Connectivity Think. Act. Lead - PowerPoint Presentation

1. ConnectivityThink. Act. Lead.ILITs, IDGTs, GRATs and Other Four-Letter WordsJulius H. Giarmarco, Esq. , Giarmarco, Mullins & Horton, P.C.May 1–3, 2016

2. Wealth Transfer StrategiesConnectivityThink. Act. Lead.Transfer of wealthexcluded fromany gift taxTransfer of wealththrough GST, estate,and gift tax exemptionsTransfer of wealthutilizing discountstrategiesTransfer of wealthutilizing freeze strategies(appreciation-only gifts)Transfer of wealththroughtaxable giftsAnnuallyOver Lifetime$14,000 per individual ($28,000 gift splitting with spouse) per doneeDirect payments to educational institutions and health care providers1Irrevocable life insurance trusts (ILIT)2Gift tax exemption of up to $5.45M per individual3GST and estate tax exemptions of $5.45M per individual3Generation-skipping transfer trust (GST)Family limited partnership (FLP)Family limited liability company (FLLC)Non-voting shares in family corporation (C or S corporation)Grantor retained annuity trust (GRAT)Intentionally defective grantor trust (IDGT)Qualified personal residence trust (QPRT)Intra-family loanStatutory freeze partnership (FLP or FLLC)4Pay gift tax now rather than paying estate tax laterConverting traditional IRA to Roth IRA5Charitable planning:1 To qualify for exclusion, gifts of tuition and medical expenses must be made directly to the provider.2 Often can be structured to use annual exclusion gifting.3 Adjusted annually for inflation ($5.45M for 2016).4 Can serve to both utilize discount and transfer wealth utilizing freeze strategies.5 Paying the income tax in converting a traditional IRA to a Roth IRA is essentially a tax-free gift.CRTs and CLTs.

3. Three General Strategies for Reducing Estate TaxesThe FET is only vulnerable to lifetime gifting.Leveraging cash gifts through the purchase of life insurance in an ILIT.Gifts that shift or reduce value.Gifts to charity.ConnectivityThink. Act. Lead.

4. Advanced Gifting TechniquesIrrevocable Life Insurance Trusts (ILITs).Intentionally-Defective Grantor Trusts (IDGTs).Grantor Retained Annuity Trusts (GRATs).Spousal Lifetime Access Trusts (SLATs).Beneficiary-Defective Inheritor’s Trusts (BDITs).ConnectivityThink. Act. Lead.

5. Advanced Gifting TechniquesFamily Limited Liability Companies (FLLCs).Qualified Personal Residence Trusts (QPRTs).Promissory Note Sale to Residence Trust (PNRTs).Charitable Remainder Uni-Trusts (CRUTs).ConnectivityThink. Act. Lead.

6. Irrevocable Life Insurance TrustsConnectivityThink. Act. Lead.

7. ILITsConnectivityThink. Act. Lead.Grantor/InsuredDynasty/ILITInsurance CompanyChildren and More Remote DescendantsCrummey GiftsPremium PaymentsAllocate GST ExemptionDeath BenefitNet Proceeds

8. ILITsConnectivityThink. Act. Lead.Dynasty TrustDiscretionary Distributionsto Children for LifeDiscretionary Distributions to Grandchildren for LifeDiscretionary Distributionsto Great-Grandchildrenfor LifeFuture GenerationsGrantorAdvantagesCreditor protectionDivorce protectionEstate tax protectionAssets remain in bloodlineDispositive plan protectionSpendthrift protectionConsolidation of capital Gift should take advantage of any remaining lifetime gift exclusion and lifetime GST exclusionNo transfer tax paid.No transfer tax paid.No transfer tax paid.No transfer tax paid.

9. ILITsPower of Compound Growth EconomicsAssumptions:$1 million of life insurance at grantor’s death.Trust continues for 120 years after grantor’s death. Maximum term varies by state.40% transfer tax imposed on non-dynastic trust assets every 30 years.ConnectivityThink. Act. Lead.

