At McCullough Sparks, we practice “values based estate planning.” This means that we customize your estate plan according to your values. Many clients are interested in designing a plan that protects children from receiving too much money too soon or for the wrong purposes. Many clients are also interested in how to protect your assets for spouses and children in the event of a death and remarriage, or a divorce, lawsuit, or bankruptcy. If you have an estate in excess of $10,000,000, there are many things that can be done to completely eliminate the estate tax. We have clients with modest wealth, and clients with significant wealth. Whatever your situation, we can help you to avoid probate, avoid gift and estate taxes, maximize the step-up in basis that is available when a person dies, and transfer assets after your death in accordance with your wishes.
How to Avoid Estate Taxes
There are three general approaches for dealing with the estate tax:
- 1. You can give a portion of your estate to charity, or to a charitable foundation run by your family.
- 2. You can purchase life insurance in an irrevocable life insurance trust, to help pay estate taxes.
- 3. You can transfer assets out of your taxable estate using family limited partnerships, gifting trusts, sales to defective grantor trusts, and more.
For example, one couple with an estate of $15,000,000, decided that they wanted their kids to receive a total of $12,000,000, with the remainder going to charities of their choice. This couple used personal exemptions and life insurance to ensure that their children will receive $12,000,000, tax free. Then they put a formula clause in their trust, giving the rest to charity. This plan ensures that their children receive the desired amount, and that there will be zero tax upon their death no matter how large their estate may grow. The couple retains complete control and flexibility if they want to change this plan during their lives.
Sales to Defective Grantor Trusts
The Sale to an Intentionally Defective Grantor Trust (based on a true story)
Eric had a new business that was beginning to take off. Acting quickly to take advantage of a relatively low valuation, Eric sold his business to an intentionally defective grantor trust for its present value of $4,000,000. Eric remained the president of his business and continued to operate and control his business as if the sale had never occurred.
The sale of his business was not taxable, and not required to be reported on a tax return, because it was a sale to an intentionally defective grantor trust. Eric continued to operate the business under the ownership of the intentionally defective grantor trust without any change in his income taxes.
Eric and his wife were the primary beneficiaries of the trust, and their kids were the secondary beneficiaries. The distributions from the business were available to them at any time, but the ownership in the business was protected if any of them were ever sued or divorced. The trust would also ensure that, after the death of Eric and his wife, the kids would not get too much inheritance too soon or for the wrong purposes.
Seven years later, the business is worth $80,000,000. Because the business is owned by the intentionally defective grantor trust, it can be transferred to future generations without any gift, estate, or generation skipping taxes. This estate plan will save Eric’s family millions of dollars in estate taxes.
Does this sound too good to be true? It is not. A sale to an intentionally defective grantor trust is a well established estate planning strategy that can be implemented quickly and without too much cost or hassle.