Sun. Mar 7th, 2021

ESTATE PLANNING SECRETS: HOW TO AVOID PAYING ESTATE TAXES
By: P. Thomas Austin

HOW THE ESTATE TAX RULES CAN FOOL YOU

The worst mistake that an individual can make about the tax treatment of estates is to assume it is now so generous that estate planning is hardly necessary.

Married individuals can leave all their financial holdings to their spouse free of any estate tax. This sounds like a bonanza, but unless a careful plan is drawn up, the overall tax burden on a married couple could wind up being more than it should be.

The unlimited marital deduction gives a couple a free tax ride in the first estate. But it can have very negative tax consequences when the surviving spouse dies. Reason: Property that passes tax-free in the first estate must be included in the surviving spouse’s taxable estate. Assuming the survivor dies without dissipating the estate, that second estate will be subject to tax on the full inherited amount plus its appreciated value (unless the spouse remarries and leaves everything to that surviving spouse). Possible impact: A greater overall tax on the spouse’s combined estates.

Source: Sanford J. Schlesinger, partner, Shea & Gould, New York City, and adjunct professor of law, New York Law School.

SMARTER THAN LEAVING EVERYTHING TO SPOUSE

New York attorney Marvin W. Weinstein, who specializes in taxes and estate planning, suggests using dual trusts in some cases, with one qualified and the other not qualified for the marital deduction. Important when the objective is to provide liberally for the surviving spouse, but reduce estate taxes on transfers to the next generation. A marital trust is eligible for the marital deduction from the estate tax, but it has the disadvantage that the assets will be taxed in the wife’s estate when she dies.

By contrast, a non-marital trust isn’t eligible for the marital deduction from the estate tax. The assets are moved to the next generation without being taxed in the widow’s estate when she dies. A typical non-marital trust would be one in which the widow gets all of the income as long as she lives, but on the death the principal passes to the children.

The two types of trust differ in the degree of control of the assets that the widow has. And there are legal/technical requirements that a good trust lawyer should handle.

These procedures are unnecessary if the estate is less than $600,000, because there’s no estate tax below that.

TOUGH-MINDED ESTATE PLANNING

It may seem callous to even think about taxes when a loved one faces a life-threatening illness. But, if tax planning is ignored at that point, assets carefully accumulated over a lifetime may be squandered unnecessarily. For many facing a final illness, dealing with these matters provides a life-oriented focus that helps them combat depression and achieve a sense of completion in seeing that their affairs are well ordered. Some things to consider:

*Gifts by the patient. In many cases, estate taxes can be saved by making gifts to family members and other intended beneficiaries. An unlimited amount may be transferred gift-tax-free provided no one person receives more than $10,000. The maximum tax-free gift per recipient can increase to $20,000 if the patient’s spouse is still alive and consents to treat each
gift as having been jointly made.

Under the old law, gifts made within three years of death were figured back into the taxable estate. The 1981 Tax Act repealed this “contemplation-of-death” rule in most cases. One major exception: The old rule still applies to gifts of life insurance.

*Gifts to the patient. This tactic may seem useful when the patient doesn’t have enough property to take full advantage of the estate tax exemption ($600,000). Reason: Property that passes through the decedent’s estate gets what’s known as a stepped-up basis. That is, the person who inherits it is treated for income tax purposes as though he bought it and paid what it is worth on the date of death. (Or what it was worth six months after the date of death if the executor chooses this alternative date to set the value of the taxable estate.)

Example: Mr. Jones, a cancer patient, has $150,000 worth of assets. His wife has a large estate, including $75,000 worth of stock that has a tax-basis of $10,000. That means there’s $65,000 worth of taxable gain built into the stock. She gives the stock to her husband, (There’s no tax on gifts between spouses.) Mr. Jones leaves the stock to the children. The children inherit the stock with the basis stepped up to $75,000. So if they turn right around and sell it for $75,000, there’s no taxable gain. With these shares, Mr. Jones’s estate is still only $225,000 – under the exempt
amount. So the stepped-up basis is achieved without paying estate tax. And the property is taken out of Mrs. Jones’s estate, where it might be taxed.

