Chapter 14: Gift and Estate Tax Planning II-Trust and Closely- Held Business Strategies
Trust offer the non-tax advantages of reducing probate cost and securing privacy for the donor,
they also reduce the gross estate and help you shift to a lower tax bracket.
14,003 Power of Appointment-Tax Considerations
.01 General Vs. Limited Power of Appointment
A power of appointment determines who will enjoy in the future the property subject to
the power. This power can be classified as either GENERAL POWERS OF
APPOINTMENT (GPA) or LIMTED POWERS OF APPOINTMENT (LPA).
A GPA allows the holder to appoint himself or his creditors, estate, or creditors of the
estate to enjoy the benefits of the property. If the holder dies, the FMV of the property is
include in his estate. A LPA allows the holder to appoint anyone but himself to enjoy the
benefits of the property. There are NO gift or estate tax consequences to the holder of the
.03 Lapse of a power of appointment
A lapse of a GPA is subject to gift tax only if the value of the proper is greater than
$5,000. This exception does not apply in the year of death.
.05 The Ascertainable standard exception
There is an exception to the LPA that allows the holder to consume such property for his
benefit under ascertainable standard; this must be related to the holder’s health,
education, support or maintenance.
14,005 Trusts: Classification as Revocable and Irrevocable
.01 Revocable trusts-Tax Consequences
A revocable trust is where the creator can revoke or terminate the trust. If the trust is
revoked means that there was no gift during the trust, the trust will be included back on
the transferors estate and that the transferor will be tax on the income of the trust. The tax
consequences of a revocable trust are the same as if the trust was never created. The
advantages of revocable trust are that you avoid probate cost, and it provides privacy to
.03 Irrevocable trusts (IT) - Tax Consequences
There are tax benefits when you create an irrevocable trust; this means that you have to
relinquish all power over the trust. A common IT is when an income interest for life is
provided to one beneficiary and the remainder interest to another beneficiary. This
creates a two gift: a gift of income interest and a gift of the remainder interest. The
income interest qualifies for the annual exclusion, since it’s a gift of a present interest.
14,007 Irrevocable transfer with retained life estate: General Tax Consequences
If a transferor decides to retain an income interest for himself, this produces several tax
consequences under Code Sec. 2036 that would bring this trust back into its estate at the
point of death.
14,009 Insurance trust and trust for minors
.01 Insurance Trust
The insured grantor creates an irrevocable trust, which in returns purchases insurance on
the grantors life. When the insured dies, the trust owns the policy and the proceeds will
not be included in the insured’s estate.
.03 Trust for minors
This type of trust generates substantial tax savings, to obtain this benefits the control over
the trust must be surrendered in order to qualify has a gift.
14,011 Trust and Charitable Contributions
The tax benefit of this trust to charities is that they can be deducted during their lifetime
and are not considered part of a gift tax. These types of transfers can be charitable
remainder trust and the charitable lead trust.
.01 Charitable reminder trust
The grantor makes a gift to a charity now, but he reserves for him the income from the
gifted property for life. The income can be a fixed dollar amount per year also known as a
charitable remainder annuity trust or a percentage of the value of the assets also known as
a charitable remainder unitrust.
.03 Charitable lead trust
Involves a contribution of property to a trust. The trust term is for a fixed period of years
and the income of the trust goes to the charity. When the term expires the remainder
interest in the property passes to the grantors children. The benefit of this type of trust is
that it provides income immediately to the charity and a tax deduction to the grantor and
there are also no probate costs.
14,013 Estates Freezes – An Introduction
.01 Estate Freezes: A Historical Perspective
Estate freezes were popular in the 80’s and they were used within the context of family
business. The technique was that the business owner approaching retirement would
recapitalize the business and issue two types of stocks, voting preferred and nonvoting
common. The nonvoting stocks would be given to the children; this made a shift of
appreciation potential to the younger generation without very little transfer tax cost.
14,015 Installment Sales as a Freeze Strategy
.01 Reporting the installment sale
An individual near retirement might sale its property under Code Sec. 453 as a means of
“freezing” the estate value of the property. If the seller dies before collecting all the
proceeds of the sales, only the reminder uncollectable amount will be included in the
.03 Self-canceling installment notes (SCIN)
A SCIN is when the terms of payments between a sale of property between family
members are amended to provide installment payments that will continue until the
property is paid or the seller dies, which ever occurs first.
