There are those who observed James Gandolfini’s passing in the context of his acting career, particularly his iconic role as Tony Soprano. They are called fans. Then there are those who saw it as a chance to peak into his estate planning and critique it. They are called estate planners.
It has been reported in various news reports, the first being the New York Daily News, that Gandolfini’s estate was worth $70 million and that those who come out with the largest shares will be the government, his sisters and his infant daughter. Bemoaning this as an estate planning fiasco these observers claim that the big loser will be the estate generally, his current wife and his son from his first marriage. While that may be true at some level this also may be simplistic, ignoring the possibility that this may be just what Gandolfini intended or that he may have left many millions to family members outside of his estate. The truth is he probably could have achieved the same result and left more to those family members he intended to benefit and less to the government if he wanted, but the magnitude of the mistake or whether it was a mistake at all is currently unknown. Whatever else it is this is an object lesson in being thoughtful and careful in one’s estate planning regardless of level of wealth and being explicit in one’s intent. For the sake of his attorneys, I hope he was and I hope they have that proof in their files.
Here’s what we are being told and how it seems to plays out (I have not seen any document or anything other than news reports which lack detail and require much speculation):
1. 80% of his assumed $70 million estate, or $56 million, is left to his sisters and 9 month old daughter, the latter in a trust that distributes at 21. The other 20% goes to his wife, yielding a marital deduction of $14 million. (I am assuming away the $5.25 million exclusion as either utilized for lifetime gifts or based on the fact that we are
assuming round numbers anyway.) At a combined federal and state tax rate of about 55% on the taxable $56 million, this means that the government gets $31 million and the entire family shares what’s left, $39
million. With more careful planning the government’s share could have been reduced, but given that he died at 51 it is not unusual that even wealthy people put off the necessary planning when death seems so remote.
If there were a mistake here it was not foreseeing the inevitability of death if not the timing of it.
According to a post on their website, this past weekend The International Consortium of Investigative Journalists
published a database purporting to name individuals from around the world using offshore companies and trusts that they claim “will help begin to strip away this secrecy across 10 offshore jurisdictions.”
The Offshore Leaks Database
“allows users to search through more than 100,000 secret companies, trusts and funds created in several offshore locales. . . .” According to the site, the Offshore Leaks web app, developed by La Nación newspaper
in Costa Rica for ICIJ, displays graphic visualizations of offshore entities and the networks around them, including, when possible, the company’s true owners.
The database includes entities incorporated in 10 offshore jurisdictions:
· British Virgin Islands
· Cayman Islands
· Cook Islands
· Hong Kong
According to the site the information comes from two offshore service firms: Singapore-based Portcullis TrustNet and BVI-based Commonwealth Trust Limited (CTL).
The ICIJ points out that using offshore entities is not in and of itself illegal, nor is it indicative of illegal activities. For those compliant taxpayers desiring confidentiality it must be kept in mind that confidentiality is not airtight and choice of service provider and jurisdiction is critical.
So if you're like me you're reading the blogs and news reports that says that the estate tax law is virtually unchanged and the chaos predicted last year has not come to pass. Well, being technical as I am I don't believe all I read without verification. I pulled up the text of the law--the American Taxpayer Relief Act of 2012 (even though passed in 2013)--and found section 101(c) that tells us that the top estate and gift tax rate is now increased from 35% to 40%, kicking in at $1,000,000 and that there is a technical correction to the DSUEA. But where does it say that the applicable exclusion is still $5,000,000 plus the inflation increase ($5,120,000 in 2012)? It is not apparent on a first read without a bit of digging. But digging does yield pay dirt.
For those who need to trace it out, like me, here you go...Section 101(a)(2) of the 2012 Act says that section 304 of the 2010 Act (the Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act) is stricken. Section 304 of the 2010 Act says that section 901 of the EGTRRA of 2001 shall apply to Code section 2010, among others. What does section 901 say? It says, among other things, that the tax provisions in the 2001 Act shall sunset for deaths and gifts after December 31, 2012. So, put it all together and the applicable tax provisions from the Bush era in 2001--including the $5 million applicable exclusion amount--are now permanent, except the top rate is now 40%.
