Washington Estate Planning & Dispute Resolution Advisor

Legal Same-sex Marriages Recognized for Federal Tax Purposes

Posted in Uncategorized

The United States Supreme Court, in the Windsor decision from June 26, 2013, invalidated as unconstitutional a portion of the 1996 Defense of Marriage Act (DOMA).  The Internal Revenue Service (IRS) and U.S. Department of Treasury ruled on August 29, 2013 that same-sex couples, legally married in jurisdictions that recognize their marriages, will be treated as married for federal tax purposes.  This federal status applies whether or not the jurisdiction in which the married couple lives recognizes their marriage.

“Today’s ruling provides certainty and clear, coherent tax filing guidance for all legally married same-sex couples nationwide.  It provides access to benefits, responsibilities and protections under federal tax law that all Americans deserve.  This ruling also assures legally married same-sex couples that they can move freely throughout the country knowing that their federal filing status will not change,” said U.S. Treasury Secretary Jacob Lew in his statement.

According to this ruling same-sex couples who have legally entered into marriage in one of the 50 states, the District of Columbia, a U.S. territory or a foreign country will be covered by the ruling for federal tax purposes-the treatment is the same as that of other legally married couples. This ruling applies to federal income, estate and gift taxes.

This ruling does not apply to registered domestic partnerships, civil unions, or other similar formal relationships-just marriage.  Accordingly, legally married same-sex couples may file their individual income tax returns as married filing jointly, married filing separately; head of household and qualifying widow(er) with dependent child.

Further, qualifying taxpayers may file amended returns for tax years still open under the statute of limitations.  The limitations period for filing a refund claim is three years from the date the return was filed or two years from the date the tax was paid, whichever is later.  The new ruling allows qualifying taxpayers to claim refunds for 2010, 2011 and 2012.

This is going to significantly change tax-related estate planning for married, same-sex couples.  No more unintended taxable “gifts” from one spouse to the other or missed estate-tax saving opportunities as the unlimited marital deduction will apply.

Both Treasury and the IRS intend to issue further guidance on these tax-related issues.


Spousal Access Trusts

Posted in Uncategorized

The Spousal Access Trust (SAT) or Spousal Limited Access Trust (SLAT) became popular in 2012 in anticipation of the $5.12 million lifetime federal gift and estate tax exclusion amount going away and being replaced by its $1 million predecessor.  The SAT is a trust created by a married individual primarily for the benefit of his or her spouse with his or her descendants as the remainder beneficiaries.  The SAT is essentially a credit shelter trust created during life.  Viewing the married couple as a family unit, this is a useful tool when a married individual wishes to remove some assets from his or her estate, utilizing his or her federal lifetime gift tax exemption amount while not technically giving up access to the gifted assets because his or her spouse is the beneficiary of the same.

The American Tax Relief Act of 2012 (“The 2012 Act”) makes “permanent” the federal estate tax exemption amount of $5 million indexed for inflation but that is really only as permanent as a law can be.  Even though this exemption is not scheduled to sun set at some certain point in the future as we have seen in the recent past, it certainly could change at some point in the future.  With that being said, it can’t hurt to create a SAT now in case the federal estate tax exemption amount does change at some point in the future.

A Useful Planning Tool for Washington Residents

Because Washington State imposes an estate transfer tax on estates valued at more than $2 million but does not impose a gift tax on lifetime transfers, making lifetime gifts through the use of a SAT can be a useful strategy for Washington couples.  This allows the married couple to reduce their assets below $2 million for Washington State estate tax purposes while still having access through the donee spouse to the assets in the SAT.

Because the donee spouse has access to the assets of the SAT, it can be a great planning vehicle for married couples who are concerned with tax planning but who cannot afford to completely part with their assets.  It is important to remember with any irrevocable vehicle to avoid a transfer that could result in the donor’s impoverishment down the road.

Avoiding the Reciprocal Trust Doctrine

When one SAT is created the donee spouse has access to the income as the beneficiary of the same but if that spouse dies, the donor spouse will no longer have access to the trust income through being part of that family unit as the trust will begin benefitting the remainder beneficiaries.  To avoid placing the surviving spouse in a position of potentially being unable to access a portion of the couple’s asset for the remainder of his life many couples place assets in two SATs, each creating one for the benefit of the other.  The potential problem with this arrangement lies with inclusion of the trust assets in the spouses’ respective estates under the reciprocal trust doctrine if the trusts are interrelated and the grantors are both left in the same economic positions as if the trusts had not been created.

