Alliance for Retirement Prosperity: The Anti-AARP?

September 24, 2010 By 7 Comments

I think of the AARP as a good organization, one that looks out for the needs of its elderly members and keeps them informed on relevant issues.  As such, I would have thought that the AARP would be one of the most non-controversial advocacy groups in Washington.  But apparently not.

Politico recently reported that a new anti-AARP group is being formed to counteract what it believes is a left-wing agenda of the AARP.  The new group, which is called the Alliance for Retirement Prosperity [update 01/12/12: There used to be a link here, but I took it down because the site had turned into an ad site.  I guess the Alliance didn't work out], has its cross hairs fixed on repealing President Obama’s recent health care law and reforming Medicare and Medicaid. Its purpose is to provide a “conservative challenge” to the AARP.  With a only about $5 million in funding compared to the AARP’s $1.42 billion (with a “b”) in revenues in 2009 alone, it has its work cut out for it.  But it seems to be off to a fairly decent start.

What intrigues me most about this group is its business model.  The Alliance will be a for-profit endeavor.  Alliance President Larry Hunter, who is also a top Republican advisor, believes the group’s for-profit status will differentiate it from other advocacy groups that have unsuccessfully attempted to compete with the AARP.  Hunter stated:

As a for-profit business, the Alliance will use the market forces of competition among its vendors to deliver a wider array of products and services at better prices to its members.

In contrast, most advocacy groups (like AARP) are non-profit.  I am an advocate for nonprofits and have represented a fair number of them.  But I must admit that at times I don’t see a policy justification for exempting certain activities from taxation.  And I have sometimes wondered if the lack of a profit model contributes to the lackluster performance of some membership-based nonprofits. I expect that most folks will view the stated purposes of the Alliance with it’s for-profit model in mind.  After all, we know that some people could get rich off of this, and we must assume that this is at least one if not the primary purpose of the group’s founders.  But it will be interesting to see the organization can overcome the “taint” of the for-profit motive to achieve its policy objectives.

Filed Under: Elder Law Tagged With: ,

New Tax Rules for Executors in 2010

September 22, 2010 By Leave a Comment

I commented recently about the IRS’s new FAQs about the New Tax Rules for Executors for 2010 and how they provide an indicator about how the IRS views property held in revocable trusts for purpose of the 2010 basis rules.  I thought I’d follow up to summarize some of the other salient points of the FAQ.

Reporting. The IRS also clarifies (as if there were any doubt) that the estate and GST tax are fully repealed in 2010 but that the gift tax is still in effect.  Because there is no estate tax in 2010, taxpayers should not file a Form 706.  Those who do will have it returned.  But taxpayers must still file Form 709 for gifts made in 2010.  Executors are, of course, still required to file the final Form 1040 for the decedent and the Form 1041 for the estate.

The FAQ references the new tax return required to allocate the allowable basis adjustment under IRC § 1022 to property acquired from a decedent.  This return is required if the property’s value exceeds $1.3 million or if the decedent acquired the property by gift (except gifts from the surviving spouse) during the 3-year period ending on the date of the decedent’s death and the donor was otherwise required to file a return to report the gift.  The IRS is apparently still working on the form for these returns.  But they are due by April 15, 2011.

The executor must also provide a written statement of the information included on this special return to each recipient of property listed on the return.  The statement must be provided within 30 days after the filing of the return.

Assessing the Current Situation.  The FAQ states the obvious about 2011 law:  the estate tax repeal will end on January 1, 2011, and come back in with an exemption amount of $1 million; the GST tax will come back in at $1 million, indexed for inflation; and the maximum estate tax rate will be 55 percent.

The IRS assures taxpayers that they are closely monitoring the situation and will react quickly to any changes:

We are monitoring the current state of the estate, gift and GST tax law and proposed changes in Congress.   If legislation is enacted regarding the estate, gift and GST taxes, the IRS will act swiftly to assess the impact of such legislation and provide guidance to taxpayers regarding their tax obligations and filing requirements.

But in a few candid responses, the IRS admits that they are as in the dark as any of us regarding the future of the estate tax.  In response to questions about whether Congress would retroactively reinstate the estate tax for decedents dying in 2010 and whether Congress would change the exemption amount and rates for 2011, the IRS reply is “We do not know.”  It sounds like the IRS and estate planning attorneys are strange bedfellows for the time being.