In most cases, it doesn’t pay to use this tactic with property that will be bequeathed back to a spouse who gave it to the patient. Reason: Unless the gift was made more than a year before the date of death, stepped-up basis will be denied. But when the patient is expected to survive for substantially more than a year, this tactic can be quite useful.

Example: Mr. Smith owns a $150,000 rental property with a $25,000 tax-basis. Mrs. Smith has a disease that will be fatal within two to five years. She has few assets of her own. So Mr. Smith gives her the building and inherits it back from her a few years later with the basis stepped up to $150,000. This substantially increases his depreciation deductions if he keeps the building, and eliminates any taxable gain if he sells it.

*Loss property. In general, there is a tax disadvantage in inheriting property that is worth less than its original cost. Reason: Its tax-basis is stepped-down to its date-of-death value and the potential loss deduction is forfeited. If the patient has substantial income, it might pay to sell the property and deduct the losses. But it doesn’t pay to generate losses that are more than $3,000 in excess of the patient’s capital gains. Reason: These excess losses can’t be deducted currently, and there’s likely to be no future years’ income on which to deduct them. Alternative: Sell the loss
property at its current value to a close family member. Reason: The patient’s loss on the sale is nondeductible, because the purchaser is a family member. But any future gains the family member realizes will be nontaxable to the extent of the previously disallowed loss.

*Charitable gifts. In some cases, bequests to charitable organizations should be made before death. Benefit: Current income tax deductions. But it’s important not to give too much away. This tactic may generate more deductions than the patient can use.

*Flower bonds. Certain series of US Treasury bonds can be purchased on the open market for substantially less than their full face value, because they pay very low interest. But if a decedent owns these so-called flower bonds on the date of death, they can be credited against the estate tax at their full face value.

Timing: Flower bonds should be bought when death is clearly imminent. There’s little point in holding them for substantial periods before death because they yield very little income. On the other hand, it does no good for the estate to purchase them after death because they won’t be applied against the estate tax. In some cases, flower bonds have been bought on behalf of a patient in a coma by a relative or trustee who holds a power of attorney. The IRS has attacked these purchases. But the courts have, so far, sided with the taxpayer.

A power of attorney should be prepared early on. If it’s properly drafted, it can cover flower bond purchases and authority for a wide variety of other actions that can preserve the patient’s assets and allow for flexible planning.

Income tax planning: A number of income tax moves should be considered:

*Income timing. If the patient is in a low tax bracket, it may pay to accelerate income. The key here is to compare the patient’s tax bracket with the bracket his estate is likely to be in. In some cases, it will pay to accelerate income to make full use of deductions that would otherwise yield little or no tax benefit. Medical deductions, in particular, may be very high.

*Choosing gift property. In making gifts to save estate taxes, it does not pay from an income tax standpoint to give away property that has gone up in value. Reason: The tax-basis of gift property is not stepped up. So the recipient will have a potential income tax liability built into the gift. This potential is eliminated if the property is kept in the estate and passes by inheritance. For similar reasons, the patient should not give away business property that has been subject to depreciation. (There’s a built-in tax liability for recapture of the depreciation deductions. This
is eliminated if the property passes through the estate.)

*Other moves. For owners of stock in an S corporation, it may pay to accelerate distribution of income, particularly if the ill shareholder has previously taxed income that wasn’t distributed.

Where death is expected, but not clearly imminent, a private annuity may be a useful way of disposing of property. Reason: IRS regulations will key the required annuity payments to a healthy person’s life expectancy.

An experienced estate planner can help you explore all aspects of these moves and other possibilities.

Source: G. William Clapp, partner, Bessemer Trust Co., N.A., New York City.