There is not a bright line test to determine how different one trust must be from the other in order to avoid the trusts being deemed reciprocal.  Case law and private letter rulings have illustrated various differences between spouses’ trusts that will result in “non-reciprocal trusts” under this doctrine. There are several combinations of differences that can be included in each of the spouses’ trust such as: having one trust distribute all income annually while the other includes a provision for discretionary distributions related to health, education, maintenance and support; funding the trusts with different assets; giving one spouse a power of appointment; naming different remainder beneficiaries in each of the trusts; including a five and five power in one of the trusts but not the other; or allowing the trustee of one trust to make distributions to the secondary beneficiaries during the primary beneficiary’s lifetime.  The goal is to make the trusts different enough that they aren’t deemed reciprocal while still allowing them to have the terms necessary to meet the clients goals.

Retroactive Legislation

Posted in Estate Tax, Trusts, Wills

The Washington State Legislature is considering a bill to retroactively overrule a decision of the Washington State Supreme Court.  The decision is commonly known as the Bracken Case where the court held the state of Washington could not tax assets held in QTIP trusts funded prior to May 17, 2005 (the effective date of the Washington estate tax).   The state estimates $160 million in lost revenue.   The effect of the proposed bill (HB 1920) would be to tax trusts set up by estates of decedents who died as far back as the early 1980s.  There are clear constitutional issues with the proposed bill, but as important is that it is bad public policy.

This kind of legislation sets a terrible precedent and undermines the rule of law and the doctrine of separation of powers between the legislative and judicial branches, key foundations of our society at both the state and federal levels of government.  It also undermines public confidence in the executive (Department of Revenue) and legislative branches of government.

Our legal system is based on a system where taxpayers and other litigants can have their day in court, and once the highest court rules the parties implement the decision.  In many cases, there are other litigants waiting for the court’s final ruling, who stay “on the sidelines” so as not to clog the courts with duplicate cases and issues.  How does one have confidence in the legal system when a taxpayer or other litigant prevails in the highest court of the state but the rules are then changed by the Legislature after-the-fact and retroactively?

Another fundamental principal of our legal system is the doctrine of finality or final decision – where there is nothing open to further dispute and which ends the cause of action between the parties.  If citizens cannot rely on the finality of decisions rendered by the courts – especially those that have been exhaustively litigated from the trial courts to the state Supreme Court as was the case in Bracken – they may rightfully question whether they have a truly effective means of redress and relief from onerous decisions of the government, in which the courts are in most cases the last place taxpayer may go for relief.

If the legislature can retroactively take away the rights of taxpayers similarly situated to the taxpayers in Bracken, what other rights could be taken away?  If Bracken can be overruled retroactively, then the next logical step would be to double the estate tax rate retroactively, or perhaps raise even more revenue by retroactively increasing the state B&O tax rate and requiring all businesses to increase the taxes they have paid for the last five or ten years.  Extreme examples, perhaps, but they make the point that retro-activity is a slippery slope.

Finally, the Department of Revenue has been embroiled in costly and unsuccessful estate tax litigation for the last decade.  Is it really in the best interests of the citizens of our state to pass legislation that is likely to lead to even more estate tax litigation, which is also likely to go against the state?

Planning for Incapacity

Posted in Uncategorized

Incapacity doesn’t discriminate.  It is not limited to Alzheimer’s or Dementia.  Whether you’re 18 or 118, it is important to have a plan in place in the event that something renders you incapacitated for purposes of your finances and your health care.  If you become incapacitated, who will pay your bills?  Who will talk to your doctors for you?  Who will care for your minor children?  Who will handle your tasks of daily living if you are unable to?

In Washington an individual, a “principal”, may appoint another person, known as an “agent”, to act on his or her behalf in the event of incapacity.  An agent has a fiduciary duty to act in the best interest and according to the wishes of the principal with respect to the principal’s property and person.  A Durable Power of Attorney allows your agent to manage your financial assets and property.  It is designed primarily to avoid the costly and cumbersome process of a court-supervised guardianship which would be required to allow another person to handle your property and affairs if you were incapacitated.  It makes things much simpler and less expensive for your loved ones who would have responsibility to help you.  A Durable Power of Attorney also allows you to name a guardian for your minor children in the event you are unable to care for them.  Further, you can name someone to make health care decisions for your minor children if you are not available to do so.

