PLANNING WITH GRATS First Run Broadcast: August 1, :00 p.m. E.T./12:00 p.m. C.T./11:00 a.m. M.T./10:00 a.m. P.T.

Transcription

1 PLANNING WITH GRATS First Run Broadcast: August 1, :00 p.m. E.T./12:00 p.m. C.T./11:00 a.m. M.T./10:00 a.m. P.T. (60 minutes) GRATs, or Grantor Retained Annuity Trusts, are one of the most effective vehicles for transferring appreciating property often interests in a closely-held company to a junior generation of a family while retaining, for a defined duration, income for the senior generation. GRATs essentially allocate future appreciation in the underlying property to the junior generation on a highly tax favored basis. GRATS are particularly valuable today, too, because of historically low interest rates. However, when something goes wrong in a GRAT, there are sharply adverse tax (and other) consequences. This program will provide you a practical guide to planning and drafting GRATS, common drafting traps, and circumstances in which they are best used or avoided. Circumstances in which GRATs are best used or avoided? Comparison of GRATs to alternative planning vehicles Statutory/regulatory elements of GRATs and common traps Choosing the right duration of the retained annuity interest What makes a retained interest valid v. invalid? Understanding the value of locking in historically low interest rates Estate, gift and income tax consequences of GRATs Common drafting traps and red flags for IRS challenges Speaker: Michael Sneeringer an attorney in the Naples, Florida office of Porter Wright Morris & Arthur LLP, where his practice focuses on trust and estate planning, probate administration, asset protection planning, and tax law. He has served as vice chair of the asset protection planning committee of the ABA s Real Property, Trust and Estate Section and is an official reporter of the Heckerling Institute. Mr. Sneeringer received his B.A. from Washington & Jefferson College, his J.D., cum laude, St. Thomas University School of Law, and his LL.M. from the University of Miami School of Law.

2 VT Bar Association Continuing Legal Education Registration Form Please complete all of the requested information, print this application, and fax with credit info or mail it with payment to: Vermont Bar Association, PO Box 100, Montpelier, VT Fax: (802) PLEASE USE ONE REGISTRATION FORM PER PERSON. First Name Middle Initial Last Name Firm/Organization Address City State ZIP Code Phone # Fax # Address Planning with GRATS Teleseminar August 1, :00PM 2:00PM 1.0 MCLE GENERAL CREDITS VBA Members $75 Non-VBA Members $115 NO REFUNDS AFTER July 25, 2017 PAYMENT METHOD: Check enclosed (made payable to Vermont Bar Association) Amount: Credit Card (American Express, Discover, Visa or Mastercard) Credit Card # Exp. Date Cardholder:

3 Vermont Bar Association CERTIFICATE OF ATTENDANCE Please note: This form is for your records in the event you are audited Sponsor: Vermont Bar Association Date: August 1, 2017 Seminar Title: Location: Credits: Program Minutes: Planning with GRATS Teleseminar - LIVE 1.0 MCLE General Credit 60 General Luncheon addresses, business meetings, receptions are not to be included in the computation of credit. This form denotes full attendance. If you arrive late or leave prior to the program ending time, it is your responsibility to adjust CLE hours accordingly.

4 Planning with GRATs Webcredenza August 1, 2017 Presented by: Michael Sneeringer Porter Wright Morris & Arthur LLP Naples, Florida

5 Introduction

6 Introduction GRAT o o o o Grantor Retained Annuity Trust Does the client own assets that may appreciate in the future? Term? Internal Revenue Code Sections 2501, 2702 and 2704(c)(2)

7 Introduction Retained: held by the same individual both before and after the transfer in trust Qualified interest: a qualified annuity interest, a qualified unitrust interest, or a qualified remainder interest Qualified annuity interest: an interest that meets all the requirements of Section (b) and (d) Fixed amount: is either a stated dollar amount or a fixed fraction or percentage (not to exceed 120% of the fixed fraction or percentage payable in the preceding year) of the initial fair market value of the property transferred to the trust as finally determined for Federal tax purposes Fixed amount must be payable periodically but not less frequently than annually Governing instrument must fix the term of the annuity or unitrust interest Term must be for the life of the term holder, for a specified term of years, or for the shorter (but not the longer) of those periods

8 Circumstances in which GRATs are best used or avoided

9 Circumstances in which GRATs are best used Assets that may appreciate in the future Client wants to annuitize an asset while passing on future appreciation to trusts for children or more remote descendants Client is motivated to initiate advanced estate planning techniques but has little to no unified credit left

10 Circumstances in which GRATs are best used Closely held stock Pre-IPO Stock Multiple securities Hedge Funds Non-qualified stock options Derivative transactions

11 Circumstances in which GRATs are best avoided Asset protection concerns Generation-skipping transfer tax planning Collateral use of transferred assets Congressional uncertainty

12 Comparison of GRATs to alternative planning vehicles

13 Comparison of GRATs to alternative planning vehicles Compared to an installment sale to an intentionally defective grantor trust ( IDGT ) o Death after sale does not disrupt transaction o Requires a lower rate of return o Enables ability to allocate and leverage the grantor s GST exemption o Risk if assets depreciate o Greater audit risk

