IT PAYS TO KNOW: Wealth Transfer Planning

By JUDD MATSUNAGA, Esq.

I was playing the back nine at Brookside Golf Course when my golf buddy says, “Say, Judd, is there any way I can protect my 88-year-old mother from scammers? I’m worried that she might be talked into giving away money or one of her properties.”

“Does she have capacity?” I asked. “Yes,” he answered. I continued, “Well, if she has capacity, she can do whatever she wants to.” “I know,” he said. “It’s just that she’s starting to lose it mentally and I’m concerned some caregiver or someone is going to convince her to give away her assets.”

“What’s she worth?” I asked. He answered, “Mom’s got a home, several investment properties, and some investment accounts. Altogether, she’s probably worth between $4 to $5 million.” “Is she terminal?” I asked. “No,” he answered, “she might outlive all of us.”

I continued, “Well, I’d suggest she does like the rich and famous do and set up a series of irrevocable trusts to minimize or eliminate federal estate taxes upon her death.” “Say what?” he asked. “Death is inevitable,” I answered. “Estate taxes are not. In other words, your mom has an opportunity to transfer her estate now and avoid paying any federal estate taxes in the future.”

In my last article, entitled “You Can’t Take It With You” (Saturday, July 11, 2015), I ended with the following statement: “…there are three basic ways the rich and famous transfer wealth to their heirs: 1) If married, use both estate tax exemptions; 2) Remove assets from your estate before you die; and 3) Buy life insurance to pay any remaining estate taxes.”

If you and your spouse have been fortunate enough to have accumulated wealth, the first thing you will want to do is use both estate tax exemptions. As of 2015, there is a $5.43 million exclusion for each spouse. Together, a married couple can pass $10.86 million to their heirs without paying any federal estate taxes.

The basic method to use both estate tax exemptions is the A-B trust (also known as a bypass trust), which preserves the estate exemption of the first spouse to die and also enables the last surviving spouse to utilize the exemption — essentially doubling the amount exempted from the estate tax.

For example, let’s say Tak and Sumi have a combined estate of $10 million. If Tak dies first, a tax-planning provision in their living trust splits their $10 million estate into two trusts of $5 million each. When Tak dies, his trust uses his $5 million exemption. When Sumi dies, her trust uses her $5 million exemption. This reduces their taxable estate to $0, so the full $10 million can go to their heirs.

Control is also a major benefit of proper planning. For example, let’s say that Tak is very concerned that if he dies first, Sumi might remarry some shyster. Who knows if he’ll spend all his money or take control over how his share of the assets are managed or distributed? However, with the bypass trust, Tak can keep control over how his share is managed and distributed.

The second way the rich and famous transfer wealth to their heirs is to remove assets from your estate before you die. As a Medi-Cal planning attorney, we use this wealth transfer technique all the time. For example, let’s say Tak has Alzheimer’s disease. Sumi has been caring for him for years, but can’t do it any longer.

If Tak has to go to Keiro Nursing Home, Medicare won’t pay. What’s more, Sumi is informed that because they have a home and savings over the Medi-Cal asset limits, they do not qualify for Medi-Cal. Sumi is told that she must privately pay $8,000-$10,000 a month for the cost of Tak’s long-term care.

What Sumi is not told is that Sumi is legally allowed to transfer her excess assets to her children in order to qualify for Medi-Cal. But be careful! If done improperly, Medi-Cal will impose a “three-year waiting period” (actually a penalty period of ineligibility) for making a gift.

The good news is that with proper Medi-Cal planning, Sumi can legally transfer their excess assets in order to qualify for Medi-Cal benefits without triggering the three-year waiting period. “Say, Judd, are you saying that my parents may not have to privately pay for nursing home care for three years?” YES, and we can protect the house too!!!

“But Judd, I plan to live another 10 good years. I’m going to need my money and don’t feel comfortable transferring my estate to my kids.” That’s where irrevocable trusts, i.e., “GRITs” (and the like) come in. A “Grantor Retained Income Trust” (GRIT) is a grantor trust in which the grantor transfers property in trust, but retains the right to receive the trust income for life.

The benefit is to reduce the valuation of property for federal estate tax purposes upon the death of the grantor. The federal estate tax laws require only that the income interest retained by the grantor be included in the grantor’s estate upon his or her death. This usually means a substantial discount from the full value of the property.

“Judd, my kids are doing fine. I want to make gifts to my grandchildren. Can I do that without paying ‘generation-skipping transfer taxes’?” As of 2015, you can transfer up to $5.43M in assets during your lifetime to a grandchild(ren) without paying taxes. The assets can be transferred while living (by gift) via an irrevocable trust or at death (by devise/bequest) via a revocable trust.

The problem occurs if assets being transferred to grandchildren are over $5.43M. The generation-skipping transfer tax (GST) is paid in addition to the gift or estate tax. Essentially, the transferor pays twice.

For example, Grandma (a widow) has an estate worth $7M. While living, Grandma gifts to Grandson $6M. Because this exceeds the $5.43M gift tax exemption AND the $5.43M GST tax exemption, Grandma will have to pay 40% of $570,000 ($6M – $5.43M) for the gift tax and 40% of $570,000 ($6M – $5.43M) for the gift tax.

If your estate consists of multiple pieces of property, i.e., real estate heavy, transferring assets now makes a lot of sense since it would take any future appreciation out of your estate. However, gifted assets keep your cost basis (what you paid for them), so recipients may pay capital gains tax if they sell.

Finally, for the super-wealthy Rafu readers (single estates over $5 million, or married estates over $10 million), using an Irrevocable Life Insurance Trust (ILIT) can give your heirs the money to pay the estate taxes. You maximize wealth transfer by paying pennies on the dollar using life insurance.

Without an ILIT, the value of the life insurance policy would count towards your estate and increase the estate taxes owed. The benefit of the ILIT is to exclude the life insurance proceeds payable on the death from federal estate taxation. By keeping it separate, you can roughly calculate how much estate taxes will be and then buy a policy that will provide enough money to pay them.

Bottom line — if you have wealth, the best estate planning is done while you’re still alive. See your estate planning attorney to “customize” a family wealth transfer plan that minimizes taxes and maximized wealth transferred while fulfilling fiduciary responsibilities.

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Judd Matsunaga, Esq., is the founding partner of the Law Offices of Matsunaga & Associates, specializing in estate/Medi-Cal planning, probate, personal injury and real estate law. With offices in Torrance, Hollywood, Sherman Oaks, Pasadena and Fountain Valley, he can be reached at (800) 411-0546. Opinions expressed in this column are not necessarily those of The Rafu Shimpo.