David Neufeld, along with Jan Dash of the Nevis law firm Liburd & Dash, just published an article in Offshore Investment magazine describing newly proposed amendments to the Nevis' corporate, LLC and insurance laws. As draftsman of the Caribbean island's amendments, David provides unique insights to laws that will likely be available to global investors and businesses early in 2013. While wide ranging, of particular note are the provisions that will place Nevis among those first tier jurisdictions that permit protected cell captive insurance companies to employ the greater protections and flexibility inherent in series LLCs. Other provisions will strengthen the Nevis LLC's charging order limitations and will add a fraudulent transfer provision modeled on Nevis' highly regarded international trust law.
This project is the latest in David's ongoing work with the government of Nevis, having begun in 1995 as author of the Nevis LLC ordinance.
The article is available on www.DavidNeufeldLaw.com
as well as at www.OffshoreInvestment.com
In some respects you should want your taxes to go up next year and every year if it reflects higher income. As a rule of thumb, for every dollar your federal income tax goes up your income will have gone up three to four dollars. To quote Jimmy Fallon in a currently running TV commercial, who wouldn’t want more money? But it is frustrating (to understate it) when your taxes go up without an increase in your income. That is the fate that will befall many next year as the revenue raising portion of the Health Care Act kicks in…but there are ways to mitigate it.
Whatever other changes Congress has up its sleeve in either direction (which means even more in a Presidential election year) we know that 2013 will begin with two additional tax raisers. There is the additional 3.8% surtax on certain types of investment income and gains (Code section 1411), and the additional .9% Medicare tax for certain earned income (not to mention the excise tax on those without health insurance and on those with too much health insurance…I mean that…I am not mentioning these in this article). If you wish to view this tax as rational, then the way to explain it is to see it as a way to increase the Medicare contribution made by some higher income taxpayers by either subjecting investment income (i.e. income on capital), currently not subject to the Medicare portion of FICA, to that tax or by increasing the existing Medicare tax on earned income (i.e. income from labor) for those same taxpayers.
ADDITIONAL INVESTMENT INCOME TAX
There are three concepts you need to get a handle on.
· The first concept is “Modified Adjusted Gross Income” or MAGI for short, although this is one MAGI that bears no gifts. For the most part this really just means adjusted gross income; the modification to which it refers relates only to those American taxpayers working overseas who are permitted to exclude from income up to $92,900 (as of 2011). For those working overseas taking this exclusion a portion is added to AGI; for those not working overseas MAGI is just your AGI.
We are happy to announce that David Neufeld has again been listed on Super Lawyers, a peer-rated listing that is limited to the top 5% of New Jersey trust and estate counsel as determined by Super Lawyers magazine. This follows closely on the heels of his renewed designation by Martindale-Hubbell as an "AV Preeminent Lawyer," also a peer rated listing, based on ethics and skill.
Many say it is DOA, that President Obama’s budget proposal is more a campaign manifesto than it is our next budget. If so it is reminiscent of Dickens’s third spirit in A Christmas Carol: the budget proposal is not necessarily what the future will hold but what the future might hold if he is re-elected and regains control of Congress.
If you doubt that this budget has an eye on the election, just turn to page 134 of the pamphlet to see the “Romney Provision” and why Mitt Romney has more to lose than the election if Obama wins four more years. That provision will tax folks like Romney, hedge fund and private equity partners who now have 15% effective tax rates since their earnings are all from “carried interests” (i.e. the dividends and capital gains derived from their service activities within the partnerships) at 39.6% plus employment taxes. Using the budget document to take a shot across candidate Romney’s bow, it states:
By allowing service partners to receive capital gains treatment on labor income without limit, the current system creates an unfair and inefficient tax preference. The recent explosion of activity among large private equity firms and hedge funds has increased the breadth and cost of this tax preference, with some of the highest-income Americans benefiting from the preferential treatment.