10. ILITsConnectivityThink. Act. Lead.Power of Compound Growth Chart$1 Million Example: Dynasty Trust vs 40% Estate Tax Every 30 YearsAfter-Tax GrowthValue of Dynasty Trust After 120 YearsValue of Property if No Trust3.00%$34,710,987$4,498,5444.00%$110,662,561$14,341,8685.00%$348,911,561$45,218,9936.00%$1,088,187,748$141,029,1327.00%$3,357,788,383$434,169,3748.00%$10,252,992,943$1,328,787,8859.00%$30,987,015,749$4,015,917,24110.00%$92,709,068,818$12,015,095,319

11. ILITsConnectivityThink. Act. Lead.How much is enough – with 4% inflation:$1 Million Example: Dynasty Trust vs 40% Estate Tax Every 30 YearsAfter-Tax GrowthReal Value of Dynasty Trust after 120 YearsReal Value of Property if No Trust4.00%$1,000,000$129,6005.00%$3,152,932$408,6206.00%$9,833,386$1,274,4067.00%$30,342,587$3,932,3998.00%$92,650,964$12,007,5649.00%$280,013,543$36,289,75510.00%$837,763,631$108,574,166

12. ILITsConnectivityThink. Act. Lead.How much is enough – with 4% inflation and 16 beneficiaries?$1 Million Example: Dynasty Trust vs 40% Estate Tax Every 30 YearsAfter-Tax GrowthReal Value of Dynasty Trust after 120 YearsReal Value of Property if No TrustBeneficiaries4.00%$62,500$8,100165.00%$197,058$25,538166.00%$614,586$79,650167.00%$1,896,411$245,774168.00%$5,790,685$750,472169.00%$17,500,846$2,268,1091610.00%$52,360,226$6,785,88516

13. Switching ILITsSale of policy from old ILIT to new ILIT for cash or promissory note.If purchase price is at fair market value, then three-year rule of IRC Sec. 2503 does not apply. No transfer-for-value if new ILIT is grantor trust. Rev. Rul. 2007-13.No gain on sale if old ILIT is a grantor trust (or if no gain in policy).Decanting.ConnectivityThink. Act. Lead.

14. Intentionally-Defective Grantor Trusts (“IDGTs”)ConnectivityThink. Act. Lead.

15. IDGTsWhat is an IDGT?An irrevocable trust that is defective for income tax purposes by triggering one of the grantor trust powers under IRC Sections 671-678.An irrevocable trust that is effective for estate tax purposes by not tripping over one of the estate tax inclusion provisions under IRC Sections 2036 – 2042.ConnectivityThink. Act. Lead.

16. IDGTsCommon grantor trust triggers:The trust includes a power exercisable by the grantor (in a non fiduciary capacity) to reacquire [swap] trust assets by substituting assets of equivalent value. IRC Section 675(4)(C).The trust includes a power held by a non-adverse party to add to the class of beneficiaries (other than the Grantor’s after-born or after-adopted children). IRC Section 674(a). The trust includes a power to enable the trustee to loan money or assets to the grantor from the trust, with interest, but without adequate security. IRC Section 675(2). ConnectivityThink. Act. Lead.

17. IDGTsWhy an installment sale to an IDGT works:No capital gains tax on sale. Rev. Rul. 85-13.Arbitrage; freezes value of appreciation on assets sold at the AFR.Interest payments not taxable to grantor.Tax burn; payment of IDGT’s income taxes by grantor leaves more assets in the IDGT – gift tax free. Rev. Rul. 2004-64.Back end-loading (i.e., interest only with a balloon payment).ConnectivityThink. Act. Lead.

18. IDGTsWhy an installment sale to an IDGT works (continued):Valuation discounts increase effectiveness of technique.Possible discount for value of note in seller’s estate.IDGT is an eligible Subchapter S shareholder.Lower interest rate (mid-term AFR) than used in GRATs (120% of mid-term AFR).An IDGT can purchase an existing life insurance policy on the life of the grantor without subjecting the policy to taxation under the transfer-for-value rule. Rev. Rul. 2007-13.ConnectivityThink. Act. Lead.

