Community Corner

Ask the Lawyer: Planning Your Will

Want to ensure your children's (and your children's children's) financial security after you're gone? Read this.

Frank R. Demmerly, Jr. is chairman of the Estate and Trust Department of Archer & Greiner law firm in Haddonfield, where he concentrates on estate planning, wills, trusts, planning for closely held and family businesses, estate administration, and estate, gift and transfer taxation.
He can be reached at 856-354-3100 or fdemmerly@archerlaw.com.

Q. I’ve heard some families are able to keep their estates from being taxed at each generation level so they incur no federal or New Jersey estate taxes. How can that be?
A. Family wealth can be preserved from generation to generation by using a “generation-skipping trust,” “dynasty trust,” or “family bank.”

Remember, if you are subject to a federal estate tax, the current federal estate tax rate is 35 percent. This rate could increase to 55-60 percent on Jan. 1, 2013. In future years, it may fluctuate as Congress changes the gift and estate tax laws from time to time.  

In addition, there is a New Jersey estate tax with rates from 4.8 to 16 percent.
 
So as parents pass away, a portion of their estate may be subject to a federal estate tax and a New Jersey estate tax. If children receive these assets outright, then the children may be subject to these taxes when they die. Thus, at each generation level, an estate tax may be required by the federal and state governments. To avoid this taxation as each generation passes away, some families use generation-skipping trusts, dynasty trusts and/or family banks.  

Here’s how it works: When parents pass, instead of willing their estate outright to their children, or into trust with distribution to the children at maturity, a different approach is used where parents will their estate into trusts for their children for life. When the children pass away, these trusts are exempt from federal and state estate taxes as the trusts pass to grandchildren. BUT WAIT! Why have the trusts pass to grandchildren who may then be estate-taxed when they pass away? Why not have the trusts pass into continuing trusts for the grandchildren, then great-grandchildren, etc., thereby avoiding estate taxation at each generation level?

The IRS is aware of this method of avoiding estate tax at each generation level. Therefore, Congress enacted a tax known as the “generation-skipping tax.” In a trust like the one described above, the generation-skipping tax is imposed at the death of each generation commencing with the death of a child. However, there are exemptions from this tax. The most notable under current law is that each parent has a generation-skipping tax exemption of up to $5.12 million. This means each parent could will that amount into a trust with exemption from this special tax. Of course, married parents may want to will this amount into trusts for the surviving parent first and, upon the death of the surviving parent, to have this amount pass into generation-skipping trusts for the children.  

New Jersey does not impose a generation-skipping tax. Therefore, once assets pass into an appropriate trust, the New Jersey estate tax will not apply.  

Q. Our estate is not quite that big. However, if we wanted to enhance the value of our estate for future generations, is there a way to do that?
A. Life insurance is one way to “leverage” your generation-skipping tax exemption. An irrevocable life insurance trust could be established during the parents’ lifetime. This trust could obtain life insurance. It could obtain life insurance on one parent’s life, with the proceeds benefiting the surviving parent, and then future generations. Or it could obtain second-to-die life insurance targeted to provide for future generations.

The generation-skipping tax exemption is applied to the premium payments, not the death benefit. Leverage is obtained based on the difference between the total premiums paid and the death benefit. For example, if a $5 million life insurance policy is obtained by a life insurance trust, but the total premiums paid are $400,000, then only $400,000 of the generation-skipping tax exemption is utilized. However, $5 million is exempt from the generation-skipping tax! This leaves extra generation-skipping tax exemption, which can be used in the parent’s wills and trusts.    

Of course, any such trust, whether in the parents’ testamentary planning documents or irrevocable life insurance trust, must be carefully drafted and will contain provisions for the benefit of the children and future generations.  

Consider using generation-skipping trusts, dynasty trusts, or a family bank in your planning.  

DISCLAIMER: Information provided in “Ask the Lawyer” is for general informational and educational purposes only. It does not constitute legal advice, and may not be used and relied upon as a substitute for legal advice regarding a specific legal issue or problem. Transmission of the information is not intended to create, and receipt does not constitute, a lawyer-client relationship. Legal advice should be obtained from a qualified attorney licensed to practice in the jurisdiction where that legal advice is sought.

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