Stepping Up Estate Planning Tax Reduction Plans

Well-off readers and those on the path to wealth should step up their Estate Planning tax reduction plans. You have some breathing room since Congress passed the ?permanent? estate tax in January. But a number of tax reduction strategies still are at risk.

Most people won’t be subject to the estate tax. But estate taxes are a concern when your estate is worth more than $5 million or when it’s close and growing faster than inflation.

Congress has tax reform on its agenda, and that might include estate tax reform. Plus, the IRS has pushed eliminating or restricting key estate tax reduction strategies over the years, regardless of who is President. Congress could slip one or more of these into any law, especially when it needs a tax increase to ?pay? for new spending.

One or more of these strategies soon could be restricted, so implement it soon if it’s appropriate for you.

Estate Planning Strategy #1

family limited partnerships. These are a great way to remove the value of assets from your estate at a discount without losing complete control. The IRS has tried to eliminate these for years, but taxpayers win in court when they’re careful and follow the rules.

In an FLP the senior generation puts valuable assets in an FLP or LLC. They are the general and limited partners. Over time, they give or sell all or most of the limited partnership interests to their children and grandchildren. Because limited partners have few rights and the partners aren’t able to sell to just anyone, the value of the limited partnership shares is discounted, often by 20% to 30%. The discount minimizes gift taxes on the transfers, and the transfers keep future appreciation out of the senior generation’s estates.

Estate Planning Strategy #2

Dynasty trusts. These trusts allow you to transfer a lot of wealth to benefit multiple generations without incurring multiple layers of estate taxes or the generation skipping transfer tax. Instead of benefitting only your kids, the dynasty trust can pay out income and principle to several generations of your family. The trusts have been more popular since some states abolished the rule against perpetuities and allow trusts to last forever. The administration has proposed allowing no more than a 90-year exemption from the GSTT.

Estate Planning Strategy #3

Grantor trusts. The creator of a grantor trust is treated as the owner. He or she is taxed on all the income and gains of the trust. But when the trust has the right terms, the trust assets aren’t included in the creator’s estate.

The grantor trust reduces taxes in two ways. First, you remove the property and its future appreciation from your estate by putting it in the trust. Then, you further reduce the estate by paying taxes on the income and gains of the trust. The income and gains belong to the trust and eventually your children, but you increase their value and reduce your estate by paying the taxes on income you don’t receive.

The administration proposes including the trust assets in the creator’s estate and also treating lifetime distributions from the trust to the beneficiaries as taxable gifts.

Estate Planning Strategy #4

GRATs. In this strategy you put assets in a trust, and the trust pays you an annuity. Because interest rates are low, the annuity payout isn’t much more than the original principal. In the meantime, the assets are invested. When the investments earn more than the annuity interest rate, the excess stays in the trust and is distributed to the children or other beneficiaries when the trust term ends.

Many wealthy people have been setting up GRATs that last only two to three years and create new GRATs every year, because the downside of current GRATs is if the creator dies during the trust term the trust assets are included in his estate. When properly constructed and invested, the GRAT passes wealth to the next generation tax free.

The administration proposes requiring GRATs last at least 10 years and limiting tax-free transfers via the GRAT.