19. Grantor Trust vs Non-Grantor TrustConnectivityThink. Act. Lead.NON-GRANTOR TRUSTGRANTOR TRUSTYearBeginning BalanceTaxable Income 7%Less: Taxes at 40%Ending BalanceYearBeginning BalanceTaxable Income 7%Less: Taxes at 40%Ending Balance1$10,000,000$700,000$(280,000)$10,420,0001$10,000,000$700,000$ - $10,700,000210,420,000729,400(291,760)10,857,640210,700,000749,000-11,449,000310,857,640760,035(304,014)11,313,661311,449,000801,430-12,250,430411,313,661791,956(316,783)11,788,835412,250,430857,530-13,107,960511,788,835825,218(330,087)12,283,966513,107,960917,557-14,025,517612,283,966859,878(343,951)12,799,892614,025,517981,786-15,007,304712,799,892895,992(358,397)13,337,488715,007,3041,050,511-16,057,815813,337,488933,624(373,450)13,897,662816,057,8151,124,047-17,181,862913,897,662972,836(389,135)14,481,364917,181,8621,202,730-18,384,5921014,481,3641,013,695(405,478)15,089,5811018,384,5921,286,921-19,671,514

20. IDGTsFunding the IDGT prior to sale.Amount of seed funds.The “seed fund” reduces the risk that the sale will be treated as a transfer with a retained interest by the grantor under IRC Section 2036.In PLR 9535026, the IRS ruled that IRC Sections 2701, 2702 and 2036(a) did not apply if the note retained by the grantor was bona fide debt.In Sharon Karmazin, Tax Court Docket No. 2127-03, the IRS challenged an IDGT sale on the basis that IRC Code Sections 2701 and 2702 applied, but later dropped both arguments. In Karmazin, the trust had 10% seed money. The case was settled out of court with the only adjustment being a reduction of the valuation discount from 42% to 37%.ConnectivityThink. Act. Lead.

21. IDGTsDisadvantages to an IDGT sale:Requires 10% seed funding.Note is taxable in grantor’s estate (unless SCIN is used).Potential cash flow problems for grantor by paying IDGT’s income taxes.Likely no step-up in basis at grantor’s death. This is on the IRS’s “no ruling” list.Possible gift and estate tax exposure (under IRC Section 2036) if IDGT has insufficient equity.ConnectivityThink. Act. Lead.

22. IDGTsGST considerations:As long as the grantor allocates his or her generation-skipping tax (“GST”) exemption to the seed gift to the IDGT, the trust assets will be exempt from the GST tax.The GST exemption does not need to be applied to the sale portion, but the sale should be reported on a Gift Tax Return (Form 709) to start the running of the three-year statute of limitations.ConnectivityThink. Act. Lead.

23. IDGTsConnectivityThink. Act. Lead.GrantorIDGT f/b/oChildrenLife Insurance Company1. Gifts $1M of Non-Voting Stock2. Sells $9M of Non-Voting Stock (No Capital Gain Tax)5. Excess Cash Flow / Premiums6. Death Proceeds (Income and Estate Tax Free / Leverages GST Exemption)3. $9M Note to Grantor Balloon Payment in 9 Years 4. $159,300 annual interest (Interest Rate 1.77%)Advantages:Value of assets sold frozen at 1.77% for nine years (assumed mid-term AFR).Grantor’s estate further reduced by the income taxes paid on behalf of the trust.The trust property escapes estate taxation for as long as permitted under state law.IDGT can purchase a life insurance policy on Grantor’s life. Upon Grantor’s death, the death proceeds can be used to purchase Grantor’s voting shares and the balance of Grantor’s non-voting shares.

24. Grantor Retained Annuity Trusts (“GRATs”)ConnectivityThink. Act. Lead.

25. GRATsHow does a GRAT work?Gift of property into trust.Annuity payment is returned to Grantor (annually at IRC Section 7520 rate) for a set term.It is possible to combine a trust term with a high annual annuity to reduce the gift tax value to zero or close to zero.Appreciation in excess of the IRC Section 7520 rate is passed to the remaindermen free of transfer taxes.If the assets do not appreciate faster than the Section 7520 rate, they are returned in kind to the Grantor. ConnectivityThink. Act. Lead.

26. GRATsInterest Rate Sensitivity.When interest rates are low, as they are now, a GRAT is more likely to succeed. This is because the GRAT assets are more likely to appreciate at a rate greater than the IRC Section 7520 rate (sometimes called the “hurdle” rate). When the GRAT term ends, the remainder beneficiaries will receive the difference between the actual appreciation and the IRC Section 7520 rate, transfer tax free. ConnectivityThink. Act. Lead.

