"CRUMMEY POWERS": DRAFTING & USING THESE ESSENTIAL ESTATE PLANNING POWERS First Run Broadcast: July 6, 2017 Live Replay: May 14, 2018 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) Crummey powers are frequently used in trust instruments to allow the gift of a future interest to be treated as a gift of a present interest. This is important for gift tax purposes because only the gift of a present interest i.e., money or property that can be claimed and used immediately qualifies for the annual gift tax exclusion of $14,000. If a gift is not of a present interest, it cannot be excluded and is taxable. The IRS frequently attacks Crummey powers, viewing them as a tax-reduction contrivance that have little basis in reality. Still, if Crummey powers are carefully drafted and utilized, courts uphold them and they are an effective tool for tax reduction for trusts of every size. This program will provide you with a practical guide to planning and drafting Crummey powers and avoiding common traps in their use. What are Crummey powers exactly and how are they used in trusts? Understanding the tax and economic benefits of Crummey withdrawal powers Notice to beneficiary of powers actual notice or mere knowledge by beneficiary? Crucial difference between explicit waiver of powers v. allowing powers to lapse Consequence of a failed Crummey power lapse Structuring a hanging Crummey and their 5 and 5 benefits Practical mistakes and traps for settlors, trustees and beneficiaries Speaker: Michael T. Clear is a partner in the Greenwich, Connecticut office of Wiggin and Dana,, where his practice focuses on estate planning, estate and trust administration, probate litigation and business succession planning. His estate planning practice includes assisting individuals and families with tax-efficient and practical estate and gift planning, including the preparation of wills, revocable living trusts, insurance trusts, and qualified personal residence trusts. He was recently selected by the Connecticut Law Tribune as a New Leader in the Law. He is a co-chair of the Probate and Estates Section of the Fairfield County Bar Association and is a member of the Board of Directors of the Connecticut Chapter of the Exit Planning Exchange. Mr. Clear received his B.A. from the University of Richmond, his M.Ed from the University of Maryland, and his J.D., magna cum laude, from Quinnipiac University School of Law.
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Crummey Powers July 6, 2017 Michael T. Clear 2 Basics of Gifting Goal Qualifying for the annual exclusion Present interest requirement Qualifying gifts for the annual exclusion when made to a trust 1
3 Crummey v. Commissioner Adult and minor beneficiaries had a withdrawal right over an irrevocable trust in the amount of the annual exclusion Power would lapse at the end of the year if not exercised IRS challenged the applicability of the annual exclusion for the minors withdrawal rights since legal guardians had not been appointed to exercise the right on behalf of the minors Taxpayer prevailed 4 What is a Crummey Power? Presently exercisable withdrawal power over the principal of a trust Limited in amount Limited in time 2
5 Review of Best Practices: Notice Give notice to the beneficiaries so that the withdrawal right is not illusory Notice conveys to the beneficiary: That a gift has been made That the beneficiary has a withdrawal right over the gift 6 Review of Best Practices: Notice Knowledge versus written notice Powerholder needs to have a reasonable opportunity to exercise the withdrawal right Knowledge of the gift and its associated withdrawal right is likely sufficient, but the safer option is to provide written notice 3
7 Review of Best Practices: Notice Waiver of notice Based on the IRS reasonable opportunity position, a beneficiary should be able to waive notice of a withdrawal right o However, the IRS Office of the Chief Counsel has taken the position that waiver of notice defeats the present interest requirement, so it is probably best to continue providing notice 8 Review of Best Practices: Timing Length of withdrawal period What length of time gives a beneficiary a reasonable opportunity to exercise withdrawal power? Gifts made late in the year Implication for gift tax Implication for lapsed power 4
9 Drafting Considerations: What to Include Outline notice procedure Give donor the power to limit withdrawal right 10 Drafting Considerations: What to Watch for Watch for boilerplate provisions that could frustrate the purpose of the Crummey power Withdrawal power must remain ascertainable Who to include as powerholders Estate of Cristofani v. Commissioner 5
11 Income Tax Consequences for the Crummey Powerholder Section 678 of the Code A person other than the grantor shall be treated as the owner of any portion of a trust with respect to which: (1) such person has a power exercisable solely by himself to vest the corpus or the income therefrom in himself, or (2) such person has previously partially released or otherwise modified such a power and after the release or modification retains such control as would, within the principles of sections 671 to 677, inclusive, subject to grantor of a trust to treatment as the owner thereof. 12 Income Tax Consequences for the Crummey Powerholder Even though the Crummey powerholder is treated as the owner of a proportionate share of the trust under Section 678, that ownership will be disregarded if the grantor holds a power under Sections 673-677 over that same income If that is the case, the grantor will be taxed on all trust income 6
