kevin h. cohen, esq. law offices of kevin h. cohen, p.c. 4...

Kevin H. Cohen, Esq. Law Offices of Kevin H. Cohen, P.C.

4 Westchester Park Drive Suite 220

White Plains, New York 10604 914 949-3411

[email protected]

mailto:[email protected]

Unique Challenges

for Estate Planners

in New York State

“Nothing is certain but death and taxes.”

Typically, there are two entities that want to subject a decedent’s estate

to estate tax:

(1) The IRS

(2) New York State

The Federal Estate Tax

• The Estate Tax is a tax imposed on the taxable estate of every individual who at death is a citizen or resident of the United States.

“A tax is hereby imposed on the transfer of the taxable estate of every decedent who is a citizen or resident of the

United States.”

26 U.S.C. § 2001 (a)

Calculating the Estate Tax

[(Gross Estate – Deductions) + Lifetime Taxable Gifts] – Unified Credit

= Taxable Estate

Gross Estate

• Step 1: Calculate the Gross Estate (26 U.S.C. § 2031) • The estate tax consists of an accounting of everything the decedent

owns or has certain interests in at his or her date of death (see Form 706). (26 U.S.C. § 2033).

• For purposes of calculating the gross estate, the value of decedent’s assets is determined by the fair market value on decedent’s date of death, unless the Executor elects to use an alternative valuation.

• 26 U.S.C. § 2032: Gives the Executor of the estate the ability to use an alternative valuation (the value 6 months after decedent’s date of death) if there are aberrational market trends.

• Gross Estate: The total of all of these items is your "Gross Estate." • The includible property may consist of cash and securities, real estate,

insurance, trusts, annuities, business interests and other assets.

Deductions from Gross Estate

• Step 2: Calculate the Deductions: Once you have accounted for the Gross Estate, certain deductions (and in special circumstances, reductions to value) are allowed in arriving at your "Taxable Estate."

• Funeral expenses: Burial plot, flowers, memorial service, etc. • Estate administration expenses: Executors’ commissions,

Attorney’s fees, Accountant’s fees, Appraisal fees • Debts, typically including property taxes, unpaid income

taxes (apportion between decedent and spouse), mortgages, etc.

Charitable Deduction

• A charitable deduction is allowed for any amount, without limitation, passing to a qualified charity. • The estate tax definition for a qualified charity is broader than the income tax

definition in that foreign charities are eligible beneficiaries.

• Transfer must be made by provisions established by the decedent while living (i.e., through the will or trust instrument) rather than by the executor, the heirs or operation of state law.

• Must be possible to clearly identify the charitable beneficiary and make certain that the gift is for a charitable beneficiary.

• Generally cannot be contingent upon some act or occurrence.

• Generally the entire interest in the property must be transferred to the charity.

Unlimited Marital Deduction

• Transfers to a U.S. citizen spouse, by gift or upon death, in any amount is not subject to tax.

Unlimited Marital Deduction

• Transfers to a spouse who is a U.S. citizen are tax-free

• Lifetime or at death

• Outright through will, JTROS or beneficiary designation

• In power of appointment or “QTIP” trust

• Note that marital deduction only defers tax. It does not

reduce or eliminate it!

Adjusted Gross Estate

• Adjusted gross estate (AGE): Gross estate, less deductions for expenses and claims

• AGE is used to determine whether an estate qualifies for IRC §§ 303, 6166 and other provisions that may afford some relief from taxation or stringent payment requirements

Lifetime taxable gifts • Step 3: Calculate the lifetime taxable gifts: After the net amount is computed, the

value of lifetime taxable gifts (beginning with gifts made in 1977) is added to this number and the tax is computed.

• Transfers Not Subject to Gift Tax: • “Qualified transfers” –Tuition or medical expenses paid directly to a medical or educational institution for

someone. 26 U.S.C. § 2503(e)

• Gifts to your U.S. Citizen spouse.

• Gifts to a political organization for its use or to qualifying charities. 26 U.S.C. § 2522(a)

• Gifts that are not more than the annual exclusion for the calendar year. 26 U.S.C. § 2503(b)

• Annual gift tax exclusion amount: The annual federal gift tax exclusion allows an individual to gift up to $14,000 (or $28,000 per married couple) in 2016 to as many other individuals as he or she chooses without those gifts counting against such individual’s lifetime exemption. 26 U.S.C. § 2503(b)(1)

• Gift splitting allows spouses to gift $28,000 per year to as many other individuals as they choose. § 2531.

