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Federal Estate and Income Tax Legislative Developments Affecting Wealthy Clients

Federal Estate and Income Tax Legislative Developments Affecting Wealthy Clients. Dennis I. Belcher dbelcher@mcguirewoods.com March 18, 2009. 2009 – Significant Year in Estate and Financial Planning. Increase in Estate and GST Tax Exemptions AFRs – all time low

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Federal Estate and Income Tax Legislative Developments Affecting Wealthy Clients

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  1. Federal Estate and Income Tax Legislative Developments Affecting Wealthy Clients Dennis I. Belcher dbelcher@mcguirewoods.com March 18, 2009

  2. 2009 – Significant Year in Estate and Financial Planning • Increase in Estate and GST Tax Exemptions • AFRs – all time low • Extreme investment volatility • Federal transfer tax legislation • Federal income tax legislation

  3. Increase in Estate Tax Exemption • 75 % increase in Estate Tax Exemption • Removes many taxpayers from system • Opportunity to notify clients • DJIA – 7,000 – May 1997 – Estate Tax Exemption – $600,000 • $3.5 million equal to $6.7 million at high of DJIA

  4. Impact on Estate Planning IRS 2007 Form 706 Return Statistics • 706s filed in 2001 – 120,000 + • 706s filed in 2007 – 38,031 • 706s filed in 2007 with assets of $3.5 million and above – 14,281 • 706s filed in 2007 with assets in excess of $5.0 million – 8,338

  5. Increase in GST Exemption • 75 % increase in GST Exemption • Consider late allocation of increased GST exemption to existing dynasty trusts with mixed inclusion ratio • Review estate plans with bequest of GST exemption

  6. April AFRs Historically Low • Short-term rate .83 % • Mid-term rate 2.15 % • Long-term rate 3.67 % • Section 7520 rate 2.60 %

  7. Planning OpportunitiesLow April AFRs • Intra-family loans • Leveraged Non-Taxable Transfers • GRATs (small gift, downside protection, but no GST planning and annual valuations) • Installment Sales to Grantor Trusts (seed money gift, downside risk, but GST planning and fewer valuations) • Charitable Lead Annuity Trusts

  8. Extreme Investment Volatility • Dow Jones Industrial Average • May 1, 2008 – 13,010 • November 1, 2008 – 9,320 • March 17, 2009 – 7,275 • Investment volatility creates opportunities to transfer wealth

  9. Planning Opportunities Investment Volatility • GRATs (small gift, downside protection, but no GST planning and annual valuations) • Installment sales to grantor trusts (seed money gift, downside risk, but GST planning and fewer valuations) • Charitable Lead Trusts (zeroed out)

  10. Federal Transfer Tax Legislation • Exemptions and rates • Loophole closers (revenue raisers) • Portability of estate tax exemption • Retroactivity of legislation • Timing of legislation

  11. H.R. 436 Certain Estate Tax Relief of 2009 • Representative Earl Pomeroy (D-ND) introduced January 9, 2009 • Member of House Ways and Means Committee • No cosponsors • Effective date is date of enactment

  12. H.R. 436 Exemptions and Rates • Estate tax exemption - $3.5 million • GST tax exemption - $3.5 million • Estate and GST tax rate – 45 % • Estate tax 5 % surcharge (50 % estate tax rate) on estates above $10 million to $41.5 million

  13. H.R. 436 Valuation Rules • No valuation discounts applicable to “non-business assets” • Nonbusiness asset is defined as any asset not used in the active conduct of a trade or business • Exceptions for material participation in real property and working capital

  14. President’s Proposed Budget Estate Tax Provisions Table S – 5, footnote 1 (page 121) “In continuing the 2001 and 2003 tax cuts, the estate tax is maintained at its 2009 parameters.”

  15. President’s Proposed Budget Estate Tax Provisions • Estate tax exemption – $3.5 million • GST tax exemption – $3.5 million • Estate tax rate – 45 % • GST tax rate – 45 % • No other provisions

  16. President’s Proposed Budget What’s Not Included • GST and conservation easement provisions that expire in 2010 • Portability • Section 2032A increase • Section 6166 clean-up • Issue: How to pay for additions to budget?

  17. Expiring 2001 Tax ActGST Tax Fix-Up Provisions • Application of automatic allocation rules to indirect skips • Retroactive allocation of GST exemption when beneficiaries predecease transferor • Qualified severances under section 2642(a)(3) • 9100 relief for missed allocations and elections

  18. Possible Loophole Closers (Revenue Raisers) • Valuation discounts • Passive assets • Aggregation of prior gifts • GRATs (10 % remainder interest) • QPRTs • Retroactivity?

  19. Planning with Possible Retroactive Changes • U. S. Supreme Court has upheld validity of retroactive tax legislation • If concerned about retroactive legislation, consider • Disclaimers • Defined value clauses • Rescission • Contingent gift

  20. Other Possible Reforms • Portability of Exemptions • Recoupling of Gift and Estate Tax Exemptions • Section 2032A increase • Section 6166 clean-up • No state death tax deduction

  21. Portability ofTransfer Tax Exemptions • Senate Hearing – April 3, 2008 • Transfer of spouse’s unused estate tax exemption to surviving spouse • Multiple marriages issue (limitation on amount of transferred exemption) • GST exemption?

  22. President’ Proposed Budget Over $250K Income Tax Changes • Increase in top two tax brackets (33 % and 36 % to 36 % and 39.6 %) • Increase to 20 % dividend/capital gains tax • Reinstate personal exemption phaseout and limitations on itemized deductions • Further limit itemized deductions by capping tax benefit at 28 % tax rate

  23. Charitable Contributions28 % Cap on Itemized Deductions • Under the President’s proposed budget, charitable contributions will be subject to additional 5 to 7 % income tax. • After the 2001 Tax Act expires in 2010 (36 % and 39.5 % brackets), a $100,000 charitable gift will incur $11,500 additional federal income tax.

  24. Federal Transfer Tax LegislationPrediction – Exemptions and Rates • Estate tax exemption - $3.5 million • GST tax exemption - $3.5 million • Rates – 45 % (possible surcharge) • Section 2032A increase • Watch Senate Budget Committee and whether any “Add-Ons”

  25. How to Pay for “Add-Ons” • Add-ons – GST provisions, conservation easements, portability, section 2032A, section 6166, etc. • Pay with loophole closers, phase-ins, surcharge, increased rates, decreased exemptions

  26. Planning in Light of Tax Reform • Leveraged Non-Taxable Transfers • GRATs (small gift, downside protection, but no GST planning and annual valuations) • Installment Sales to Grantor Trusts (seed money gift, downside risk, but GST planning and fewer valuations) • Accelerate dividend and capital gain income into early 2009

  27. QUESTIONS

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