USE OF MUTUAL WILLS CAN FORFEIT MARITAL DEDUCTION

A husband might want to leave a big chunk of property to his wife when he dies, but he may fear that she will make no provision to bequeath any of this property to his relatives or friends. She may feel the same way about leaving property to him. One solution to this dilemma is to have the spouses make mutual wills, in which each party agrees to leave inherited property to the survivor, who after death will leave specified property to designated relatives or friends of both parties.

Problem: The solution may create tax problems involving marital deductions on the estate tax return. If the wife, for example, was contractually bound by a mutual will to bequeath whatever remains of her late husband’s property to, say, the children, his property has not passed on to her without strings. This deduction only applies if the property passes outright.

State law is important here to determine whether the property passing to her under her husband’s will was really contractually subject to a condition. In one decision on this frequent issue, the court held that under New York law a state resident is bound by such a restriction, and hence the property earmarked for the children upon the death didn’t qualify for the marital deduction because she didn’t receive this property outright and without strings.

Indicated action: Check with tax counsel for the precedent in your state.

Source: David A. Siegel Estate, 67 TC, No. 50.

SAVING THE MARITAL DEDUCTION WHEN HUSBAND AND WIFE DIE SIMULTANEOUSLY

There is a tendency to assume that one spouse , most frequently the party whose estate is being planned, will die before the other. But it is wise to have contingency plans in case both spouses die in a common disaster where it isn’t possible to determine the sequence of their deaths. The order of their deaths is significant in such areas as the distribution of jointly owned property, life insurance, the marital deduction and powers of appointment.

It is state and not federal law that covers the sequence of deaths in a common disaster where there is not sufficient evidence that the parties have died otherwise than simultaneously. Most states have adopted some version of the Uniform Simultaneous Deaths Act. The purpose of this legislation is to solve the problem of the passage of property when distribution depends upon the order of death and the circumstances are such that it is not ascertainable.

In those states where the Act is in force, and it is impossible to determine the sequence of death of husband and wife, the estate is not entitled to the marital deduction since no property could have passed from one to another.

A will may provide that in the case of a common disaster, the person who wrote the will died first. The wills of both husband and wife can contain such a provision. Then the property going to the spouse surviving under this created presumption will qualify for the marital deduction. This is usually advisable when one spouse – usually the husband – is much wealthier than the other.

Source: Encyclopedia of Estate Planning by Robert S. Holzman,

Boardroom Books, Springfield, NJ 07081.

SCARIEST TAX AUDIT IS THE ONE RIGHT AFTER YOU DIE

It is standard operating procedure for the Internal Revenue Service to examine the federal income tax returns of a decedent for the three years prior to his death.

Unless clear and well-documented work papers can be shown and explained to the IRS by a knowledgeable person familiar with the facts, there are apt to be disallowances because of lack of substantiation.

Can your returns be explained satisfactorily by someone else when you are not available?

Information as to where records are located should not be in the will. Rather, include it in a separate communication to the executor in advance, or leave it among personal possessions.

Source: Estate Planning: The New Golden Opportunities by Robert S. Holzman,

Boardroom Books, Springfield, NJ 07081.

HIDE ASSETS FROM THE IRS – LEGALLY

Many people keep assets in a safe-deposit box thinking that no one will ever find out about it. But the name of the renter of a safe-deposit box isn’t kept secret. It doesn’t help to rent a box in your own name; there’s an organization that, for less than $100, will run a search of every bank in the country to see if you are a safe-deposit box customer. And the IRS, if it’s looking for assets of yours, will do a bank search for safe-deposit boxes held in your name. (It’s especially easy for the IRS to track down boxes that you pay for with a personal check… it simply goes through your
canceled checks.)

To conceal the existence of a safe-deposit box:

*Ask your lawyer to set up a nominee corporation-a corporation that has no other function but to stand in your place for the purposes you designate, such as to rent a safe-deposit box.

