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Estate Planning: A Business Owner’s Potential Headache

#estate #tax #planning

Exclusive by LTN’s tax expert Bruce WD Barren

According to a recent survey by Business News Daily, shockingly their study revealed that the death of a founding entrepreneur wipes out on average 60% of a firm’s sales and cuts jobs by roughly 17%.

Also, these companies have a 20% lower survival rate two years after the founder’s death compared to similar firms where the entrepreneur is still alive.

Further, on average, four years after a founding entrepreneur’s death, most firms show no sign of recovering.

This is why a business owner must take a hard look at what thet want to do with his/ her business if they die.

Remember, death is death so, you cannot got back to correct something that was wrongly done at the outset.

The Circumstances

A person builds a business, does not want to sell but wants to perpetuate its ownership for the benefit of his family. However, our individual puts little thought as to what to do, leaving control of the business to a non-interested family member, including a spouse. The spouse takes over the business representing a material part of decease’s estate, remarries and then, here comes the Big Question. Does the remaining spouse stay involved, give total control to my new spouse for many spouses remarry, or does not allow then a transition to a family member? 

Well I was a part of such a predicament when my father died and the results were not in my favor. So, perhaps the below can help in your thought pattern. First, let’s look at the various Trusts that you might want to consider.

When you begin to determine who gets what, start with a written list of one’s Assets and their respective Liabilities. Then, determine their Fair Market Value, typically done by an accepted independent Court accepted valuation specialist.

The Beginning Process

To start the Process, the initial focus should be a Last Will & Testament, which should be written, witnessed ideally by 2 independent witnesses,

Remember, many people think that Estate and Will Planning is only for the elite. Nothing could be further from the truth. If you have an asset, it can be anything from a bike to a private airplane or a business; you need to create a Will.

Though more people now than ever realize the importance of creating a Will, many people still downplay the significance of writing a Will, including the transition of a controlled business.

Think about what happens to an estate of a person who passes away without making a Will? The lawyers have a field day!

A person who dies without a Will is said to have died interstate, meaning that the local intestacy laws (of the state) will decide how their property such as bank accounts, real estate, securities, and other assets will be divided.

Real Estate acquired in a different state than where the deceased person resided will be handled according to the intestacy laws of the state where it is located.The laws of interstate succession will vary depending on whether the person was single or married and had children.

In most cases, the estate of a person who died without making a Will is divided between their heirs, which can be their surviving spouse, uncle, aunt, parents, nieces, nephews, and distant relatives. If, however, no relatives come forward to claim their share in the property, the entire estate goes to the State where the descendent died.

Their primary responsibility of a Will is to protect and perpetuate Estate Assets for their heirs in order to protects one’s assets and to save tax dollars. Here’s where an attorney specialist can play a very contributory role for they know the law and the taxable effects on a person’s Will.

Further, whatever Trust instrument one selects, it is a complicated process and any estate planning should be done only in consultation with a qualified Estate Attorney.

Types of Trusts

For those who are unaware there are 15 types of Estate Trusts available and each should be treated with sophistication.

These include: Revocable Trust, Irrevocable Trust, Asset Protection Trust,  Testamentary Trusts, Special Needs Trust, QTIP Trust (this allows an individual, called the Grantor, to leave assets for a surviving spouse and also determine how the trust’s assets are split up after the surviving spouse dies.), Blind Trust, Spendthrift Trusts, Charitable Trusts, the little known and less often used Totten Trust (see special comments below), Constructive Trusts, By-pass Trusts, Generation Skipping Trusts, Life Insurance Trusts, and Creditor Shelter Trusts.

The Heirs

Once the above is determined, then the question moves to the question of heirs. However, this becomes complicated for too often disproportionate Trusts are sent up during a parent’s life, particularly referring to a father  or where an Estate is left totally to a wife.

This is often where the problem begins to emerge but only after the primary asset spouse has long since passed away. Just remember the average time to distribute trust assets ranges from 12 to 18 months and during this time a business is often kept in a vacuum for effective leadership..

Why does it take so long to settle an estate with a Trust to the beneficiaries and heirs? Initially, when the primary business owner dies, the Trustee has to come in and begin doing the initial steps of the trust administration process.

Without a specific directive from the deceased, an Estate can become unrulely and ridden with unnecessary fees.  This is so important because when an Estate has liabilities (in particular – bank loans with personal guarantees, plus real estate mortgages), a provision in a Will should be addressed is in that it is the responsibility of the Estate to pay any liabilities in a timely fashion so as to avoid excess interest and penalty(s) expenses from a lender.

This is specifically handled by a Totten Trust which in my opinion is absent from an ordinary Will. Basically, it is a bank account provision in a Will that has a beneficiary, or more preferably, a Trustee. It is also called a Payable on Death Account.

