Make Large Gifts Now, Pay More Tax Later?

If you make big gifts in 2011-2012, what happens when you die in 2013 and beyond?

Right now, and continuing through 2012, there is a gift tax/estate tax/GST exemption amount of $5,000,000 per person. We have discussed before what a fantastic opportunity this can be for wealthy families to do transfers at little or no transfer tax.

However, for every action, there is also a reaction. One thing that is not being talked about, and that families need to be aware of, is: What are the consequences of making a large gift utilizing the $5,000,000 exemption amount, in the event that the estate tax exemption amount upon your death is lower (such as $1,000,000) and what impact this might have on your New Jersey estate taxes.  This problem is sometime referred to as the "Clawback" (no, I did not make that up).

All of this stems from the little known or understood fact that “prior taxable gifts” are added to a person’s taxable estate to determine their federal estate tax liability. Since New Jersey relies on the Federal estate tax liability scheme as it existed in 2001 to determine its estate taxes, the Clawback issue is particularly dear to New Jersey residents.

When making a gift using your gift tax exemption, it is generally explained that you use it now or you use it later. For example, if you make a gift of $2,000,000 during your lifetime, and the estate tax exemption amount was $5,000,000 on your death, you would effectively have $3,000,000 of your exemption left. However, the way that is calculated is you have $6,000,000, you gave away $2,000,000 (leaving a $4,000,000 estate, which is less than the $5,000,000 exemption amount) and you die. Your prior $2,000,000 gift is added back to your taxable estate of $4,000,000, creating the same $6,000,000 taxable estate, the $5,000,000 is applied to the estate, and in my example, you have $1,000,000 upon which the estate tax may be levied.

The problem? What happens if the estate tax exemption amount is less upon your death. Going back to the example above, you had a $6,000,000, you gave away $2,000,000 so that you have a $4,000,000 estate upon your death. You add back in the $2,000,000 to create a $6,000,000 taxable estate, but you only have a $1,000,000 exemption amount. In this situation, your taxes are being levied on a $5,000,000 taxable estate ($6 million less $1 million exemption), but in reality, there are only $4,000,000 of assets actually in your estate, because you had added back this theoretical $2,000,000 that you had already given away.

For New Jersey purposes, this situation can be even worse. That is because New Jersey has such a low estate tax threshold of $675,000. Theoretically, you could have had $5,100,000, and given away $5,000,000. For New Jersey estate tax purposes, the $5,000,000 "prior taxable gift" is added back in to your taxable estate, and the New Jersey estate tax is calculated on the combined amount.  The New Jersey estate tax is somewhere in the vicinity of $350,000, but the only assets that you actually have are $100,000.

So when considering gifting to take advantage of the 2011/2012 transfer tax sale, thought must be given to what happens after the sale is over – will so much of your estate be potentially subject  to taxes if there is a lower estate tax rate (or if you are in New Jersey) that making a gift now precludes you from making other distributions upon your death?
 

Thanks to Steven A. Loeb, Esq. for his insights for this article.

Photo © Mark Rasmussen | Dreamstime.com

5 Reasons to Think About Making Gifts in 2010

I came across this great summary of 5 reasons to consider making gifts in 2010 by Marilyn J. Maag through Lexis Nexis Estate Practice & Elder Law Community (I follow them on Twitter).

  1. Changes in tax rates - the gift tax rate is scheduled to go up from 35% to 60% in 2011 unless Congress acts
  2. Low asset values - particularly for real estate and family businesses
  3. Low applicable federal interest rates - make techniques such as Grantor Retained Annuity Trusts (GRAT) more successful
  4. Restrictions on Intra-Family Transfers - may become law next year
  5. Valuation Discounts - may be going away

Image: Francesco Marino / FreeDigitalPhotos.net

Undue Influence in a Will Contest or Estate Administration

I received a call yesterday similar to many others I have received over the years.  Essentially, Dad died and the client just found out that shortly before his death he named one child beneficiary of lots of accounts, leaving essentially nothing passing under the Will, which had divided everything equally between 3 children.

Lou Ann Anderson, the Bell County Legal News Examiner has an article today about celebrity cases of undue influence.  The stories are similar - shortly before death a new Will is executed or other property transfers done that undo a lifetime of the decedent's intent. These cases include Brooke Astor (her son and attorney were sent to jail for trying to defraud hundreds of millions from charity), Melvin Simon of Simon Shopping Malls fame (his Will months before he died was changed to leave all to his wife, and take out $150 million in bequests to charities), John "Buck" Jones, owner of the Carolina Panthers (his Will was changed a month before his death to leave control of Company to his wife instead of 3 employees as had been his long standing plan).

While these celebrity cases are titillating because of the names and dollar amounts involved, the same situation involves New Jersey families all the time.

There are competing concerns.  First, a person is free to leave their money to whomever they please (other than 1/3 to a spouse) - children do not have a right of inheritance.  Second, a person is not required to leave money equally among a group - many times one child gets more in the Will than others because the parent perceives that child's need or reward to be greater.  

