Additional Charitable Remainder Trust Considerations

We previously provided an overview of Charitable Remainder Trusts (“CRTs”) and suggested that now might be a good time to employ this strategy to avoid immediate capital gains taxes on appreciated or concentrated marketable securities positions. That overview has sparked a number of inquiries about this strategy. We followed the introduction with an article specifying who can and should be involved in the creation of a CRT. In this article, we look at specific questions about flexibility in choosing ultimate charitable beneficiaries, limits on how much of the charitable income tax deduction can be taken in a given tax year, what types of trust assets should be considered for contribution to a CRT, and what types should be avoided.

Choice of Charitable Beneficiaries

Using a CRT appeals to those who truly care about philanthropy, and who wish in some measure to give back to society a portion of their success. It is important that they have the utmost flexibility in choosing those charities that will eventually benefit from the assets held in the CRT.

One of the methods used for flexibility in choosing charities is to draft the CRT so that the trustmaker may change the charitable beneficiaries at any time. This right can be exercised during life or can be exercised in a trustmaker’s will or trust. In fact, this right to change charitable beneficiaries can be given to other income beneficiaries such as the trustmaker’s spouse or children. With this type of drafting, if a trustmaker’s charitable objectives change or if the charity is no longer able to meet the trustmaker’s needs, then a new charity or charities can be named.

There are certain requirements that must be met by a charity before it can be a “qualified” charity for purposes of a CRT. A charity must be qualified in order to ensure that the CRT’s benefits will be realized and that the assets will not be included in the trustmaker’s estate. Charitable beneficiaries can include public charities and operating and non-operating private foundations (often referred to as non-public charities). The only repercussion of naming non-public charities as the charitable beneficiary of a CRT is that the amount of the current charitable income tax deduction drops substantially regardless of the kind of property that is being contributed to the CRT. All charities that are named in a CRT must be qualified charities as defined in the Internal Revenue Code.

CRT trustmakers can name as many or as few charitable beneficiaries as they choose. There are a number of different methods that are used to name charitable beneficiaries. For example, a trustmaker could allocate a fixed percentage to a number of charities, such as: 40 percent to the Red Cross, 25 percent to the Boy Scouts, 25 percent to the Girl Scouts, and 10 percent to the American Legion. In another example, a trustmaker could name all or a portion to the trustmaker’s own charitable foundation or a donor advised fund, such as: 100 percent to the John and Sarah Doe Charitable Foundation, or 50 percent to the Sam and Betty Smith Foundation and 50 percent to the Fidelity Charitable Fund with advice given by the trustmaker’s children. Finally, trustmakers may leave all or part of the CRT assets to their local Community Foundation or to a National Foundation, such as: 100 percent to the National Foundation for Philanthropy, or 50 percent to the Community Foundation for Anne Arundel County and 50 percent to the National Heart Foundation.

Annual Limits on CRT Charitable Income Tax Deductions

A federal judge once said, “Trying to understand the various exempt organization provisions of the Internal Revenue Code is as difficult as capturing a drop of mercury under your thumb.” Because of the inordinate complexity of the Internal Revenue Code, it is impossible to succinctly give you an overview of this area of the law in this article. However, you should know these basics:

  • Gifts of long term capital gain property are deductible up to 30 percent of the trustmaker’s contribution base (i.e., his or her adjusted gross income computed without regard to the charitable deduction and any net operating loss carryback) if given to public charities, but only up to 20 percent if given to certain private foundations.
  • While cash gifts can normally be deducted up to 50 percent of the trustmaker’s contribution base if given directly to public charities, this increase limitation is not available for contributions to CRTs. For a gift of cash to a CRT, the most that can be deducted in any one year is 30% of the contributor’s contribution base.
  • If these limitations prevent a taxpayer from deducting the predicted value that will ultimately pass to charity from his CRT in the year of contribution, any deduction generated by making gifts to a CRT can be carried forward for an additional 5 years.
  • A Charitable Remainder Annuity Trust will not qualify for an income tax deduction if the probability exceeds 5 percent that the trust assets will be exhausted prior to passing to charity. (This restriction does not apply to Charitable Remainder Unitrusts.)

I find that the decision whether or not to proceed with CRT planning is not generally based on the amount of the charitable income tax deduction. It does not play a major role in most people’s decision-making process, possibly because the capital gain issue is of much greater concern. As in all planning, the motivation of each person differs, and it is the task of your advisors to make sure your planning fits these motives.

CRT Contributable Trust Assets

Using cash is the easiest method to fund a CRT. There are no initial capital gains tax savings when cash is given to a CRT, but the charitable deduction that can be taken is a maximum of 30 percent of taxpayer’s “contribution base.” If these limits keep the trustmaker from deducting the entire amount that is predicted to go to charity, he or she may carryover the unused amount of the deduction for up to five additional years.

The second easiest assets to give to a CRT are publicly traded securities. Because these securities are traded publicly, they are easy to value and can be readily sold. Charitable deductions can also be taken for CRT gifts of marketable securities up to a maximum of 30% of the contributor’s contribution base with any unused charitable deduction amount subject to carryover for up to five years.

CRTs can accommodate gifts of assets which are difficult to value as long as there is an independent trustee. These hard-to-value assets include:

  • Real estate
  • Closely-held stock
  • Tangible personal property

CRTs are generally not designed to accommodate gifts of:

  • Assets encumbered with debts (such as real property subject to a mortgage or deed of trust)
  • Business inventory
  • Limited partnership and limited liability company interests
  • Real estate investment trust interests
  • Options to acquire or sell securities
  • Installment obligations

Contributions of these types of assets could invalidate the trust or create significant income tax problems and should be avoided in almost every situation.

The Irrevocability of a CRT and the Gifts to it

A CRT is irrevocable; its essential terms cannot be changed. As a result, great care should be taken to make sure that every CRT document provides the exact instructions of its trustmakers and the precise handling of the innumerable contingencies that might arise in the future. It is imperative that these trusts be carefully designed and written by experts.

Just as the trust documents are irrevocable, the gifts that are made to them are also irrevocable. They are not conditional and cannot be taken back.

Additional gifts cannot be made to Charitable Remainder Annuity Trusts, but additional gifts can be made to any type of charitable remainder unitrust. Note, however, that, if circumstances change and a new CRT is desired, the provisions of the new CRT do not have to be the same as the original one. It may be a good idea to make a series of CRTs, especially if you believe that interest rates will be increasing over a long period ahead.

As you can gather from our discussions about the details of CRTs, they are powerful strategies if implemented by those who know what they are doing. They should only be created with the help of an experienced tax planner and trust attorney. If you think that a CRT might be a solution for your situation, I would be honored if you contacted me for assistance with this strategy.

© Richard Wright 2019


Nitty-Gritty Details About Charitable Remainder Trust Participants

We previously provided an overview of Charitable Remainder Trusts (CRTs) and suggested that they might be a good strategy to employ to avoid immediate capital gains taxes on appreciated or concentrated marketable securities positions. That overview has sparked a number of specific questions about this strategy. In this article, we review details about who can and should be involved in creating a CRT. We will follow with a final installment in this series detailing flexibility in choosing ultimate charitable beneficiaries, how the charitable income tax deduction is calculated, and what types of trust assets should be contributed to a CRT and what types should be avoided.

Who Can Be the Trustmakers and Income Beneficiaries of a CRT

Any CRT can have one or more trustmakers. Sole trustmakers are generally either unmarried or a married person who chooses to fund the trust with his or her separate property. Married spouses who own property jointly often elect to create a joint CRT where they are both trustmakers.

The trustmakers of a CRT also can be its income beneficiaries. A trustmaker’s spouse, children, grandchildren, or anyone else for that matter, can be an income beneficiary.

A CRT can have a sole income beneficiary, or it can have multiple beneficiaries. Multiple beneficiaries can receive their income concurrently or successively. “Concurrent” beneficiaries each receive payments. (For example, “I want the income of my trust paid equally to my spouse and me.”) A CRT can also name a succession of income beneficiaries. (“I’ll receive the income first; on my death my spouse will receive it, and after her death, my children will receive it equally.”)