• The annual federal gift tax exclusion is adjusted for inflation.

• Note: Must be a gift of a “present interest” to qualify for the annual gift tax exclusion. This means that the donee must have an unrestricted right to the immediate use, possession or enjoyment of the property or the income from it. 26 CFR §25.2503-3.

• Gifts in excess of annual exclusion amount: To the extent that you make a gift in excess of the annual exclusion amount, you must file Form 709: U.S. Gift (and Generation-Skipping Transfer) Tax Return to report such gift. The return is required even if you don’t actually owe any gift tax because of the $5.49 million lifetime exemption. The return is due by April 15 of the year after you make the gift.

The Unified Credit

• Step 4: The tax is then reduced by the available unified credit.

• The Unified Credit is equal to the amount of tax that would otherwise be incurred by a taxpayer with a taxable estate equal to the exemption amount.

• The exemption amount is currently $5,490,000.

Federal Tax Rate

• To the extent that the decedent’s taxable estate exceeds $5.49M, it will be taxed at a rate of 40%

The New York Estate Tax • The New York State Estate Tax exemption amount is currently $4,187,500.

• The New York State Estate Tax exemption amount is set to increase on April 1, 2017 to $5,250,000, and again in 2019, at which point it will match the Federal Estate Tax exemption amount.

For dates of death: The basic exclusion amount is…

On or after April 1, 2014, and on or before March 31, 2015, $2,062,500



On or after April 1, 2017, and on or before December 31, 2018, $5,250,000

If the New York taxable estate is: The tax is:

Not over $500,000 3.06% of taxable estate

Over $500,000 but not over $ 1,000,000 $15,300 plus 5.0% of excess over $500,000

Over $1,000,000 but not over $1,500,000 $40,300 plus 5.5% of excess over $1,000,000












Over $10,100,000 $1,082,800 plus 16.0% of excess over $10,100,000

Two Primary Differences in How the Federal and New York State Estate

Tax are Imposed

1. Portability

2. The Cliff Tax

Federal vs. New York State Estate Tax

Federal Estate Tax New York State Estate Tax

Portability YES, the federal exemption amount is

portable.

• In other words, to the extent that

deceased spouse did not use his or her

exemption amount, it can be transferred

to the surviving spouse.

NO, the NYS exemption amount

is not portable.

How the tax is

imposed

To the extent that the decedent’s taxable

estate exceeds $5.49M, it will be taxed at a

rate of 40%.

Once a decedent’s taxable estate

exceeds 105% of the exemption

amount (currently $4,187,500),

New York State will subject the

decedent’s entire estate to tax (as

opposed to only taxing that

amount in excess of the

exemption amount).

Portability

Portability • Portability was first introduced as part of the Tax Relief,

Unemployment Insurance Reauthorization and Job Creation Act of 2010. The American Taxpayer Relief Act of 2012 makes portability permanent in the federal scheme.

• The estate of a decedent with a surviving spouse may elect to pass the decedent’s unused estate tax exemption (“deceased spousal unused exclusion amount” or “DSUEA”) to the surviving spouse.

• This election is made on a timely filed Form 706 (Federal estate tax return) for the estate of the first spouse to die.

• Even if the decedent’s estate is under the $5.49 million and no estate tax is due, the federal return should still be filed so that the surviving spouse may obtain the deceased spouse’s unused exemption amount.

• An individual can only use the DSUEA from his or her last deceased spouse.

Example

• Husband and Wife each have $4,000,000.

• Husband dies on August 1, 2016, and his Will directs that

everything pass outright to Wife.

• Such a transfer qualifies for the unlimited marital deduction, so

there is no tax due.

• Even if this amount were $100M, there would be no tax due.

Example cont.

Husband Wife

$4M $4M

Example cont.

Husband → Wife = $4M

$4M ○ No Tax

Example cont.

• Wife now has $8,000,000 (her $4,000,000 plus

Husband’s $4,000,000).

• On October 1, 2016, Wife dies with an estate of

$8,000,000.

• Wife’s Will directs that everything pass to their children.

Example cont.