I can only imagine that an early draft actually had Romney’s name typed in this paragraph.
SOME PROVISIONS OF INTEREST TO MY CLIENTS
When viewed in light of tax policy rather than election year politics the latest budget proposal is simply ratcheting up the arms race we call tax planning and tax legislation. We have had the opportunity to learn the law and smart folks among us have developed sophisticated missiles to attack those provisions. Folks equally smart within Treasury then build their version of the Strategic Defense Initiative, only inevitably to have to deal with even smarter missiles. And so on. Here is part of the government’s latest version of Star Wars missile defense, tax law style.
Income Tax Provisions (generally effective for taxable years beginning after December 31, 2012)
· Reinstate the limitation on itemized deductions for upper-income taxpayers. Itemized deductions (other than medical expenses, investment interest, theft and casualty losses, and gambling losses) would be reduced by 3% of the amount by which AGI exceeds statutory thresholds, but not by more than 80% of the otherwise allowable deductions.
· Reinstate the tax rate brackets of 36% and 39.6%.
· Allow the current 0%-15% tax rates on qualified dividends would expire for those at the top rates and such dividends would be taxable in the 36% or 39.6% brackets.
· The maximum long-term capital gains tax rate for upper-income taxpayers would be 20%.
· Even though one might be in a bracket above 28% the proposal would limit the tax value of specified deductions or exclusions from AGI and all itemized deductions to 28%. A similar limitation also would apply under the alternative minimum tax. This would impact tax-exempt state and local bond interest, employer-sponsored health insurance paid for by employers or with before-tax employee dollars, health insurance costs of self-employed individuals, employee contributions to defined contribution retirement plans and individual retirement arrangements, the deduction for income attributable to domestic production activities, certain trade and business deductions of employees, moving expenses, contributions to health savings accounts and Archer MSAs, interest on education loans, and certain higher education expenses. This proposal would apply to itemized deductions after they have been reduced by the statutory limitation on certain itemized deductions for higher income taxpayers.
Estate, GST and Gift tax Provisions (generally effective to transfers after December 31, 2012)
· The proposal would revert to the law in 2009. Thus the top tax rate would be 45% (now 35%) and the exclusion amount would be $3.5 million (now $5,120,000) for estate and GST taxes, and $1 million (now $5,120,000) for gift taxes.
· Portability of unused estate and gift tax exclusion between spouses would be made permanent.
· “Estate freezes” and other techniques designed to reduce the value of the transferor’s taxable estate and discount the value of the taxable transfer to the beneficiaries of the transferor have been important tools for estate planners. These have developed over the years as “judicial decisions and the enactment of new statutes in most states, in effect, have made section 2704(b) inapplicable in many situations by recharacterizing restrictions such that they no longer fall within the definition of an ‘applicable restriction.’ In addition, the Internal Revenue Service has identified other arrangements designed to circumvent the application of section 2704.” This proposal would create an additional category of restrictions (“disregarded restrictions”) that would be ignored in valuing an interest in a family-controlled entity transferred to a member of the family if, after the transfer, the restriction will lapse or may be removed by the transferor and/or the transferor’s family.
· GRATs have proven to be a popular and efficient technique for transferring wealth while minimizing the gift tax cost of transfers, providing that the grantor survives the GRAT term and the trust assets do not depreciate in value. This includes the ability to zero out the gift value by effective use of the annuity. Also among the tools employed have been two-year rolling GRATs. This proposal would require, in effect, some downside risk in the use of GRATs by imposing the requirement that a GRAT have a minimum term of ten years and a maximum term of the life expectancy of the annuitant plus ten years. The proposal also would include a requirement that the remainder interest have a value greater than zero ($1?) at the time the interest is created and would prohibit any decrease in the annuity during the GRAT term. Although a minimum term would not prevent “zeroing-out” the gift tax value of the remainder interest, it would increase the risk that the grantor fails to outlive the GRAT term (seems like valid tax policy to me) and the resulting loss of any anticipated transfer tax benefit.
