The Law Offices of Joseph B. Rosenberg

Estate Planning Frequently Asked Questions

The following questions and answers address typical concerns regarding gifting:

How should people be structuring their gifts?

The simplest form of gifting is to write a check or transfer investments directly to the gift recipient. There are no strings attached and the recipient can do with the gift whatever he or she chooses. However, as the gifts get larger, people should consider making their gifts to trusts. One reason for using trusts is so the donor (the person making the gift) can exercise varying degrees of control over the gift.

What do you mean by “varying degrees of control?”

Control depends upon the choice of Trustee and the specific language contained in the trust. The least amount of control is to name the recipient as both the Trustee and beneficiary of the trust, and to allow the Trustee to make distributions to himself for his own “health, maintenance, support and education.” A much greater level of control is to name an “Independent Trustee” who has “sole and absolute discretion” to make or withhold distributions to the beneficiary. This is very important if the beneficiary has marital or creditor problems.

Are there other benefits of gifting to a trust?

Many people want to know that their gifts will remain in their bloodlines, and not pass to a son-in-law or daughter-in-law. A trust allows the donor to direct how the trust will pass following the death of the beneficiary. A trust can also be structured to take advantage of generation-skipping planning. That allows a child to benefit during the child’s lifetime, but following the child’s death the assets in the trust pass tax free to the child’s children.

Are there other planning techniques to consider?

Yes. A Grantor Retained Annuity Trust, or “GRAT,” is an excellent vehicle to give away an asset with significant future appreciation potential. If a person has a large investment in a single stock, he can gift those shares to a GRAT, which in turn will pay him a set dollar amount annually for a period of years. At the end of the term of years, the investment is distributed to a named beneficiary or held in further trust for his benefit. This is a gift that is not completed until some time in the future and can therefore be further discounted for gift tax purposes, using a complex formula. The amount of the discount depends upon the number of years the donor retains an income interest, the interest rate he chooses to receive, the federal interest rate at the time the gift is made and his age at that time. Gifts to a GRAT may be entitled to discounts that result in a gift that has zero value, depending upon these factors. To keep the tax benefits, however, the donor must live for the entire term of years he chooses at the creation of the GRAT. It is anticipated that the asset that is gifted to the GRAT should appreciate in value and generate sufficient income annually to satisfy the annual annuity payment. Due to the current low interest rates, GRATs are very appealing.

What is a “sale to a defective grantor trust?”

This planning strategy is used to "freeze" the value of assets through the creation of a trust called a "defective grantor trust." A defective grantor trust is defective with respect to income taxes but is effective with respect to gift and estate tax planning. In other words, the value of the trust will not be subject to estate tax upon the donor's death but any income earned by the trust during his lifetime will be subject to income tax on his personal tax return, regardless of who is named as beneficiary of the trust. Furthermore, transactions between the donor and the trust are not recognized for income tax purposes. For example, if the donor sells an appreciated asset to the trust, he does not recognize a capital gain on the sale. In effect, this is viewed as a sale to himself.

An installment sale to a defective grantor trust in exchange for a promissory note has become an increasingly popular wealth transfer strategy. If the donor chooses to incorporate this into his estate plan he would sell an appreciated asset to a trust and receive a promissory note from the trust. Since this is a defective grantor trust, no capital gain would be recognized on the sale. The trust would make periodic payments of interest and principal to the donor but the trust would retain any income generated by the underlying assets that exceeds the interest paid to him. The key here is that all future appreciation will be out of his estate.

A portion of the monthly payment the donor receives from the trust would be the amortization of the principal. In today's historically low interest rate environment, the interest rate charged on the note would be less than 1%; any payment to the donor above the interest rate would reduce the outstanding balance on the note. This enables the donor to give away a significant amount of his investments, yet retain a comfortable cash flow.

Is there a way of continuing to receive income from the assets you gift away?

With certain exceptions, including GRATs and sales to defective grantor trusts, the answer is no; if you retain income from the assets at the time of your death, the asset will be included in your estate for estate tax purposes.

But what if the person needs the income?

In situations involving a married couple, the husband can create a trust for the benefit of the wife and the wife can create a second trust for the benefit of the husband. The terms of the trusts cannot be identical, but each spouse can retain an income flow from the trusts while they are both alive. This is referred to as a Spousal Lifetime Access Trust, or “SLAT.” I also refer to it as a non-reciprocal, reciprocal trust.

What are the costs for making a gift?

Gifts of more than $14,000 require the filing of a gift tax return. Depending upon the type of assets being gifted, the services of an appraiser may be required. Also, legal fees will vary depending upon the sophistication of the estate plan.

Discussions involving gifting seems to focus on the Federal estate tax laws. Is there any state gift tax consequence?

Most states have repealed their gift tax laws, so state gift taxes are not a concern. An important exception is Connecticut, which applies a gift tax to transfers greater than $2,000,000.

Are there any other negative consequences to gifting?

From an emotional point of view, many people are not comfortable giving away their assets. From a tax point of view, a downside of gifting can be the effect on the “basis” in an asset. For example, if you buy a stock at $10, then $10 is your basis. If you sell the stock for $50, you have a capital gain of $40. If you give away the stock and then the recipient sells it for $50, the recipient has a capital gain of $40, because they retained your original basis. If, however, you die owning the stock, and if it was worth $50 at the time of your death, the recipient’s basis “steps-up” to $50, and if the recipient then sells the stock for $50, he realizes no capital gain.

Does a person’s basis affect gifting decisions?

An individual whose death is imminent should not be gifting significantly-appreciated assets in order to protect the step-up in basis that applies only upon death. There is no step up in basis for gifted property. A comparison should also be made of the capital gains rates versus the estate tax rates.


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