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Withholding Allowances

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The method Jeff Scroggin had been taught as a young attorney with Arthur Andersen Nationwide Estate Planning Group was simple: When it came to paying estate taxes, save the client as much money as possible. “It was pretty much all that we focused on,” recalls Scroggins, 51. “We didn’t go much beyond the tax issues when coming up with the best possible plan.”

The same philosophy drove Scroggin’s efforts after starting his own firm in 1981, John J. Scroggin & Associates in the Atlanta suburb of Roswell. He would sit down with clients, discuss how much they had to leave behind, draw up a plan that would preserve as much of those assets as possible, and call it a day. The only problem? After handing over his plans, Scroggin found that his clients were less than thrilled. “It had nothing to do with the plans I drew up,” says Scroggin. “It was just that clients had vague and general misgivings about the whole process.”

So Scroggin began asking questions. What most often irked his clients, especially the self-made-millionaire ones, wasn’t the notion of their own death. It was the effect their large sums of money would have on their heirs. Many felt that inherited money would encourage the heirs to eschew the hard work and entrepreneurialism they’d found so rewarding. Worse, the inheritance might even encourage the development of such distasteful character traits as indolence or eccentricity. “It’s very easy to understand where this was coming from,” says Scroggin. “These were people who had worked very hard to make a great deal of money, and now they were faced with the prospect of simply dumping it on their heirs with no strings attached. They were wondering if they could be doing more harm than good.”

Trillion-Dollar Windfall

This quandary will only gain prominence in the estate planning process in coming years. A variety of studies has shown that, in the next several decades, more wealth is going to be passed from one generation to the next in the U.S. than ever before, with estimates ranging from $10 trillion to $136 trillion over the coming 40 to 50 years. Yet estate professionals like Scroggin don’t believe that the sheer volume of wealth being passed down is at the root of this new concern. Rather, it’s how the wealth was built, and the values that were fashioned in the characters of those who built it. A recent study by U.S. Trust, “A Portrait of the Affluent in America Today,” points out that of all the millionaires in America, only 10% inherited their money, while 46% made their fortunes by building businesses from scratch.

Furthermore, the study shows that the average millionaire had to average a farmer-like 56-hour week over the course of a 29-year career to earn his or her dough. To Herb Daroff, a planner at Boston’s Baystate Financial Services, this is an indication that the self-made wealthy are often unwilling to promote the kind of lifestyle that is associated with the traditional Old Money elite. “I come across this all the time,” says Daroff. “These people are very uncertain about how they would have turned out if someone had dumped millions on them at an early age. They wonder if they would have bothered to build the life they eventually went on to have.” Indeed, the U.S. Trust study found that 91% of the women and 80% of the men who are worth at least $1 million expect their children to support themselves entirely from their own earnings.

But such numbers beg an important question. What’s supposed to happen to all those trillions of dollars that are to be passed down in the coming years, and what is the estate planner supposed to do in dealing with all this money? Is it all supposed to go to charity? The answer, according to Scroggin and other estate planners, is a resounding “no.” There are a variety of ways that the planner can structure an estate plan so that it allays the fears of clients about what their millions will do to their descendants while also keeping the money within the family.

Long-Term Solutions

The majority of these solutions revolve around the idea of paying out money over an extended period. That allows heirs to avoid want, but doesn’t encourage them to skirt work, ambition, and goals. “When you pay out the money over a period of time, you are giving them a chance to adapt to the presence of that kind of money being around,” says James Budros of the Columbus, Ohio-based planning firm of Budros & Ruhlin. “Also, if they don’t get it all in one shot, they are less likely to have the kind of lifestyle my clients want [them] to avoid.” For instance, Budros likes to set up a trust that will pay money out in such small installments that it will not inexorably alter the lifestyle or course of the heir’s life. “It’s a fine line. You want them to live comfortably, but not to have so much that they will abandon all the good things my clients want.”

For instance, what Budros called a “unitrust payout” will allow an heir to receive a percentage of the principal of the trust each year over the course of his life. If there is $5 million in the trust and an heir is scheduled to receive 1% annually, he will get a check for $50,000 each January 1. This limited amount of money presumably will allow the heir to take a vacation that he otherwise wouldn’t have had, or perhaps buy the family a sedan rather than a compact. But he will decidedly not have enough to buy a home in Jupiter Beach, Florida, or fill a warehouse full of classic cars.

If unitrust payouts don’t fit your client’s needs, Budros suggests considering an annuity payout, which works independently of how quickly the money in the trust has grown. In this instance, the heir is paid a set amount each year–much like an annuity–rather than a percentage. There are also trusts that do not make outright payments to heirs, but instead structure benefits within the context of the life the heir would have had if the trust never existed. This is a very important concept, according to Daroff: The money is not meant to materially change a person’s course in life, but simply to give that person a helping hand.

Family Banking

Perhaps the best example of this is the family “bank.” Daroff designs a trust that acts like a bank. It will, say, make mortgage loans to heirs at a rate that is much more favorable than what they would otherwise receive. If a commercial bank would be willing to give an heir a mortgage loan at 8%, for example, the family bank could do it at 2% or 3%. But there is a catch. The family bank trustee won’t give the heir a loan on the purchase of a home that is not in accordance with his income. “Someone making $50,000 a year is not going to be able to get a family bank loan for a $2 million house,” Daroff says. “You want to help them, but also keep them in the type of life that they otherwise would have had. You don’t want to affect things that much.”