If there are income beneficiaries other than the trustmaker or the trustmaker’s spouse, it is important to note that (as discussed in more detail below) a gift taxable transfer can occur. This, however, may be a good way to lock in high federal estate tax exemptions that will be halved in 2026. The IRS has already ruled that gifts made using the higher exemption will not be “clawed back” into a donor’s estate.

How Much Income Should Be Taken?

A concern of almost all who are considering a CRT is what percentage of income they should take out of their CRT each year. By law, this income percentage can be no less than five percent and can go as high as 50 percent, as long as the predicted value of the assets ultimately passing to charity are at least 10 percent of the value of the contributed assets. (For CRATs only, there is an additional requirement that there exists at least a one in 20 probability that the charity will receive some of the trust property end of the period of distributions to noncharitable persons.)

At first blush, it is the tendency of most people to opt for a higher percentage as representative of a greater benefit. However, on reflection they often change their minds because of two very significant reasons:

  1. The charitable income tax deduction is inversely proportionate to the income percentage: the higher the income percentage, the lower the immediate charitable tax deduction will be, and vice versa.
  2. By selecting a lower income percentage, the trust principal will appreciate faster and generate more income to the income beneficiaries over time. There is power in tax-free compounding of income and appreciation inside the CRT. A lower percentage taken as against a larger principal will often yield a greater overall income return than a higher income percentage over the same period. Taking out a great deal of income does not allow the principal to grow.

Be sure to look at a number of projections about the ultimate return before deciding on a particular CRAT annuity percentage or CRUT unitrust amount. If your income is likely to decrease in the future, you may want to vary the income amounts received at different times using a NIMCRUT.

Multiple Income Beneficiaries

Sometimes, a CRT names multiple income beneficiaries. Naming more than one income beneficiary creates some planning complexities. These can be positive or negative based on each individual’s personal situation.

A trustmaker’s spouse can be named as either a current or successor income beneficiary without any adverse tax consequences because of the unlimited marital deduction law. Most trustmakers routinely name their spouses as income beneficiaries.

If a parent names children as immediate income beneficiaries (“I want the current income beneficiaries of my CRT to be my children”) or concurrent income beneficiaries (“I want the income from my CRT split equally between me, my spouse, and my children”), then the trustmaker has made a gift to his or her children. The amount of the gift is the present value of their income interest based on their life expectancies. While this may seem like a very complex computation, the Internal Revenue Service has tables that can be used to readily ascertain the amount of the gift.

If a parent names children as successor beneficiaries (“I want my trust income paid to me and my spouse for our lives, and then equally to our children for their lives”), the gift to the children will either be subject to immediate gift taxation or to estate tax on the death of the survivor of their parents. The timing of the gift depends on how the CRT is drafted. While a federal gift tax return will be required for a lifetime gift to children, the practical effect of today’s $11,400,000 estate and gift tax exemption is that actual current taxation of this gift is unlikely to occur. The gift will, however, reduce the amount of this exemption available in the future.

When children or grandchildren are named as concurrent or successor beneficiaries, the present value of the amount that is ultimately going to pass to charity is going to be very low or nonexistent. As a result, the charitable income tax deduction is going to be very small or nonexistent. The CRT will not qualify for beneficial tax treatment if this amount predicted to go to charity is less than 10% of the amount initially contributed to the CRT. Therefore, this is not a good strategy to use when current income taxation is important to the overall planning.

Selecting Who Can or Should Be Trustee

You can be your own trustee. As trustee, you can, in effect, retain total control of your trust assets during your lifetime. If you choose to act as your own trustee, you must name a special independent trustee in your CRT–someone who is not related or subordinate to you. Having a special independent trustee is important when a CRT acquires hard-to-value assets such as business interests and real estate holdings. Because these types of assets can create conflicts of interest when the trustmakers are also the trustees, the special independent trustee acts to ensure that any conflicts are resolved. A special independent trustee is especially important if the trustmaker gives real estate or closely-held stock in a corporation to a CRT.

Almost all people who decide to create a CRT name themselves as trustee of their trusts. However, a few of them name corporate fiduciaries or children as their trustees. These decisions are based upon unique situations and are in the minority.

As you can gather from this discussion about CRT participants, there are a number of interrelated considerations to decide before obtaining the powerful benefits of a CRT. If you think that a CRT might be a valuable solution for your situation, I will be happy to assist you with this strategy.

© Richard Wright 2019


Charitable Remainder Trusts

Time To Revisit Charitable Remainder Trusts?

With clients worried about a perceived stock market top in the near term and a potential recession in the next 18 months, it’s probably a good time to look at an old favorite in our Estate and Trust planning toolbag: the Charitable Remainder Trust (generally referred to as a “CRT”).  A CRT is a useful type of irrevocable trust that allows its maker(s) to retain (or give to others) certain fixed benefits from the trust for one or more lifetimes or a period of years before ultimately distributing the remainder of the trust to a favorite charity.  Once established in accordance with statutory requirements, the IRS will treat the trust itself as a type of charity.

The Benefits of Implementing a CRT in Your Planning

While this strategy can be used appropriately for estate planning purposes, there is one tax reason that stands head and shoulders above all of the many CRT benefits:  the ability to avoid immediate capital gains tax on the sale of appreciated assets.  Using a CRT, a client can lock in appreciated gains, diversify out of concentrated positions, and/or go to cash, without immediate tax implications.

The CRT strategy offers a number of other significant planning advantages.  A person who uses this strategy can also expect to:

  • Receive an immediate federal income tax deduction for his or her gifts to the trust that will put an additional charitable deduction directly into his or her pockets as a bottom line income tax savings;
  • Create an income stream for life or a period of years that is greater than if the asset was held or sold;
  • Diversify their investment portfolios without having to pay a tax penalty to do so;
  • Shelter large amounts of principal from the claims of potential unforeseen creditors;
  • Avoid potential federal and Maryland estate tax on the value of the assets that will pass to charity; and
  • Benefit preferred charitable organizations in lieu of the federal and state governments.

The mixture of which benefits are most important to a particular person varies depending on circumstances and goals, but there is one given for virtually all people who are interested in CRT planning:  The desire to sell appreciated assets free of tax and retain substantial benefits from those assets.

A Brief Description of the Strategy

When a person owns appreciated property that they would like to sell, they are faced with the conundrum of having to pay capital gains taxes on their profit, much of which may be attributable to pure inflation rather than a real increase in value.  If they instead transfer their appreciated property to a CRT that is created just for them, those assets can be sold without the immediate payment of any federal or state capital gains tax.  Structured correctly, giving property to a CRT can result in a greater rate of return for an individual and a greater amount of assets passing to family members than if the same assets were sold during the owner’s lifetime and then were passed to family members at death.

While a CRT is a complex planning strategy, its basics are relatively simple.  Here, in essence, is how a CRT works:

  1. The person who wants to make a gift, called the trustmaker, transfers appreciated property to the trustee of the CRT.
  2. The trustee can be the trustmaker(s) or other individual(s), or it can be a bank trust department or trust company.  The trustee administers the trust, invests the trust assets and sells the appreciated assets.  Because the trust is treated like a charity with regard to the recognition of income, the proceeds are free from all immediate income tax.
  3. When the trustmaker gives property to the CRT, the income beneficiary or beneficiaries receive income from the trust for life or for a period of up to 20 years.  This amount is chosen by the trustmaker, but cannot be less than a 5 percent return on the value initially transferred.  The trustmaker(s) are usually the income beneficiaries, but in some cases others are additional income beneficiaries.
  4. CRT distributions are income taxable to the income beneficiaries when received from the trustee under the “four tier” structure discussed below.  As such, except for the share of trust income and capital gains that ultimately passes to a charity or charities (that pay no income tax), income tax on CRT income and recognized capital gains is deferred, not escaped.  However, such deferral is a powerful tool when income recognition is postponed until years when the rate of taxation is lower or when additional deductions may be available.  For example, with proper planning, income might be deferred until later years when overall taxable income is lower or when, such as after 2025, we revert to the allowable tax deductions that were available before the 2018 Tax Cuts and Jobs Act.
  5. The trustmaker gets a current income tax deduction in the year the trust is established for the value that is ultimately predicted to go to charity.  Note that because the CRT makers are only giving away the principal that is left after a predicted or prescribed period of years, this deduction is not for the full value of the assets that are placed into the CRT.  The amount that ultimately should go to charity is calculated using annuity and life expectancy tables and an interest rate prescribed monthly by the Internal Revenue Service.  The income tax deduction will vary depending on the ages of the income beneficiaries (or the period of years that the income benefit will be paid to him, her, or them), the amount of projected income that the income beneficiaries will receive on a regular periodic basis, and the value of the initial gift made to the CRT.  At the time the CRT is created, the present value of what is predicted to pass to charities at the end must be at least 10 percent of the value of the contributed assets.  This deduction is fixed at the outset, regardless of the actual performance of the CRT and what actually passes to charity in the future.
  6. Upon the death of the income beneficiary or beneficiaries (or the passage of a prescribed period of years), whatever is left in the CRT passes to one or more public charities.  These charities must meet certain tests to be qualified charities, but these are generally the same tests that must be met to make a charitable contribution income tax deductible.
  7. Any amounts that pass, or are predicted to pass, to qualified charities after the death of the trustmaker are not taxed in the estate of the trustmaker for federal and state estate tax purposes because of the estate tax charitable deduction.

