The Train is Leaving the Station
Estate Planning in 2012
October 10, 2012
William L. Montague
Frost Brown Todd LLC
wmontague@fbtlaw.com
3300 Great American Tower
301 East Fourth Street
Cincinnati, Ohio 45202
(513) 651-6920
7310 Turfway Road
Suite 210
Florence, Kentucky 41042
(859) 517-5920

William L. Montague is a member of the
Cincinnati and Northern Kentucky law firm of
Frost Brown Todd LLC, where his practice is
concentrated in estate, business and estate
planning, charitable giving and estate
administration. He received his B.A. degree,
magna cum laude, from Wittenberg University
and his J.D. degree from the University of
Cincinnati College of Law. Mr. Montague has coauthored several articles and is a frequent
speaker on the topics of estate planning, estate
administration and taxation. He has been
repeatedly recognized as a Best Lawyer in
America and Ohio Super Lawyer.
Historic Time Period
Next 3 Months

Gift Tax Exemption -

Depressed Asset Values – The values of

Historically low interest rates
$5,120,000 sheltered
from gift tax ($10,240,000 for a married couple) for gifts
in 2012
many assets, including marketable securities, business
interests and real estate, remain low in many cases


For loans, the interest rate for a 9 year loan in
October 2012 is .93%
For other transactions such as GRATs and CLATs, the
interest rate for October 2012 is 1.2%
Take Advantage of Larger
Gift Tax Exemption
Next 3 Months

Direct Gifts to Children –

Direct Gift to Irrevocable Trust for
Children– Protects the gifted assets from estate
much protection for the children
simple, but not as
taxation at the children’s deaths, from the children’s
creditors, and from the divorce of a child. Can also
provide asset management, if needed

Direct Gift by One Spouse to
Irrevocable Trust for Other Spouse
and Children – Provides same protections for
children, but provides the additional benefit of making
assets available to the other spouse if living needs
require in the future
Take Advantage of Larger
Gift Tax Exemption
Next 3 Months

Leveraged Gift to Irrevocable Trust
for Children– Protects the gifted assets from
estate taxation at the children’s deaths, from the
children’s creditors, and from the divorce of a child.
Can also provide asset management, if needed

Leveraged Gift by One Spouse to
Irrevocable Trust for Other Spouse
and Children – Provides same protections for
children, but provides the additional benefit of making
assets available to the other spouse if living needs
require in the future
Take Advantage of Low
Interest Rates
Next 3 Months

Direct Loan to Children –

Direct Loan to Irrevocable Trust for
Children– Protects the gifted assets from estate
much protection for the children
simple, but not as
taxation at the children’s deaths, from the children’s
creditors, and from the divorce of a child. Can also
provide asset management, if needed

