How to take advantage of historical opportunities in the estate and gift tax code

Wonsun Willey, Tax Partner, Sensiba San Filippo

When it comes to estate planning, timing is everything, as variations in tax law make some years more favorable than others for transferring assets.
Ask any estate planner about 2012 and they’re likely to say things haven’t looked this good in a long time. But they will also tell you there’s a catch: Conditions will likely change Jan. 1, 2013.
“The question you should be asking yourself is, ‘Am I in a position to take advantage of the current opportunities in the estate and gift tax code?’” says Wonsun Willey, Tax Partner at Sensiba San Filippo.
If you’re not sure, she says, it’s probably time to talk to an estate planning expert.
Smart Business spoke with Willey about how to take advantage of estate and gift tax code opportunities before they disappear.

What makes the estate and gift tax provisions of 2012 so favorable?

At the close of 2010, the Tax Relief Act of 2010 created a temporary opportunity for tax-advantaged wealth transfer. The act increased the estate and gift tax lifetime exemptions to $5 million for individuals and $10 million for married couples, while the estate and gift tax rate remained at 35 percent.
Coupled with a historically low interest rate and an unprecedented suppressed real estate market, this provides excellent opportunities for gifting.

How much time is left to take advantage of these provisions?

It’s not clear what will happen beyond 2012. We do know, however, that if Congress does not take action, the lifetime exemption will drop to $1 million in 2013 and the tax rate will increase to 55 percent. This means an individual transferring $5 million in assets in 2012 could pay no gift tax, while that same transfer in 2013 could generate a $2.2 million tax liability.

What’s the best way to take advantage of this opportunity?

Get an estimated current value inventory of the asset portfolio in the estate. Determine the assets that are more likely to appreciate in value, giving considerations to those that also carry other intangible values, such as family legacy. By transferring assets now, the estate can utilize an estate freeze, in which the future appreciation of the asset transferred is outside the estate and escapes estate tax at the donor’s event. Another way to achieve this is by giving a fractional interest rather than a whole interest in an asset to take advantage of discounts.

Why might transferring interest in a partnership or a business be advantageous?

There are two types of discounts: lack of marketability discount, which is transferring less than 100 percent interest in an asset, and minority interest discount, or transferring less than 50 percent interest. These discounts might apply when you’re moving a fractional interest of a business or real estate out of an estate.
Say a couple owns a business valued at $20 million. They want to gift a 30 percent interest to each of their two children. Because they’re only giving a fractional, noncontrolling interest to each, the marketability of that interest might be significantly impaired.
A qualified valuation may substantiate a 35 percent discount in the transferred share of the business. By utilizing discounts, the couple only transferred 65 percent of the $6 million, or less than $4 million to each child. The result is that instead of exceeding their combined lifetime exemption and paying significant estate tax, the couple now has flexibility to gift even more out of the estate from a different asset to their children because of the allowed discount applied in the gift valuation. This also creates another opportunity for discount for estate tax purposes at death because the parents now own less than 50 percent of the business.
However, there have been discussions in Washington to disallow the minority interest discount on family gifting to other family members, so this opportunity could go away in the future.

You’ve mentioned ongoing estate planning. What does this mean?

Every individual has life-changing events — marriage, children, divorce, sale of a business, stock option IPO — along with change in their view of who their beneficiaries are. A good estate planner will know both the changing estate tax environment and the individual’s life changes in order to provide the best estate planning.

Where is the best place to start in this process?

If you aren’t working with an estate planner, it is best to get recommendations from a variety of sources. Your CPA, personal financial planner, banker or attorney could give you references. It is important that the team you choose to work with comprises estate and trust specialists.

How can individuals select and ensure that they are working with the right service providers?

Estate planning is a very personal business for both the service provider and the individual client. Look for someone you trust who will bring a personal interest to the relationship. As gifting involves giving up some control and is not something that can easily be reversed, understanding family dynamics and getting family members comfortable in all facets of the gift is important.
Communication and coordination are essential to make sure the overall tax, financial and personal outcomes are the best in the current tax regime. Keep in mind that in this process you’ll need help from multiple advisers. Financial planners can bring significant value in helping to select the best assets to transfer, while attorneys are essential to carrying out the intentions of the estate.

Wonsun Willey is a Tax Partner at Sensiba San Filippo, a regional CPA firm based in the San Francisco Bay area. She specializes in working with high-net-worth taxpayers and their estates and is fluent in Korean. Reach her at (408) 776-8900 or [email protected]

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