Types of Charitable Remainder Trusts

There are generally three kinds of CRTs:

  • Charitable Remainder Annuity Trusts (“CRATs”),
  • Charitable Remainder Unitrusts (“CRUTs” or “S[tandard]CRUTs”), and
  • Charitable Remainder Unitrusts with Net Income Make-up provisions (“NIMCRUTs’)

It is also possible to combine the advantages of the NIMCRUT and the standard CRUT by having the NIMCRUT convert into a standard CRUT after the occurrence of a specified event (e.g., a birthday or a date or the sale of property for which the market is uncertain) that is theoretically outside the control of the trustmaker.

The Charitable Remainder Annuity Trust

A CRAT guarantees the income beneficiary a fixed percentage of the original amount that was given to the trust.  For example, if the terms of the CRAT state that the income beneficiary is to receive a 10 percent return on the $5 million the trustmaker originally placed in the CRAT, then the income beneficiary would receive $500,000 each year from the CRAT regardless of whether that principal grows to $10 million or drops to $3 million.  Investment performance does not affect the amount of the annuity payment.

The CRAT technique is usually embraced by older people who are betting that we are more likely to have economic deflation than inflation, that want to lock in historically high rates of inflation, or who simply do not want to take the chance that they will receive less than the amount originally chosen.

Because of the fixed nature of the annuity required in a CRAT, additional contributions cannot be made to these trusts.  The original gift cannot be enhanced.

The Charitable Remainder Unitrust

A CRUT is distinguished by the feature that it guarantees the income beneficiary an income equal to a percentage of the changing value of the trust assets.  If the terms of the CRUT state that the income beneficiary is to receive a 10 percent return on the value of the CRUT’s assets and the trustmaker made an initial gift of $500,000, then the income beneficiary would receive more than $50,000 each year if the trust increases in value, and less than $50,000 each year if the trust decreases in value.  Investment performance determines the amount of the income interest that the income beneficiary receives.

The CRUT technique is most effective for people who believe that inflation and/or appreciation will continue, allowing their CRUT payments to rise with that inflation and/or appreciation.

Because of the flexibility of CRUTs, many makers contribute additional cash or property to them throughout the years.

The Charitable Remainder Unitrust With Net Income Make-Up Provisions

A NIMCRUT can be distinguished from a regular Charitable Remainder Unitrust in that there is trust language that allows the income beneficiaries to forgo taking income in those years when it is not needed and to defer that income to later years when it will be needed.  The income that is not taken currently is not taxable until it is taken out of the trust in future years, allowing effective income tax deferral.

Especially when it is combined with a standard CRUT after a designated “flip” event, a NIMCRUT offers immense planning opportunities.  It allows individuals who have a high current income to shelter their capital gains while deferring income to years where their income may not be as high.  In addition, the trustmaker can give additional contributions of cash or property whose growth will also be sheltered on a tax deferred basis.  A NIMCRUT also can be a substitute for a qualified retirement plan.

Taxation of CRT Income Distributions

Income received from a CRT by recipients who are not charities is taxed for income tax purposes under a “four tier” structure that is based on the historical nature of the trust’s operations.  First, distributions are taxed to recipients as ordinary income to the extent that the trust has at any time previously earned such ordinary income (e.g., dividends and interest) that has not previously been taxed.  To the extent that all prior ordinary income has thus been distributed, distributions are next taxed as capital gains to the extent that the trust has at any time realized such profits and has not previously distributed them.  When all prior capital gains have been distributed, distributions are reflected as tax-free income (e.g., municipal bond interest) if and to the extent that the trust has received such tax-free income.  Finally, when all of these income categories have been distributed, distributions are treated as a distribution of nontaxable trust principal.

As the result of IRS requirements for the income taxation of CRT distributions, CRT trust accounting can be rather complicated.  The use of a knowledgeable CPA or professional CRT administration firm is often a good idea.  Fortunately, the expense required to pay for such accounting is incurred by the trust itself and not directly by the trustmakers or income beneficiaries.

Likely Candidates for CRT Planning

While CRT planning usually best coincides with clients who ultimately want to make some ultimate contribution to charity, this is not always the case.  Income tax deferral can make these trusts useful, regardless of charitable intent.  In fact, such deferral is so useful that the IRS limits the types of investment that are eligible for CRT use.  For example, the contribution of hard-to-value assets (like real estate, closely-held stock, and tangible personal property) will require the CRT to have an independent Trustee.  And CRTs are generally not designed to accommodate gifts of assets encumbered with debts, business inventory, limited partnership and LLC interests, real estate investment trusts, listed options, and installment obligations.  Contributions of these types of assets could invalidate the trust or create significant income tax problems and should be avoided in almost every situation.  On the other hand, appreciated marketable stocks and bonds are wonderful candidates for contribution to a CRT.  That’s what makes the CRT worth considering if the stock market is nearing its top or a recession is impending.

If you find yourself worrying about how to liquidate appreciated and/or concentrated security investments or a need to diversify your investments without immediate capital gains taxation, please feel free to call me at (410) 224-7800 to discuss if a CRT could be a solution to your problem.


A.R.T. and Estate Planning

Assisted Reproductive Technology and Estate Planning: 
When Science Gets Ahead of the Law

Traditionally, Americans and the law have thought of families as mothers, fathers and their children conceived by conventional methods and brought to term in the mother’s womb.  However, since the 1978 birth of Baby Louise Brown after laboratory fertilization and implantation, individuals and couples have increasingly turned to Assisted Reproductive Technology (“ART”) to have children when impaired fertility, anatomical anomalies, or risks of future infertility or death otherwise make this difficult.  For these reasons and changes in family social structures, the birth of a child and the creation of a family relationship are no longer limited to instances resulting from human copulation.  In addition, children born as a result of changes in social standards (without ART) call to question whether biological parentage should always be the measure of family composition.  At the same time, however, like the mindsets of many, the law remains deeply rooted in concepts of family and descendancy that fail to consider these new methods of human gestation and family structures.  This paper suggests some considerations about these scientific and social developments and the law’s slow response that clients should contemplate in planning to achieve their hopes for future generations.

The Increasing Number of Non-Traditional Families

ART is the use of laboratory procedures that include the handling of human eggs or embryos to help a woman become pregnant other than by sexual intercourse.  ART includes techniques such as in vitro fertilization, egg and embryo cryopreservation for deferred use, egg and embryo donation, and the use of a gestational surrogate other than the ultimate child’s actual mother.  The U.S. Centers for Disease Control and Prevention (“CDC”) estimates that today, approximately 1.7% of all infants born in the United States every year are conceived using ART.  Between 1999 and 2013, the CDC reports that about 2% (30,927) of all ART “cycles” used a gestational carrier, resulting in some 13,380 deliveries and, because of the high incidence of multiple births, 18,400 infants.  Additionally, the U.S. Department of Health and Human Services Office of Population Affairs reports that there are now more than 620,000 cryo-preserved embryos in the United States awaiting future use.

As the science of ART develops, so too is the likelihood of future increases in the birth of infants as a result of ART and outside traditional family structures.  This past November, a Chinese biophysics researcher and former professor, He Jianjui, announced that he had used ART to prevent HIV vulnerability in the first genetically edited babies brought to term.  Although this announcement was met with widespread ethical condemnation, it illustrates a potential new use of ART and new questions about the descendancy of the ART produced children with genetic alterations.