In addition to appointing someone to care for your finances, you can give another individual known as your “health care agent” the power to make health care decisions on your behalf.  This person will be able to access your health care records and talk to your doctors in order to carry out your intentions about health care, such as enforcing or interpreting your health care directive and making medical decisions for you when you are unable to do so.  This document can include your healthcare directive or directive to physicians which is designed to advise your physician and your health care agent of your wishes with respect to terminating or withholding life-sustaining treatment, artificial food and hydration and pain management.

Choosing an agent for health care and financial purposes is a very important aspect of estate planning because it affects you and your life while you are still living.  It avoids your loved ones having to guess what your wishes would have been.

Planning with Minor Children

Posted in Children, Wills

Most people think that estate planning is only for the rich.  You may be thinking to yourself that because your estate is well below the $2 million Washington estate tax exemption, you don’t need an estate plan.  But estate planning isn’t just about deciding who will receive your assets, it is about taking care of the ones you love.

For those with minor children, the most common concern is who will care for your children if both parents are deceased.  Under Washington law, the only way you have input on the selection of your child’s guardian is by appointing that guardian in your Last Will and Testament.  RCW 11.88.080.  Unless the court finds a compelling reason that your choice is not qualified to serve as a guardian, such as imprisonment, the court shall confirm the parent’s nomination.  RCW 11.88.080.  If a parent does not name a guardian in his or her Will, any suitable person over age eighteen may be appointed by the court as the guardian of your child.  RCW 11.88.020.

As a parent, you are in the best position to decide who should care for your children.  Factors you may want to consider are a potential guardian’s religious affiliation, experience raising children, age, and other personal values that you would want to instill in your children.  A court judge, who has never met you and does not know your children, could appoint anyone he or she deems suitable to care for your children.  A judge’s criteria of suitability may radically differ from your own, especially when it comes to personal beliefs and child raising techniques.

Similarly, you will want to make sure your assets are given to your children and not wasted in court fees.  In Washington, minors cannot legally inherit property outright.  RCW 11.88.010(1)(d).  If property is given to a child outright, a court-supervised guardianship must be established, which can be a costly and burdensome process to administer until the child turns eighteen years old.  Instead, including a simple trust for your children in your Will, providing that a fiduciary will manage the funds for your children’s benefit, will avoid a court-ordered guardianship over those funds.  In your Will, you may choose when the trust is ultimately distributed to your child, dictate what the funds may be used for, and nominate a trustee to manage the trust.

If you have minor children, it is important that you properly execute a Will to name a guardian for your children and avoid a costly court-supervised administration of their inheritance.


Charitable Gifts Using IRAs for 2013

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The 2012 Tax Act revived the Individual Retirement Account (IRA) charitable rollover that was last seen in 2011.  This will allow folks who are over 70 ½ to direct that their required minimum distribution amounts (up to $100,000) be distributed to a qualified charitable organization.  The end result is the required minimum distribution is deemed to be taken as required, the charitable organization gets the distribution without paying any income tax and the taxpayer avoids inclusion in his adjusted gross income.  Note that such a gift is not included on the donor’s Schedule A of the Form 1040 and is not subject to the percentage limitations on charitable deductions with respect to this gift.

The 2012 Tax Act has also provided for such transfers to be deemed made in 2012 under certain circumstances.  Any portion of a required minimum distribution that was taken from an IRA during the month of December 2012 may be treated as a qualified charitable distribution if such distribution amount is transferred to a qualified charitable organization before the end of January 2013.

The Gift, Estate and Generation Skipping Transfer (GST) Taxes Lifetime Exemption

Posted in Uncategorized

The 2012 Act makes permanent the $5 million lifetime exemption amount for the federal gift, estate and GST amounts to be adjusted for inflation going forward.  The lifetime exemption amount for 2013 is $5.25 million.  The maximum federal rate has gone up from 35% to 40%.  The concept of “portability” between spouses from the 2010 Act has also been made permanent under the 2012 Act.

The federal gift and estate taxes remain unified.  This means that any amount of the lifetime federal gift tax exemption amount not used during an individual’s lifetime is available for federal estate tax purposes at death.  Any amount above the remaining lifetime exemption amount will be taxed at a graduated rate with the maximum rate being 40%.