27. GRATsIdeal assets.Assets that will appreciate faster than the IRC Section 7520 rate.Stocks and marketable securities.LLC interests, partnership interests and S corporation stock (i.e., pass-through entities).Assets qualify for valuation discounts, because they enhance the effectiveness of the GRAT.ConnectivityThink. Act. Lead.

28. GRATsDrawbacks.Grantor must survive the GRAT term to achieve the estate tax savings. GRATs are a “bet-to-live” strategy.(You can “hedge” this problem with life insurance.)Grantor must pay income tax on assets in Trust.(But this is essentially a tax-free gift to the remaindermen.)The GRAT is an irrevocable trust – there may be no commutation.ConnectivityThink. Act. Lead.

29. GRATsTypical GRAT Design.The GRAT must be established for a term of years (2 years is minimum). Multiple GRATs with varying terms can be used to minimize mortality risk.Multiple GRATs with different assets (e.g., energy, technology, manufacturing, etc.) can be used to hedge against one of the GRATs failing.Annuity payments may be re-GRATed, creating a “rolling” series of GRATs.The annuity may be “back-end loaded” such that the annuity starts low and increases by as much as 20% each year.ConnectivityThink. Act. Lead.

30. GRATsIncome Tax Treatment.The grantor is considered the “owner” for income tax purposes. The grantor is not taxed on the annuity payments, because transactions between a grantor and a grantor trust are disregarded for income tax purposes. See Rev. Rul. 85-13.The grantor’s payment of the GRAT’s income taxes is essentially a tax-free gift to the beneficiaries of the GRAT.ConnectivityThink. Act. Lead.

31. GRATsIncome Tax Treatment.The grantor is considered the “owner” for income tax purposes. The grantor is not taxed on the annuity payments, because transactions between a grantor and a grantor trust are disregarded for income tax purposes. See Rev. Rul. 85-13.The grantor’s payment of the GRAT’s income taxes is essentially a tax-free gift to the beneficiaries of the GRAT.In most cases, a GRAT will qualify as a grantor trust under IRC Section 677 (regarding the grantor’s retained right to income). Since it is theoretically possible, however, that the income from the trust assets could exceed the annuity payments, consider adding another grantor trust trigger (such as the power to substitute assets under IRC Section 675(4)(C)) to ensure grantor trust treatment.ConnectivityThink. Act. Lead.

32. GRATsPower to Substitute Assets.If the GRAT assets “over-perform,” and the grantor would prefer to freeze the appreciation he or she passes on to his or her children, the power to swap assets can be very useful.The swap power can also be used to get appreciated assets back in the grantor’s estate so that they receive a stepped-up basis upon the grantor’s death.ConnectivityThink. Act. Lead.

33. GRATsBullet-Proofing a GRAT.Grantor can make gifts to an ILIT (for the benefit of the children receiving the GRAT remainder) to provide the funds needed to pay estate taxes (on the assetbequeathed to the children) should the Grantor die before the end of the GRAT term.Alternatively, the children can purchase life insurance on the Grantor’s life to provide the funds necessary to purchase closely-held stock (pursuant to a buy-sell agreement) if the Grantor dies before the end of the GRAT term. ConnectivityThink. Act. Lead.

34. GRATsNot Ideal for GST Planning.Under the estate tax inclusion period (“ETIP”) rules, it is not possible to allocate GST tax exemption to a GRAT until after the term expires (or the grantor dies, if earlier). See IRC Section 2642(f) and Treas. Reg. Section 26.2632-1(c).Accordingly, it is not possible to “leverage” the initial gift (which could be very low or even zero) to exempt the ultimate remainder interest (which could be much more valuable than the assumed remainder interest at initial funding) from GST tax.ConnectivityThink. Act. Lead.

35. GRATsConnectivityThink. Act. Lead.Grantor (age 65): Gift of $6.5M ofstock (after 35%discount)Gift = $4.17GRAT Value:$10 millionChildren or ILIT*Remainder transferred to Children(or trust for Children’s benefit): Assumptions: 10% income/4% growth: $23.4M 10% income/8% growth: $36.6MGift = $5.61 Section 7520 Rate = 2.2%Contribution of Non-Voting StockAnnual Annuity Payment of $731,215.55 (11.25%)Remainder after10 years*Or split-dollar with an ILIT, because of ETIP rules.

