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Estate Planning Tips
for Nantucket Year-Round and
Summer Residents
DO
create an estate plan for your family.
You probably have a will. But do you have
an estate plan?
With proper planning you can reduce estate
taxes, bypass probate, provide for management
of your assets when incapacitated, protect
your property when living in a nursing
home, and guide your doctor should you become
severely ill.
Your estate -- which includes real estate,
securities, life insurance, retirement plans, and
everything else you own -- may be larger
than you realize. But regardless of your
assets, you and your family are sure to
benefit from a well-formulated estate
plan.
DON'T
subject your assets to
unnecessary estate taxes.
Starting January 2011, the federal estate tax
exemption was raised to what was then an all-time high
of $5 million per person and
$10 million for a married couple. In 2015 the exemption is $5,430,000.
Estate assets that exceed the
exemption amount are taxed at a flat rate of 40%.
Predicting the future of the federal estate tax law is next to
impossible. What is certain, however, is that many estates
will have Massachusetts estate tax to contend with.
Although the add-on Massachusetts estate tax was "phased out" in
1997, it was reinstated in January 2003 and now has an exemption
of $1,000,000. Actually, that number is a filing
threshold, not an exemption; if you are a Massachusetts
resident and your taxable estate exceeds
the million-dollar threshold by $94,000 or more, the tax is paid on
the entire estate. At that level ($1,094,000) the
Massachusetts estate tax is just under $40,000;
and for a $5 million estate, the tax is nearly $400,000.
If you're married and you established
an estate plan before 2003, your
lawyer should review your plan to
ascertain that it still works to minimize your taxes. Be aware
that if your plan calls for your federal estate to tax-shelter
more than $1 million, and if
your plan tax-shelters that same federal amount
for Massachusetts estate tax purposes,
your estate could end up paying a Massachusetts estate tax
when either you or your spouse dies, instead of having the tax deferred
until you and your spouse both are gone.
If you are a Massachusetts non-resident and your total assets
exceed $1 million, your estate
will pay Massachusetts tax on property physically located in the
Commonwealth, such as real estate, vehicles, or antiques. This is true
even when the value of your Massachusetts property
is less than $1 million.
There are numerous techniques for minimizing
or avoiding estate taxes, and a good
estate plan will utilize them to maximize the
assets you're able to pass on to your children
and others.
DON'T
leave everything to your
spouse -- especially if you have
children.
It's easy to leave everything you own to
your spouse -- simply hold title as joint tenants
with right of survivorship. By operation of
law the survivor automatically becomes the
sole owner. Or you can name your
spouse as the beneficiary in your will, life
insurance policy, or retirement plan.
Although there is no estate tax on property
passing to your spouse, a tax-saving opportunity
is lost when the surviving spouse takes
all. To reduce Massachusetts estate tax, a married person
can decrease the taxable estate of the surviving spouse by
$1 million by leaving that much to a
tax-shelter trust, which will hold the property
while the surviving spouse is
alive and then pass it to your children
tax-free. If you and your spouse are Massachusetts residents and you
own assets worth $2 million, for example,
leaving $1 million to a trust could save $60,000 in Massachusetts estate
tax. Or if your estate is worth $5 million,
the trust will save $110,000.
Another common reason for leaving assets to a trust instead of to
a surviving spouse is to preserve those assets for
children from a previous marriage.
Caveats: (1) Assets held as joint tenants
pass automatically to the surviving owner; there is a legal
procedure for getting this property into a trust after an owner
dies. (2) Assets passing to a spouse who is not a
U.S. citizen can result in an estate tax
unless special measures are taken to
defer the tax.
DO
consider the advantages of setting
up a trust.
A trust is a contract between you and the
person responsible for managing the trust,
your "trustee." You give property to the
trustee, who invests it and makes payments to
your spouse or children according to your
instructions in the trust agreement.
A typical tax-shelter trust might provide
that the surviving spouse gets all income
earned by the trust plus principal as necessary
for his or her support; when he or she is gone,
the remaining trust assets are divided among
the children -- or held until the youngest
child reaches age 25 (or 30 or whatever).