Filed Under: Estate Planning, Estate Tax, General Probate Tagged With: , , , , ,

IRS Clarifies 2010 Basis Rules for Revocable Trusts

September 21, 2010 By Leave a Comment

New FAQs indicate that property held in a revocable trust should qualify for allocations of basis increase

The IRS has published a webpage on FAQs about the New Tax Rules for Executors for 2010 (Update: the original IRS webpage has been taken down; most of this information is now contained in Publication 559).  While most of these rules are not groundbreaking (Q: Is the estate tax repealed for decedents dying in 2010? A: Yes.), they do provide guidance about how the IRS will apply the 2010 basis rules to property held in revocable trusts.

The lapse of the estate tax for 2010 was accompanied by a new set of basis rules that replaced the taxpayer-friendly “stepped-up” basis rules with a modified carryover basis regime.  Generally, for the estates of decedents who die in 2010, the basis of assets acquired from the decedent is the lesser of the decedent’s adjusted basis (carryover basis) or the fair market value of the property on the date of the decedent’s death.

There are two “coupons” that taxpayers can apply to reduce the harsh consequences of the new carryover basis system.  First, the executor can allocate up to $1.3 million (increased by unused losses and loss carryovers) to increase the basis of assets left to anyone.  Second, the executor can allocate an additional $3 million to increase the basis of assets passing to a surviving spouse, either outright or in a Qualified Terminable Interest Property (“QTIP”) trust.

The 2010 basis rules, which are found in IRC § 1022, apply to property “treated as owned” by the decedent and “acquired from the decedent.”  There has been some discussion about whether property owned by a revocable trust would qualify.  Two views have emerged.  The more conservative view is that since IRC §  1022 deals with what is or isn’t owned by the decedent for purposes of basis allocation and does not mention revocable trusts, revocable trusts do not qualify for the basis increase.  In other words, because IRC § 1022 does not reference the grantor trust rules, property owned by a grantor trust is not “treated as owned” by the decedent and is therefore ineligible for basis increase.

The other view, which I hold, is that property owned by a grantor trust under the rules of IRC §§ 671-678 are treated as wholly-owned by the grantor and therefore should qualify for the basis increase based on the plain language of the rules themselves.  The IRS appears to agree, although with some timidity.  The FAQs state:

All of the decedent’s property was held by a revocable (or living) trust.  Can the basis of that property be increased as well?
Probably yes. The decedent is treated as owning property transferred by the decedent during life to a qualified revocable trust (as defined in section 645(b)(1)).

While this language falls short of binding guidance on the issue, it should give taxpayers some comfort that property held in a revocable trust will be eligible for basis step-up under IRC § 1022.

Filed Under: Estate Planning, Estate Tax, Trusts & Trustees Tagged With: , , ,

Asset Protection Attorney Publishes Charging Order Chart

September 20, 2010 By 1 Comment

Asset protection attorney Mark Merric has recently published an LLC charging order table that summarizes the laws of each state regarding charging order protection.  In light of the recent Olmstead decision holding that a charging order may not be the exclusive remedy for single-member LLCs, wealth advisers should review the chart to determine how the laws of their particular jurisdiction treat this topic.

The charging order table weights four key factors to evaluate each state’s charging order protection.  The factors are:

  1. Whether a creditor can petition a court for judicial dissolution of an LLC (only 5 states allow this: Hawaii, Illinois, Montana, South Carolina, and Vermont);
  2. Whether state law allows for the judicial foreclosure sale of the member’s interest (a disturbing number of states are silent on this issue);
  3. Whether state law allows or prohibits a judge from using a “broad charging order” to restrict an LLC from engaging in certain transactions, such as making distributions, loans, or capital acquisitions; and
  4. Whether state law permits or prevents equitable remedies (constructive trust, resulting trust, alter ego, reverse veil piercing) to reach the underlying assets of the LLC.

In Alabama, creditors may not petition the court for judicial dissolution.  A charging order is the sole remedy, and a judicial foreclosure sale of the member’s interest is precluded.  However, Alabama law is silent about whether a judge could use a “broad” charging order to restrict LLC activities, and it appears that equitable remedies could be used to reach the underlying assets of the LLC.