36. IDGT vs GRATWith IDGT:No mortality risk.Can allocate GST exemption to seed gift.Mid-term AFR is less than Section 7520 rate.Back-loading (i.e., interest only with balloon payment vs. level annuity payment).Not a statutory technique.Possibility of unintended gift tax, which may be mitigated by using a “defined value” clause.ConnectivityThink. Act. Lead.

37. Spousal Lifetime Access Trusts (“SLATs”)ConnectivityThink. Act. Lead.

38. SLATsConnectivityThink. Act. Lead.GrantorSLATAssetsSpouse and childrenBeneficiary – spouse is trustee or co-trustee; and spouse and children have access to income and principal; spouse is primary beneficiaryDescendants’ TrustAt spouse’s death; estate tax freeLife Insurance CompanyIncomeGrantor – spouse has “indirect” access to trust income and principal via the beneficiary – spouse (until beneficiary – spouse’s death or if divorced).

39. Reciprocal SLATsGift splitting is generally unavailable with SLATs. So, in order to use both spouses’ exemptions, each spouse must set up a SLAT for his / her spouse.However, if the two SLATs are similar, they may be “uncrossed” and treated for estate tax purposes as if each spouse had created a trust for himself / herself. United States v Grace, 395 US 316 1969.ConnectivityThink. Act. Lead.

40. Avoiding the Reciprocal Trust DoctrineUse different distribution standards (i.e., an ascertainable standard in one SLAT, and a fully-discretionary trust in the other SLAT).In one SLAT, allow “sprinkling” of income and principal to descendants during spouse’s lifetime, but not in the other.Use different trustees. For example, wife can be sole trustee and beneficiary of one SLAT; and husband can be a co-trustee (with an independent third party) and beneficiary of other SLAT.Give one spouse a 5% / $5,000 power, but not the other.Give one spouse a limited power of appointment, but not the other.ConnectivityThink. Act. Lead.

41. Avoiding the Reciprocal Trust DoctrineGive one spouse the broadest possible limited power of appointment, and the other spouse a power of appointment limited to the grantor’s descendants.Give one spouse a 5% / $5,000 power, but not the other.Give one spouse a limited power of appointment to “rewrite” the trust, but not the other.Give one spouse the broadest possible limited power of appointment, and the other spouse a power of appointment limited to the grantor’s descendants.Fund one SLAT with liquid assets and the other with illiquid assets (i.e., closely-held business interests). ConnectivityThink. Act. Lead.

42. Avoiding the Reciprocal Trust DoctrineCreate the SLATs at different times.If the richer spouse transfers assets to the poorer spouse so that the poorer spouse can establish a SLAT, this might trigger the step-transaction doctrine. In Holman, 130 T.C. No. 12 and Gross, T.C. Memo 2008-21 2008, gifts of partnership interests 6 days and 11 days, respectively, after the formation of the partnership were ruled not to be step transactions. ConnectivityThink. Act. Lead.

43. Beneficiary-Defective Inheritor’s Trusts (“BDITs”)ConnectivityThink. Act. Lead.

44. BDITsA grantor cannot establish a trust for his/her benefit and protect the trust assets from creditors or estate taxes (except in the “DAPT” states).But, a third party (i.e., parent) can establish a trust for a child / grandchild’s benefit and protect the trust assets from the beneficiary’s creditors and estate taxes – provided the beneficiary does not make gifts to the trust.ConnectivityThink. Act. Lead.

45. BDITsConnectivityThink. Act. Lead.Beneficiary has a Crummey withdrawal power which makes the beneficiary the owner of the Trust for income tax purposes. IRC Sec. 678(a).Grantor can have no grantor trust powers.Grantor allocates his/her GST exemption to the gift.Parent/GrantorBDIT fbo ChildFunds BDIT with $5,000

46. BDITsConnectivityThink. Act. Lead.Beneficiary is co-trustee with a third party and has the right to remove and replace trustees with someone who is not related or subordinate. IRC Section 672(c).Trustees can use trust income and principal for the beneficiary’s health, education, maintenance and support. Independent trustee can make distributions for “best interests”.Beneficiary has a testamentary limited power of appointment (except over any life insurance on the beneficiary’s life) to “re-write” the trust.Parent/GrantorBDIT fbo ChildFunds BDIT with $5,000

