trusts. Many clients have not revised their wills in years. Old documents might require funding a credit shelter trust on the first spouse’s death, but many client families won’t wish to bother doing so if the estate-tax benefit no longer exists, and may attempt to distribute the assets outright to the named beneficiaries, skipping the trust. Advisors should warn clients to legally address the nonuse or termination of such trusts, if at all feasible. If not, they should avoid potential legal entanglements by transferring the required assets to the mandatory trust, even if the tax purpose no longer applies.
Funding bequests or trusts with appreciated assets. If a client’s will bequeaths a fixed dollar amount and that bequest is met by using appreciated assets, a taxable gain will be triggered. With income tax rates higher and the 3.8% surtax now part of the equation, this issue is more significant. Care should be taken in selecting which assets to use for which purposes.
Asset distributions. Many wills provide for equal shares of the estate to each beneficiary, but sometimes the beneficiaries would much prefer to receive non-pro-rata distributions of various assets, as long as they are of equivalent value. For example, instead of splitting all the assets 50/50, one child might want the vacation home while a brother or sister would prefer an equivalent amount in securities. Be mindful, however, that unless the will or state law permits non-pro-rata distributions, the
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