· With the exemption for the generation skipping transfer tax cost at $5,120,000, a properly structured trust, particularly one in a state that permits trusts to go on perpetually (or virtually perpetually), will never have a GST, estate or gift tax—NEVER. Even for a trust that pays the GST, as costly as that might be, it is a one-time toll charge. This proposal would generally provide that the GST exclusion allocated to the trust would terminate on its 90th anniversary. Because contributions to a trust from a different grantor are deemed to be held in a separate trust under section 2654(b), each such separate trust would be subject to the same 90-year rule, measured from the date of the first contribution by the grantor of that separate trust. The special rule for pour-over trusts under section 2653(b)(2) would continue to apply to pour-over trusts and to trusts created under a decanting authority, and for purposes of this rule, such trusts will be deemed to have the same date of creation as the initial trust, with an exception.
· Another major estate planning tool has been the intentionally defective grantor trust (“IDGT”) and, recently, its cousin, sometimes called the Beneficiary Defective Trust (“BDIT”). These work because the rules that make a trust a grantor trust for income tax purposes differs slightly from the rules that make a trust a grantor trust for transfer tax purposes. And that slight difference is enough to create great opportunities for clients. To the extent that the income tax rules treat a grantor of a trust as an owner of the trust (that today would be an IDGT and excluded from the estate, among other benefits), the proposal would (1) include the assets of that trust in the gross estate of that grantor for estate tax purposes, (2) subject to gift tax any distribution from the trust to one or more beneficiaries during the grantor’s life, and (3) subject to gift tax the remaining trust assets at any time during the grantor’s life if the grantor ceases to be treated as an owner of the trust for income tax purposes. In addition, the proposal would apply to any non-grantor who is deemed to be an owner of the trust (the BDIT) and who engages in a sale, exchange, or comparable transaction with the trust that would have been subject to capital gains tax if the person had not been a deemed owner of the trust. In such a case, the proposal would subject to transfer tax the portion of the trust attributable to the property received by the trust in that transaction, including all retained income therefrom, appreciation thereon, and reinvestments thereof, net of the amount of the consideration received by the person in that transaction. The proposal would be effective with regard to trusts created on or after the date of enactment and with regard to any portion of a pre-enactment trust attributable to a contribution made on or after the date of enactment. (NOTE: there has been some debate as to whether a BDIT works; apparently, if this document is any gauge, the government seems to think it does).
· The proposal would require a person or entity who purchases an interest in an existing life insurance contract with a death benefit equal to or exceeding $500,000 to report the purchase price, the buyer's and seller's taxpayer identification numbers (TINs), and the issuer and policy number to the IRS, to the insurance company that issued the policy, and to the seller. Upon the payment of any policy benefits to the buyer, the insurance company would be required to report the gross benefit payment, the buyer's TIN, and the insurance company's estimate of the buyer's basis to the IRS and to the payee.
· The proposal also would modify the transfer-for-value rule to ensure that exceptions to that rule would not apply to buyers of policies.
· The proposal would apply to sales or assignment of interests in life insurance policies and payments of death benefits in taxable years beginning after December 31, 2012.
If you or your clients own assets outside the US you now have a new and additional report to file subject to hefty fines if yuo do not. Read on...
The following comes from the IRS website
The Foreign Account Tax Compliance Act (FATCA), enacted in 2010 as part of the Hiring Incentives to Restore Employment (HIRE) Act, is an important development in U.S. efforts to combat tax evasion by U.S. persons holding investments in offshore accounts.
Under FATCA, U.S. taxpayers holding financial assets outside the United States must report those assets to the IRS on a new form attached to their tax return. Penalties apply for failure to comply with this new reporting requirement. Reporting is required for assets held in taxable years beginning on or after January 1, 2011.