*Rent a box in the name of the corporation and pay for it in cash. Your name and signature will be on the bank signature card, but the corporation, not you, will be listed as the box’s owner on the bank’s records. And because you paid cash, there will be nothing in your records to connect the box with you.

*You can, if you want, name another person as signatory in addition to yourself. Then, if something happens to you, that person will be able to get into the box.

Additional protection: Having a safe-deposit box in a corporation’s name permits the box to be opened by your survivors without the state’s or the bank’s being notified of your death and having the box sealed. Otherwise, the survivor must get to the box before the funeral to look for a will and to find whatever else may be there.

*The American Safe Deposit Association, 330 West Main Street, Greenwood, IN 46412 – (317) 888-1118.

Source: Edward Mendlowitz, partner,

Mendlowitz Weitsen, CPAs, New York.

CASH FOUND IN DECEDENT’S SAFE-DEPOSIT BOX

What was the source of any cash in a safe-deposit box or in your home or office? In the absence of proof to the contrary, the Internal Revenue Service will consider any unexplained cash to represent previously untaxed income. This presumption can be refuted if there is credible evidence. For example, there may be a letter to your executor stating that Social Security checks or horse track winnings (reported) will be converted into cash, to be kept in the box as an emergency fund. Correspondence can identify cash as having been found money, which had been turned over to the police department and given back to the finder when no claimant appeared.

Source: Encyclopedia of Estate Planning by Robert S. Holzman,

Boardroom Books, Springfield, NJ 07081.

SUPER LIFE INSURANCE LOOPHOLES

There are as many life insurance loopholes as there are kinds of life insurance – and even a few more in addition. Here are the biggest and best:

*Group-term insurance is life insurance that the company buys on your behalf. As long as the coverage does not exceed $50,000, you are not taxed on the premiums the employer pays. But if the coverage is more than $50,000, you are taxed on part of the premiums. Loophole: The taxable amount is figured under IRS tables and is less than the actual premiums paid. You pay some tax for the extra coverage, but the cost (in taxes) is far less than the cost of similar coverage outside the company.

Example: Say you’re age 39 and have $150,000 group-term insurance paid by the employer. The company pays, say, premiums of $400 a year. But the amount you’re taxed on (from the IRS table) is only $168 per year for the extra $100,000 in coverage. Note: Key employees will be taxed on the first $50,000 of coverage if the insurance plan discriminates in their favor.

*Split-dollar life insurance is also done through the company. You and your employer join in buying an insurance contract on your life. The employer pays part of the premium (to the extent of the annual increase in the cash surrender value) and you pay the rest. Here, again, the employee has to pay tax on part of the premiums. But the taxable amount is, again, based on IRS
tables, and results in cheap coverage.

*Universal life is a form of whole life that combines insurance protection with an investment account. Example: Jones contracts with a life insurance company for a whole-life policy for a $1,500 annual premium. The cost of the insurance part of the policy is only $500, say. The company will take the extra $1,000 and invest it at market-rate interest. Loophole: The
interest you earn stays in the policy. It is not taxable to you until you take it out, and then you only pay tax if the money you take out is greater than the full amount of premiums paid in. Bonus: You can get the use of the money by borrowing it out.

*Alimony insurance. This is insurance on your life (with the proceeds payable to your ex-spouse) to guarantee alimony payments. Loophole: The premiums you pay are deductible as alimony, and taxable to your ex-spouse. Trap: If the separation agreement and the policy are not properly worded, the proceeds may be included in your estate, even though they’re paid to your ex-spouse.

*Buy-sell insurance. It’s used by stockholders of a closely held corporation who have an agreement that when one of them dies, the proceeds of the life insurance policy (owned by the company) will be used to buy the deceased’s stock from his estate.