Trust administration generally is not expensive
when the surviving spouse or an adult
child serves as trustee. Some people feel
more secure, however, in appointing a trustee
who is not a trust beneficiary, such as an
attorney or a bank. But keep in mind that
professional trustees do charge a fee.
The most common trusts are revocable,
which means you can amend or terminate
your trust at will. You need not transfer your
estate to a revocable trust while you're alive --
but if you do, the trust offers two
additional advantages: It provides for the
management of your property if you
become incompetent, and it allows trust
assets to bypass probate proceedings.
Your will can leave property directly to the
trust, or it can leave property to your spouse
with the proviso that if he or she "disclaims"
the property it will go into the trust. (A disclaimer
is simply a legal statement in which
one refuses to accept property upon another's
death.) The disclaimer approach provides the
flexibility of allowing your spouse to wait until
you're gone before deciding what to put into
trust. It has the disadvantage of allowing your
spouse to receive your property outright,
which could result in your children being
disinherited if your spouse remarries and then dies
leaving everything to his or her new spouse.
DO
consider an annual gifting program to reduce a large estate.
Any property in your estate exceeding your
$5,340,000 exemption will be subject to
federal estate tax. Unfortunately, you
can't simply give away your assets to
reduce your estate to this amount,
because lifetime gifts count toward the
exemption the same as property that
passes under your will.
There's an exception to this rule, however.
You can give $14,000 per person per year -- a
married couple can give $28,000 -- to as many
donees as you like. Such gifts, no matter how
much they total, will not count toward the
exemption amount. However, you cannot
receive income from the property you give
away nor continue to use it.
If you have a choice, give property that has
not greatly appreciated since you acquired it
(such as cash). The recipient of a gift will pay
the same capital gains tax upon selling it that
you would have paid upon selling, but assets
that remain in your taxable estate will not
be subject to a capital gains tax if they are sold
when you die.
One way to make annual gifts without
depleting your liquid assets is to give each
donee a fractional interest in Nantucket
real estate (perhaps a
vacation home or vacant land). If you occupy
the property, however, you must pay rent
on the fraction given away. Putting the
property into a "nominee trust" will
facilitate future annual gifts, because
subsequent deeds will not have to be recorded
with the land records.
Massachusetts has no gift tax, so lifetime gifts are not taxed
or otherwise penalized by the Commonwealth no matter what the amount.
DO
consider a "qualified personal residence
trust" for your Nantucket home.
At the federal gift tax limit of $14,000 per
donee per year, it might take forever to bring
your estate down to the federal
exemption amount. Here's a much faster
way to cut federal estate taxes.
By making a one-time transfer into a qualified
personal residence trust, or "QPRT,"
you can give away your Nantucket
home at an estate tax
"discount" yet continue to use the
property. The trust gives you the right
to occupy the house for the time period
you choose (the "term"), during which
you retain all income tax benefits of
home ownership. After the term expires,
you must pay fair market rent to the trust whenever
you use the house -- but this is money
that comes out of your estate tax-free.
And the trust, not you, pays for taxes,
insurance, and repairs.
The estate tax "discount" is proportional to
the length of your term. A 10-year term, for
example, can reduce tax on the house by
more than 50%. (Tax savings of
hundreds of thousands of dollars are not
uncommon for larger estates.) Moreover,
all future appreciation of the property
will escape taxation in your estate. The
longer your term, the greater your estate
tax savings -- but there's a "catch." You
must outlive the term for the QPRT to
be effective as a tax shelter.
The house can be sold during the term, and
the estate tax benefits of the trust will be maintained
if the sale proceeds are used to purchase
a replacement residence
within two years. If the house is sold after
the term expires, there is no tax requirement
that it be replaced.
Either a principal residence
or a vacation home can go into a QPRT.
The trust is irrevocable, which means
it can't be changed or revoked once the property
goes into it. But if you don't mind giving up legal
control over your property, the QPRT can be a superb planning tool --
especially now, while the federal gift tax exemption stands
at over $5 million.
For more information on Qualified Personal Residence Trusts,
go to:
QPRT Commentary
DON'T
subject your Nantucket house to probate proceedings if you are
a non-resident.
When a Massachusetts non-resident
dies owning Massachusetts real estate in
his or her name alone or as a tenant in
common, separate ("ancillary") probate
proceedings must be initiated in
Massachusetts to pass title. Having the
property in trust entirely eliminates this
procedure.
A "nominee trust" is the simplest form of
trust for avoiding probate. You can be
your own trustee, but the trust should
have a co-trustee or name a successor
trustee who will serve if you die. It
also should contain an explicit direction
from you that your property is to pass as
directed in your will, which most likely
will be probated in your home state. The nominee trust
allows you to maintain complete control
over your property, and it has no effect
on taxes of any kind.
You will not need a nominee trust if
your property is in a "QPRT" (discussed
above) unless you wish to avoid making
the QPRT a public record, in which case
you can file a nominee trust to hold
title on behalf of the QPRT. A nominee
trust likewise can be used to avoid
making a revocable trust a public record;
this approach generally should be used
when Massachusetts real estate is owned
by a living trust executed under the laws
of another state.
DO
execute a durable power of attorney.
If you should become mentally incapable,
your assets could get "locked up" so that no
one can sell or reinvest them. That's because
your property, whether held in your name
alone or with others, requires your signature
to transfer title. If you lack the mental capacity,
your relatives will have to ask the probate
court to appoint a guardian or conservator to act on your
behalf.
A better solution is to execute a durable
power of attorney while you're mentally capable.
This document gives your agent the
authority to transfer your property and manage
your business affairs -- without going to court.
It can also authorize your agent to make gifts
and to put your property into a trust to be
managed by a trustee.
DON'T
lose your assets should you
need long-term health care.
A nursing home is expensive -- a year at
Nantucket's "Our Island Home," for
example, will cost you $150,000.
Medicaid will pay the bills . . . but only
after you have depleted almost all of your own assets.
If you try to qualify for Medicaid by giving
away your assets, you will have to wait
as many as five years before becoming
eligible for benefits. After the waiting
period, however, you need not account for
the assets disposed of -- that is, if you don't apply
for benefits prematurely. Under the
Medicaid law, timing is critical.
Under the present Medicaid rules there are
other ways to reduce your assets without
giving them away. The rules also specify the
amount of assets that a married person may
keep when his or her spouse goes into a
nursing home. Knowledge of these rules is
imperative for smart Medicaid planning.
The Medicaid program was established to provide
health care for the poor -- so don't be surprised
if the rules get tighter as
government budgets continue to get crunched.
DON'T
overlook the advantages of a
life insurance trust.
An irrevocable life insurance trust allows
you to make annual contributions of $5,000 (and in
some cases as much as $14,000)
per trust beneficiary to pay the premiums on a
life insurance policy owned by the trust. The
premium money goes into the trust tax-free,
and after your death the insurance proceeds
are paid to your children or other
beneficiaries tax-free.
An insurance trust is a way to control the
investment of money you give away as annual
tax-free gifts. Or you can use an insurance trust
to cover the taxes on an estate that is not
sufficiently liquid to pay them.
If you're married, you can get more
coverage per dollar of annual
contribution by having the trust buy a
"survivor" or "second-to-die" policy. This
type of policy is less expensive and
generally easier to obtain than a policy on
your life alone, yet it pays when it may be most
needed: at the time taxes are due on the
estate.
DO
consider granting a conservation
or preservation restriction on your
Nantucket property.
Perhaps your home is situated on a
large tract of land with gorgeous views of
abutting conservation land or the ocean.
You would like the land to remain
undeveloped, but you're sure your
children will have to sell to pay estate
taxes. What can you do?
Instead of losing the property, create a
conservation restriction that will forever
restrict your land from being subdivided.