Very important: remember, that on one’s death, the money in the account will automatically go to the chosen beneficiary. It will not have to go through the often Probate lengthy probate process. However, most estates do not unfortunately have such a provision, but to me, they should.

The Estate Planning Process:

Too often people get their estate planning notebook and simply put their Trust documents on the shelf, thus never to be reviewed. Don’t let that be you! Using a suggested checklist like that presented herein, you can review your Trust to understand your trust and how it works. Always consult with your estate planning attorney to make sure of any changes that might be needed, or to answer questions that you have.

Here are a number of questions you should always ask – Does your Trust provide for a successor trustee and when do they start serving, hopefully sooner?

If you’re having problems with memory or mobility, you may want to change your Trust so that your successor trustee can start to serve with you now. That lets you see how your co-trustee acts and you still have the ability to change trustees if you decide it isn’t working out. Also, if you’re married and your spouse is a co-trustee on your Trust but he or she has dementia, you might want to change the order of trustees so that a child serves as successor trustee even if your spouse survives you.

Who can remove trustees besides you? You always can change the trustees of your revocable Trust. But should your heirs also have this right after you pass away? This can help with family harmony or allow a change in bank trustees when there are communication problems or disagreements with the trustee. But sometimes it’s better to limit the power to replace trustees if you want to make sure the beneficiaries aren’t just looking for a trustee to do whatever they say. For example, you could give beneficiaries the power to change trustees, but only to a lawyer, CPA or Trust Company.

Spousal Flexibility

How much flexibility should your spouse have to change ultimate distribution of Trust assets after you have passed away?

Often Trusts give surviving spouses a “power of appointment” to redirect trust assets at their death. This helps provide flexibility to change the ultimate distribution if there are changes in family circumstances or the law. For example, if a child becomes disabled or estranged, it might make sense to change how the distribution to that child is made, or even disinherit that child altogether or skip that child and give his or her share to the grandchildren. This should be used with caution for second marriages. Depending on the language of the a power of appointment, the second wife could use this power to give everything to her children instead of to her deceased husband’s children (the original beneficiaries). Often powers of appointment are included, but limited as to the potential class of who can be named a recipient of the trust, even for first marriages.

Does your Trust protect your children and grandchildren from lawsuits and divorce? Rather than distributing your Trust outright to your children, your Trust could continue for your children’s lives to provide creditor and divorce protection. Maybe their circumstances have changed and this makes more sense than when you were first creating this trust.

Here’s a very Big Question: have you properly funded your Trust? Only assets that you’ve re-titled into the revocable trust will avoid probate. Assets that are still titled in your personal name will pass through probate before being added to your Trust. It is good to review your asset listing and how accounts are titled with your attorney every few years, or if you transfer assets between banks or investment companies.

A Company Must Know

Now, here is where most business owners go wrong for fear of disclosing thier personal assets to non-family members, like a Corporate Officer of their business. Specially, they should discuss who will control your stock ownership, plus your retirement plans, life insurance and annuities as the beneficiary or at least be informed of key financial information resulting there from? It also is a good idea to keep a list of your current beneficiary designations for IRA’s, 401(k)’s, annuities and life insurance. Depending on your situation, you may name individuals or the Trust (or a Subtrust) as beneficiary. You need to make sure that your beneficiary designations and your Trust planning are coordinated. Also, be cautious of accounts set up as “payable on death” or “transfer on death.” That can thwart your good planning, by causing assets to pass to an underage or non-qualified beneficiary, or can change your intended distribution scheme.

When should your children and grandchildren receive their inheritance, especially when it comes to control and voting rights of the deceased spouse, as it relates to a Company’s ownership and control? Your Trust probably states that assets will remain in trust for beneficiaries who are under a certain age, often 21 or 25. If you had an older age, that could be lowered if you now see that the beneficiary has proven to be very responsible. Alternatively, if you have concerns about the age being too young, or that you don’t want the beneficiary to get the entire inheritance at once, you could increase the age for receipt. You could also have a multi-stage distribution, to permit a beneficiary to withdraw a portion of the Trust at set ages, such as half at 25 and half at 30, or a third each at 25, 30 and 35. Remember that the trustee could be able to make distributions before then, but the beneficiaries (your children or grandchildren) couldn’t get direct control themselves unless the trustee believes they have sufficient financial experience.

Would you like to maximize tax deferral for your IRA’s and even, your stock ownership itslef?  If your goal is to encourage your children or grandchildren to maximize your IRA’s tax deferral and protect them from creditor or divorce problems after your death, you may want to supplement your living trust with an IRA Beneficiary Trust that can stretch out the annual required distributions.

Have you moved since your Trust was drafted or last reviewed?  Usually you do not need to make changes to your revocable trust if you move to say, to  North Carolina. However, it is a good idea to have your Trust reviewed by a North Carolina elder law estate planning lawyer to confirm that. Even if your revocable trust is ok – as-is, your other documents such as your Will or Powers of Attorney may need changes.