Loophole: The stock is revalued to market value in the deceased’s estate-it gets a stepped-up basis for tax purposes. (If the stock costs $1,000 and the life insurance proceeds are $100,000 the stock is valued in the estate at $100,000.) When the estate sells the stock back to the company, no income tax is payable on the gain. The proceeds of the policy may, however, be subject to estate tax. Another benefit: Cheaper insurance. You’re using the corporation’s money, which is subject to a lower tax, to pay premiums on the policy. Because the company is in a lower tax bracket than you, it has to earn less money than you do to pay a premium of the same size.

*Cross-purchase insurance – used where there are two owners of a closely held corporation. Instead of the corporation owning the policy and paying the premiums, each partner owns the policy on the other’s life. When one of the owners dies, he gets the insurance proceeds tax free. He uses the proceeds to buy the other owner’s stock from the estate. Now he owns 100% of the company. His basis now includes the insurance proceeds. When he sells the company, he escapes tax on the purchase price to the extent of his basis.

Who Should Own Your Insurance Policy?

If you own the policy yourself, or if you retain any ownership rights over the policy at your death, the proceeds will he included in your estate and may be subject to estate tax. If your spouse owns the policy and you die first, the proceeds become part of her estate, subject to estate tax.

Strategy: Set up a trust for your children. Let the trust own the policy. Make annual gifts to the trust to pay the premiums. The trustee pays your surviving spouse the income for life. The principal, on your spouse’s death, goes to the children. Impact: This keeps the proceeds out of both your estate and your spouse’s.

Watch the three-year rule: The proceeds of a policy will be included in your estate if you assign it to someone other than your spouse within three years of your death. Caution: To make a quick sale, many insurance salesmen will get you to buy a policy in your name and tell you it can be assigned to your wife later. But if you die within three years, the proceeds will be taxable in your estate. Never buy a policy from a life insurance salesman who takes this approach.

Source: Edward Mendlowitz, a partner in Mendlowitz Weiten, CPAs, New York.

Q-TIP TRUSTS NEW ESTATE PLANNING OPPORTUNITY

There is now an unlimited marital deduction for federal estate tax purposes. No matter how big your estate is, if you’re married and you leave everything to your surviving spouse, not a penny of federal estate tax will have to be paid on your death. Tax will be postponed until your spouse’s death.

Planning Problems?

One way to take advantage of the marital deduction is to leave property outright to our spouse, with no strings attached. But that creates problems.

Problem one: When you leave assets to your spouse outright, you relinquish the right to control who gets the remainder of the estate after your spouse’s death. The widow (assuming the husband has the assets and dies first) can do whatever she wants with the property she inherits. She could remarry and leave everything to her second husband, leaving nothing to the first husband’s children.

Problem two: An estate left outright to a spouse who has no knowledge of the money market or investments can easily be frittered away.

The Q-TIP Solution

You can solve these estate planning problems by putting some of your estate into a Qualified Terminable Interest Property Trust, or Q-TIP trust.

A Q-TIP lets you provide for your spouse for her lifetime, get an estate tax marital deduction and control how the property is disposed of when your spouse dies. To qualify as Q-TIP property:

*All the income from the trust assets must go to your spouse, payable at least annually, for life.

*Your executor must elect to have the property qualify for the marital deduction in your estate.

*There can be no restrictions whatsoever on the spouse’s right to receive income. For example, she must continue to get income even if she remarries.

Angle: None of the money in the Q-TIP can be paid out directly to other family members while your widow is alive. For example, you can’t have the trust pay for your children’s college education. However, money for this purpose can be distributed to your spouse from principal at the discretion of the trustee, and she can spend it on the tuition.

Taxes and Q-TIPS

The Q-TIP property will be taxed when your spouse dies. When setting up the trust, you must consider the taxes your spouse’s estate will have to pay.

Trap: Putting too much of your estate into the Q-TIP. This could cause taxes on the combined estates of you and your spouse to be higher than they would be if only a limited amount had gone into the trust.

Put into the Q-TIP only an amount that exceeds your exemption equivalent. This is the amount that can be left to your heirs tax-free, apart from amounts that qualify for the marital deduction. (The exemption equivalent is $600,000.)