According to the U.S. Census Bureau in 2011, there were approximately 13.7 million single parents in the United States; and those parents were responsible for raising some 22 million children.  Although these single parent families are presumed to be mostly biological in nature, single parent adoption and ART now allow persons to be single parents by choice.  In addition, since the Supreme Court’s 2015 decision granting same-sex couples the constitutional right to marry nationwide, same-sex marriages now allow couples of the same sex anywhere in the U.S. to have children where at least one spouse will not be the biological parent.

Longer Ranged Estate Planning

We have noted in the past about the benefits of estate planning on a multi-generational basis.  In particular, such multi-generational planning using life-long Inheritance Trusts protects inherited assets from future beneficiaries’ potential creditors and estate taxes.  Effective multi-generational planning, however, demands that we be able to identify who the beneficiaries of that planning are intended to be.  For decades we have used such terms as “child”, “children”, “descendants” and “issue” in our estate planning documents to define the persons for whom we are planning.  ART and new family structures may now be making these terms fuzzy and call to question who a trustmaker intends to benefit.  For example, is a baby born to a gestational carrier who brings another couple’s embryo to term a “descendant” or the “issue” of the gestational carrier?  How do we know whether a trustmaker intends to include among his descendants children conceived using donated sperm from his biological male offspring who are not married to their mother?  In the future, how much genetic engineering will result in children that a trustmaker would not intend to include among his beneficiaries?

Maryland’s Limited Response to ART Children and Non-Traditional Families

To date, legislatures and the courts have lagged in providing answers to these and similar questions.  Fortunately, since the 1940s in Maryland, unless a will clearly indicates otherwise, the words, “child”, “descendant”, “heir”, “issue”, or any equivalent term in a will includes a person who is adopted; and an adopted child is treated as a natural child of his adopting parent or parents.  Adoption, therefore is one means of clarifying a child’s ancestry unless a testamentary document declares otherwise.  Similarly, Maryland law is clear that a child conceived by “artificial insemination” of a married woman with the consent of her husband is the legitimate child of both of them; and a child born to parents who have not participated in a marriage ceremony with each other is considered to be the child of the mother, unless a testamentary document declares otherwise.  Less clear is the status of an ART child whose married father has not documented his consent to parentage and whether a person born to parents who have not participated in a marriage ceremony is deemed to be the child of the father.  In the latter situation, the person is legally deemed to be child of the father only if the father is judicially determined to be the father in legal paternity proceedings, has acknowledged himself to be the father in writing, “has openly and notoriously recognized the child to be his child”, or has subsequently married the child’s mother and orally or in writing acknowledged himself to be the father.

In 2012, the Maryland Bar brought to the Legislature’s attention a developing legal issue concerning the posthumous use of decedent’s genetic material: how long should the decedent’s estate be kept open to determine who his or her legatees or heirs would be?  To allow estates to be expeditiously concluded for decedents leaving genetic material for future use, Maryland law was amended to legitimate a child conceived from the genetic material of a decedent if the decedent consented in a written record to be the parent of a posthumously conceived child, if the child is born within 2 years of the decedent’s death, and if, with respect to any trust, the decedent was the creator of the trust and the trust became irrevocable on or after October 1, 2012.  Unfortunately, this law is therefore inapplicable to trusts other than those of the decedent leaving genetic material for posthumous use, where the decedent has failed to consent in writing to posthumous use of his or her genetic material, or where a child conceived from the genetic material is born more than two years after the decedent’s death.

The Importance of Declaring your Intent About ART Questions in Your Estate Planning Documents

Given the current status of the Law, determination of questions about how ART and non-traditional family structures affect the interpretation of estate planning documents will rest largely on judicial findings of trustmaker intent at the time his or her documents were created.  How is this possible if these issues have never been considered or if a testator or trustmaker leaves no written statement of intent?  When the Law provides no default position on these questions, the need is magnified for consideration of the potential issues involved and effective expression of how you feel they should be resolved.  If you disagree with the Law’s limited resolutions made to date for these issues, you need to say so in your testamentary documents because the Law’s resolution will apply unless you state otherwise.

For over two years, we have included in our pre-initial conference Estate Planning Questionnaires a page with questions about “Determining Family Relationships”.  (My hope was that this page would itself become a statement of intent that could be used as a future reference.)  I find, however, that few clients fill in answers on this page in the belief that these issues will never apply to their situations.  Where they do complete the form with respect to children conceived by ART, most will indicate that “[c]oncerns about ART children are unlikely to apply in my family.  I accept any judgments made in this context by applicable Maryland law.”  When I explain why I think this is short-sighted (in light of the statistics quoted above and my own family’s experiences), most recognize the need for considering these concepts, especially when planning on a multi-generational basis.  The concepts involved are so new that most have not come to grips with how these issues should be involved in their particular situations.

You need to know that these issues are far more likely to affect you, your family, and your estate planning than you think.  I hope that this paper will spark a sensitivity to these trends that will motivate you to express your intent in your documents about how these issues should be resolved if they affect your family and its membership.


Surrogate Financial Management Planning with Powers of Attorney
and Revocable Trusts

In our last article, we focused on the importance of lifetime planning for Mature Single Individuals and some of the impediments they face in accomplishing such planning.  This article focuses on financial management planning alternatives for persons confronted with potential health crises and incapacity.

The Deceptive Ease of Creating a Power of Attorney

Because it is relatively easy to designate a surrogate to manage and control one’s property by means of a document called a “power of attorney”, a court-supervised guardianship of the property of a disabled person generally means that either the person failed to plan effectively for his incapacity or that he or she had no available potential surrogates from which to choose.  In a power of attorney, a “principal” grants authority to an “agent” or “attorney in fact” to act for the principal.  In the case of a power of attorney for property and/or financial management, the authority granted is to act with respect to the principal’s property for the benefit of the principal.  Under the Maryland General and Limited Power of Attorney Act (“the Act”), the agent has a legal duty to “[a]ct in accordance with the principal’s reasonable expectations to the extent actually known by the agent and, otherwise, act in the best interest of the principal; [to a]ct with care, competence and diligence for the best interest of the principal; and . . . only within the scope of authority granted in the power of attorney.”  Unless otherwise provided in the power of attorney, the agent has a further legal duty to “[a]ct loyally for the principal’s benefit; . . . [and] so as not to create a conflict of interest that impairs the agent’s ability to act impartially in the principal’s best interest; …”

The Act facilitates the designation of naming such an agent by including two statutory forms that can be used for this purpose.  However, when designating a surrogate, it’s extremely important to pay attention to the details of what is provided in the power of attorney document.  Because powers of attorney are such powerful instruments, the Maryland Court of Appeals has long held that it is a “well settled” rule that powers of attorney are “strictly construed as a general rule and [are] held to grant only those powers which are clearly delineated” in the instrument.  One cannot merely designate that his agent has “all the powers that I have” in a simple one-page document without designating specific authorities for specific types of property.  As a result, while they will work in many common situations, one cannot rely on use of just one of Maryland’s statutory form powers of attorney for effective management of all potential situations.  For example, the commonly used “Personal Financial Statutory Form” includes no provisions with regard to dealing with tangible personal property or business assets, and neither statutory form includes effective gifting authority to enable the agent to engage in effective tax or Medicaid planning. Maryland attorneys typically use two property powers of attorney for their clients: one of the statutory forms for ease of enforceability in the common situations an agent is likely to face that are covered in the statutory form and a second, supplemental power of attorney for the special situations that the statutory forms don’t cover.

A problem may occur with regard to when an agent is first allowed to exercise authority.  Under the Act, unless the principal provides in the document that it becomes effective at a future date or on the occurrence of a future event or contingency, a power of attorney is effective when executed.  Such immediate effectiveness can be contrary to the intent of the Mature Single Individual who wants to name a surrogate but, because of the parties’ relationship or lack thereof, does not want to give that person immediate control over her property.  While signing a power of attorney does not relinquish the principal’s rights with regard to property, allowing someone else to have that control as well can be unsettling.  In such cases, the person planning for a surrogate may want to employ a “springing power of attorney” that only becomes effective upon a designated future event or contingency (such as incapacity).

