Trust Administration within the New Paradigm of Estate Planning
Part I: Where are we now? The current status of income and transfer tax for Massachusetts trusts and
residents
1. Income tax rates
a. Where are we now? / How did we get here?
i. 2001 Bush Era Tax Cuts  Fiscal Cliff  2012 American Taxpayer Relief Act
b. Individual and fiduciary income tax rates
i. .9% Medicare Surtax on high income
ii. 3.8% Medicare Contribution Tax on net investment income
iii. 39.6% tax rate on fiduciary income exceeding $12,150
2. Estate Planning Considerations
a. Where are we now?
i. ATRA – New paradigm for estate planning a/k/a ‘Basis Management’
1. Old paradigm was to avoid estate tax inclusion
a. Use lifetime exclusion immediately (time value of money)
b. Less concern about ‘step-up’ under IRC 1014
c. Marked rate difference between transfer tax and income tax
d. State of residence did not significantly impact the plan design
e. Maxim of ‘when in doubt, transfer out’
ii. ‘Permanence’ for the first time since 2000 – enough ‘sunset’ talk ($1MM)
1. Generally planning for estate inclusion
a. ‘Stepped-up’ basis (IRC 1014) vs. ‘carried-over’ basis (IRC 1015)
b. Reunification of the Gift, Estate and Generation Skipping Tax
i. $5MM applicable exclusion amount, indexed for
inflation from 2011
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ii. 40% transfer tax rate
iii. By definition, the exemptions cannot decrease, even in
a deflationary environment
2. Portability and DSUEA – maximize allocation of GST
3. Current $5.34MM/person or $10.68MM/couple transfer tax ‘coupon’
a. 99.7% of estates will not be federally taxable (.3% taxable)
b. With modest inflation, in 20 years:
i. $9.67MM @ 3% inflation
ii. $11.69MM @ 4% inflation
iii. $14.14MM @ 5% inflation
4. Estate Planners  Income Tax Planners
a. ‘Venn Diagrams’ Concept Introduced by Paul Lee @ Heckerling
b. How do the tax law changes affect planning?
i. General consensus that planning for the sub $10MM client is now significantly
more complicated
ii. The new paradigm requires a case by case analysis to maximize effectiveness
1. The ‘Estate Planning Equation’ and elements to consider
a. Time horizon – appreciation of asset vs. inflation
b. Spending habits vs. inflation and increase in exclusion amounts
c. Estate size and available exclusion amounts
d. Asset allocation – returns, tax nature of assets
e. Tax basis – anticipated tax realization on assets
f.
Income – investment and non-investment
g. Tax domicile – grantors and beneficiaries
h. Impact of inflation on exclusion amounts
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2. The Asset Analysis
a. ‘Step-up’ most important  ‘Step-up’ least important
i. IP / Trademarks / Patents @ ordinary or LTCG
ii. ‘Negative Basis’ Commercial RE LPs @ ordinary or LTCG
iii. Artwork / Gold / Collectibles @ 28% LTCG
iv. Low-basis Stocks @ 20% LTCG
v. Roth IRA Assets @ tax free
vi. High-basis Stocks @ 20% LTCG, but minimal gains
vii. Fixed Income @ 20% LTCG, but typically minimal gains
viii. Cash – basis equal to face value
ix. Stocks at a loss – capital loss erased
x. Variable Annuities – Partially IRD Assets
xi. Traditional IRAs / Qualified Plans – Full IRD Assets
b. If making a lifetime gift of appreciated property, the potential
benefit of basis adjustment wears off the longer the Donor lives
i. Appreciating zero-basis assets rarely make sense to gift
ii. Appreciating full-basis assets usually make sense to gift
iii. Flexibility in the plan design rules
iv. Re-examining the role of valuation discounts
1. Valuation for estate tax purposes vs. capital gains tax purposes
a. Reduction in the value of the estate may harm basis planning
v. Residency considerations
c. How do the tax law changes affect planning for MA clients?
i. Does income tax planning and basis management take precedence over
decoupled state estate tax planning?