Direct Loan by One Spouse to
Irrevocable Trust for Other Spouse
and Children – Provides same protections for
children, but provides the additional benefit of making
assets available to the other spouse if living needs
require in the future
Loan to
Lifetime Trust
Loan to Lifetime Trust
Step 1: Set up Irrevocable Trust
and Fund it with Cash
Husband
& Wife
$100,000
cash
Irrevocable
Trust
Loan to Lifetime Trust
Step 2: Apply Generation Skipping Exemption on Gift Tax
Return
Husband
& Wife
$100,000
GST Exemption
Irrevocable
Trust
Loan to Lifetime Trust
Step 3: Loan Money to Irrevocable Trust
$900,000
loan
Husband
& Wife
(9 years at
.93% interest)
Irrevocable
Trust
Loan to Lifetime Trust
Step 4: Pay Loan Back at End of 9 Years
Husband
& Wife
Payoff of loan
$900,000
Irrevocable Trust
Original assets
Growth*
Loan payoff in year 9
$1,000,000
$740,000
($900,000)
Value of Trust in Year 9 $840,000
*Assumes 7% annual total return on investment
and annual interest payments of .93%
Leveraged Gift
to Lifetime
Trust
Installment Sale to Grantor Trust
Original
Scenario
100 shares
100% ownership
Steve
$1,200,000 annual
distribution
XYZ
Manufacturing
$15,000,000
Installment Sale to Grantor Trust
Creation and Funding of Irrevocable Trust
2
Gift of $600,000 cash
3
Steve
Sale of 50 nonvoting
shares ($5,250,000)
with 30% discount)
$500,000 in cash and
$4,750,000 promissory note
5 voting shares
($750,000)
1
95 nonvoting shares
($14,250,000)
XYZ
Manufacturing
Irrevocable
Trust
Installment Sale to Grantor Trust
Cash Flow
(Year 1)
Taxes
($526,000)
IRS
Steve
$600,000
note payment
50% of profit
distributions
($600,000)
XYZ
Manufacturing
Irrevocable
Trust
50% of profit
distributions
($600,000)
premium
payments
Life
Insurance
Installment Sale to Grantor Trust
Step Four: Sale of XYZ Manufacturing in 2017 for $30,000,000
Steve
management
control
XYZ
Manufacturing
Cash $30,000,000
$882,000
promissory
note
balance
Irrevocable
Trust
50 nonvoting
shares
assets
Cash $30,000,000
Buyer
Buyer
Installment Sale to Grantor Trust
Step Five: Distribution of Sale Proceeds
$882,000
promissory
note
Steve
Irrevocable
Trust
Cash $15,000,000
$15,000,000
cash distribution
50 voting and
management nonvoting
control
shares
$15,000,000
cash distribution
XYZ
Manufacturing
Cash $30,000,000
50 nonvoting
shares
Installment Sale to Grantor Trust
After Sale of XYZ Manufacturing
Option 1: No Reimbursement for Income Taxes
Irrevocable
Trust
IRS
$7,500,000
tax payment
Steve
Sales proceeds $15,000,000
Note payment $882,000
Income taxes ($7,500,000)
Net proceeds $8,382,000
$882,000
promissory
note
payoff
Sales proceeds
Payoff of Note
$15,000,000
($882,000)
Net proceeds
$14,118,000
Installment Sale to Grantor Trust
After Sale of XYZ Manufacturing
Option 2: Reimbursement for Income Taxes
Irrevocable
Trust
IRS
$3,750,000
tax
reimbursement
$7,500,000
tax payment
Steve
Sales proceeds $15,000,000
Tax reimbursement $3,750,000
Note payment
$882,000
Income taxes
($7,500,000)
Net proceeds
$12,132,000
$882,000
promissory
note
payoff
Sales proceeds
$15,000,000
Tax reimbursement ($3,750,000)
Payoff of Note
($882,000)
Net proceeds
$10,368,000
Installment Sale to Grantor Trust
Bottom Line
$14,118,000* is sheltered from
estate tax inside the Irrevocable
Trust at a gift tax cost of $600,000,
which is leverage of more than
23 to 1!
*Assumes Steve will not request reimbursement for income taxes paid on behalf of Irrevocable Trust.
Installment Sale to Grantor Trust

Step One: Recapitalize company into voting and

Step Two: Seed the irrevocable trust with gifted

Step Three: Steve sells nonvoting stock to the

Step Four: Make note payments back to Steve
nonvoting shares
assets so that the purchaser of nonvoting stock will
be a “creditworthy” purchaser
Irrevocable Trust, free of capital gain taxes, in
exchange for an installment promissory note
with cash flow generated by corporate distributions
paid to the Irrevocable Trust
Installment Sale to Grantor Trust



Issue #1: The only taxable gift is the gift of
the seed money. The sale portion of the
transaction is an arms length transfer, and is
not subject to gift tax or generation skipping
tax.
Issue #2: Be sure that the term of the note
is not excessive, or the IRS could argue that
the transfer is with a retained life interest. If
the note is paid off prior to death, nothing
gets reported on an estate tax return
Issue #3: As is the case with all large gifts,
valuation is critical!!
Installment Sale to Grantor Trust

Advantages


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
No gain recognized by grantor on sale
Payment of income taxes by grantor rather than
by irrevocable trust (reducing the size of grantor’s
estate)
Favorable interest rates
Payment flexibility / refinancing
Protected from estate taxation in multiple
generations
Partial disclosure on gift tax return / no disclosure
on income tax return
Installment Sale to Grantor Trust

IRS attack in Karamazin



It is preferable to have the trust own assets
other than interests in the entity being sold
If personal guarantees would be required by a
commercial lender, they should be used here
There should be sufficient entity income to
assure repayment of the note