47. BDITsConnectivityThink. Act. Lead.Parent/GrantorBDIT fbo ChildFunds BDIT with $5,000Beneficiary sells non-voting interests of a start-up business to BDIT. Beneficiary continues to control the business entity. Possible valuation discounts.No gain on the sale. Rev. Rul. 85-13.Beneficiary’s payment of BDIT’s income taxes is a tax-free gift to the BDIT. Rev. Rul. 2004-64.BeneficiaryIRSInstallment SaleInterest Payments(at mid-term AFR) /Balloon (in 9 years)Pays Income Taxes

48. BDITsConnectivityThink. Act. Lead.Parent/GrantorBDIT fbo ChildFunds BDIT with $5,000Since beneficiary cannot make a gift to the Trust, a third party must guarantee 10% of the loan. Guarantee fee should be determined by an independent appraiser.The guarantee is the “seed” money so that the sale is not treated as a disguised gift. IRC Secs. 2036 and 2702.If beneficiary’s spouse is guarantor, fee is not taxable.BeneficiaryIRSInstallment SaleInterest Payments(at mid-term AFR) /Balloon (in 9 years)Pays Income TaxesThird PartyGuarantee FeePartial Guarantee

49. BDITsConnectivityThink. Act. Lead.Parent/GrantorBDIT fbo ChildFunds BDIT with $5,000Trust funds in excess of the interest payment and guarantee fee can be used to fund the balloon payment.Excess funds may also be used to purchase life insurance so as to “leverage” the GST exemption.All incidents of ownership must rest with the independent co-trustee.BeneficiaryIRSInstallment SaleInterest Payments(at mid-term AFR) /Balloon (in 9 years)Pays Income TaxesThird PartyGuarantee FeePartial GuaranteeLife InsuranceCompanyPays PremiumsDeath Benefit

50. BDITsConnectivityThink. Act. Lead.Parent/GrantorBDIT fbo ChildFunds BDIT with $5,000BDITs are relatively untested and based upon PLRs 20084025, 200949012, 201039010 and 129745-11.Use defined value gift to avoid unintended gift tax.Possible step-transaction challenge by the IRS.BeneficiaryIRSInstallment SaleInterest Payments(at mid-term AFR) /Balloon (in 9 years)Pays Income TaxesThird PartyGuarantee FeePartial GuaranteeLife InsuranceCompanyPays PremiumsDeath Benefit

51. Family Limited Liability Companies (“FLLCs”)ConnectivityThink. Act. Lead.

52. FLLCsFLLCs:An FLLC is a partnership between family members, which exists for a business purpose. The FLLC consists of voting and non-voting membership interests; and one or more manager(s) who control the daily operation of the entity and make all distribution decisions.Although operating as a business, the FLLC also serves as an important estate planning and business continuation device.ConnectivityThink. Act. Lead.

53. FLLCsUse of an FLLC is appropriate when there is a:Wish to transfer the business to the next generation without relinquishing immediate control.Desire to shift income to other family members who may be in lower income tax brackets.Desire to shift future appreciation to the next generation.Desire to reduce the value of the owners’ business interest for estate and gift tax purposes by way of valuation discounts (for lack of control and marketability).ConnectivityThink. Act. Lead.

54. FLLCsUse of an FLLC is appropriate when there is a (cont.):Desire to protect assets transferred to children from going to an ex-spouse as a result of a divorce settlement.Need to make it difficult for creditors to seize assets.Charging order sole remedy of creditors in most states.The creditor may be KO’d by the K-1.ConnectivityThink. Act. Lead.