Can you simplify your Trust now that estate tax laws have changed? Estate tax rules have changed so that they don’t affect nearly as many people. As of December 31, 2020 and which expires in 2025, the lifetime gift tax exemption is currently at $11.58 million. The annual gift tax exclusion is today $15,000. Any gift over that amount given to a single person (s) in one year decreases both your lifetime gift tax exemption and the federal estate. Note however the IRS usually over values a business which can easiky eat up one’s estate tax excemption.

Other Key Questions

In setting up one’s Will and Estate, there are a number of other Key Questions, including but not limited to the below.

* When is a Descendant’s Estate Valued for tax purposes?

The estate’s tax year begins on the date on which the deceased person died. You, as executor, can file the estate’s first income tax return (which may well be its last) at any time up to 12 months after the death. The tax period must end on the last day of a month. Also, remember valuing an Estate can be a tricky problem, particularly in valuing Partnerships where there can be discounts for Lack of Marketability and Minority Discounts resulting from Limited Partnership Interests.

*How much insurance should one carry to offset potential tax liabilities or estate liquidity?

The answer to this should be left primarily to your estate advisors, typically your estate attorney, based on its liquidity.  Too often estates are composed mostly of fixed assets, which one should not be forced to sell in order to meet an estate obligations, the most important of which are taxes, outstanding liabilities plus Trustee and other Estate fees, such as legal and accounting, in order by a Court to bring an Estate to a successful conclusion.

*Should a Benefactor discuss their Estate before Death with their Benefactor(s)?

Absolutely! This is the best way to avoid Post Death problems among the benefinaries, including any corporate stock ownership and the control plus disposition thereof. Important here is that this is particularly important when the stock is not liquid or represents a controlling ownership position. Otherwise, the fees of your lawyers will be the beneficiary!

*Should Heirs Get Equal Shares of the Estate?

Parents have several different reasons for considering leaving unequal shares of their estates to children.  Some parents are tempted to leave a child less money because they believe he or she will waste it. A better approach in that case might be to leave that wealth in a trust with restrictions or with discretion by the Trustee. There should also be a contingent beneficiary in case the money is not distributed to the initial heir. Just remember that when children have unequal financial success in life, parents are tempted to factor this into their inheritances.

Just be aware, a financially successful child is likely to consider the inheritance to be a measure of your affection or will believe he or she is being punished for success if less affluent children receive greater inheritances. This one of the many reasons why one;s Will should be discussed with the Beneficiary before death,

Equal inheritances can be a major problem when a family business or other asset is involved. Many advisors believe children who aren’t involved in the business probably shouldn’t have voting ownership in it, at least not equal to that of the child actually running the business. Just remember that regardless of how you structure your Estate, there almost always is going to be tension between siblings who jointly inherit a business or similar property. A good solution might be to leave the business only to children who will be active in it and use life insurance to equalize the inheritances.

*Lifetime gifts and assistance when dividing up the estate.

One child might have received substantial assistance over the years that the other children didn’t. If you really want things to be equal, these lifetime gifts should be subtracted from their inheritances.

An alternative to equal inheritances is a Reserve Trust where one might  have about 80% of the estate distributed equally among the heirs. The other 20% is placed in a trust where it can be tapped for emergencies by any of the heirs at the trustee’s discretion. Just remember this can often create its own set of problems or it can provide valuable assistance to the least financially successful heirs or those who encounter unexpected problems.

*Long-Term Estate Planning?

It is fairly common these days for families to have 2nd spouses, stepchildren and other complications. Additional complications might arise after your death, for example if your spouse re-marries. Without careful planning for these situations, the final destination of your wealth will be in doubt.

*How the wealth will be bequeathed in his or her will.

A caution: Things could change after your death, and the wealth could end up in the hands of a 2nd spouse or beneficiaries other than your children.

There are a number of ways to deal with these situations, but the key is to decide what you want to do, implement a plan that will achieve the goals, and then let everyone involved know before your death. This usually eliminates post death problems for the benefactor can get any concerns out on the table so as to soften (if there is such a capability) post death angers among the intended heirs.

Very Important: remember as the Grantor of an Estate, the more answers that one pre-thinks can often eliminate post death problems, especially as they relate to the control of a business due to its post-death lost rate and hopefully a happy remembrance by the descendant’s beneficiaries, including the employes of a controlled business,

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Have a prosperous week, Keep the Faith!

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Paul A. Ebeling, a polymath, excels, in diverse fields of knowledge Including Pattern Recognition Analysis in Equities, Commodities and Foreign Exchange, and he is the author of "The Red Roadmaster's Technical Report on the US Major Market Indices, a highly regarded, weekly financial market commentary. He is a philosopher, issuing insights on a wide range of subjects to over a million cohorts. An international audience of opinion makers, business leaders, and global organizations recognize Ebeling as an expert.