FATCA requires any U.S. person holding foreign financial assets with an aggregate value exceeding $50,000 to report certain information about those assets on a new form (Form 8938) that must be attached to the taxpayer’s annual tax return. Reporting applies for assets held in taxable years beginning on or after January 1, 2011. Failure to report foreign financial assets on Form 8938 will result in a penalty of $10,000 (and a penalty up to $50,000 for continued failure after IRS notification). Further, underpayments of tax attributable to non-disclosed foreign financial assets will be subject to an additional substantial understatement penalty of 40 percent.
Here's one you need to be aware of...say Joe dies in 2011 and his estate is worth, at best, $2 million. No need to file an estate tax return if all is going to the widow, right? Well...maybe. Sure his $5 million lifetime exclusion is enough to absorb this $2 million without doing anything. And who would ever expect his wife to need anything more than her own $5 million exclusion to cover the money she got from Joe and her own $2 million, so why bother. And anyway, it costs, what, hundreds of dollars to file the return; money down the toilet.
But what if Joe died in an accident and his estate succeeds in obtaining a multi-million award? Or his life insurance was several million dollars. Or Mrs. Joe hits the lottery. Or Joe's business turns out to own a very valuable asset and Mrs. Joe sells it for the very windfall Joe had been chasing his whole life. Or her combined $4 million is invested really, really well. On Mrs. Joe's death her estate is worth $8 million (let's assume the current law has been retained). Do Joe's and Mrs. Joe's children take all $8 million since they can apply Mrs. Joe's $5 million (all still intact) and Joe's remaining $3 million (remember he had $5 million and his estate was $2 million, presumably leaving $3 million). Sorry, no, you lose.
Remember the hundreds of dollars and aggravation the family saved by not filing an estate tax return on Joe's death? Well, by not doing that Mrs. Joe's estate cannot claim the $3 million Joe left on the table. Lost. Vanished. Gone for good. Instead of applying all $8 million against Mrs. Joe's $8 million estate and having no...zip...zero federal estate tax, the estate will have to pay tax on $3 million. That's about $900,000 to Uncle Sam. Good for the federal deficit, bad for the Joe family. And all to save a few hundred dollars.
So what do we learn here? File the return on the first estate and make the appropriate election to use the DSUEA.
Next time...what if Mrs. Joe had remarried?
Thanks to Congress, everyone is born with their own (speaking colloquially) "Lifetime Tax-Free Gift Amount," that amount we can each give away in our lifetime or at death free of federal gift or estate tax. That amount has varied over time, at one time being $650,000 and reaching as high as $3.5 million by 2009. But until this year that amount belonged to you and you alone; it was not transferable. If you died before you used it it was lost forever.
To maximize the utilization of this Lifetime Tax-Free Gift traditional estate planning--at least among those smart enough to do estate planning--was to place a portion of the assets of the spouse who was the first to die into a trust, often for the surviving spouse and kids, to absorb the Lifetime Tax-Free Gift. In this way, this amount would be shielded from federal estate tax in the first spouse's estate as well as the second spouse's estate. The rest would go to a trust (or outright) for the surviving spouse, thereby using the "Marital Deduction" to shield this portion from estate tax in the estate of the first decedent as well.
For 2011 and 2012 (but not beyond, barring further changes to the law) two of the major changes to the federal gift and estate tax regime include an increase in this Lifetime Tax-Free Gift to $5 million and a limited ability to transfer this Lifetime Tax-Free Gift to the surviving spouse if the decedent does not use it during life--what has been known as Portability, or more technically the Deceased Spousal Unused Exclusion Amount ("DSUEA"). So a surviving widow can conceivably give away to anyone (or among any number of anyones) during life or at death up to $10 million (her own $5 million Lifetime Tax-Free Gift plus her deceased husband's unused $5 million Lifetime Tax-Free Gift, i.e. his DSUEA) without federal gift or estate tax. In other words, it is no longer "use it of lose it" for the first spouse to die, at least with some limitations and qualifications. Of course failure to observe these limitations and qualifications can squader this wonderful opportunity.
In subsequent blogs I will tell you about how to qualify for the DSUEA, how to best utilize this DSUEA, and risks as the law unfolds. Stay tuned.