Yet Daroff admits that this trust structure could lead to disagreements between a trustee and heir over what sort of house is appropriate, given the heir’s salary. To break any deadlock, he suggests that the heir attempt to get a similar mortgage loan approved by a commercial bank, and, if successful, once again petition the trustee. “The heir has to go off and get the mortgage approved as if the family bank never existed,” Daroff adds. “There might be some ethical questions as to using the bank in this way, but they are receiving a fee for this service.” He says he hasn’t encountered anyone going to this extreme yet.

The family bank also works as a sort of venture capital fund–an idea that Daroff says first came from hearing Scroggin speak at a seminar. An heir would obtain low-interest loans from the family bank to start a business or some other worthwhile endeavor. To prevent heirs from coming up with harebrained schemes, Daroff places the power of refusal in the hands of the trustee, with a commercial bank as a sort of tiebreaker.

Help Is on the Way

Scroggin has another idea that many clients have found appealing: the notion of setting up a safety net for successive generations. Here, a certain amount is allocated in the trust to ensure that no heir is left want-ing in the face of an extreme emergency. For instance, the trust will pay out to an heir who conceives a child with some sort of disability, or to an heir who incurs a medical condition that will result in crippling medical bills. Also, if an heir is thought to be truly destitute, the trustees will step in and provide money for the person to get back on his feet. “I’ve found that is a particularly nice clause that a lot of my clients seem to like,” says Scroggin.

In addition to safety nets, you can also set up incentives to head off any negative impact money might have on heirs. This is not exact-ly a new idea, as planners and estate attorneys have been writing such incentives into trusts as long as trusts have been around. The trick, says Scroggin, is to structure the incentives so that they allow heirs to receive their inheritances without materially indulging some of the darker lifestyle choices that come with the reception of such large sums. For instance, an heir will receive a matching amount dependent on how much he earns. “The person shows the trustee a W-2 form and then will get a matching amount,” says Atlanta insurance expert Robert Littell, who collaborated with Scroggin on much of the work the estate attorney has done on the subject. “If the person makes $100,000 a year, he will get an equal amount from the trust.”

The idea here is that the heir will not receive so much money that he will be at a loss for how to handle it. The more an heir makes from his own job–and will presumably be able to handle without negative consequences–the more he will receive from the trust.

Another incentive that Darhoff and Scroggin often use is the notion of a trust paying for heirs’ college and even high school tuition. But even here, you have to watch out. “We often script into the estate plan a clause that only pays for tuition for a set amount of years,” says Daroff. “You don’t want an heir to be going to undergraduate school on the trust’s money for seven or eight years.”

Season Tickets

Then again, one may want to simply avoid the issue of money entirely. Why not just leave descendants a treasured piece of property or an important dwelling?

New York City-based estate attorney Jonathan Blattmachr of the law firm Milbank, Tweed, Hadley & McCoy asked just such a question and is now structuring trusts for clients that contain non-liquid assets. “I just had a family that had a condo on the East Coast of Florida that they felt very strongly about,” says Blattmachr. “We put it in trust for heirs.”

The possibilities are endless–clients could theoretically leave season tickets to a favorite sports team in trust for heirs–yet the thinking that runs through these solutions is always the same: Give the clients a non-liquid gift that they cannot sell and that will not be accompanied by the temptations cold cash would present. “This is definitely something to consider,” says Blattmachr.

Solutions such as those offered by Blattmachr are likely to leave well-off clients with substantial liquid assets left over. It is in these instances that estate planners and their clients often opt to simply dump the money on a charity or set up a charitable trust that works independently of their families. This, says Scroggin, is counterproductive to the goal of ultimately fostering good values in the hearts of heirs, since such monies can be dispensed with the family’s help. “It’s funny sometimes,” he says. “People send the money off to charity to save their fa

milies from the negative traits that too much money sometimes instills, but they could be using the idea of charity to help them develop other traits which are the opposite of those they so fear.”

Indeed, Scroggin often counsels clients to set up family foundations, which give equal voice to each family member on the matter of where the money is to be sent. “You have children going off to the site of these charities trying to figure out if they are worthwhile,” he says. “That’s an experience that they otherwise would not have been able to have.”

Take it a step further. Charity and altruistic works don’t even have to be mutually exclusive to trust payouts. Scroggin once had a Baptist minister who had made a pretty penny in the manufacturing business before entering the life of God. The minister, he says, set up a trust that allows a family “Nobel Prize” to be given out each year to the family member who had done the most for mankind. “All the family members would get together and vote on it,” says Scroggin, “but the money isn’t a large enough sum that it would make someone go off and do great things just for the money. There’s a fine line between paying someone to do something and someone doing it and merely getting some money on the side.”

Of course one can mix and match these solutions to achieve a lasting legacy for heirs while also avoiding the negative character traits that enormous sums can sometimes instill. A client can establish a trust with an annuity payout, a family-run charity, college tuition incentives, and a medical safety net. Doesn’t that sound better than turning someone into a jet-setting playboy with a permanent cabana on the Riviera?


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