How might the portability provisions of the 2010 Tax Relief Act affect surviving spouses who remarry? What new opportunities can advisors pursue to revamp defective life insurance or estate planning transactions? Why should children who are procreated using alternative methods merit special attention in estate plans?
Answers to these questions, among others, were forthcoming during a wide-ranging closing general session of the Society of the Financial Service Professionals' Clinic for Advanced Professionals, held at the Marriot Philadelphia Airport hotel, August 16-17. The presenters, Lawrence Brody and Kathleen Sherby, both partners at the law firm Bryan Cave LLP, St. Louis, addressed the impact of the Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010 on estate and business planning practices, including opportunities and issues arising from the legislation.
Among the items of concern: a portability feature that lets a surviving spouse take advantage of an unused estate tax exemption (a.k.a., applicable exclusion amount or unified credit) of a predeceased spouse. Due to expire at the end of 2012 unless extended by Congress, the portability provision requires the "timely" filing of an estate tax return to capture the unused exemption.
According to Sherby, portability sounds like a great thing, but there are problems with it, both conceptually and with its process.
"As it regards the concept, portability isn't indexed to inflation," she said. "So–10 or 20 years later–you get whatever the unused exemption amount is. If the assets of a surviving spouse grow considerably, the exemption might not cover the individual."
Sherby noted also that a surviving spouse might not be able to use the exemption after remarrying. If the individual's second spouse dies, the unused exemption of the deceased spouse from the first marriage is no longer available to the remarried surviving spouse because the portability feature only applies to the last deceased spouse's unused exclusion amount.
"If you marry someone who is a lot richer than your first spouse, and that spouse dies before you do, you lose the benefit of your first spouse's unused exemption," said Sherby. "And you now have the wealthy second spouse's unused exemption–which may be nothing.
"So if you have a poor spouse who predeceases you, you may not want to marry a rich spouse. Instead, you might simply choose to live together. Or you get married and make lifetime gifts of the unused exclusion amount."
Brody humored the audience by suggesting the portability provision may avail enterprising individuals who plan to remarry of an unconventional sales opportunity: posting the unused exemption as a classified ad on craigslist.org.
"Here's my proposed heading: 'Old, Poor, Unhealthy Widower: Full Exemption Available,'" said Brody. "'At a reasonable cost, my exemption is available to you. Here's my contact info…'"
Skipping a Generation
Sherby pointed out other problems with the 2010 tax law provision. Among them: the lack of portability for the generation-skipping transfer (GST) tax–a federal tax imposed on gifts and transfers in trust to or for the benefit of (among others) grandchildren. Other concerns include; uncertainty as to the long-availability of portability; and, as regards Sherby's process concern, the requirement that an executor of the predeceased spouse's estate file an estate tax return and elect to permit the surviving spouse to use the unused exemption.
Because of these issues, said Sherby, clients may be well advised to use in place of the portability feature a credit shelter trust. Also referred to as an A/B trust, bypass trust and unified credit trust, the vehicle lets a surviving spouse avoid estate tax at a first spouse's death by using the available federal estate tax credit or applicable exclusion amount.
Turning to life insurance, the speakers noted the 2010 Tax Act's increased lifetime estate, gift and GST exemptions–under the law, gift, estate, and GST rates and exemptions are reunified at $5 million per person or $10 million per couple (indexed for inflation) and at a 35% top tax rate–will avail advisors of opportunities to "fix" broken insurance or estate planning transactions.
These include split-dollar and private premium financing transactions that are "under water;" and installment sales to intentional grantor trusts, where an asset fails to appreciate or to generate enough cash to make the required payments.
