Planning Your Estate Under New And Old Law

Never have I received so many phone calls and e-mails concerning the same tax subject. What subject? The new estate tax law.

Never have I received so many phone calls and e-mails concerning the same tax subject. What subject? The new estate tax law. Confusion and uncertainty reign!

Here are some of the typical questions: "My estate plan is done. Must I change it because of the new law?" "Everything I read and hear says the new law will be changed. Should I wait for the changes?" "I want to transfer my business to my kids. What effect does the new law have?"

What is most interesting is that most readers have a good understanding of what the new law does. They just don't know what to do about it.

The new law is a tiger that actually changes its estate tax stripes every year, except in 2008, starting in 2002 all the way until 2011. The exclusion is the amount of assets that can be left tax-free at death. Yes, proper planning means you must change your documents to cover death in any of the above years.

If you die in the year 2010, The tiger has no stripes. There is no estate tax. Unfortunately, the estate tax is replaced by a capital gains tax on appreciated property you own at death. Planning requires you to keep your life insurance in force to cover the potential capital gains tax.

If you die after December 31, 2010, the tiger will have the same stripes as in the year 2001. One exception: the $675,000 exclusion will be $1 million. Plan a qualified personal residence trust for your residence; a recapitalization (voting/non-voting stock) and a grantor retained annuity trust or defective trust to transfer your business to your kids; a subtrust—to own your life insurance—for your qualified plans (such as a profit-sharing plan, 401(k) plan or rollover IRA; a family limited partnership for your other assets; and life insurance owned by a subtrust, an irrevocable life insurance trust or your family limited partnership.

A Business Owner Tax Victory

Starting in the mid 1970s, we have been telling readers of this column and our clients to transfer their businesses to their kids during life. Waiting until you die to complete the transfer is an unnecessary and expensive waste of tax dollars. Now the IRS agrees. Here's the story.

The issue concerns the value of your business for tax purposes. Suppose you have four kids (all work in your business Success Co.). If you wait until you die, then leave 25 percent of Success Co. to each of the kids, the IRS will value 100 percent of the business, focusing on the value of the total business (instead of each one-quarter part being left to each of the children). What's the result? No discount for a minority interest.

Instead, suppose you transfer Success Co. to your four kids, 25 percent to each during your life. This time, after years of fighting, the IRS finally agrees with us: The focus is on each one-quarter of the business transferred separately to each of your kids. How does the result differ now? The shares transferred to each child are entitled to a minority discount. With minority discounts running in the 35 percent range, stop for a moment and figure out what a lifetime transfer of your business might save your family in taxes. (See Technical Advice Memorandum 944001.)

Are you thinking, "Sure, I want to save taxes. But I'm not going to give up control of my business as long as I can draw a breath." If so, you are typical of closely held family business owners. Well, there is an answer to your dilemma: recapitalize. This is a tax-free maneuver where you wind up owning all of the voting stock and all of the non-voting stock. Now you can give each of your kids 25,000 shares of the non-voting stock, and you get a minority discount. You also keep control for as long as you live.