Pitfalls When Utilizing Springing Powers of Attorney

While springing powers of attorney are recognized in Maryland, they are not without problems of their own.  As with any power of attorney, there is always a fear by banks and securities brokers that they may somehow be found liable for giving credence to a power of attorney granted fraudulently or after a disqualifying incapacity has already occurred.  In the case of springing powers, there is an added concern as to whether the event initiating the power of attorney’s effectiveness has actually occurred.  For example, if a power of attorney states that it is not effective unless the principal is incapacitated, how does bank teller know whether this is the case?  When a springing power of attorney is deemed to be appropriate, it is always better to specify an ascertainable contingency such as when two licensed doctors make a specific written certification rather than just defining the springing event as one without requiring tangible evidence conclusively proving that the event has occurred.

A second related problem with springing powers is that they are not recognized under the laws of some states.  In Florida, for example, the banking industry convinced the Florida Legislature in 2011 that dealing with springing powers of attorney was so difficult that it would be better not allowing them at all.  While this situation is probably not enough to preclude a Maryland resident from using a springing power of attorney when nervous about his or her potential agents, the questions involved in using such powers should not be ignored.

One poor alternative when worried about an immediately effective power of attorney while at the same time wishing to avoid the problems of springing powers is that of executing an immediately effective power of attorney but giving all copies of the document to a third person (such as a friend or an attorney) who is to decide when it’s appropriate to provide the agent with the power of attorney document.  In essence, this is creating a fiduciary to decide when to empower a surrogate.  This alternative makes little sense.  Who would want to subject himself to the potential liability of making a wrong decision about a potentially untrustworthy agent?  What does the decision-making fiduciary do if the designated agent declines to serve when the decision is made?  How does a financial institution know whether the principal intended the agent’s authority to be effective if the instrument was dated years before.  Does the designated agent not already have effective powers even though he or she may not know what the document says?

Planning for the Needs of More than One Person

One final problem with using powers of attorney for surrogate property management is that they have historically been used only for managing property and financial assets for the benefit of the principal granting them and not for others as well.  A person might want his or her agent to exercise authority with regard to his or her assets for the benefit of someone else, such a spouse, an elderly parent, or a disabled child.  This problem becomes even more cumbersome if a principal wants his property used for the benefit of both himself and the person he or she designates to serve as his agent.  Without specific language to the contrary in the power of attorney, the agent’s duty of loyalty to the principal in this situation will prohibit him or her from using the principal’s assets for the agent’s benefit.  While a principal may include language making clear what his wishes are and who he wants his assets to benefit, there is little or no law making it clear how a court (or financial institution) will interpret the agent’s authority to share the principal’s property benefits.

In short, financial powers of attorney are relatively easy to implement but not without pitfalls that can minimize their utility.

Using Revocable Trusts for Surrogate Property Management

Revocable trusts have long been touted as desirable to allow a decedent’s family to avoid probate after the decedent’s death.  Mature Single Individuals may not, however, place much value in avoiding probate after their death or, in fact, may welcome probate as a means of making sure their designated Personal Representatives carry out their wishes.  What is often overlooked is the very real utility of revocable trusts for Mature Single Individuals to allow them to maintain control of their assets for as long as possible before giving a fiduciary surrogate authority to manage them in their behalf.  This utility derives from the rich and extensive history of revocable trusts as fiduciary mechanisms for carrying out the wishes of the trustmaker, the nature of trusts as relationships designed to accommodate changing situations over extended periods of time, and courts’ familiarity with the use of trusts to take care of multiple parties.  The shortcomings of powers of attorney noted above are routinely handled using revocable trusts.

By means of a revocable trust, the financial surrogate (i.e., the successor trustee) is not vested with authority unless and until the events designated by the trustmaker occur.  Until that time, the trustmaker can act alone or with a supervised co-trustee.  Financial institutions rarely question how a successor trustee (as surrogate for the original trustmaker/trustee) exercises authority over assets held in trust when they have had ample opportunity to see how the original trustmaker intended that authority to be put to work.  And in those rare case where probate is desired to provide court oversight to assure appropriate postmortem distribution, the trustmaker can provide that the revocable trust be added to her estate to be distributed in accordance with her will.

In conclusion, the importance of making plans for the occurrence of incapacity cannot be overstated.  In addition, it is relatively easy to name a surrogate for management of your property and finances if and when incapacity occurs.  However, this process is not without potential pitfalls and should be guided by an experienced professional.  We welcome the opportunity to serve you in this role.

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Lifetime Planning for Mature Single Individuals

Lifetime Planning for Mature Single Individuals

Estate planning generally addresses three primary goals: keeping the client in control of his or her person and property while he or she is alive and well; taking care of the client and his or her loved ones if the client becomes incapacitated; and carrying out the client’s wishes after death. Clients in different life stages tend to give different priorities to these goals. Younger clients without children seem inclined to favor the first goal over the latter two. For those with a spouse and/or children, effecting post-mortem goals becomes much more important. Older clients tend to be more concerned with incapacity and post-mortem goals because the threats posed by these life stages seem closer at hand. In fact, with lengthening mortality rates, incapacity planning is taking on increasing importance for everyone.

Mature Single Individuals and the Problem of the “Short Bench”

For those who are not married and who have no children (“i.e., Mature Single Individuals”), planning for the disposition of property after death may not be as important as it is for those with closer family ties. The potential costs of such planning often encourage one to delay or avoid such planning. With greater importance attached to the designation of surrogates in the event of incapacity, life planning for the Mature Single Individual can actually be more challenging than for the married couple with children.

The basic problem for Mature Single Individuals in planning for their incapacity (or death) is the recognition that while surrogates are understood to be needed, fewer trusted fiduciary alternatives seem available. In our society, incapacity care tends to be rooted in close familial connections built over lifetimes. Where such close familial connections are not available or are available only to a limited extent, the question becomes how to find suitable surrogates to act for the incapacitated client while assuring fidelity and proper attention to these fiduciary duties. Without close family ties, the goal is often also to postpone the designation and implementation of surrogacy until the last possible moment when it becomes necessary.

Court-Supervised Guardianship – The Default Nobody Wants

In the absence of planning, the State provides a default means of determining such surrogacy. Under Maryland law, a court may appoint a guardian to act for a “disabled person” who is unable to manage his property or unable to provide for the person’s daily needs to protect his health or safety. Once such an appointment is made (following a mandated procedure intended to protect the alleged disabled person from unneeded interference), the court stays involved in the guardianship by supervising the guardian’s activities for as long as the incapacity continues. Such court participation inherently requires use of the disabled person’s resources to pay for this process and the guardians involved.

The choice of who serves as the disabled person’s guardian is made in the court’s discretionary determination of what is best for the disabled person and in accordance with a statutory priority list of possible surrogates ranging from a spouse, parents, or the disabled person’s children to heirs at law or any other person, agency, or corporation nominated by a person caring for the disabled person or otherwise considered appropriate by the court. Importantly, however, the statutory priorities list is topped by a person, agency, or corporation nominated by the disabled person if he had the foresight to do so while he has (or had) sufficient mental capacity to make an intelligent choice. As a result, even if a guardianship is not deemed to be objectionable and regardless of the age of the individual involved and the length of the potential “bench” of potential surrogates, it becomes quite important to address the issue of surrogacy by planning well before the onset of any “physical or mental disability, disease, habitual drunkenness, addiction to drugs, . . . compulsory hospitalization, or disappearance”.

The Importance of Addressing Lifetime Planning Issues

A court-supervised guardianship of a disabled person generally means that either the person failed to plan effectively for his incapacity or that he or she had no available potential surrogates from which to choose. This is unfortunate because it is relatively easy to designate a surrogate by means of two types of documents: financial powers of attorney and revocable trusts for the management of an incapacitated person’s property and money; and health care powers of attorney and advance directives to manage his or her health and personal well-being. (We intend to cover these types of documents in greater detail in upcoming articles.)