If you have an estate of $1,000,000 (and “plan” to die this year), $400,000 can go into the Q-TIP ($1,000,000 less your $600,000 exemption equivalent), and the balance of $600,000 should be disposed of in some other way.

The balance: It can be put into a “non-marital trust.” This is a trust that will not qualify for the marital deduction and will not be taxed in your estate as long as the value is below your exemption equivalent.

Example of a non-marital trust: Income to widow and/or children as trustees see fit. Balance on her death or remarriage, or, at stated intervals, to children.

Another reason for not putting the whole estate into the Q-TIP: If your widow lives to be 100, your children could be 75 or so before they inherit. That may be too long for them to wait.

Source: Edward Mendlowitz, a partner in Mendlowitz Weitsen, CPAs, New York.

PROTECTING LIFE INSURANCE FROM IRS LIEN

Cash surrender value of a life insurance policy is subject to an IRS lien for unpaid taxes. Even if the taxpayer has given the policy away, it’s vulnerable if he has retained any right in it whatsoever (e,g., the right to borrow against the policy or to change the beneficiary). To protect the beneficiary fully, it’s necessary to write to the insurance company and renounce totally any and all rights in the policy. Another way: Buy only term insurance, which has no cash surrender value for the IRS to levy against.

HOW STATES YOU DON’T LIVE IN CAN TAX YOUR HEIRS

Death taxes can be multiplied in the case of an individual who during his lifetime has lived in several states.

A person may be claimed by one state because he actually lived there at the time of his death; by another, because he had once lived there and that status never had been terminated conclusively even though he had lived elsewhere; by another, because he had property there; by another because of activities the decedent had carried on there, or affiliations that he had retained, or intentions that he had or had not stated.

The Problem of the Mobile Executive

This potentiality is particularly serious to an executive who, during the course of his business career, is frequently transferred by his employer to new locations as promotions occur or opportunities open up. When a person retires, he may move to a more hospitable climate, taking up residence there while not exactly severing all ties to his previous place of habitation. He may at the same time have a home in each of two or more states – a residence close to his job, a winter home, a summer beachfront cottage, or a house where he expects to live when he retires.

Each of these states may claim that he was, at least in some degree, subject to its tax laws when he died.

One of the many spectacular examples of how a person’s estate can be almost completely depleted by overlapping state death taxes was that of John T. Dorrance, head of the Campbell Soup Company. New Jersey assessed its death tax on the ground that he was domiciled in that state, paid property taxes, voted there, had church membership there, made reference to New Jersey law
in his will and died there. Pennsylvania assessed its tax on the grounds that he was born there, had a large and attractive home in the state, which he occupied for a considerable length of time, and that wherever else he may have lived, his real home was there. In each instance, the highest court in the state upheld the applicability of its own death tax. The United States Supreme Court refused to overturn state court decisions, declaring (a) that he was domiciled in New Jersey under the law of that state when he died and (b) that he was domiciled in Pennsylvania under the
law of that commonwealth when he died as well. As a result of the court’s ruling, there was very little left of his $40 million estate for his beneficiaries, which in effect turned out to be the states of New Jersey and Pennsylvania.

Presence in another state is not equated with abandonment of domicile in the first state. An instruction sheet issued by New York State declares:

“A domicile once established continues until a new one is acquired. To effect a change in domicile, there must be both an intent to change domicile as well as an actual change. In deciding whether both requirements are met, a person’s acts, rather than his statements, control.”

When You Move, Make a Clean Break

An individual who had served as a corporate executive in New York City and had a home in the state was deemed to be domiciled in New York at the time of his death, even though: (a) he owned a home in Florida where he spent much time, (b) declared in his will that he was a resident of Florida and (c) paid a poll tax there. The New York court that upheld imposition of the tax pointed out that his bank accounts and safe-deposit boxes were in New York, his contributions were primarily to New York charities and his principal social interests were in New York.