Mississippi law on charging order protection isn’t substantially different from Alabama.  Creditors cannot petition for dissolution, and equitable remedies may be available to reach the underlying assets of the LLC.  But Mississippi law is silent about whether a “broad” charging order would be available or whether a judicial foreclosure of a member’s interest could be an effective remedy.

As we recently indicated, Florida law on this issue may be in a state of flux.  In a divided opinion, the Florida Supreme Court held that charging orders are not an exclusive remedy for creditors of an LLC.  Some commentators have argued that the case was wrongly decided and that the dissent was correct.  In any event, it is possible if not likely that the Florida legislature will clarify this issue under Florida law.

Filed Under: Estate Planning Tagged With: , , ,

FTC v. Olmstead: Don’t Use Single-Member LLCs for Asset Protection

September 13, 2010 By 1 Comment

The recent decision of Olmstead v. FTC[1] could be a sign of things to come for single-member limited liability companies as an asset protection planning device.  In Olmstead, the Florida Supreme Court forced the member of a single-member LLC to transfer his LLC interest to the creditor, rejecting the member’s argument that the charging order should be the exclusive remedy to the creditor.

Under the laws of most states, LLCs are charging-order protected entities.  This means that a creditor’s remedies are restricted to a “charging order” against distributions made to the LLC owner.  If a charging order is the exclusive creditor remedy, the creditor cannot actually take the ownership interest in the LLC or seize the assets of the LLC.  The creditor must simply wait for distributions to be made to the member.  If none are made, the creditor is out of luck.

To understand the Olmstead decision, it is helpful to consider the policy behind charging order protection.  Say George and Dick establish an LLC to conduct consulting activities.  The LLC invests in real estate which will be used as a corporate office.  Dick is then involved in a hunting accident and ends up with a judgment against him.  Should Dick’s judgment creditor be able to seize Dick’s LLC interest or the corporate office owned by the LLC?  In most states, the answer is no.  But this is not to protect Dick.  It is for George’s sake.  George is an innocent party and should not be penalized for Dick’s misdeeds.  From a policy perspective, George should not be forced into partnership with the judgment creditor, nor should his interest in the business assets be placed at risk.  This rationale is embodied in the concept of charging order protection.

But does this same policy apply in the case of single-member LLCs?  Remember that the charging order is intended to protect the other members of the LLC.  When and LLC has no other members, there is no policy ground for protecting the LLC interest or the underlying asset from the reach of legitimate judgment creditors.

The policy of charging order protection underlies the tension in the Olmstead case.  The case involved assets—including single-member LLC interests— that were subject to a receivership.  The FTC obtained a $10 million judgment and asked the court to compel the debtor to surrender h is interest in the single-member LLC.  The debtor argued that Florida law provided charging order protection and thus that the creditor’s sole remedy should be the right to distributions from the LLC.

In a 5-2 decision (with a strong dissent), the Florida Supreme Court sided with the FTC, holding that the statutes governing LLCs (unlike other charging-order protected entities like limited partnerships and limited liability partnerships) did not clearly state that charging order was the exclusive remedy.  The Court stated:

[T]he statutory charging order provision does not preclude application of the creditor‘s remedy of execution on an interest in a single-member LLC. In line with our analysis, we rephrase the certified question as follows: ‘Whether Florida law permits a court to order a judgment debtor to surrender all right, title, and interest in the debtor‘s single member limited liability company to satisfy an outstanding judgment.’ We answer the rephrased question in the affirmative.

In other words, the Court felt that the absence of specific language making the charging order the exclusive remedy left the door open for other remedies.

This case should prompt the Florida legislature to clarify whether charging order protection is the exclusive remedy for LLCs.  Hopefully they will address the applicability to single-member LLCs while they are at it.  This should provide the much-needed clarity that is lacking in most states.  For example, Mississippi’s statute on “Rights of a Creditor” of an LLC provides:

On application to a court of competent jurisdiction by a judgment creditor of a member, the court may charge the limited liability company interest of the member with payment of the unsatisfied amount of the judgment, with interest. To the extent so charged, the judgment creditor has only the rights of an assignee of the limited liability company interest. This article does not deprive any member of the benefit of any exemption laws applicable to his limited liability company interest.