The primary point here is that the Mature Single Individual should not put off addressing incapacity issues that may have a great impact on his future quality of life. Inertia should not be allowed to control just because the Mature Single Individual does not particularly care about post-mortem planning or because his “short bench” of potential surrogates makes decisions difficult. Most will not want these issues resolved by the discretion of a disinterested court acting at the request of some distant heir or other person nominated by a care agency or otherwise considered appropriate by the court. “Estate” planning involves both lifetime planning and post-mortem planning. Lower prioritization for one does not preclude the importance of the other. And talking through difficult decisions with an experienced professional will often clarify potential resolutions. The critical step in this process is the first one: picking up the phone to make the initial appointment. Once one begins, the rest is easy.

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The Shifting Role of Taxes in Estate Planning

The Shifting Role of Taxes in Estate Planning

I am often asked if Estate Planning has gotten easier as a result of recent changes in federal and Maryland estate tax law. My response: Estate Planning has not gotten easier, it has just become different. Coupled with other changes in society (e.g., lengthening mortality, volatile securities markets, a lengthy period of extremely low interest rates, and new artificial methods of conception), the need for flexibility in Estate Planning seems to have taken on new importance. This article focuses on how the concerns planners address are evolving in light of recent tax law changes.


Generally speaking, if a decedent’s assets are subject to potential estate taxation when he or she dies (and even if available exemptions are present to preclude such estate taxation), the capital gains basis of such “property acquired from a decedent” in the hands of his beneficiaries “steps up” (or “steps down”) to its fair market value at the date of the decedent’s death. Such beneficiaries as a result receive this property without the inherent capital gains income that was realizable before the decedent’s death. (Note, however, that this principle does not apply to property that is “income in respect of decedent” such as IRAs and other retirement plans, annuities, Series E savings bonds, or other property where inherent ordinary income has been earned but not yet taxed when a decedent passes away.)

Because the reduction of potential future capital gains taxes by “step up” requires potential exposure to estate taxation at the time of the decedent’s death, a fundamental tension has long existed in estate planning (especially for married couples) between saving estate taxes and saving capital gains taxes. Do we maximize the amount we can exempt from estate tax by placing the first decedent spouse’s assets after his death in a “credit shelter trust” designed to benefit the surviving spouse without having those assets included in her taxable estate? Or do we expose as much of the couple’s net worth as possible to potential estate tax at the death of the survivor to maximize basis “step-up”? A comparable tension exists in Medicaid planning for single individuals where the question becomes: should the potential Medicaid recipient gift his property to family members (who receive the donor’s cost basis) to “spend down” assets to qualify rather than leaving these assets to beneficiaries at his death with a stepped-up capital gains basis?

For a long time, resolution of this tension was easy. If likely estate taxation would occur at 55% of date of death value for federal purposes and from 8% to 16% of such value for Maryland estate tax purposes, there was no question that avoiding such estate taxation by preserving all available exemptions far outweighed the potential of future 15% income taxation on capital gains. Such easy resolution has, however, become very much more difficult in the recent past for a number of reasons:

First, recent dramatic increases in estate tax exemptions have significantly decreased the number of estates where estate taxation is potential or likely. Where a decedent could once only shelter $600,000 from potential federal and state estate taxes, decedents dying before 2026 can each now shelter some $11.2 million of their asset value from federal and Maryland estate taxation. After 2025, even if the federal law is not changed, decedents will still be able to shelter some $6 million from estate taxation. For persons likely to die before 2026 with less than $11.2 million or afterward with no more than $6 million, estate planning to minimize future capital gains taxes has become obvious because their families will not have to worry about estate taxation.

Second, since 2010, a predeceasing spouse can avoid wasting his estate tax exemption by means of “Portability” without using a credit shelter trust that precludes a step-up in basis at his surviving spouse’s death. Portability allows the executor of a deceased spouse to make an election on the first decedent spouse’s estate tax return to transfer or “port” such deceased spouse’s unused estate tax exemption to the surviving spouse’s estate. For example, if two spouses each have $5 million in assets, prior law would have required the first decedent spouse to use as much of his estate tax exemption as possible for a credit shelter trust to avoid his family’s loss of its benefits. In so doing, no further basis step-up would be available for that trust property when the surviving spouse died. Now, however, the first decedent spouse can leave his entire estate to the surviving spouse to be potentially estate taxed when his surviving spouse dies (and with everything other than income in respect of decedent getting a basis step-up at this later date) when the surviving spouse’s estate will potentially have available exemptions of over $16.2 million until 2026 (i.e., $5 million “ported” from the first decedent spouse plus the survivor’s personal $11.2 million exemption) or some $11 million (i.e., the first decedent’s $5 million and the survivor’s $6 million) thereafter. For married couples with larger estates, it is now possible to leave up to $22.4 million before estate taxes apply, with all such property potentially receiving a stepped-up basis at the second death. With such large exemptions from estate taxation available at the survivor’s death, getting as much capital gains basis step-up as possible at the second death has become the primary priority in many more couples’ estate planning. Note, however, that obtaining the advantages of such Portability requires the time and expense of preparing and filing of a federal estate tax return when the first decedent spouse dies; and, unlike credit shelter trust assets, appreciation of “ported” assets do not escape inclusion in the surviving spouse’s taxable estate.

Finally, the rates of taxation for these two planning alternatives are narrowing. Federal estate taxation is now at 40%, rather than 55%, of fair market value at death. For those assets to which Maryland estate tax applies, the combined federal and state estate tax rate is just under 50%. At the same time, capital gains income tax rates have climbed over the years. In addition to the original 15% federal rate, an additional 3.8% net investment income tax on capital gains now exists for individuals earning more than $200,000 (or $250,000 for married couples filing jointly) and an additional 5% capital gains tax (above the net investment income tax) applies for individuals earning more than $425,800 annually (or $479,000 for married couples filing jointly). In addition, state income taxes on capital gains apply with most taxpayers paying between 7% and 9% of such gains, depending on income and county of residence. Thus, combined federal and state capital gains rates of tax at over 30% has become closer to combined federal and Maryland estate tax rates at just under 50%. This is not to say that the taxes paid for capital gains will be more than the estate tax due because the tax base for each is very different. However, the increased burden of capital gains taxation has taken on new importance when estate taxes (and especially federal estate tax) are no longer a major consideration because of increased exemptions and Portability.

As I noted at the outset, these tax changes have not made Estate Planning easier, just different. We often now focus more on capital gains tax minimization than we do on estate tax minimization. If, as expected, Maryland this year reverses its 2019 recoupling with the federal estate tax exemption (because it doesn’t want the Maryland estate tax exemption to climb to $11.2 million), another level of complexity and an increased need for flexibility will be introduced. As we try to emphasize to all our clients, such law changes and changes in family dynamics make it extremely difficult to plan for more than the next 3 to 5 years. Estate Planning is a process, not a one-time event; and providing flexibility to accommodate change is increasingly critical.

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2018 Estate and Trust Tax Planning

Inflation Adjustments and Initial Observations on the 2017 Tax Act’s Impacts:

In late October, the Internal Revenue Service issued its inflation-adjusted exemptions, exclusions and tax brackets to be used for 2018 federal tax returns. See generally, Internal Revenue Notice 2017-178 and Revenue Procedure 2017-58 issued on October 19, 2017. In the estates and trusts area, the principal adjustments are as follows:

  • An individual’s federal estate, gift, and generation-skipping tax exemptions are increased after December 31, 2017 to $5,600,000. Thus, for decedents dying after December 31st with a gross estate (i.e., a taxable estate at death plus prior adjusted taxable gifts) of less than $5,600,000, there will be no federal estate tax due and no federal estate tax return is required to be filed. In addition, individuals may cumulatively make up to $5,600,000 in taxable lifetime gifts before any federal gift tax is imposed.
  • After years of remaining fixed at $14,000 per year, the federal gift tax exclusion will increase to $15,000. As a result, for calendar year 2018, individuals may make gifts that can be enjoyed immediately totaling $15,000 or less to any number of individuals without those gifts counting as lifetime taxable gifts (and without those gifts requiring the use of the $5,600,000 gift tax exemption mentioned above).
  • Finally, for trusts receiving and retaining taxable income, the federal income tax brackets have changed such that trusts do not reach the 39.6% marginal rate until they have taxable income in excess of $12,700. (Please recall that trusts get “distributable net income” deductions for amounts distributed to trust beneficiaries so that this maximum marginal rate will only be imposed on retained ordinary income above that amount. In turn, the beneficiaries receiving this distributable net income will pay tax on the income received at their personal marginal rates.) Note that the new bracket amount does not affect the Maryland income tax paid by the trust at Maryland rates on top of the federal tax.