55. FLLCsConnectivityThink. Act. Lead.FLLCParents1. Transfer Business2. Voting and non-voting membership interests3. Gift / sell non-voting membership interestsChildrenGRATIDGTILITand/or

56. Qualified Personal Residence Trusts (“QPRTs”)ConnectivityThink. Act. Lead.

57. QPRTsConnectivityThink. Act. Lead.GrantorQPRTResidenceRent-Free Right of Use of Residence for 15 YearsChildrenor ILITAfter Expiration of Selected Term of YearsGrantor’s Age 70FMV of Residence $1,000,000FMV in 15 years at 5% growth $2,079,000Term of QPRT 15 YearsInitial Gift $332,520FET Savings (35%) $698,563§7520 Rate 2.2%ASSUMPTIONS:RESULTS:GrantorPaysRent

58. Promissory Note Sale to Residence Trust (“PNRT”)ConnectivityThink. Act. Lead.

59. PNRTConnectivityThink. Act. Lead.GrantorInitial gift from Grantor: $500,000Promissory note sale of real estate to trustUp to 9 x $500,000 funding amount (or $4.5M)Interest only balloon note payment at the end of 9-year termInterest is mid-term AFRNo gain on sale; PNRT takes grantor’s basisInterest on the note over 9 years paid to GrantorInterest for 9 years: not taxed to Grantor; typically covers FMV rent paid to trustAt end of 9-year term, note can be refinancedInitial gift and growth remain in a defective grantor dynasty trustPNRT$500,000 initial giftGrowth on initial $500,000 giftGrowth on residence (rent and appreciation) in excess of mid-term AFRCan use excess cash flow to purchase life insurance on Grantor’s life to leverage GST exemptionAllocates $500,000 of gift and GST tax exemptionsPays fair market value (FMV) rentTrust is an IDGT

60. QPRT vs. PNRTSection 7520 rate and AFR:QPRTs are less tax efficient when Section 7520 rates are low, resulting in higher gift tax values.Conversely, PNRTs are more tax efficient in times of lower interest rates.The mid-term AFR (used with PNRTs) is less than the Section 7520 rate (used with QPRTs).ConnectivityThink. Act. Lead.

61. QPRT vs. PNRTGrantor’s age and health:There is a mortality risk with QPRTs (that can be “hedged” with an ILIT).In contrast, with a PNRT only the unpaid balance of the note is included in the grantor’s estate (unless a SCIN is used).ConnectivityThink. Act. Lead.

62. QPRT vs. PNRTValuation issues:With a QPRT, an upward adjustment of value (upon a gift tax audit) increases the value of the gift.However, with a PNRT, it may be possible to avoid an unintended gift tax by using a defined value formula clause. Wandry v Comm’r, T.C. Memo 2012-88).ConnectivityThink. Act. Lead.

63. QPRT vs. PNRTBasis issues:With a QPRT, the remainder beneficiaries take the grantor’s basis in the residence. And the grantor cannot reacquire the residence (to obtain a stepped-up basis). In contrast, with a PNRT, the grantor can reacquire the residence by substituting other high-basis property of equivalent value. The power of substitution (IRC Section 675(4)) is the most commonly-used grantor trust trigger.ConnectivityThink. Act. Lead.

64. QPRT vs. PNRTGST planning:Because of the so-called “ETIP” rules, GST exemption cannot be allocated upon QPRT funding.In contrast, with a PNRT, GST exemption can be allocated to the seed gift.ConnectivityThink. Act. Lead.

65. QPRT vs. PNRTOther issues:QPRTs are statutory techniques; whereas, PNRTs are based on case law and rulings.A single taxpayer may have two QPRTs; and a married couple may have three QPRTs. But, with PNRTs , there is no limit on the number of sales and leasebacks.A PNRT could result in higher property taxes at the onset (depending on state law); whereas, with a QPRT, such increased taxes will not occur until the end of the term.ConnectivityThink. Act. Lead.

66. QPRT vs. PNRTWealth transfer opportunities:A PNRT will generally use less gift tax exemption.With a PNRT, rent payments in excess of the AFR remain in trust.With a PNRT, interest payments (which are tax free to the grantor) offset the lease payments.At end of the QPRT term, the grantor can rent the residence at FMV. If the QPRT is designed as a grantor trust, the rent payments are tax-free gifts to the beneficiaries.Similarities:Creditor protection.Valuation discounts available if fractional interests in the residence are gifted / sold.Capital gain exclusion available for primary residence.ConnectivityThink. Act. Lead.

67. Charitable Remainder Uni-Trusts (“CRUTs”)ConnectivityThink. Act. Lead.

68. CRUTsConnectivityThink. Act. Lead.DonorCharitable Remainder Uni-TrustAsset Sale Reinvestment ManagementCharityWealth Replacement Trust (ILIT)Trust-Owned Life Insurance PolicyFamily MembersStep 1:Creation of TrustsStep 1: Set up two trusts: A CRUT and an ILIT.

