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April 14, 2002 at 08:00 PM
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This article discusses the strategies that clients may wish to consider to provide a more orderly transfer of assets during life and at death, as well as reduce the potential estate taxes by removing assets from the taxable estate.
When it becomes apparent through the fact-finding process that your clients either have or will have a substantial estate, it may be helpful to consider the following planning techniques that can greatly reduce estate costs.
1. Gifts. Outright gifts could effectively pass control to another family member and reduce the clients estate. Minority and/or lack of marketability discounts may leverage the value of the property gifted. Use of annual gift tax exclusions and/or unified credit amounts can minimize (or possibly make tax-free) any gift taxes owed by the client upon transfer.
An example of an asset that can be transferred as an outright gift is stock. Another example is a life insurance policy, currently owned by the client. A transfer of the policy by gifting to a child, or an irrevocable life insurance trust can remove the death proceeds from the clients estate and pass the proceeds income and estate tax free to the child.
2. Installment Sale. Transferring amounts out of the estate that exceed the unified credit amount or the annual exclusion amount can be done by using an installment note. An installment sale allows the transfer of an asset to another person in exchange for a promise to pay the value of that asset to the client in installment payments. An installment sale provides the client with a stream of income as the payments are received.
If the note is not paid off at the clients death, the balance of the note due would be included in the clients estate unless the note was a SCIN (self-canceling installment note). In order to make the note a SCIN, a greater purchase price or higher interest rate on the installments must be paid. However, this would result in an increased return to the client which would somewhat offset the estate reduction.
An alternative to the SCIN is to use part of the payments to purchase life insurance in an irrevocable trust especially for the remaining payoff that would be due the estate and would complete the transfer of the asset to the desired family member.
3. Private Annuity. A private annuity provides another means of removing property from the clients estate. Current assets can be transferred to a child in exchange for the childs promise to pay a fixed annuity to the client for the remainder of the clients life (or possibly the joint lives of the client and spouse). The present value of the annuity must be the exact value of the asset transferred.
4. Family Limited Partnership (FLP) or Limited Liability Company (LLC). The key feature of the FLP or LLC is the ability for the entity to transfer substantial wealth to other family members using relatively deep discounting (using both minority and lack of marketability discounts where appropriate) while retaining control of the entity.
In the FLP, this is accomplished by transferring the assets from the client’s estate into the FLP using discounts. The client is usually the general partner. The FLP units are then gifted to other family members, possibly again at a discount. Other benefits include the possibility of shifting income to a lower tax bracket family member, creditor protection (especially with an LLC), the ability to control the distribution of the units, avoidance of probate for out of state property (especially real estate), and flexibility of design. There is an estate tax consequence to the client who is the general partner. Whatever percentage of ownership the client keeps as general partner (usually 1%-2%) is also the value of the FLP that remains in the clients estate. An FLP or LLC can own life insurance for this purpose.