Despite the IRS’s October pronouncement, a real question exists as to whether any of these limits will apply in 2018. As I write this article, House of Representatives and Senate conferees in Congress have agreed upon a final version for a bill entitled H.R. 1, “the Tax Cuts and Jobs Act of 2017” (referred to below as “the TCJA”). This “Conference Committee” version of the TCJA will now come before both houses of Congress for separate votes of approval. If, as expected, this Conference Committee report is approved by the House and Senate, the Conference Committee version of the TCJA will become law and generally apply with respect to tax years commencing after December 31, 2017. The Conference Committee approved version of the TCJA will substantially change the applicable 2018 estate and generation-skipping transfer tax exemption numbers already announced by the IRS and will change the income tax brackets for trusts:

  • The Conference Committee version of the TCJA will double the basic federal estate, gift, and generation-skipping tax exemptions from $5,000,000 to $10,000,000. With inflation adjustments back to 2010, the actual exemptions per individual will increase to approximately $11,200,000, and a married couple will be able to shelter over $22,000,000 for their post-mortem beneficiaries before having to worry about paying federal estate tax.
    On January 1, 2019, the Maryland estate tax exemption is scheduled to become “recoupled” with the federal exemption. As of now, were the TCJA to pass with the doubled estate tax exemption, that doubled estate tax exemption will apply for Maryland estate tax purposes as well. Time will tell how Maryland reacts to this substantial decrease in tax revenue.
  • The original House of Representatives’ version of H.R. 1 would have repealed the federal estate and generation-skipping transfer taxes entirely as of January 1, 2025. This repeal, however, is not included in the Conference Committee’s approved final version of the TCJA, and for now such repeal is no longer on the agenda.
    Since neither the House nor the Senate versions of the TCJA (nor the Conference Committee report) repeal or change the federal gift tax exclusion amount, it appears that the federal gift tax exclusion will in fact increase to $15,000 for 2018 and succeeding years (until inflation again requires an adjustment in a $1,000 increment).
  • Under the Conference Committee version of the TCJA, the brackets for trust taxable income will be changed as follows:
    • Retained trust income up to $2,550 would be taxed at 10% (a rate below the current 15% tax on such income);
    • From $2,550 to $9,150, retained trust income would be taxed at 24% (a rate also below that mandated by current law);
    • From $9,150 to $12,500, retained trust income would be taxed at 35% (a rate higher than that mandated by current law); and
    • Above $12,500, retained trust income would be taxed at the maximum 37% (a rate that is 2.6% less than that mandated by current law).

    Thus, under the Conference Committee’s version of the TCJA, the maximum bracket for federal income tax on retained trust income will apply at an amount slightly below that projected by the IRS in October, but the rate itself would be 2.6% lower.

  • Because estates and trusts are generally subject to the same rules for calculating taxable income as individuals and because the TCJA suspends most individual itemized deductions until December 31, 2025, estates and trusts will be subject to the same TCJA provisions as individuals with respect to the loss or limitation of itemized income tax deductions (e.g., a $10,000 limit on the deductibility of state and local property and income taxes, limits on the deductibility of home mortgage interest, and loss of the deduction for preparation of tax returns). In particular, trusts and estates will no longer be able to claim as deductions expenses that previously were allowable if they exceeded 2% of taxpayer’s adjusted gross income. However, trusts and estates will now be eligible for a new complicated deduction for certain “qualified business income” received for the taxable year with respect to pass-through business entities.
  • Since individual beneficiaries will not be able to make itemized deductions for these pass-throughs (at least until after December 31, 2025), residuary beneficiaries of estates and trusts will no longer be eligible to benefit from unused excess deductions for estate and trust administration expenses after termination of an estate or trust.
  • The TCJA does not change the “stepped-up” basis provisions of current law with respect to capital gains on inherited assets. As such, beneficiaries will continue to inherit capital assets with the date of death fair market value of the assets as their respective bases for capital gains purposes and without the potential of realizing income taxation on pre-mortem appreciation (or losses) in value.

To learn about how The Wright Firm can help you make adjustments to your estate planning, please contact us at (410) 224-7800, or

All of this will make wonderful fun for the IRS’s tax return designers over the Holidays. Here’s hoping that your Holidays are merrier than theirs and that we all have a Happy New Year.

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Securing Your Family’s Future Using Inheritance Trusts: Part 1

PART 1: Inheritance Trusts and How They Work

The key to estate planning is understanding clients’ goals for the process. Generally, as a primary overarching goal, clients cite their desire to maintain their assets for as long as possible as a safety net protecting themselves and their loved ones from both anticipated and unforeseen threats and challenges. Nothing worries parents more than a creditor or divorcing spouse depriving their loved ones of the assets they worked so hard to pass on. Given this goal, it shouldn’t be any surprise that in our practice, once clients understand how Inheritance Trusts work, they choose to leave their estates to their loved ones by such trusts over 90% of the time.

Inheritance trusts have been with us for many years, primarily to manage funds for minors and others who would otherwise have trouble maintaining them. The basic idea was originally to separate management from benefit to protect the benefits for as long as necessary. The modern “wrinkle” has been the recognition that, by making the capable beneficiary the manager (i.e., the trustee) and by maintaining the trust in place, the protections and safety net remain in place for as long as possible without significant loss of beneficiary control or enjoyment.

In this installment, we describe Inheritance Trusts and explain how they work. To do so, however, we first have to review some basics:

The Law Underpinning our Use of Trusts

Trust law has developed over hundreds of years as an outgrowth of our laws of property and judicial support of fundamental fairness (equity). Under our law of property, the bundle of rights held by an owner includes the right to transfer his property in the manner he chooses. The law of equity will support and enforce such transfer as long as the transfer does not violate a paramount principle of public policy. In particular, the law grants primacy to the intent of the transferor in transferring his property, regardless of whether he transfers his entire bundle of rights in the property to one or more persons or whether he chooses to parcel out different rights in the property to different persons. Such differing rights could include the right to control how and/or how long property is used in a particular fashion, the right to receive the benefits of the property as so utilized, and the rights to transfer the property in the future and to administer the proceeds of such future transfer. This potential, indeed likelihood, for court enforcement of the transferor’s intent is the fundamental “glue” that underpins the use of trusts.

A trust is really nothing more than a transfer of property that separates the owner’s bundle of rights in the property at the time of transfer. In the case of an Inheritance Trust, that separation generally occurs after someone’s death, most likely, when a beneficiary might otherwise have inherited the property outright from the decedent.

What is a trust?

A trust is a court enforceable relationship established by a property owner when he transfers property to someone who will thereafter own and use the property according to a set of instructions that binds the new “owner” as to what he can or cannot do with the assets subject to those instructions. This relationship generally involves three types of parties: the original owner who is called a “settlor” or “Trustmaker”, a “Trustee” who will thereafter own the property and put it to use, and a “Beneficiary” who will now or at some time in the future enjoy the benefits of the property while it is owned by the Trustee. (Please note that although the words, “Trustmaker”, “Trustee”, and “Beneficiary”, are used here in the singular, there may be more than one Trustmaker, Trustee, and/or Beneficiary; and a person may simultaneously hold one or more of these capacities with respect to any trust.)

The Trustmaker is the party who establishes the trust by transferring property to the Trustee and by creating the instructions (i.e., in a will or trust agreement) that control that property in the Trustee’s hands. The Trustee is the party who actually has title to the trust property and who carries out the instructions. As the name suggests, the Beneficiary is the person who is intended to benefit from the trust assets and the Trustmaker’s instructions. It is the Trustee’s legal fiduciary duty to carry out the Trustmaker’s instructions for the benefit of the Beneficiary. If he or she fails to do so, the Trustee’s personal wealth is subject to court order to rectify any breaches of the terms of the trust (i.e., the Trustmaker’s intent).

