The Shape of Tax to Come

A Tax & Estate Planning blog for 21st-century Texans

Forbes: Goodbye GRATs?

As detailed in a Forbes article, President Obama would like to reign in the use of Grantor Retained Annuity Trusts (GRATs) as a vehicle to pass wealth in estate planning as part of the 2011 budget process. It certainly does not hurt that the Joint Committee on Taxation thinks that these changes will bring approximately $4.45 billion into the treasury over the next 10 years.

Properly utilized, GRATs allow grantors to pass large sums to future generations without the imposition of either the gift tax or the estate tax. While GRATs provide an income stream for the grantor as well as a freezing the value of the assets that are contributed, they require that the grantor have a plan for other income after the term has run on the GRAT.

GRATs reduce the value of the gifted property because the grantor retains an income interest in the trust in the form of an annuity payment, while the remaindermen receive a future interest in the property. As the remaindermen are receiving a future interest in the property, the transaction is not subject to the gift tax.

As part of H.R. 4849, section 2702 of the Code would be amended to include the following:

(2) ADDITIONAL REQUIREMENTS WITH RESPECT TO GRANTOR RETAINED ANNUITITES – For purposes of subsection (a), in the case of an interest described in paragraph (1)(A) (determined without regard to this paragraph) which is retained by the transferor, such interest shall be treated as described in this paragraph only if –

(A) the right to receive the fixed amounts referred to in such paragraph is for a term not less than 10 years,

(B) such fixed amounts, when determined on an annual basis, do not decrease relative to any prior year during the first 10 years of the term referred to in subparagraph (A), and

(C) the remainder interest has a value greater than zero determined at the time of the transfer.

If signed into law, this language would require that GRATs have a 10-year minimum length before qualifying for the valuation treatment under section 2702. Under current law, there is no minimum length for the term of a GRAT.

Typically, GRATs are set up for terms shorter than ten years, ranging from two to five years. Planners will use longer terms to achieve better tax treatment, though there is always the risk that the grantor will not live long enough to see the end of that term.

An additional result of the legislation is that “zeroed-out” GRATs will not longer be available as a planning technique. The GRAT will have to leave some amount as a gift to the beneficiaries, which will require the grantor to use up some portion of the $1 million lifetime gift tax exemption with the residual gift. Congress has sidestepped making this decision, and will grant Treasury the ability to write legislative regulations to cover the required minimum amounts.

The take-away lesson here is that if you are thinking about setting up GRATs as part of your estate plan, now is the time to get them in place. The current Congress is in the mood to increase taxes, and there is no way of knowing when these changes will be implemented. Even if the law is passed this year, it may well be years before we have regulations indicating what a minimum gift amount might be.

There is an open question remains as to the treatment of the GRAT if the grantor dies during the term. Should the entire trust corpus be included in the gross estate because it was the grantor’s property; should the full amount be excluded from the gross estate because the grantors interest was solely in the annuity, an interest that is now worth zero; or should only a portion be included in the gross estate to reflect that the grantor had less than a complete interest in the trust corpus? There is support for all three positions, though nobody has been willing to take such a case to court yet.

Read the full article here.

March 30, 2010 Posted by | Uncategorized | , , | Leave a comment

How the Health Care Bill is Financed

The Tax Policy Foundation has produced an informative graph that shows the six years of ObamaCare will be funded over the next ten years. Of particular note is the $416 billion that will be cut from Medicare over the next ten years.

Main Components in Net Cuts to Medicare ($416.5 billion)

Reductions in annual updates to Medicare FFS payment rates = $196 billion cut
Medicare Advantage rates based upon fee-for-service rates = $136 billion cut
Medicare Part D “donut hole” fix = $42.6 billion increase
Payment Adjustments for Home Health Care = $39.7 billion cut
Medicare Disproportionate Share Hospital (DSH) Payments = $22.1 billion cut
Revision to the Medicare Improvement Fund = $20.7 billion cut
Reducing Part D Premium Subsidy for High-Income Beneficiaries = $10.7 billion cut
Interactions between Medicare programs = $29.1 billion cut

Main Components in Other Provisions ($149 billion)

Associated effects of coverage provisions on revenues = $46 billion
Exclusion of unprocessed fuels from the cellulosic biofuel producer credit = $23.6 billion
Require information reporting on payments to corporations = $17.1 billion
Raise 7.5% AGI floor on medical expenses deduction to 10% = $15.2 billion
Limitations to the use of HSAs, MSAs, FSAs, etc. = $19.4 billion

Also of note is the federal takeover of the federal student loan process. This was included in the CBO estimate as a net $51 billion dollar cut that was needed to get the bill scored at less than $1 trillion.