14 Comparison of GRATs to alternative planning vehicles Compared to a private annuity o Death does not disrupt transaction (in fact, it may be better for the transaction) o Risk of seller living past his or her life expectancy o Gain recognition at the time of sale o Cannot be secured

15 Statutory/regulatory elements of GRATs and common traps

16 Statutory/regulatory elements of GRATs Specifically authorized by the Internal Revenue Code Can be designed, funded and administered in accordance with the Internal Revenue Code and applicable Treasury Regulations State law Use of foreign trusts

17 Common traps of GRATs Not timely making annuity payments Grantor does not survive the annuity term Not filing a gift tax return

18 Choosing the right duration of the retained annuity interest

19 Choosing the right duration of the retained annuity interest No advantage if grantor does not survive the term of the GRAT Consider outlook of asset growth Obama Administration's Fiscal Year Revenue Proposals o 10 Year Minimum Term o Prohibit any decrease in the annuity during the GRAT term

20 Choosing the right duration of the retained annuity interest 99- year GRAT??? o Possible solution in a low interest rate environment o Negative: possibility of merging interests at a later date o See Diana S.C. Zeydel, Cutting Edge Estate Planning Techniques: What Have I Learned from my Colleagues, J. of Est. & Tr. Plan. (4 th Quarter, 2012), available at

21 What makes a retained interest valid versus invalid

22 What makes a retained interest valid Sec (a)(3): retained means held by the same individual both before and after the transfer in trust Sec (a)(3): In the case of the creation of a term interest, any interest in the property held by the transferor immediately after the transfer is treated as held both before and after the transfer Example: transferring Walmart stock to a trust and retaining an interest in an annuity payable for a fixed term of 2 years See Walton v. Commissioner, 115 T.C. 589 (T.C. Dec. 22, 2000)

23 What makes a retained interest invalid Cook v. Commissioner, 115 T.C. 15 (T.C. July 25, 2000) o IRS asserts that each grantor's retained interest is to be valued as a single-life annuity (as opposed to a dual-life annuity) o Valuation of a retained interest as a dual-life annuity produces a greater retained value than valuation as a single-life annuity, and correspondingly reduces the amount of the taxable gift of the remainder o Held: because the spousal interests in each GRAT are not fixed and ascertainable at the inception of the GRAT, and are therefore contingent, and because the retained interests may extend beyond the shorter of a term of years or the period ending upon the death of the grantor, the retained interests in the trusts are to be valued as single-life annuities

24 Understanding the value of locking in historically low interest rates

25 Understanding the value of locking in historically low interest rates 2702(a)(2)(B): Valuation of qualified interest o The value of any retained interest which is a qualified interest shall be determined under 7520 o 7520 rate for August 2017: 2.4% August 2016: 1.4% August 2015: 2.2% August 2014: 2.2% August 2007: 6.2% August 1997: 7.6%

26 Understanding the value of locking in historically low interest rates Zeroed Out GRATs If proposals such as the Obama Administration s Fiscal Year Revenue Proposals were enacted, longer GRATs would be more susceptible to interest rate fluctuations

27 Tax consequences of GRATs

28 Income tax consequences of GRATs Grantor Trust Can use grantor s social security number (as opposed to obtaining separate tax identification number) GRAT trustee may have the authority to reimburse the grantor for income taxes attributable to the tax items of the GRAT Grantor may retain power to substitute assets

29 Gift tax consequences of GRATs Zeroing out a GRAT, i.e., no gift tax value Disclosure on Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return Reg (b)(1)(ii)(B) o Fixed amount may mean a fixed fraction or percentage of the initial fair market value of the property transferred to the trust, as finally determined for federal tax purposes, payable periodically but not less frequently than annually, but only to the extent the fraction or percentage does not exceed 120% of the fixed fraction or percentage payable in the preceding year. o If a fixed amount is used according to this Regulation and the value of the gift to the GRAT is changed as a result of a gift tax audit, the gift tax value will change proportionately o Key: a gift tax audit readjustment would have a relatively low impact

30 Estate tax consequences of GRATs If the grantor dies during the term, some or all of the assets will be includible in the grantor s estate o Only the portion of the GRAT assets necessary to provide the annuity payment without reducing or invading principal are includible in the decedent s taxable estate o See Treasury Regulation Section (c)(2)(iv), Example 2

31 Generation-Skipping transfer tax consequences of GRATs Other techniques are more viable options for planning to optimize use of a client s GST exemption Estate tax inclusion period ( ETIP ) Code Section 2642(f)(3)

32 Common drafting traps and red flags for IRS challenges

33 Common drafting traps Trust should state specifically that no further contributions can be made Trust should be irrevocable except a limited amendment power may be retained by the trustee to: o Qualify the trust as a retained annuity trust whereby a qualified interest is retained o Conform the minimum term to the requirements of Code Section 2702

34 Red flags for IRS challenges Records indicate additional contributions were made to the GRAT Use of a promissory note to fund the GRAT Grantor s annuity interest was prepaid

35 Thank you! Michael A. Sneeringer Porter Wright Morris & Arthur LLP 9132 Strada Place, 3rd Floor Naples, FL Direct: Fax: