106-5 The Federal Estate Tax & Generation-Skipping Transfer Tax

Question 1

4 Primary Components of the decedent’s gross estate

Answer 1

1. Property owned by the decedent at the date of death
2. Interests in property where the decedent has retained the right of control or beneficial enjoyment as of the date of death
3. Certain property the decedent gifted within 3 years of death (the 3-yr rule)
4. Gift tax paid on any gift made by the donor-decedent within 3 years of death (the gross-up rule)

Question 2

Gross estate

Answer 2

Includes any assets that must be included in determining the federal estate tax, even if they are not subject to probate

Question 3

Section 2033 Property

Answer 3

the catch-all provision in estate tax law

Section 2033 provides that the gross estate must include the value of all property to the extent the decedent had an interest in the property at the time of the individual’s death

Question 4

Retained Interest Property

Answer 4

Property the decedents transfer during their lifetime but over which they retained the right to determine what happens to their property at death

The estate tax law treats the property as if a decedent still owns it at death

Common example is property the decedent transferred to a revocable trust

Question 5

3-Year Gift Property

Answer 5

Gifts made within 3 years of the donor-decedent’s death are typically not included in the donor’s gross estate

They are, instead, included only in the estate tax calculation as an adjusted taxable gift (ATG) at their date-of-gift (not date-of-death) value

2 major exceptions:

1) Property the decedent gifted within 3 years of death that otherwise would have been included under any of the retained interest property sections
2) Proceeds of life insurance policies

Question 6

Gross-up Rule

Answer 6

Any gift tax paid of gifts made by the decedent within 3 years of the date of death must be added to the gross estate, even if the gift itself is not included in the gross estate

Question 7

3 Situations that will cause the death proceeds of a life insurance policy on the decedent’s life to be included in a decedent’s gross estate

Answer 7

1. Where the decedent possessed incidents of ownership in the policy at the date of death
2. When the proceeds are payable to the decedent’s estate
3. Where the decedent has made a gift of the life insurance policy within 3 years of the decedent-owner’s death

Question 8

Use of Life Insurance in the Estate Planning Process (4 basic types of arrangements associated w/ this use of life insurance)

Answer 8

1. Individual life insurance
2. Joint life (first-to-die) life insurance policies
3. Second-to-die (survivorship) life insurance
4. Irrevocable life insurance trust (ILIT)

Question 9

Advantages of ILITs

Answer 9

ILIT = irrevocable life insurance trust

1. Avoidance of probate on the trust assets
2. Flexibility in distribution of the assets to the trust beneficiaries
3. Management expertise of the independent trustee (often a financial institution)
4. Removal of the life insurance death proceeds from the decedent-insured’s gross estate

Question 10

Unfunded ILIT

Answer 10

A trust where the grantor gifts cash to the trust each year to pay the premiums of the policy

These annual transfers are considered to be a gift of a future interest because they are made in payment of an asset that does not vest enjoyment in the beneficiary until some time in the future and, thus, do not qualify for the gift tax annual exclusion

Most ILITs are unfunded

Question 11

Funded ILIT

Answer 11

A trust that holds not only title to the life insurance policy on the grantor but also income-producing assets such as securities that may be used to pay the ongoing policy premiums

The trust is treated as a grantor trust, and the income from the trust is taxed to the grantor

Question 12

Decedent’s Taxable Estate

Answer 12

The gross estate reduced by certain deductions

Before reaching the taxable estate, the decedent’s adjusted gross estate (AGE) is calculated

Question 13

Decedent’s Adjusted Gross Estate (AGE)

Answer 13

Equal to the decedent’s gross estate less:

• funeral expenses
• administration expenses incurred in settling the estate
• Unpaid mortgages and other claims against the estate
• Any casualty losses that are incurred during the period of administering the estate

Question 14

Adjusted Taxable Gifts (ATG)

Answer 14

Once the decedent’s taxable estate is calculated, a unique feature of the transfer tax system comes into play

This is the add-back of any taxable gifts made by the decedent after 12.31.1976 which are known as adjusted taxable gifts (ATGs)

Question 15

IRS Form 706

Answer 15

For decedent’s dying in 2019, IRS Form 706 (U.S. Estate and Generation-Skipping Transfer Tax Form) must be filed by the executor for every U.S. citizen or resident whose gross estate, plus adjusted taxable gifts (ATGs), is more than $11,400,000

Must be filed no later than 9 months after the decedent’s date of death, plus extensions.

