November 2000 - Recent Estate Planning Developments Last Quarter of 2000

Will We Have New Federal Legislation? What Will It Be?
BY POPULAR DEMAND Our Expanded "Checklist" for Estate Planning Techniques
Which You Should Consider, and Maintenance Reminders
New Alaska Estate Planning Legislation
David G. Shaftel
2000 © All Rights Reserved
A Summary Provided by the: Law Offices of David G. Shaftel, PC


The Republicans Proposal: Estate Tax Repeal. This bill, H.R. 8, was passed by Congress but vetoed by President Clinton. It is important to understand exactly what this proposal would accomplish. Under this bill, the Federal Estate, Gift, and Generation-Skipping Transfer Taxes would be repealed in the year 2010. Prior to that time, estate and gift tax rates would be reduced as follows:

Top Rate

The generation-skipping transfer tax rate would be equal to the highest estate and gift tax rate in effect for a given year. Beginning in 2001, the "unified credit" would be replaced with a unified exemption amount as follows:

$ 675,000
$ 700,000
$ 700,000
$ 850,000
$ 950,000

The taxpayer "downside" of this proposed repeal is the loss of a significant income tax benefit. To make up for some of the loss of revenue, starting in 2010 there would no longer be an unlimited adjustment of basis to fair market value for assets owned by a decedent. This adjustment in basis presently minimizes capital gain taxes when a surviving spouse sells inherited assets. Starting in 2010, that adjustment to basis would be limited to:
$1,300,000 of transfers of a decedent to any beneficiaries; and
An additional $3,000,000 of transfers from a decedent to a surviving spouse.

The personal representative would select which assets receive the adjustment in basis.
Under H.R. 8, prior to the proposed repeal of the transfer taxes, a number of advantageous generation-skipping transfer tax provisions would be enacted to facilitate the allocation of GST exemption amounts. Finally, H.R. 8 would expand the availability of qualified conservation easements.

The September 2000 Compromise Bill Proposed By A Group of Democrats. This recent proposal was submitted by the Democrats who had joined the Republicans in voting for H.R. 8. Under this general proposal, the following changes to the Federal Estate, Gift, and Generation-Skipping Taxes would be made:

The unified credit exemption would be immediately doubled and would gradually increase to $4,000,000 per couple.
The top gift and estate tax rates would be immediately reduced to approximately 45%, and eventually would be reduced to 39.6%.
The requirements for qualification for the family-owned business interest deduction would be simplified.

Pending Pension Proposals. At the time of the writing of this newsletter, the House has passed and the Senate is considering pension bills which include the following provisions:
Increase the contribution limit for defined contribution plans, such as 401(k) plans, to $15,000 by 2005.
Raise the limit on an employer's deduction for contributions to defined contribution plans to 20% of compensation.
Make different types of defined contribution plans more interchangeable and portable.
Modernize pension laws to encourage small businesses to offer pension plans.
Allow a qualified charitable distribution from an IRA, which is made after age 70 ½, which qualifies as a charitable contribution if made directly to a charitable organization, a charitable remainder annuity trust, charitable remainder unitrust, pooled income fund, or charitable gift annuity.
Create a tax credit for small employer plan contributions and start-up costs. This credit is designed to help offset the first three years of costs involved in starting a small business retirement plan.
Rename as a "Roth 401(k)" a new retirement tool that would allow workers to contribute after-tax dollars to a 401(k) and withdraw funds upon retirement tax-free.
Increase income limits for contributions to Roth IRAs for joint filers to twice the limits for single filers.
Increase the income limit for conversion of an IRA to a Roth IRA to $200,000 for joint filers.

What Will Be Enacted and When Will It Occur?
At the date of the writing of this newsletter, the result of the Presidential election is still up in the air. The Senate will very probably be Republican by one vote. The House is 222 Republicans to 211 Democrats. However the election is resolved, commentators are seriously questioning whether the new Congress and Administration will be able to work together in order to accomplish any substantial legislative changes. Some commentators predict that "gridlock" will continue. Others speculate that any new legislation will represent significant compromises between the present positions of the Republicans and the Democrats.

The Alaska Legislature enacted a number of important estate planning bills during the 2000 legislative session. These include a new Alaska Qualified State Tuition Program as well as the strengthening of Alaska estate planning laws in a number of areas. Our firm was active in the process of proposing and supporting this new state legislation. These new Alaska laws are as follows:
A Qualified State Tuition Program With Special Asset Protection. Alaska has joined more than 32 other states which have enacted qualified state tuition programs. Alaska's plan is available to residents and nonresidents alike, and adds special asset protection features, discussed below.
Qualified state tuition programs are authorized by I.R.C. §529. A participant will contribute cash to the plan for the benefit of a member of the participant's family. For purposes of the annual exclusion (presently $10,000), a participant may elect to take the contribution into account ratably over a five-year period. Therefore, a participant may make a current $50,000 contribution, and in effect use the participant's current and next four years annual exclusion amounts. Many programs have a maximum contribution limit which appears to be keyed to an approximation of tuition and expenses for an undergraduate education.
The participant's contributions to the program are free from Federal Gift Tax and Generation-Skipping Transfer Tax. Further, if the participant lives for five years, none of the contributed assets will be included in the participant's gross estate for Federal Estate Tax purposes. During the time that the funds are in the contributed account, they grow free of income tax. At the appropriate time, amounts from the account will be distributed to the beneficiary for tuition and education expenses. The income portion of these distributions is taxed to the beneficiary pursuant to I.R.C. §72(b). Proposed federal legislation would eliminate this income taxation entirely.
The participant may change the beneficiary to another family member at any time, without penalty. The participant does retain the ability to withdraw the funds placed in the account, but the earnings portion of the withdrawn funds will be taxed at the participant's tax rates and will be subject to a penalty of at least 10% of the earnings. Most plans allow the beneficiaries to attend any educational institution. Contributions to a plan must be in cash. Most states contract with investment advisors for management of the contributed funds. The participant may select among various investment options, but will not have any control over actual investment of the funds.
A qualified state tuition program is an attractive estate planning arrangement. The donor-participant may remove the contributed funds from his or her gross estate, yet retain the ability to choose the beneficiary among family members. Unlike funds contributed to a child's or grandchild's trust, funds contributed to the plan grow free of income. Annual exclusion contributions for the next five years may be made during the current year. When distributions are made to the student-beneficiary, they are taxed at the beneficiary's rates (or maybe not at all if proposed legislation is passed).
Alaska has added asset protection to the above-described benefits. An account is exempt from a claim by the creditors of the donor or of a beneficiary, and is conclusively presumed to be a spendthrift trust. The statute further states that the account is "not an asset or property" of either the donor or the beneficiary, and may not be assigned, pledged, or otherwise used to secure a loan or other advancement. The account is not subject to involuntary transfer or alienation.
The Board of Regents of the University of Alaska is given the authority to administer the plan. The Board will select and contract with an investment manager, establish limitations relating to maximum and annual contributions, the penalty for a non-qualified withdrawal, and similar plan matters. The program is expected to begin in Spring, 2001.
Stronger Asset Protection for Family Limited Partnerships and Limited Liability Companies. If a creditor obtains a judgment against a partner or LLC member, most state statutes provide that the creditor can obtain a "charging order" against the debtor's partnership or limited liability company interest. This allows the creditor to receive the distributions to which the partner or member would be entitled.
Generally, these statutes do not expressly permit other creditor remedies. This is consistent with the concept that the other partners of a partnership or members of an LLC should not have their business or investment activity disrupted by being forced to take in a substitute partner or member (e.g., the judgment creditor). This was the generally understood position taken by the Uniform Limited Partnership Act and many limited liability acts.
However, in Madison Hills Ltd. v. Madison Hills, Inc., a Connecticut court has held that a judgment creditor of a limited partnership could foreclose on the partnership interest. The Connecticut court's holding opened the door for courts to provide a variety of remedies to creditors of partners in limited partnerships and members in LLCs. These additional remedies could result in forced dissolutions of the entities and the sale of the assets. The Alaska Legislature concluded that such results could be very harmful to the other partners or members, their families, and their business interests.
The enacted amendments make it clear that a judgment creditor of an Alaska limited partnership or LLC has only the remedy of a charging order. Thus, the creditor will receive all distributions made to the debtor partner or member. But the right to receive such distributions is the judgment creditor's sole remedy. No other remedies are available to the creditor or to a court implementing a creditor's collection request.