13 Estate Tax Consequences for the Crummey Powerholder Any property subject to a decedent s unlapsed power will be includible in her gross estate for estate tax purposes Creation of a retained interest for any taxable lapse Results in partial inclusion of the trust property in the decedent s gross estate 14 Gift Tax Consequences on the Crummey Powerholder Crummey power is a general power of appointment Letting the power lapse would be a transfer to the other beneficiaries of the trust Since the other beneficiaries have no withdrawal power of lapsed amount, it is a future interest gift, so it does not qualify for the annual exclusion 7
15 Gift Tax Consequences on the Crummey Powerholder: 5 and 5 Carve Out Section 2514(e) of the Code creates a carve-out: The lapse of a Crummey power is not deemed to be the release of a general power of appointment if the property subject to the power does not exceed the greater of: o $5,000 o 5% of the aggregate value of the trust corpus 16 Gift Tax Consequences on the Crummey Powerholder: Hanging Crummey Arises when the annual exclusion amount exceeds the 5 and 5 amount Withdrawal right is equal to the annual exclusion amount The amount that lapses each year is equal to the 5 and 5 amount Creates a hanging right of withdraw with respect to amounts in excess of the 5 and 5 amount 8
17 Gift Tax Consequences on the Crummey Powerholder: Hanging Crummey How hanging powers go away 5 and 5 amount will eventually be exhausted if the donor does not continue making gifts to the trust If the trust corpus continues to grow, 5% of its aggregate value will eventually wipe away the hanging power 18 Gift Tax Consequences on the Crummey Powerholder: Hanging Crummey Year Gift Withdrawal Right 5 and 5 Amount Hanging Power 2017 $75,000 $14,000 $5,000 $9,000 2018 $75,000 $14,000 $7,500 $15,500 2019 $75,000 $14,000 $11,250 $18,250 2020 $75,000 $14,000 $15,000 $17,250 2021 $75,000 $14,000 $18,750 $12,500 2022 $75,000 $14,000 $22,500 $4,000 2023 $75,000 $14,000 $26,250 9
19 Common Issues and Questions Fixing improperly drafted or administered Crummey trusts Gifts to multiple trusts Payment of life insurance premiums Transfers of illiquid assets 20 Generation Skipping Transfer Tax Considerations Section 2642: the GST annual exclusion only applies to transfers in trust if the trust is structured so that: Only the skip person for whom the transfer is made is permitted to receive distributions from the trust during his or her lifetime The trust will be includable in the skip person s estate if it does not terminate prior to the time her or she dies 10
21 Cascading Crummey When a withdrawal power lapses, the powerholder becomes the transferor with respect to the excess of the 5 and 5 amount As discussed, this rule often leads drafters to limit the lapse to the 5 and 5 amount However, some use it to shift the transferor down a generation for purposes of the GST tax 22 Cascading Crummey Donor $14,000 Donor establishes an irrevocable trust and contributes $14,000 to it Child 1 $14,000 Donor s child is given an immediate withdrawal right over $14,000 After withdrawal window, the power lapses in full Grandchild 1 $4,500 Grandchild 2 $4,500 Child is treated as having each made a $4,500 gift (the amount in excess of the 5 and 5 amount) to each of the donor s grandchildren, who are the remainder beneficiaries Grandchildren are given a withdrawal right over this excess, and that right will lapse to the extent of the 5 and 5 amount 11
23 Michael T. Clear Michael T. Clear is a partner in Wiggin and Dana's Private Client Services Department. Michael focuses his practice on estate planning, estate and trust administration, probate litigation and business succession planning. He guides fiduciaries and beneficiaries through estate settlement and trust administration matters. His estate and trust administration practice often intertwines with his probate litigation practice where he advises clients in will and trust construction cases, contested accounting proceedings, fiduciary removal proceedings, payment of unpaid claims and conservatorship and guardianship matters. Michael received his J.D. magna cum laude from the Quinnipiac University School of Law. mclear@wiggin.com 203-363-7675 24 Wiggin and Dana Wiggin and Dana is a full-service law firm of approximately 140 lawyers with offices in Connecticut, New York, Philadelphia, Washington, DC and Palm Beach. Since its founding in 1934, the Firm has served the legal needs of entrepreneurs, corporate executives and other wealthy individuals and their families, as well as charitable and educational institutions, emerging companies, middle market business organizations and Fortune 500 corporations. 12
PROFESSIONAL EDUCATION BROADCAST NETWORK Speaker Contact Information "CRUMMEY POWERS": DRAFTING & USING THESE ESSENTIAL ESTATE PLANNING POWERS Michael Clear Wiggin and Dana Greenwich, Connecticut (o) (203) 363-7675 mclear@wiggin.com