Once a subdividable parcel of land is restricted,
it will drop substantially
in value -- and your estate taxes likewise
will drop. You'll also get an immediate
income tax deduction for making a
charitable gift, and you may even get a
lower assessed value for property taxes.
If you have a historic house which you wish
to protect against "gutting" by a future owner,
or if you wish to
protect your beautiful garden or other open
space adjacent to the house, consider a preservation
restriction to permanently protect the
property. You'll get the same federal tax
benefits as you would from a conservation
restriction (although generally to a lesser degree).
Not all property will qualify for a tax-deductible
restriction. But if your land has
qualities that make it especially desirable to
remain undeveloped, or if you want your antique house
to remain an antique, it's worth checking out.
For more information on preservation restrictions,
go to:
Preservation Commentary
DO
consider a living will or a health
care proxy to guide your doctor.
If you should become severely ill with no
reasonable chance of recovery and mentally
incapable of making your own health-care
decisions, your living will requests that you
not be kept alive by artificial or heroic means
and that your pain and suffering be alleviated.
It's called a living will because it asks that
action be taken (or not taken) while you're
still alive. Even if you don't live in one of the
forty or so states in which a living will is
legally binding, this document can be effective
to guide your doctor under extreme
circumstances.
Some states, including Massachusetts,
recognize a health care proxy, which authorizes
your agent to make medical decisions
on your behalf. These decisions can include
actions other than "pulling the plug," such as
undertaking an aggressive medical procedure
to improve your chances of surviving a life-threatening
situation, or moving you from a
hospital to your home.
DON'T
think the estate tax will disappear.
It is hard to know whether the federal estate tax law will remain as
it currently exists. With an ailing economy, the Bush tax
cuts, a seemingly ongoing war and other spending demands that could
result in significant increases in the federal budget deficit,
it's doubtful there will be a serious movement
toward a total repeal (Tea Party activism notwithstanding).
While it's impossible to predict
what Congress will do -- especially after the debt-ceiling
fiasco -- it seems likely that our lawmakers
will quarrel about the exemption amount and the tax rate rather than
try to nix the estate tax entirely. But don't unfasten your seat belts.
These days in Washington anything goes.
An interesting side note: The number of federal estate tax
returns for estates over $5 million is only 11%
of the total number of returns, yet those big-ticket returns
yield approximately 60% of the total estate tax revenue.
If you're a Massachusetts resident or you own real estate
in Massachusetts, you also have the Massachusetts estate tax
to contend with. The Commonwealth of Massachusetts levies
an estate tax whenever a taxable estate exceeds $1,000,000,
and this tax is
payable even if there is no federal tax. For out-of-state residents,
only property physically located in the Commonwealth is taxed,
but the tax is payable if the value of the total taxable estate
(not just the Massachusetts property) exceeds the threshold amount.
The good news for married couples is that any Massachusetts estate tax
that might be payable at the first death
can be deferred, through proper planning, until the surviving spouse dies.
With so much uncertainty about the future of the federal estate tax,
the smart money is on the
estate plan designed to minimize taxes regardless of whatever
federal or Massachusetts estate tax law is in effect at the time.
If the value of your estate exceeds $1 million and if you're a
Massachusetts resident or you own property in Massachusetts,
you should assume that sooner or later your estate
will pay an estate tax. You would be wise to plan accordingly to
minimize the burden.
DON'T
wait to protect your estate.
The longer you delay planning your estate,
the fewer opportunities you have to
preserve it. Don't take the chance.
Much of what you own is at stake.
Taking action now to establish your
estate plan or update an existing plan will undoubtedly provide
peace of mind. Even better, you could be
making your best financial investment ever!
BIOGRAPHY OF C. RICHARD LOFTIN
Richard Loftin has been practicing law on Nantucket for 27 years
and specializes in estate and tax planning, wills and trusts, probate
administration, preservation restrictions, and real estate transactions.
Before moving to Nantucket he was a partner in a Washington, D.C.,
law firm. He is a graduate of Georgetown Law School, Harvard Business School,
and Georgia Tech.
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