Annual Gift Tax Exclusion

Back in October of 2012, the IRS announced that it was increasing the annual gift tax exclusion amount for 2013 to $14,000 (up from $13,000 in 2012).  This means that each individual can give up to $14,000 per donee in 2013 without chipping away at the $5 million lifetime exemption amount.  Essentially you can give up to $14,000 to every single person you know without using any of your lifetime gift tax exemption amount but any gift to a single donee in excess of the $14,000 needs to be reported on a Form 709 as individuals are charged with keeping track of all lifetime gifts over the annual exclusion amount, and then at death, the lifetime exemption amount will be reduced accordingly.

There is an unlimited gift tax marital deduction with respect to married couples when both spouses are U.S citizens.  This unlimited gift tax marital deduction is not available for transfers to a non-citizen spouse.  There is a special annual exclusion amount, $143,000 for 2013, which may be used for gifts to non-citizen spouses.  If total gifts to a non-citizen spouse exceed $143,000 for the year then the excess must be reported on a Form 709 as a taxable gift.

Note for Washington Residents

The above discussion relates to federal taxes and does not affect the Washington State estate tax.  The exemption amount for the Washington State estate tax remains $2 million.  The Washington State estate tax rate is a progressive rate starting at 10% with a maximum rate of 19%.  Washington State does not impose a gift tax and so lifetime gifts do not reduce the donor’s state estate tax exemption.  Estates that are paying federal estate tax can still deduct any estate tax paid to Washington on their federal estate tax return.      

Estate Planning for 2013

Posted in Beneficiary Designations, Divorce, Power of Attorney, Trusts, Wills

We survived the fiscal cliff and ended up with almost the same gift, estate, generation-skipping transfer tax laws we had in 2012.  The top rate is a little higher (40% versus 35%).  The inflation adjusted exemption is now $5.25 million versus $5.12 million in 2012.  Most important, the gift, estate and generation-skipping transfer tax laws are  permanent for the first time in 12 years  (or as permanent as a law can be when Congress meets every year).  Hopefully, now we can confidently do some long term estate planning.

Nonetheless, most of our clients will not have  a federal estate tax problem.  In fact, I tell my clients that I hope my wife and I have a serious federal estate problem.  While residents of the state of Washington still need to be concerned with our state estate tax as each person can only pass $2 million at death free of that tax, practitioners and clients need to be reminded that most of estate planning has nothing to do with taxes.

Clients still need to plan for one or more of the following:  incapacity of the client or of someone the client is caring for, care of minor children and the management of a child’s inheritance, care of elderly parents, asset protection, protection of the client’s assets from a future spouse of the surviving spouse, transfer of control of the family business, care and management of the family vacation property, charitable giving, etc.  This list is by no means exclusive, but is only intended to remind practitioners and clients that estate planning is, has been, and will be about a lot more than taxes.  Happy New Year everyone!

Funding Revocable Living Trusts

Posted in Trusts

You have just signed your Revocable Living Trust (RLT) for the purposes of avoiding probate in Washington State.  You go home happy thinking everything is completed, right?  Wrong.  A RLT will only govern assets that are held in the trust or that are conveyed to it.  This means that assets held in your individual name will be governed by your Last Will and Testament.  If you have executed a pour-over Will, those assets will still be subject to probate, even though the RLT will govern their distribution.  If you have not executed a Will and have not funded the RLT, then you have just died intestate (without directions as to how you want your estate distributed).  Likely, this is not what you intended upon executing, and paying for, a RLT.

Below is a checklist describing how to transfer some common assets to a RLT.  Note that a RLT with you as trustee do not need a new tax-identification number and your social security number can be used for all income tax reporting is done on your own tax return.  If you are not serving as trustee, a new tax-identification number is required even if all of the income is reported on your tax return.

√ Bank and Brokerage Accounts:  Checking, savings, and brokerage accounts may be transferred into the trust by either requesting the name of the account be changed to the name of the trust or by opening a new account in the name of the trust and transferring the assets to the new account.  While financial institutions vary on their procedures, usually you need only to show a copy of the trust document (or certificate of trust) to retitle or open an account.

√ Certificates of Deposit:  To transfer CDs into the trust, you will need to re-register the CDs in the name of the trust.  This should not incur a premature withdrawal penalty, as the CDs are only being re-registered, not withdrawn.  If a bank requires the redemption of the existing CD and purchase of a new CD, then it is likely best to wait to purchase a new CD in the trust’s name until the maturity date of the existing CD to avoid any interest penalties.