69. CRUTsConnectivityThink. Act. Lead.DonorCharitable Remainder Uni-TrustAsset Sale Reinvestment ManagementCharityWealth Replacement Trust (ILIT)Trust-Owned Life Insurance PolicyFamily MembersStep 2:Donated AssetsStep 2: Donor transfers appreciated asset which is sold by the CRUT without capital gains tax; and receives a charitable income tax deduction equal to projected remainder interest value (of not less than 10% of FMV of asset).

70. CRUTsConnectivityThink. Act. Lead.DonorCharitable Remainder Uni-TrustAsset Sale Reinvestment ManagementCharityWealth Replacement Trust (ILIT)Trust-Owned Life Insurance PolicyFamily MembersStep 3:IncomeStep 3: CRUT trustee pays a fixed percentage of the trust assets (valued annually) to the donor and the donor’s spouse for their joint lifetime.

71. CRUTsConnectivityThink. Act. Lead.DonorCharitable Remainder Uni-TrustAsset Sale Reinvestment ManagementCharityWealth Replacement Trust (ILIT)Trust-Owned Life Insurance PolicyFamily MembersStep 4: Donor uses increased cash flow (from both charitable deduction and annual payments) to make gifts to an ILIT. The ILIT purchases insurance on the life of the donor and the donor’s spouse, typically in an amount equal to the value of the donated asset.Step 4:Premiums

72. CRUTsConnectivityThink. Act. Lead.DonorCharitable Remainder Uni-TrustAsset Sale Reinvestment ManagementCharityWealth Replacement Trust (ILIT)Trust-Owned Life Insurance PolicyFamily MembersStep 5:Charity Receives RemainderStep 5: At the death of both spouses, the remaining assets (remainder interest) in the CRUT pass to charity. The life insurance death benefit proceeds are paid to the ILIT, and the ILIT makes distributions (free of income and estate taxes) to the donor’s heirs.Family members receive life insurance proceeds free of income and estate taxes

73. CRUTsConnectivityThink. Act. Lead.Section 7520 Rate:FMV of Trust:Growth Rate:Income Rate:Percentage Payout:Payment Period:Two Lives Ages:Donor’s Deduction:2.20%$1,000,0005%2%5%Annual70, 65$372,560YearBeginning PrincipalPrincipal GrowthIncome Rec’d/Accr’dDistributionRemainder1$1,000,000.00$50,000.00$20,500.95$50,000.00$1,020,500.955$1,084,560.19$54,228.01$22,234.52$54,228.01$1,106,794.7110$1,200,385.48$60,019.27$24,609.05$60,019.27$1,224,994.5315$1,328,580.31$66,429.02$27,237.17$66,429.02$1,355,817.4820$1,470,465.68$73,523.28$30,145.95$73,523.28$1,500,611.63Summary$1,000,000.00$1,220,947.11$500,611.63$1,220,947.11$1,500,611.63

74. CRUTsConnectivityThink. Act. Lead.Section 7520 Rate:FMV of Trust:Growth Rate:Income Rate:Percentage Payout:Payment Period:Two Lives Ages:Donor’s Deduction:2.20%$1,000,0005%2%12.498%Annual70, 65$100,020YearBeginning PrincipalPrincipal GrowthIncome Rec’d/Accr’dDistributionRemainder1$1,000,000.00$50,000.00$20,500.95$124,980.00$945,520.955$799,253.65$39,962.68$16,385.46$99,890.72$755,711.0710$604,004.84$30,200.24$12,382.68$75,488.52$571,099.2415$456,453.15$22,822.66$9,357.73$57,047.51$431,586.0320$344,946.71$17,247.34$7,071.74$43,111.44$326,154.35Summary$1,000,000.00$618,444.79$253,574.19$1,545,864.63$326,154.35

75. THE ENDTHANK YOUConnectivityThink. Act. Lead.Julius H. Giarmarco, J.D., LL.M. Giarmarco, Mullins & Horton, P.C.101 W. Big Beaver Road, 10th FloorTroy, Michigan 48084(248) 457-7200jhg@disinherit-irs.comwww.disinherit-irs.com