14,017 Using Trusts for Estate Freezes
Three common uses of trust for estate freezes purposes are Grantor Retained Income
Trust (GRITs, Grantor Retained Annuity Trusts (GRATs), and Grantor Retained Unitrust
.01 Grantor Retained Income Trusts (GRITs)
In a GRIT, the grantor would transfer investment property to a trust, and it reserves a
partial interest for the trust and the remaining interest goes to the family at the time of
.03 Grantor Retained Annuity Trusts
In a GRAT a grantor transfers an asset and retains the right to receive a fixed annuity for
a stated term of years. The amount to be received can be a fixed amount of dollars or a
percentage of the initial value of the trust.
.05 Grantor Retained Unitrust (GRUTs)
A GRUT is the same as the GRAT; the only difference is that the GRUT payment is
calculated on a yearly basis using the FMV of the trust.
14,021 The Limited Partnership as an Estate Planning Tool
.01 Tax Benefit of a Family Limited Partnership
The donor with the business interest would form a limited partnership, transferring assets
for both general and limited partnership units. The general partnership units are retained
by the donor to maintain control of the partnership. The donor would then begin gifting
annually the limited partnership interest to his children utilizing the annual exclusion.
.03 IRS Attach on FLPs
The IRS has mounted serious attacks against the use of FLPs. The weapons used against
the FLPs have been (1) a lack of business purpose, (2) a failure to respect the partnership
form, (3) a step-transaction, single testamentary theory, and (4) disqualification under
code sec 2036.
14,023 Utilizing the Intentionally Defective Irrevocable Trust
An Intentionally Defective Irrevocable Trust (IDIT) is works like a GRAT and offers
advantages that the GRAT does not; the courts have not vetted this technique.
14,025 Documenting and Implementing and Estate Plan
Every good estate requires two steps: (1) Documentation and (2) Implementation.
A GPA permits the holder to appoint anyone to enjoy the property in question, including
the holder of the power; a specific power of appointment permits anyone but the holder
of the power to enjoy the property unless an “ascertainable standard” is provided in the
The typical irrevocable trust arrangement generally provides for an income interest (a life
estate) and remainder interest. The latter is valued firs using 120 percent of the applicable
federal rate, and the former is the residual after deducting the remaining interest from the
fair market value of the trust property.
A grantor retained income trust (GRIT) is valued under the general remainder interest
computation, unless the remainder beneficiary is an applicable family member, in which
case the retained income interest is valued at zero. An exception applies for certain
qualifying persona residence trusts.
A life insurance trust is a common estate planning too, and premium payments made by
the grantor may qualify for the annual exclusion if the beneficiary (usually minor
children) are given a limited right of withdraw (often referred to as a “Crummey power”).
A charitable remainder trust is generally structured with a life estate to the grantor and a
remainder interest to the charity; a charitable lead trust provides for a life estate to the
charity (which qualifies for an annual gift tax exclusion) and a remainder interest to the
GRATs and GRUTs are common estate planning tools used to “freeze” the underlying
value of an estate. If the grantor dies during the term of the trust, the value of the trust
property is included in the grantor’s estate.
Estate tax saving occur with a GRAT or GRUT when the annual rate of appreciation for
the underlying trust property exceeds the discount rate used to value the remainder
interest in the GRAT or GRUT.
A FLP has become the most popular vehicle for creating transfer tax savings. In such an
arrangement, the donor usually retains the general partnership interest for control
purposes, and begins gifting limited partnership interest to children annually and takes
advantage of the annual gift tax exclusion, minority discounts for lack of marketability.
Arguments by the IRS to attack FLPs include (1) lack of business purposes, (2) failure to
respect the partnership form, (3) step-transaction doctrine, and (4) disqualified under
code sec. 2036(a).
Every successful estate plan requires good documentation and implementation.
1. A ____________ power of appointment allows the holder to appoint anyone to enjoy the
property, including the holder himself or herself and his or her creditors, estate, or
creditors of the estate.
2. In many installment sales involving family members, the term of the installment note are
amended to provide that the installment payments continue until the total sales price is
received or the seller dies, whichever occurs first. This is a contingent payment
installment sale that is often referred to as a _________________ installment note.
3. Which of the following is not an argument used by the IRS to attack FLPs:
a. Lack of business purpose
b. Failure to respect the partnership form
c. Step-transaction doctrine
d. All of the above are arguments the IRS uses to attack FLPs.
4. Which of the following trust arrangements has not yet been vetted by the courts:
5. The devaluation of closely held stocks on the theory that the sum of the fractional shares
of a business does not necessary equal the whole is called a(n):
a. Minority discount
b. Estate Freeze
d. Closely held stock discount.