One person who had a residence in State A was deemed by the local courts to be domiciled there when he died, although he was living in State B at the time of his death and voted there. The court believed that he hadn’t abandoned State A as his domicile, because he continued to make use of physicians, dentists and brokers there.

An individual who no longer lived in State A was held to be subject to its death taxes. He had valuable works of art in the state, which were insured there.

The place where one votes is not decisive, for voting requirements differ. A person who allegedly had moved to State B was subject to death taxes in State A because he had filed an income tax return in that state on the resident rather than the nonresident form.

Conclusions and Advice

*Check with local counsel as to the relevant laws of the state where you live.

*Sever all existing ties when you move to a different state. Establish a new church affiliation, club memberships, physicians, dentists, banks, safe deposit boxes, charities.

*Check to see whether any active bank accounts have been left behind. Not only can such an account cause state death tax complications, but the money forgotten can be forfeited. After a number of years (which varies from state to state), an inactive bank account must be turned over to the state by a process known as escheat.

*Do not believe that because your attorney says you now are domiciled in State A, you are not also domiciled in State B for death tax purposes-or in States C, D and E as well.

Source: Encyclopedia of Estate Planning by Robert S. Holzman, Boardroom Books, Springfield, NJ 07081.

IRA NOTES

*IRA Strategy: Arrange for IRA certificates of deposit (CDs) to mature at the same time, so you can then reinvest the accumulated funds together in a single, higher-yielding investment. Example: Put this year’s IRA in a five-year CD, next year’s in a four-year CD, and so on. General rule: The larger your IRA, the better your return.

*New ruling on rollovers. You can switch IRA investments by withdrawing your account and transferring it to a new trustee, provided you complete the transfer within 60 days. Otherwise, it will be considered a distribution, subject to taxation and to penalty if you’re under age 59 1/2. The IRS has now ruled that the 60-day deadline cannot be extended for any reason. This reverses a previous letter ruling in which the IRS granted an extension where the delay was caused by factors beyond the taxpayer’s control.

Letter Ruling 8548073.

*IRA forever. Within the last three years, a person retired and rolled over his retirement account into an IRA. Now he thinks he would have gotten better tax treatment if he had directly received a lump-sum payout from his employer’s retirement plan. Thus, he wants to file an amended tax return for the year he made the rollover, take the payout in income for that year and disestablish the IRA. IRS ruling: Too late. The tax consequences should have been considered before making the rollover. The IRA cannot be disestablished.

Letter Ruling 8603077.

*Penalty escape. A taxpayer rolled the interest from his pension plan into his IRA, on the advice of the pension plan’s trustee. He also made other contributions to his IRA and ended up going over the allowable yearly maximum. IRS: He won’t have to pay any penalty as long as he withdraws the excess from his IRA account and reports it on his income tax return.

Letter Ruling 8602080.

FUTURE INCOME TO GRANDCHILDREN – NO TAXES NOW

Grandfather trust is a term used to describe a trust set up by an individual for the benefit of someone he is not legally obligated to support, even though the income is in fact used for support purposes. Thus, when a trust’s income is used to provide support for a grantor’s grandchild, whom he is not legally obliged to support, trust income is not taxed to the grantor.

The trust principal would not be included in the grandfather’s estate when he dies, so his tax situation benefits from such an arrangement in another respect.

The grandchild also benefits, receiving support he otherwise might not receive. And so does the grantor’s son, who has been relieved of the obligation of providing support for his child.

If an individual sets up a trust with a third party, such as a bank serving as trustee, and the trustee has the authority in its sole discretion to use trust income for the support of a person that the grantor must support, such as his wife or minor child, the grantor is not regarded as the owner of the trust fund.

Source: Estate Planning: The New Golden Opportunities by Robert S. Holzman, Boardroom Books, Springfield, NJ 07081.

(The above material was published by Boardroom Secrets, 1991.)

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