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d. GST planning issues
i. Remember – no portability of unused GST
Part II: A discussion on administering trusts in recognition of the gap between trust and individual
income tax rates.
1. Income tax and fiduciary considerations
a. Donor’s intent vs. income tax efficiency
b. Working with CPAs and other family advisors
2. Drafting for income tax planning
a. Drafting considerations:
i. Allowing limited powers to amend an irrevocable trust for tax purposes
ii. Decanting provisions – must be in the trust in MA
iii. Trust Protectors and Independent Trustees
1. Estate planning standard of care may evolve to include granting a Trust
Protector or Independent Trustee the ability to grant a beneficiary a
testamentary general power of appointment to achieve basis step-up
iv. Swapping low-basis assets for high-basis assets
1. For IDGTs, Rev. Rul. 2008-22 provided that a Grantor’s retained power
under IRC 675(4)(C) to substitute assets of equivalent value in a nonfiduciary capacity won’t trigger estate inclusion under IRC 2036
provided the assets substitutes are of equivalent value
v. Zeroed-out gift planning to reduce the value of the estate without sacrificing
the client’s coupon (e.g. zeroed-out GRATs)
b. Marital deduction planning and ‘funding’ formulas
i. A/B/C Trust Planning (Non-Marital Share, Marital Share 1 & Marital Share 2)
1. Particularly indicated for 2nd marriages, blended families, or estates with
different contingent beneficiaries
a. Do the clients view their assets as separate or joint?
2. ‘Pick & Choose’ asset allocation for fractional formulas
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3. Discretionary distributions to surviving spouse coupled with Trustee
authority to make distributions to capitalize on basis increase
ii. Disclaimer Trust Planning
1. Likely indicated for 1st marriages and estates with ‘mirror’ contingent
beneficiaries
a. Do the clients view their assets as separate or joint?
2. A refusal to accept property, so it is treated as having never been
received, to reduce transfer taxes and create inter-generational
transfers, provided they meet the following set of requirements:
a. Must be signed and in writing
b. Must identify the property or interest being disclaimed
c. Must be delivered, in writing, to the person or entity charged
with the obligation of transferring assets
d. Must be written within 9 months of the property transfer
iii. Clayton Election Planning (Clayton v. Comm’r, 976 F.2d 1486 (5th Circuit 1992))
1. Likely indicated for 1st marriages and estates with ‘mirror’ contingent
beneficiaries
a. Do the clients view their assets as separate or joint?
2. Flexibility – 15 months (9 month 706 filing due date plus a 6 month
extension) after the death of the decedent to assess the situation and
determine how much trust property should be elected for the QTIP
marital deduction
3. Non-elected assets pass to a credit shelter for the benefit of
beneficiaries (spouse, spouse and others)
4. A surviving spouse acting as PR, when making the QTIP election and
directing assets away from himself or herself, does not make a qualified
disclaimer  Appoint an independent person to make the election
a. Assume a MA decedent with a gross estate after deductions of
$4MM, a federal exclusion amount of $5.34MM, and a MA
exclusion amount of $1MM (w/ separate QTIP elections for
federal and state).
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b. The PR could elect $4MM for non-QTIP treatment for federal
purposes and $1MM for MA purposes with no estate tax due.
The Non-Marital Share would be funded with $1MM, the
amount elected out of QTIP treatment for both federal and
state purposes. The Marital Share would be funded with
$3MM, the amount elected out of QTIP treatment for federal
purposes, but not for state purposes.
c. Specific/Sample clauses being used
i. Amendment of irrevocable trust for tax purposes
ii. Decanting language
iii. Grant of testamentary general power of appointment
iv. Grant of Trustee authority to make distributions to capitalize on basis increase
Conclusion and Questions
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