However, it is the person making the gift who is allowed to make these decisions - not the person getting the gift.  The problem of undue influence arises when somebody essentially takes advantage of a person's reduced physical or mental state, or a situation of fear or dependency, and influences them to make an action they would not have otherwise takes.

The issue for a person who is claiming undue influence cases is one of proof.  How do you prove a person was influenced to make a change to their estate plan and it was not an independent decision?  There need to be witnesses and documents.  Do you have to prove the undue influence, or does the person who got the money have to defend the gift?  Kenneth A. Vercammen, Esq. has an excellent summary of the issues in Undue Influence As Defense To Will Or Power Of Attorney (New Jersey).

Generally, the person claiming undue influence (ie, the person getting less) has the burden of proof to show a court there was undue influence.  See Conners v. Murphy, 134 A. 681, 682 (N.J.Err. & App. 1926); Pascale v. Pascale, 549 A.2d 782, 786 (N.J.1988). However, if the the person who benefited from a gift is in a confidential relationship with the person who made the gift (an attorney in fact under a POA, a person who the person who made the gift is dependent upon), then the burden of proof shifts to the person who got the gift to prove that the person making the gift had independent counsel in making the gift.  See Haynes v. First National State Bank of New Jersey, 432 A.2d 890 (N.J. 1981); Pascale v. Pascale.

The presumption of undue influence is easier to raise with lifetime transfer then with transfers in a Will.   Some lessons from this are that  if you think that you were harmed by undue influence, gathering facts and acting quickly is key.  If you plan to disproportionately benefit your heirs, you should seek legal counsel to act to protect that gift from a claim of undue influence.

Image: Simon Howden / FreeDigitalPhotos.net

No Estate Tax in 2010 - What Opportunities Might there be?

 My two prior posts have been about the  federal tax impact for single individuals who die in 2010, and the federal tax impact for married individuals.  In summary the results for singles were not good, and for marrieds were worse – the "death" of the estate tax creates a capital gains "trap" for survivors.  While all this will be moot if Congress does as they have promised and create an estate tax retroactive to January 1, 2010, they haven’t acted yet, and as of January 1, this is the law.

What planning can be done in this environment?

Can you just say “whoo-hoo”; I’ll give everything to my children.  Hold on there – the federal estate tax is repealed in 2010, not the federal gift tax.  Each person still has a lifetime exemption of $1,000,000 – if you make gifts in excess of that in 2010, you will be subject to the federal gift tax at a rate of 35%.

However, the generation skipping tax (“GST tax”) is repealed in 2010.  The GST Tax essentially says that you can only leave up to $3.5 million to grandchildren without paying a separate tax of 55%.  The theory behind the GST Tax is that the government should share in the wealth at each generation.  If grandma leaves everything to granddaughter, the IRS might need to wait 75 years until tax can be collected again.  If assets go the children, the IRS might only have to wait 30 years to tax again.  So, in 2009 you could leave up to $3.5 million to grandchildren without GST tax. In 2010, you can leave everything to grandchildren without an additional tax.  For wealthy families, this could mean a huge amount passing to lineal descendants with the only tax cost(s) being capital gains (click here for an explanation of the 2010 capital gains tax trap for estates).

The estate plan you had in 2009 and will need again in 2011 won’t really make sense in 2010 unless they make the estate tax retroactive.  Do you need to go out and totally revise your plan? Not necessarily.  If you have a terminal situation however, it definitely bears looking at your current plan to make sure it addresses how to plan to minimize capital gains taxes instead of estate taxes.

Gifts to grandchildren may be a winning strategy in early 2010.  Also, for anyone who is terminally ill, a change of an estate plan to leave assets to grandchildren may be a winner as well (although if the estate plan isn’t changed, disclaimers may be able to be employed by the children to a similar effect).  And it will bear looking at the estate plan of anyone who is terminally ill.

 

Image: Danilo Rizzuti / FreeDigitalPhotos.net

Who is to Say You Can't Make a Gift? Undue Influence Over Lifetime Transfers

If a person has a Will and dies, and a beneficiary doesn't like the terms, one grounds for challenging the Will is that the testator (person making the Will) was subject to undue influence when he made it. An example would be a person with 4 children leaving 100% of his estate to one child, who the person relies on.  This doesn't mean that a person can't leave there assets to whomever they please, just that there are situations where people take advantage of a person's fragility to have assets funneled to them.

What happens when a person makes a gift during his lifetime and another party challenges that gift before the person dies?  The recently issued opinion in  Estate of Claudia L. Cohen v. Robert Cohen, Law Div. — Bergen Co. (Koblitz, P.J. Ch.) indicates that under New Jersey case law, the only people who have legal standing to bring a legal action to undue a lifetime gift are:

  • The Grantor (person who made the gift)
  • The Guardian of the Grantor, so long as the Grantor is still alive
  • The Executor of the Grantor (or Administrator of the estate if there was no Will), if the Grantor has died

So what if you have a situation where your mom is living with your sister, and she is transferring assets to your sister, and you think mom doesn't really understand what she is doing, or is scared to say 'no' to your sister?  The answer might be to seek a Guardianship over mom if she is no longer competent and the Guardian can then pursue the gifts made under undue influence.