This strengthened creditor protection provided to these entities by these new amendments should make family limited partnerships and family limited liability companies even more attractive for estate planning purposes. While many families utilize these entities for gift and estate tax reduction, creditor protection may prove to be an equally advantageous reason for their use.
Trust Notification and Accounting Rules. The general rules in Alaska are that within 30 days of acceptance of a trust, the trustee must inform all the current beneficiaries of the existence of the trust, and upon request, furnish them with an annual accounting. New legislation now allows a settlor (the person who created the trust) to exempt the trustee from these duties. This exemption may not continue beyond the settlor's lifetime or a judicial determination of the settlor's incapacity.
Flexible Methods for Modifying and Terminating Irrevocable Trusts. The Alaska legislature has enacted flexible methods for the modification and termination of irrevocable trusts. A trustee, settlor, or beneficiary may initiate proceedings to modify or terminate a trust if, because of circumstances not anticipated by the settlor, modification or termination would substantially further the settlor's purposes in creating the trust. A court may also construe or modify the terms of a trust in order to achieve the settlor's tax objectives. The legislation further provides that despite the settlor's purposes in creating the trust, the trust can nonetheless be modified by the court upon consent of all beneficiaries if the reasons for modifying or terminating the trust outweigh the interest in accomplishing the material purposes of the trust. The inclusion of a spendthrift clause may constitute a material purpose, but is not presumed to be so.
This modification provision allows for the possibility of modification due to the changed circumstances of the beneficiaries, despite what might have been a material intention of the settlor in establishing the trust. This new statute has particular relevancy for perpetual trusts because it provides a technique for future changes of a dispositive plan. Accordingly, this modification authority helps alleviate concern about a settlor's "dead hand" control of the trust.
Community Property Agreements and Trusts Strengthened. These amendments clarify ambiguities regarding the right of spouses to amend and revoke community property agreements and trusts. Under the new legislation, a community property agreement or trust may be amended or revoked at any time if the instrument generally authorizes amendment or revocation by the spouses.
Clarification of Rules Allowing for Perpetual Trusts. At least 17 states have either eliminated the rule against perpetuities or have pending legislation that will do so. A primary impetus for such elimination is to allow trusts to be perpetual so that transfer taxes can be minimized as assets are transferred in trust from generation to generation. In this process of eliminating the rule against perpetuities, practioners have become concerned about falling into the "Delaware Tax Trap."
This "Trap" is created by an Internal Revenue Code provision which was originally designed to respond to legislation enacted by Delaware approximately 50 years ago. Alaska has now enacted clarifying language so that perpetual trusts created in this state will not fall within this "Trap."
"Safety Net" Estate Planning Legislation. All too frequently, estate planning documents fail to contain all the provisions necessary to maximize available federal gift, estate and generation-skipping tax benefits. The documents may have been drafted long ago, and not appropriately updated. Alternatively, the drafter may have omitted necessary tax provisions.
To partially cure this problem, Alaska has enacted a "Safety Net" bill. This legislation supplements wills and trusts in the following areas: marital deduction trusts, funding, the family?owned business deduction, restriction of powers of a trustee?beneficiary, interest rate for pecuniary devises, conveyances of real property to and from trusts, and applicability to revocable trusts as well as to wills.
Future Alaska Legislation. Our office is working with local estate planners to review and propose additional Alaska estate planning statutes. This proposed legislation will be submitted to the 2000-2001 Alaska Legislature for its consideration. Our goal is to continue to improve Alaska law. We would like Alaska to have the best state laws for the accomplishment of a family's estate planning.
Accompanying this newsletter is our expanded "checklist" for estate planning techniques which you should consider, and various maintenance reminders. We have drafted this as a self-contained checklist which you may retain for periodic reference. We have listed a variety of modern techniques which may be used to reduce taxes, provide asset protection, and enable proper management of your assets for the benefit of your heirs. We have also listed "maintenance" reminders. These are various implementation matters which need to be completed if you want your estate planning to work effectively.
We hope the above information is helpful to you. We remain available to help you maintain your estate plan and to add appropriate new techniques when you so desire. If you would like to meet with one of our staff to discuss any of the above subjects, please call.
Our Attorneys:
David G. Shaftel, J.D., LL.M. (Taxation)†±
Caroline P. Wanamaker, J.D.†‡
Donna Marie, J.D. †±
Michael D. Shaffer, J.D.µ
Bhree Roumagoux, J.D.
Our Legal Assistants:
Leanna D. Dreher, J.D.±
Linda J. Durr, PLS
Admitted in AK Admitted in WA
± Admitted in CA µ Admitted in MA