• Wife has her exemption amount ($5,490,000) plus Husband’s unused exemption amount (which was $5,490,000).

• As a result, Wife can die with $10,900,000 and pay no estate tax.

• Because Wife has a taxable estate of $8,000,000 (under $10,900,000), everything passes to the kids estate and gift tax free.

Example cont.

$8M

Wife

↓

Kids

Federal Tax = $0

There is No Portability in New York

• The surviving spouse cannot use the decedent’s unused

exemption amount.

Example

• Same scenario:

• Wife has a taxable estate of $8,000,000 (her $4,000,000 plus

Husband’s $4,000,000).

• New York State’s basic exclusion amount is $4,187,500.

• Husband could have given away up to $4,187,500 and paid no estate tax. However, because Husband’s Will directed that everything passing to Wife, Husband lost out on using his exclusion amount (since such a transfer qualifies for the unlimited marital deduction).

Example cont.

• Unlike the Federal exemption amount, New York State’s basic exclusion amount is NOT portable, so Wife cannot add Husband’s unused exclusion amount to her own.

• As a result, Wife can only die with $4,187,500 and pay no estate tax.

• However, Wife has her $4,000,000 plus the $4,000,000 she inherited from Husband.

• Because Wife’s estate ($8,000,000) exceeds 105% of the New York basic exclusion amount, Wife’s entire estate will be subject to the New York State estate tax and will be taxed from dollar one, resulting in a tax of $773,200.

Example cont.

$8M

Wife

Federal Tax = $0

NYS Estate Tax = $773,200

↓

Kids get $7,226,800

Example cont.

Why is there so much New York State estate tax due on a taxable estate of $8M when there is a $4.1875 M

exemption?

Credit Shelter Trusts

Example

• Husband and Wife each have $4,000,000.

• Husband died on August 1, 2016, and his Will directed that his unused exemption amount pass into a trust for the benefit of wife and kids.

Example cont.

$4M $4M

H W

○ $0 Tax

↓

Trust

Example cont.

• Husband’s effective transfer of $4,000,000 to the credit shelter trust was subject to estate tax, but no estate tax was due because the transfer was under both the New York State exclusion amount and the Federal exemption amount.

Example cont.

• Although Wife had broad use of the money in the credit shelter trust, it is not a part of her taxable estate for estate tax purposes.

• On Wife’s subsequent death, she has assets worth $4,000,000.

Example cont.

$4M

W

○ $0 Tax

↙ ↘

Trust - - -Kids

○ $0 Tax

Example cont.

• NYS and Federal estate tax on $4M is 0.

• By utilizing the credit shelter trust, Husband and Wife saved $773,200 in taxes.

Example cont.

Prior Example


This Example

NYS Estate Tax = $0

Example

• Same scenario:

• Wife has a taxable estate of $8,000,000 (her $4,000,000 plus

Husband’s $4,000,000).

• New York State’s basic exclusion amount is $4,187,500.

• Husband could have given away up to $4,187,500 and paid no estate tax. However, because Husband’s Will directed that everything passing to Wife, Husband lost out on using his exclusion amount (since such a transfer qualifies for the unlimited marital deduction).

Example cont.

• Unlike the Federal exemption amount, New York State’s basic exclusion amount is NOT portable, so Wife cannot add Husband’s unused exclusion amount to her own.

• As a result, Wife can only die with $4,187,500 and pay no estate tax.

• However, Wife has her $4,000,000 plus the $4,000,000 she inherited from Husband.

• Because Wife’s estate ($8,000,000) exceeds 105% of the New York basic exclusion amount, Wife’s entire estate will be subject to the New York State estate tax and will be taxed from dollar one, resulting in a tax of $773,200.

Example cont.

$8M

Wife

Federal Tax = $0


↓

Kids get $7,226,800

New York State Cliff Tax

• Taxable estates that exceed 105% of the NY exclusion amount (currently $4,187,500) will lose the benefit of the exclusion completely—the entire taxable estate will be subject to the NY estate tax (applied at graduated rates).

Example

• Decedent, David, a New York resident, dies on October 1, 2016. His Will provides that everything pass to his only daughter, Helen.

Scenario 1

• David has a taxable estate of $4,187,500.

• Because decedent’s taxable estate is equal to New York’s basic exclusion amount of $4,187,500, there is no estate tax due.