From the Tax Policy Foudation

Read the full article here.

March 29, 2010 Posted by | Uncategorized | Leave a comment

Texas, We have $114M That Belongs to You. Regards, IRS

The IRS is reporting that there is $114M waiting for Texans that have not filed their 2006 tax returns yet. If those 2006 returns are not filed by April 15, 2010, then taxpayers will not be able to claim the refunds and the money will revert to the government.

The Code has limitation periods to promote efficiency. After three years, the records are closed. This promotes efficiency for both the taxpayer and the IRS, as neither will be expected to deal with an tax year long after it has closed. It also has some harsh effects, as will be seen in twenty days.

Many people fail to file for various reasons. The $114M that the IRS is currently holding is likely in large part from automatic withholding from paychecks. If those people had more than was necessary withheld, that money is rightfully theirs. However, if they do not claim it within the three-year period, they will lose the right to claim the refund. It is a harsh rule, but easily avoidable.

Read the whole article here.

March 26, 2010 Posted by | Uncategorized | , , | Leave a comment

33 States Have Raised Taxes

The Center of Budget and Policy Priorities has released a new study titled “State Tax Changes in Response to the Recession.” As a result of the recession, state tax revenues have dropped $87 billion, or 11% overall. In an effort to recoup these losses, states have been raising taxes.

To recoup lost revenue, states have taken such actions as eliminating tax exemptions, broadening tax bases, and in some cases increasing rates as well as raising a number of fees. Doing so is part of an established pattern; states historically have turned to revenue increases as part of the response to recessions. They have found that raising new revenue provides more short-term economic benefit than relying only on spending cuts and does not have an adverse impact on longer-term economic performance.

The result of these tax increases has not been to offset all of the losses, but only to make up a fraction of the lost tax revenue.

In 33 states, tax changes are increasing annual revenues, relative to what the state otherwise would have collected, by $31.7 billion. Even after accounting for a few states that lowered taxes, net tax changes for 2008-2009 total $29.7 billion in expected revenues, or 3.8 percent of total state revenues. The difference between the fall-off in revenues and the limited impact of the tax actions enacted is shown in Figure 1.

Figure 1

Map of State Tax Increases

Read the full story, which includes a breakdown of the different types of taxes raised, here.

March 9, 2010 Posted by | Uncategorized | | Leave a comment

Drop in Estate Planning Indicates Wrong Planning Focus

In a startling display of lack of foresight on the part of the American public, a recent survey from shows that only 51% of the public has estate planning documents. Part of the reason cited for the drop is that the economic downturn has made planning more difficult. While the economic downturn is a reason, this is not a satisfactory one.

True, not knowing what the value of your assets will be over the course of the coming years will make planning more difficult. However, financial management of assets such as this is not the only reason to plan your estate. In many cases, the financial aspects of the estate plan are not the primary reason for planning. Taking care of your loved ones and ensuring that you don’t leave a legacy of conflict will be much more important than any pecuniary amount left behind.

By taking the time to carefully plan out your estate, you will have a plan in place when something happens to you. Many of the choices made will not be impacted by the financial markets. If you are incapacitated, there is no direct answer to the question “who is in charge here?” By taking the time to determine who your guardians are, you can save your family the time and expense, both monetary and emotional, of arguing over control of you. Having the living will or advance directive in place will ease tensions regarding medical treatment. And both you and your family will be able to rest easy knowing that the decisions made were made in line with your wishes.

And what estate plan would be complete without providing for the care and upbringing of your children? Knowing the persons to whom you want to entrust the care of your children in the case of your death is possibly one of the most important decisions that parents can make in planning for their estate. It is certainly the decision that takes up most parents’ time. Would you rather your family spend time in court arguing over custody of the children? Is no plan really the best plan?

The bottom line is that planning your estate has more to do with items that are unrelated to the state of the markets. It is far better to have a plan that takes care of the things that truly matter, you and your family, than the items that are affected by market shifts.

Decline in Estate Planning

Read the full article here.

March 2, 2010 Posted by | Uncategorized | , , | Leave a comment


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