By: Martin M. Shenkman, CPA, MBA, JD

Simple is best! The KISS principle (Keep It Simple Stupid) is supposedly a goal of many. But is simplicity itself really an appropriate goal? A simple document or plan may sound admirable, but what you really want is simplicity in result. Some examples include:

Document: A short will may be simple, but it could create a myriad of problems if the unexpected occurs. On the other hand, a comprehensive will requires more time to prepare, discuss and understand. But if the unexpected occurs and the situation is dealt with adequately, simplicity in result occurs.

Plan: One dimensional planning might be simple, but can often fail to achieve your goals. There are many different scenarios in which better planning and documents lead to simplicity in result.

Disability: Planning More than Insurance:

Disability insurance can be a great planning technique, but it is never the entire answer. To address business issues created by disability, evaluate business disability buyout insurance, business interruption insurance, and disability provisions in shareholders agreements. Personal disability insurance waiting periods can be coordinated with the salary continuation provisions that are contained in an employment or shareholders’ agreement. To address personal problems created by a prolonged illness, implement powers of attorney and health care proxy so that they can address decision making if you become disabled. A revocable living trust is a tremendous technique for disability planning. Having a home equity line and margin account in place can facilitate meeting short term cash flow needs through an emergency. Simple?

Offbeat Ways to Finance a Retirement Home:

The simple way to finance a retirement home is to use savings to pay for it or take out a mortgage. In some instances, something more unusual may fit the bill.

Life Insurance: Retirement is a time to re-evaluate all aspects of your planning, including life insurance. If you have life insurance you no longer need nor want, even in an irrevocable life insurance trust (ILIT), its value might be put to better use. Example: Husband has insurance on his life owned by an ILIT. Wife is a co-trustee and beneficiary of the ILIT. Husband recently sold his business and they are living in retirement on the investment returns from the proceeds. The primary and secondary needs for life insurance (to replace his earnings if he died, and to deal with the illiquidity of the family business) no longer exist. The only possible benefit of the life insurance is to address the estate tax. But, with a $5 million estate, a current federal estate tax exclusion of $2 million each, and an expectation of spending assets down, you may opt to cash in (or sell) the insurance. The trustee can terminate or sell the policy and distribute the cash proceeds to his wife, who uses it to buy the retirement home. Before cancelling or selling a policy, however, review all options first:

  • Keep the existing policy and trust.
  • Keep the existing policy and trust, but use various options to modify the coverage and or trust.
  • 1035 exchange or buy a new policy to better meet your new needs.
  • Cancel the policy and use the proceeds as above.
  • Sell the policy.

Rental: Evaluate converting your existing home into a rental property. It is not only a cash flow and income tax decision; there may be lots of estate tax bang to the plan too if you look at it as part of an overall estate plan. Convert your New York house to a rental and contribute it to a limited liability company (Realty LLC). Then, purchase your Florida retirement home and use the rental income (LLC distributions) to pay for your expenses. Transfer Rental LLC to another limited liability company that can own marketable securities and other investments (Investment LLC). Thus, Investment LLC owns Realty LLC (like a subsidiary). Ownership of Investment LLC can be given to heirs and irrevocable trusts to reduce gift and estate taxes, and protect assets from malpractice and other claims. The inclusion of the rental property may support larger valuation discounts to leverage the gift and estate tax benefits. If the rental property is worth $1M and the securities $1M, a 10% interest may be valued at $150,000, not its pro-rata $200,000 value. The rental property is a key to the entire plan because it is truly a non-liquid, non-marketable asset that creates real business purpose, and discounts for the Investment LLC (it differentiates their facts from many of the recent tax court cases ruling against taxpayers on these techniques). Your extra mileage out of the plan: cash flow for your retirement home, avoiding ancillary probate because the New York property is held by an LLC (assuming you become a Florida domiciliary), gift/estate tax benefits, asset protection benefits, and a cool plan! You get everything but simplicity.

QPRT: You may have given your primary residence into a qualified personal residence trust (QPRT) in order to transfer it to your heirs at a substantially reduced value for gift taxes. Your QPRT can sell your primary residence, and purchase a new home in the area you want to move following retirement. Same plan, new house. Different, but simple. When the trust ends, your heirs own the retirement home and you can rent the retirement home from their kids. This is a great way to reduce estate taxes by transferring more money to your heirs as rent.

Selling A Closely Held Business:

Selling a closely held business can be viewed from a simple perspective: sell the stock and report a capital gain. Invest the proceeds. But there are many more planning techniques that might help you achieve an array of goals, including income tax savings, gift/estate tax savings, charitable goals, and more. Usually some combination of techniques, while more complex than a single plan, can help you better tailor the results to meet your overall goals:

Gift part of the business interests to a charitable remainder trust (CRT) before the sale. (Donate property or money to a charity, reserving the right to use the property, or to receive income from it for a specified time. When the agreed period is over, the property belongs to the charitable organization.) Use the charitable contribution deduction to offset some of the gain on sale. The CRT can provide cash flow for your life, and the life of your spouse. Most CRTs are structured as CRATs (charitable remainder annuity trusts), which make fixed annuity payments. If you will rely on the cash flow for a long period, use a CRUT (charitable remainder uni-trusts). The annual payment you receive, a unitrust payment, is a percentage of the trust value each year, so it can increase over time as your portfolio grows.

An insurance trust (ILIT) might be used to replace the stock value given to the CRT. Some planners call this a “wealth replacement trust”. Set up an ILIT. It buys insurance on your life. On death, your heirs receive the insurance in lieu of the value of the business given to charity using a CRT. A CRT may also be structured with a donor advised fund.

Use a simple sale for part of the transaction. Often, it is advisable to leave a portion of the sale unencumbered by planning so that you have unfettered use of the money. While a CRT offers benefits, you cannot access more money in any year than the CRT formula provides for.

Gift shares of stock to trusts for heirs well before the sale strategy is pursued. This can sometimes be done at a lower value, and can be further reduced by discounts. Use trusts for these gifts to assure control over the stock and to protect the gifts from divorce, etc.

“Fancier” leveraged gifts of stock using Grantor Retained Annuity Trusts (you receive an annuity for a fixed number of years, and then the heirs receive the assets), note sales to defective grantor dynasty trusts (e.g. a Delaware perpetual trust that will be taxed to you as grantor), and other sophisticated techniques can also be explored.

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