• Helen will inherit $4,187,500.

Scenario 1 cont.

Taxable estate = $4.1875M

NYS Estate Tax = $0

Helen inherits $4.1875M

Scenario 2

• David has a taxable estate of $4,400,000 (just $212,500 more than in scenario 1).

• Decedent’s estate will owe $324,400 in estate tax.

• Helen will inherit $4,075,600 ($111,900 less than in scenario 1).

Scenario 2 cont.

Taxable estate = $4.4M


Helen inherits $4,075,600

Analysis

• In scenario 2, because David died with $212,500 more in assets, his estate owed $324,400 in estate tax (as opposed to nothing in scenario 1), and Helen inherited $111,900 less than in scenario 1.

• Hence, it would have been better for Helen if David died with $212,500 less.

Funding Credit Shelter Trust

Example

1. Funding Credit Shelter Trust Through Disclaimer

Example cont.

2. Funding Credit Shelter Trust by Directing that the Lesser of the NYS Estate Tax Exclusion Amount and the Federal Estate Tax Exemption Amount

Example cont.

• Husband and Wife each had $4,000,000.

• Husband died on August 1, 2016, and his Will directed that that amount that could pass free of Federal and New York State estate tax at the time of his death pass to a credit shelter trust created for Wife’s benefit and the balance of his estate pass outright to wife.

• The credit shelter trust was created for wife’s benefit during her life and on her death, the trust property was directed to be paid over to their kids.

• On October 1, 2016, Wife dies and her Will directs that everything pass to their kids.

Example cont.

• On August 1, 2016, the New York State estate tax exclusion amount was $4,187,500 and the Federal exemption amount was $5,490,000.

• Hence, Husband’s entire estate ($4,000,000) funded the credit

shelter trust for Wife’s benefit.

• Side Note: If Husband died with an estate of $6,000,000, then $4,187,500 would fund the credit shelter trust for Wife’s benefit and the balance ($1,812,500) would pass outright to Wife.

Example cont.

• Husband’s transfer of $4,000,000 was subject to estate tax, but no estate tax was due because the transfer was under both the New York State exclusion amount and the Federal exemption amount.

• Although Wife had broad use of the money in the credit shelter

trust, it was out of her estate for estate tax purposes, so on Wife’s death, she only had an estate of $4,000,000, which is under both the New York State exclusion amount and the Federal exemption amount, so there was no estate tax due.

• Hence, Wife’s $4,000,000 passed to the kids estate and gift tax

free, and the $4,000,000 in the credit shelter trust passed to the kids estate and gift tax free.

Example cont.

• By utilizing the credit shelter trust, Husband and Wife saved $773,200 in taxes.

Example cont.

3. Forcing the Deceased Spouse’s Entire Estate into Trust

for the Benefit of the Surviving Spouse via a Marital

Trust and Credit Shelter Trust

• QTIP

• Clayton QTIP

QTIP • To qualify for the unlimited marital deduction, generally full ownership of

the property must pass to the surviving spouse. • A transfer through a Qualified Terminable Interest Property “QTIP” Trust

is an exception to this general rule. • Under Section 2056 of the Internal Revenue Code, as long as the

surviving spouse has a lifetime income interest in the property, the property is treated as passing to the surviving spouse.

• The surviving spouse receives a life estate in the assets that fund the

QTIP. • On the death of the surviving spouse, the assets in the trust pass in the

manner directed by the deceased spouse (the first spouse to die).

QTIP

• A QTIP trust allows one to take advantage of the marital deduction and still control the ultimate distribution of the assets at the death of the surviving spouse.

• QTIP trusts are commonly used in a second marriage when one or both spouses have children from a prior marriage.

QTIP Election

• Even if a trust meets all of the statutory requirements necessary to qualify as a QTIP trust, it will not qualify for the marital deduction unless the executor makes a QTIP election on the estate tax return.

• To make the election, the executor lists, on a schedule attached to the estate tax return, the assets that are to go into the QTIP trust.

• The executor can choose to put some or all of the deceased spouse’s assets earmarked for the QTIP into the trust.

Clayton QTIP

• Allows any part of the marital gift that the Executor does not elect to fund the QTIP and to qualify for the marital deduction to pass to another trust, which could have different terms and different beneficiaries, without jeopardizing the entire marital deduction.

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