Lessons from the AICPA Tax Conference: #2 Non-Tax Reasons for Trusts as Estate Planning Tools

This is the second of things I gleaned from the Annual AICPA Conference on Tax Strategies for the High-Income Individual. These are from a session by Martin S. Finn, JD, CPA, LL.M. of Lavelle & Finn, LLP, mailto:marty@lavelleandfinn.com) entitled "It’s a Matter of Trust: Ten Reasons Why Trusts Must Be Part of a Client’s Estate, Tax and Financial Planning" serve as reminders of things I need to remember.

In the interests of full disclosure, while I am an attorney and CPA, I have spent my professional career in CPA firms. As such while I will review, comment on, make suggestions to and translate them for clients, I DO NOT DRAFT DOCUMENTS. I am also a strong believer in the KISS (keep it simple, stupid), principle in estate planning. I am sure many of my colleagues have seen a plan that really works well for a $10 million estate superimposed on a $2 million estate. It is hard to explain why the administration of the trusts and estate issues created by such plans costs so much to beneficiaries who just want their share of the money.

Sometimes one must step back and consider the burdens and costs. On a $1 million estate with five children, is it really a good idea setting up five $200,000 trusts with corporate trustees? That aside, I do believe that trusts can be useful in estate and financial planning. I am not going to discuss all ten of Marty’s reasons as some of them are tax and some can be grouped together under a common theme.

There are many things one can accomplish by just drafting a will. Things like specific bequests, ("I leave to my good friend and CPA, Dave $100,000" or "I give my sterling silver flatware set to my granddaughter Jennifer"), charitable bequests ($100,000 to the SPCA) and overall remainder (rest and residual to). Most general tax planning (discount stuff requires gifts) can be done in a will.

There is just one problem with a will: The Statute of Wills, which every state has and requires steps be taken to be valid, like having witnesses. I have seen my share of wills where the decedent has wanted to change things by merely writing notes on the will and dating them. Revocable trusts can be modified very easily. This is one of my reasons why I think trusts are useful.

Marty Finn’s list of non- tax reasons can be summarized as follows:

Creditor and Predator Protection

Keeps Assets out of the Probate Process

Providing Resources Without Interfering with Government Benefits

Leaving Wealth to Family While Supporting Charitable Desires

Planning with Retirement Benefits

Protecting Beneficiaries from Their Own Inability to Manage Wealth

Creditor and Predator Protection. While self-settled trusts generally cannot protect assets from creditors, third party and inter-vivos trusts are still going strong. In the event of a health or mental disability of the beneficiary developing, Trustee management is much easier and cheaper than guardianship procedures.

Predators include the usual list of future ex-spouses, in-laws, out-laws, evil nieces and nephews, and etc. Such protections are not absolute as now some courts are considering trust assets when awarding child support and property settlements in divorces, (even if the court may not order transfer of those assets). To the list I add the current ex-spouse. One of my friends has custody of her children and gets along with her ex. While she has no issue with him getting custody if something happens to her, it will be a cold day in Hell before she will let him manage her assets in behalf of her children. A trust can do that.

Keeping Assets Out of the Probate Process. There are some good things about probate. So much hype is made about avoiding it completely. From my experience, that is easier said than done. But that is no reason not to use trusts in estate management planning. Some state legislatures are subjecting living trusts to some judicial oversight after abuses of them come to light. Even with such oversight trusts can avoid some delays in distributions as well as delays caused by will contests and locating potential heirs.

Providing Resources and Government Benefits. In addition to special needs trusts, consider Medicaid and Medicare. The laws may change, especially with self-settled trusts as rules may restrict shielding those assets. However, for the individual who has a parent with limited resources, trusts can be established to provide support in addition to government benefits.

Leaving Wealth to Family While Supporting Charitable Desires. Charitable remainder trusts (CRT) and charitable lead trusts can be really useful in this regard. The individual can always be able to substitute one charitable beneficiary for another before funding and distributions. In the case of lead trusts, the family beneficiaries may be given the ability to choose which qualified charity or charities get distributions.

Planning with Retirement Benefits. The general rule is to leave the retirement benefits to the surviving spouse. But what if it is the second spouse or there is no spouse? Some additional planning and steps should be taken as some of the largest pension administrators do not handle the naming of trusts very well. Best to name and then confirm a month later as to the named beneficiary as everything is kept electronically these days. A single individual with some charitable intentions and who has a significant retirement account might look at a CRT to maximize earning potential over the trust term.

Protecting Beneficiaries from Their Own Inability to Manage Wealth. Do you really think it is a good idea to leave $1 million of life insurance proceeds to your 22 year old son or daughter? I am just talking about the good kids and the smart kids. Most young adults are not money management wizards. Using a trust to manage wealth for one who has gambling issues is probably a good idea.

In summary, there are many good reasons to consider the use of trusts in one’s estate planning, whether for ourselves or our clients. Which reminds me, I need to check in with my attorney for a progress report on my personal plan.

Dave
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Lessons from the AICPA Tax Conference: #1 State Unemployment Tax Audits are the Doorway to Hell

Last week I attended the AICPA Conference on Tax Strategies for the High-Income Individual.  I came back with a number of things to consider and think about which I will share over the next few weeks.

One lesson was from the speaker on State Business Tax Issues, Mark S. Klein, Esq. (mklein@hodgsonruss.com) of HodgsonRuss LLP, (http://www.hodgsonruss.com/).

Unemployment insurance taxes are dealt with on the state level.  The unemployment pools really need money now so the states are getting aggressive.  The actual real dollars of tax is the umemployment tax rate times the first $7,000 or so of wages (states vary a bit).  The state auditors are looking for "independent contractors" who should be "employees."

So the auditor walks in and finds ten independent contractors he or she feels should be considered employees.  In the end the tax and interest, etc. totals $3,600.  The owner figures for such a small amount, why bother my CPA or lawyer, signs the consent for assessment and writes the check figuring its all finished.

"Silly Rabbit, Trix are for kids."  One could only wish.  The problem is state agencies share information with all sorts of people, like other state agencies and along with those agencies the various departments of the federal government. 

So the next visit comes from the state income tax division.  That person says I have a report that you have some "employees" you did not report state withholding for and that those withholdings (or having  the state equivalent to the W-4), is mandatory. The penalty is the amount of tax. 

"Let's see, ten times, say $40,000 each is $400,000, times 7% (the range could be zero to 8%), which comes to $28,000 plus some interest for a total of $33,000.  Opps, you had them for three years so let's call it an even $100,000.  But, if you can prove those individuals paid state income tax on that income, (like a copy of their tax returns), we will adjust the amount due.  After all the state doesn't want to collect taxes twice on the same income."

So after hours upon hours of time spent by the owner or his HR person getting things together, the state settles for a net $20,000, (the people who had left), and he next person to show up is from the Internal Revenue Service.  Without considering the income withholdings, the fifteen percent FICA and Medicare is going to run $60,000 a year on the $400,000 of wages.  Oh, and the relief provisions will not apply since they have a copy of your consent that admits you had employees.  With the interest and penalties, let's just say $200,000.

Welcome to Hell.

A knowledgeable CPA or attorney with experience in this area can help one take steps to limit the exposure to additional taxes and the penalties and interest that follow.  So when the notice comes, call before signing the consent.

Dave
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