The purpose of this Estate Planning Blog is to introduce you to a sophisticated estate planning technique that can save you millions of dollars in estate taxes.
I recognize that each of you may be at a different stage in your own estate planning, however, for purposes of this Blog, I am assuming that you already have in place properly structured Wills, health care documents and powers of attorney, and perhaps an Insurance Trust – what I would describe as Phase One estate planning documents. Of course, if you do not have such documents in place, you should complete these Phase One documents before implementing the technique described herein.
Assuming that your net worth is in excess of $3.5 million (or $7 million for a married couple with properly structured Wills), you are facing a federal estate tax problem upon your death (or upon the second to die of you and your spouse). The current federal estate tax rate peaks at 45%. When you combine that with the New Jersey estate tax (imposed on estates over $675,000 not passing to a surviving spouse who is a U.S. citizen), the effective estate tax rate is over 50%. Therefore, under the present estate tax regime, over 50% of the value of your assets over $7 million may pass to the state and federal government if you (and your spouse) pass away.
The following example illustrates one of the techniques that can help you reduce your taxable estate:
Lifetime Gift/ Sale To Dynasty Trust.
You form a trust for the benefit of your children, grandchildren, and more remote descendants (a “Dynasty Trust”). Next (if you do not already hold your real estate in an LLC, partnership or other entity (an “LLC”)), you transfer ownership to an LLC.1 Then you fund the Dynasty Trust with each of your and your spouse’s $1 million lifetime exemption from federal gift tax – in the form of, for example, a 60% fractional interest in a $5 million real estate holding. The value of the 60% if the entire property were sold would be $3 million. However, due to the valuation discounts for lack of marketability and minority interest, you obtain an appraisal that values the 30% interest at a 33% discount, bringing the value of the gift to $2 million for gift tax purposes. In the April of the year following the gift, you and your spouse file a gift tax return (along with the appraisal) to memorialize the gift, but no gift tax will be owed.
At this point, you have removed $3 million of value from your taxable estate. Not only that gift, but the growth of that gift over the course of your lifetime, will pass outside of your estate to your heirs, free from federal and state estate taxes. Assuming that you live another 30 years and the 30% interest grows to $15 million, this represents an estate tax savings of over $7.5 million.
In addition, if you would like to reduce your taxable estate further, you can sell additional assets to the Dynasty Trust in exchange for a promissory note at low interest rate. As of April 2009, you can transfer interests in an investment property to the Dynasty Trust in exchange for a 9 year promissory note at only 2.15% interest without triggering any further gift tax. To the extent that the property actually generates more than 2.15% income and appreciation, you have removed additional assets from your taxable estate.
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This estate planning blog is meant simply as an introduction to one of the advanced estate planning techniques that are available to you. There are several other techniques that can be utilized to reduce your taxable estate and get additional funds to heirs during your lifetime.
In future blogs, I will discuss other estate planning techniques that are appropriate for real estate owners.
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Naim Bulbulia, is the head of Hartmann Doherty’s Trusts & Estates practice. Before joining the firm, he practiced in New York City, at Dewey Ballantine, LLP and Bingham McCutchen, LLC; and most recently, at Skoloff & Wolfe, P.C. in Livingston, New Jersey. Naim is a graduate of Harvard Law School and is licensed to practice in both New York and New Jersey. Naim was recently named a New Jersey SuperLawyers Rising Star in the area of Trusts & Estates. Naim lives in Short Hills, New Jersey with his wife and three children.
This publication/newsletter is for informational purposes and does not contain or convey legal advice. The information herein should not be used or relied upon in regard to any particular facts or circumstances without first consulting a lawyer.