Question 16

Valuation of Assets for Federal Estate Tax Purposes

Answer 16

The general rule is that assets must be valued on IRS Form 706 (U.S. Estate and Generation-Skipping Transfer Tax Return) at their FMV on the decedent’s date of death or if an alternate valuation date (AVD) election is made, 6 months after the decedent’s date of death

Stocks valued not at closing but rather an avg. of the high & low trading price for the stock on the decedent’s date of death or alternate valuation date

Question 17

Valuation Discounts

Answer 17

1. Lack of Marketability Discount
2. Minority Interest Discount
3. Control Premium
4. Fractional Interest Discount
5. Key Person Discount
6. Blockage Discount

Question 18

Lack of Marketability Discount

Valuation Discount

Answer 18

Interests in a closely held corporation or partnership are more difficult to sell than are interests in other assets, such as publicly traded stock

Therefore, a lack of marketability discount is often allowed for these interests

Question 19

Minority Interest Discount

Valuation Discount

Answer 19

Any interest in a closely held business that, in terms of voting, is not a controlling interest

Often combined w/ lack of marketability discount for 1 combined % reduction from FMV

Question 20

Control Premium

Answer 20

The other side of a minority interest discount

The holder of more than 1/2 of the ownership of a business can have the value of the ownership increased above what would seem to be the value of the shares because the holder conveys more than 1st meets the eye

Question 21

Fractional Interest Discount

Answer 21

May be available for an undivided interest in real property (such as a tenancy in common)

Because the owner of the interest will have greater difficulty in finding a ready market for the interest, given that the buyer will have to share ownership with another, the courts have typically allowed a discount to value

Question 22

Key Person Discount

Answer 22

Based on the theory that the stock (or other ownership interest) of a closely held business will decline if a key person in the business, such as the founder, dies or becomes disabled

Question 23

Blockage Discount

Answer 23

A discount attributable to the value of large blocks of corporate stock that are listed on a public exchange (such as the NYSE)

The amount of the discount is based on the estimated decrease in the realizable price below the current market or trading value of the stock

Question 24

Federal Generation-Skipping Transfer Tax (GSTT)

Answer 24

Designed to tax transfers (both inter vivos and testamentary) from an individual to a skip person

Skip person is any of the following:

• related individual 2 or more generations below that of the transferor
• trust when all beneficiaries are 2 or more generations below the transferor
• unrelated individual who is younger than the transferor by 37.5 yrs or more

Skip person does not include:

• donor’s spouse or former spouse
• grandchild of the donor, if the donor’s child is deceased at the time of the transfer (Predeceased Parent Skip Exception)

Question 25

Predeceased Parent Skip Exception

Answer 25

Also applies to collateral (not lineal) descendants of a transferor who has no living lineal descendants

A person who has no grandchildren can make a gift to a grandnephew or grandniece without incurring the GSTT as long as the parent of the grandniece or grandnephew has died before the transaction occurs

Question 26

3 Types of Lifetime or Testamentary Transfers Subject to the GSTT

Answer 26

1. Direct Skip: an outright lifetime gift or testamentary bequest to a skip person or a transfer of property to a trust exclusively for the benefit of 1 or more skip persons
   - An annual exclusion amount of $15k (in 2019) per donee per transferor is allowed for lifetime (not testamentary) direct skips
2. Taxable Distribution: a distribution made from a trust to a related beneficiary 2 or more generations below the transferor’s generation
   - the trust beneficiary is not responsible for paying any GSTT that may be due
3. Taxable Termination: occurs when an interest in a trust is terminated because of death or lapse of time resulting in a skip beneficiary holding interests in the trust

Question 27

Qualified Transfers

Answer 27

Made on behalf of others are not subject to the generation-skipping transfer tax rules

• transfer of any amount made directly to a qualified education institution for the payment of tuition and fees
• transfer of any amount made directly to a provider of qualified medical care for the payment of medical expenses

Question 28

Lifetime GSTT Exemption

Answer 28

$11,400,000 (2019) allowed for every transferor-taxpayer

This exemption, under transfer tax law, is equal to the lifetime exemption amount for estate tax purposes (also $11,400,000 in 2019)

Question 29

GSTT

Answer 29

A flat tax equal to the highest transfer tax rate for the year of the transfer

For 2019, this rate is 40%

Question 30

Maximum federal estate tax rate

Answer 30

40%