√ Securities (Stocks, Bonds, and Mutual Funds):  For investment securities held outside of a brokerage account, you will need to re-register each stock, bond, or mutual fund in the name of the trust.  If you have a broker, then the broker will usually perform the re-registering as a courtesy.  Similar to CDs, you will want to emphasize that you are not selling the assets in an individual capacity and buying them again in the name of the trust (which may result in adverse income tax consequences), but are only re-registering the assets.  For publicly traded securities, it is easier to transfer those assets at your death if they are held in “street name” (in a brokerage account) than if they are held in your name, individually.

√ Business Interests:  Interests in a partnership or LLC may be transferred into the trust through an assignment of interest.  Most partnerships or LLCs allow partners or members to assign their interests to trusts for estate planning purposes; however, often the trust will not become a partner or member without approval by the existing partners or members.  Therefore, the trustee may not be able to vote in partnership or LLC matters on behalf of the trust.  You should check the partnership or operating agreement for restrictions on assignment and membership.

√ Real Estate:  You can transfer the family home or vacation residence to the trust by signing a deed transferring the property from yourself, as an individual, to yourself, as trustee for the trust.  The deed should be recorded in the county where the property is located.  For property in Washington State, a real estate excise tax affidavit must also be filed with that county’s treasurer, although the transaction is exempt from excise tax.  You should also be sure to check with your homeowner’s insurance to determine whether the policy should be amended to add the trust as an insured party and obtain prior approval of any mortgage holder prior to transfer.  Note that for property outside of Washington State, a nominee trust may be more appropriate.

How an Adult Adoption Can Thwart Your Estate Plan

Posted in Trusts, Wills

One concern that probably doesn’t come to mind when you are thinking of preparing your estate plan is, “should I be worried about adult adoption?”  While it is not a common practice, adults are adopted in many states in the United States and for many different reasons.  The practice has been in the news lately, and not in a good way, in the trial of John Goodman, who is accused of killing another driver in an alleged DUI incident.  In that case, Mr. Goodman adopted his girlfriend, who is six years his junior, in what prosecutors are calling an attempt to shield assets in a wrongful death civil suit.

Another recent case, and which is much more heartwarming, comes from Washington State, where Sandra and Ross Titus adopted their co-worker, Jillian, in 2010.  As described in this TODAY show piece, the three felt a familial bond and wanted to legally solidify that bond through adoption.

You can imagine how this could affect the distribution of your estate.  Imagine you set up a trust under your Will for your only daughter, “Penny,” for her lifetime.  After Penny’s death, the trust is distributed to her children (your grandchildren) equally.  Sounds great, right?

Now let’s imagine that after your death, Penny decides to adopt an adult (let’s call him “James”).  Under Washington law, any person may be adopted, RCW 26.33.140, so long as the adoptee gives his consent to the adoption if he is over 14 years of age.  RCW 26.33.160(1).  Thus, James then becomes Penny’s child and is entitled to inherit from your daughter’s estate.  RCW 11.02.005(4).  That means that now James may share with your daughter’s other children in the distribution of the trust created under your Will.  Instead of being distributed in half to your two grandchildren, the trust would be split into thirds: 1/3 for each grandchild and 1/3 for the adult adoptee.

Perhaps this issue is not a big deal if Penny adopts her husband’s child from another marriage that she helped raise, but just didn’t get around to formally adopting until after the child became an adult.  But what if your daughter adopted the pool boy five years her junior?  Would you feel differently?

Here’s another scenario: What if Penny does not have children of her own.  The trust under your Will states that if there are no grandchildren, then the trust shall be distributed to your favorite charity.  But if Penny adopts the pool boy, the charity gets nothing because the entire trust will be distributed to the pool boy on her death.  Is this what you intended by setting up the trust?

If the “pool boy” scenarios don’t sound like how you would like your estate to be distributed, there is a simple fix that can be done when your Will or Revocable Living Trust is drafted to further define the default rules of adoption and inheritance laws in Washington State.  My recommendation is to include language in your Will or Revocable Living Trust that limits the definition of “descendants” or “issue” to children born or adopted before age 21.  This limitation could help prevent the unintended consequences of adult adoption as it relates to your estate planning.