If the Trustmaker retains the right to take back the property initially transferred to the Trustee or to change the instructions that control that property in the Trustee’s hands, the trust is called a “revocable trust”. If the Trustmaker expressly fails to retain or no longer has such rights (e.g. by reason of his death), the trust is called an “irrevocable trust”. Additional distinctions exist depending on when the trust is created: If the owner/Trustmaker establishes a trust during his lifetime, the trust is called a “lifetime”, “living”, or “inter vivos” trust. If the trust is created after the owner/Trustmaker’s death (e.g., a trust created under the Trustmaker’s will), the trust is generally styled as a “testamentary” trust. Absent express language in the trust document to the contrary, a Maryland lifetime or living trust is deemed to be a revocable trust. Since the Trustmaker is no longer alive to change his instructions, a testamentary trust will be irrevocable unless a court finds that the Trustmaker’s instructions (intent) have become impossible to achieve or that a unanimously agreed upon modification of trust terms is not inconsistent with a material purpose of the trust.

Examples Of Inheritance Trusts

Let’s say you and your spouse would like to establish Inheritance Trusts for your two daughters after both your deaths. You and your spouse will first create a will or living trust as a Trustmaker. Each of these documents will contain instructions to establish trusts for your daughters together or for each of them and will transfer your property to the Trustees of those trusts after both of you have passed.

You believe your oldest daughter is already prepared to manage the assets transferred to her trust, so you name her as the trustee of her trust so that she can control that property and you give her discretion as to when she can distribute property income (or the trust property itself) to herself or her descendants.

You would like to see your younger daughter grow into her future role as Trustee, so you name her as a Co-Trustee of the trust (with her sister or another trusted family member or friend as the other Co-Trustee) until your younger daughter reaches a certain age (e.g., 30). At that time, the trust instructions say that she will become her trust’s sole Trustee. While your younger daughter serves as a Co-Trustee with the consent of her Co-Trustee required to make decisions, your trust instructions require the Co-Trustees to distribute certain amounts to her annually so that she can count on receiving those annual benefits.

Once each daughter becomes sole Trustee of her respective trust, each will act as caretaker of the inheritances and manage their investment until they are ready to pass them on to their own children and/or more remote descendants.

In the meantime, while her trust remains in existence, you state in the trust document for each daughter that no right to benefit from the trust may be transferred by any beneficiary as such, and no creditor of a beneficiary may attach trust property or any trust interest. Trust property will remain transferrable by the Trustee, but under Maryland law, “[a] creditor may not . . . reach or otherwise compel distribution of the beneficial interest of a beneficiary that is a trustee or the sole trustee of the trust, . . . except to the extent that the interest would be subject to the claim of the creditor were the beneficiary not acting as cotrustee or sole trustee of the trust.” Subject to certain limited public policy exceptions for unpaid taxes, child support, and alimony, each daughter’s interest in the trust and the trust property itself is therefore protected from claims by potential creditors.

Stay tuned for future installments

In future installments of this series about Inheritance Trusts, we will explain these and other benefits of using Inheritance Trusts in your planning. We will also explain the process of receiving an inheritance in trust, as well as titling trust assets, setting up trust accounts, and the obligations of Trustee-beneficiaries to their other or future beneficiaries.

If in the meantime you would like to speak with us about securing your own plans for the future, please give us a call at (410) 224-7800.

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Read on to Part 2 »


Securing Your Family’s Future Using Inheritance Trusts: Part 2

PART 2: The Benefits of Using Inheritance Trusts

In part 1 of this series, we described Inheritance Trusts and how they can achieve clients’ desires to maintain their assets for as long as possible as a safety net protecting themselves and their loved ones from both anticipated and unforeseen threats and challenges. In this installment, we go over the particular benefits they offer at relatively little cost.

Benefits of Receiving Your Inheritance in Trust

There are three significant benefits to receiving your inheritance in trust rather than outright: (1) asset and creditor protection, (2) transfer (i.e., estate, gift, and GST) tax minimization, and (3) disability planning.

Asset Protection

As we discussed in Part 1 of this series, inheritances held in Inheritance Trusts are typically what are commonly referred to as “spendthrift” trusts. This term comes from the trust provisions that prevent a beneficiary from being able to pledge, assign, or otherwise anticipate their interest in the trust before he or she actually receives it. Because the beneficiary has no right to receive trust distributions ahead of the time when the Trustee (who may be the beneficiary himself but who acts in a fiduciary, as opposed to an individual, capacity) actually distributes them to him, the beneficiary’s creditors similarly cannot reach his trust interest until it is actually in his possession. As a result, his individual judgment creditors will not be able to reach the assets owned by the beneficiary’s Inheritance Trust unless they are creditors of the trustee (in his or her separate role as trustee) or creditors of a beneficiary with respect to alimony, child support, or taxes. In other words, the Inheritance Trusts’ assets are protected from lawsuit judgments against the beneficiary (or the beneficiary’s descendants or siblings).

Asset protection is important in a litigious society where the divorce rate hovers around 50%. The value of trust asset protection cannot be emphasized enough, especially since public policy generally makes it impossible for an individual to obtain this level of asset protection with respect to his or her personal assets. Spendthift trust creditor protection is made possible by the law’s view that, as long as he does not violate some important public policy in doing so, the manner in which a Trustmaker ties up his assets after death is his business and an entitlement resulting from his ownership of these assets in the first place. Spendthrift trusts are not deemed to be violative of public policy.

Future Transfer Tax Minimization

Inheritance Trusts also implement important estate and generation-skipping transfer tax planning. Under this type of planning, the assets in an Inheritance Trust will not be included in the beneficiary’s gross estate for federal or state estate tax purposes, no matter how much they grow in value. While the beneficiary can control the trust as its Trustee and has powers in this regard that are quite broad, those Trustee powers are by design insufficient under federal and state law to make them the functional equivalent of outright ownership. The same is true as to inherited rights as a trust beneficiary. As a result, while retained in the Inheritance Trust, the trust assets are not taxed for estate tax purposes as a part of beneficiaries’ respective taxable estates, and they can be passed on to the next generation (i.e., the Trustmaker’s descendants) without being subjected to estate tax.

An Inheritance Trust can be passed on to the next generation tax-free because it is exempt for the federal generation-skipping transfer tax (“GST Tax”). This is a tax equal to the federal estate tax that becomes payable when trust assets are distributed to beneficiaries more than one generation below the person in whose taxable estate the trust assets were last included. In essence, the federal GST Tax is designed to capture the estate tax that would have been payable from a generation where estate tax on trust assets is skipped. To limit the reach of this GST Tax on “smaller” estates, Congress allows an exemption from GST Tax for each individual taxpayer. Inheritance Trusts can be specifically designed to take advantage of all of the GST Tax exemptions of both the Trustmaker and the Trustmaker’s spouse. (The current GST Tax exemption available to a decedent is $5,450,000, but this amount will be indexed for future inflation. In the case of spouses, those exemptions can be doubled with careful planning). Unfortunately, unused GST Tax exemptions are not portable from a prior spouse to his survivor, so each spouse will need to use an estate plan utilizing Inheritance Trusts to take advantage of his or her GST Tax exemption.

Beneficiary Disability Planning

While a beneficiary is alive and able to manage his finances, he can serve as Trustee of the Inheritance Trust set up for his benefit. In addition, Inheritance Trusts often authorize the beneficiary to determine who will succeed him as Trustee when he is no longer willing or able to serve. To do so, the beneficiary will have to nominate a person, persons, or entity as Successor Trustee in a written document executed with the level of formality required in the trust instructions. If the beneficiary fails to nominate a successor trustee, the Trustee of the Inheritance Trust will be as the Trustmaker originally nominated in the trust by default. Please note that if a beneficiary wants his spouse to serve as Trustee of his Inheritance Trust if he cannot do so, he will usually need to create a writing that specifically makes this designation. To avoid complications of any potential divorce, a spouse is not generally otherwise named as a part of a line of succession.

In any event, if the beneficiary becomes disabled, management of his trust assets for his benefit is assured without court appointment of a guardian of his property or the ambiguities of enforcing a power of attorney.


In the final installment of this series about Inheritance Trusts, we will explain the process of receiving an inheritance in trust, as well as titling trust assets, setting up trust accounts, and the obligations of Trustee-beneficiaries to their other or future beneficiaries.

If in the meantime you would like to speak with us about securing your own plans for the future, please give us a call at (410) 224-7800.

Download PDF Version

Read on to Part 3 »