Under the plain language of the statute, the charging order is the only remedy listed as a right of a creditor of a Mississippi LLC.  But it doesn’t specifically state that the remedy is exclusive.  This could leave the door open for an argument that other remedies should be available (although I believe this should not be the result under Mississippi law).

This ambiguity has been latent in state law for several years now, since the issue first arose in bankruptcy litigation.  Bankruptcy courts in Idaho, Maryland, Idaho and Colorado have used the Federal bankruptcy powers to enforce remedies other than charging orders against single-member LLCs.  We have long recommended that, if used for charging order purposes, LLCs should have at least two members and a valid business purpose.  Otherwise, the asset protection benefits of a charging order may vanish when needed most.

[1] Olmstead v. FTC, 2010 Fla. LEXIS 990 (June 24, 2010).

Filed Under: Estate Planning Tagged With: ,

Making Good Use of GRATs in 2010

September 6, 2010 By 1 Comment

With the scheduled reinstatement of the Federal estate tax less than 4 months away, many taxpayers are taking advantage of the current low-interest-rate environment to use estate freezing techniques.  Estate freezing strategies are designed to limit future estate tax value of an asset to its current value (“freeze” the value) and allow future growth to pass to the taxpayer’s beneficiaries free of gift or estate tax.

Estate freezing techniques are usually used to supplement and enhance a solid gifting strategy.  Although there is no estate tax in 2010, there is still a gift tax of 35 percent.  Taxpayers are allowed to make annual exclusion gifts of up to $13,000 per done (doubled to $26,000 for married couples) without incurring gift tax.  But gifts in excess of the annual exclusion will chip away at the taxpayer’s $1 million lifetime exclusion.

Grantor-retained annuity trusts (GRATs) are popular estate freezing techniques.  GRATs are irrevocable trusts in which the grantor retains an interest that is a “qualified” interest under the Internal Revenue Code.  The grantor transfers property into the trust, which provides that the grantor will receive a fixed annuity on at least an annual basis for a number of years.  At the end of the trust term, whatever is left in the trust after the annuity has been fully paid will go to the remainder beneficiaries.  The “gift” is the theoretical value of the remainder, which is calculated using a statutory interest rate known as the 7520 rate.

GRATs are appealing in a low-interest rate environment because the 7520 rate is correspondingly low.  The value of the grantor’s retained interest is “frozen” at the value of the contribution plus the 7520 rate.  If the assets in the trust out-perform the 7520 interest rate (2.4 percent for September), the excess will be transferred to the remainder beneficiaries free of gift tax when the trust term ends.

The most aggressive GRAT strategy—and one which may soon be limited—is the “zeroed-out” GRAT.  By manipulating the amount of the retained annuity and the term of the trust, it is possible to set the GRAT up so that the value of the retained interest is technically worth nothing.  If the assets outperform the 7520 rate, all of the assets remaining in the trust at termination will pass to the remainder beneficiaries free of gift or estate tax. If the asset does not out-perform the 7520 rate, the assets are simply returned to the grantor at the end of the trust term and the grantor is in no worse position than if the trust had not been established.  Because zeroed-out GRATs have little downside and can yield big tax savings, they have become increasingly popular in recent years.

Many fear that we may be nearing the end of the era of the GRAT as an estate-planning tool.  President Obama’s 2011 budget projects almost $3 billion in savings from restricting the use of GRATs, and the Joint Committee on Taxation believes that restrictions on GRATs could raise almost $4.5 billion over 10 years.

In the current political environment, some believe that Democrats will curb the use of GRATs in order to raise revenue for other tax breaks or for spending.  And we have seen recent proposals to do just that.  For example, the Small Business Tax Relief Act of 2010 proposed by Rep. Sander M. Levin (D-MI) on July 30, 2010, would require 10-year minimum term for GRATs (compared with the current 2-year term).  Since all of the GRATs assets are included in the grantor’s estate if he or she dies within the term, extending the term from 2 to 10 years would make it much more likely that the full value of the GRAT will be subject to estate tax.  This increased “mortality risk” could curb the use of GRATs for gift tax savings.  Other bills have proposed to limit the use of zeroed-out GRATs.

If the proposals to curb the use of GRATs are ultimately successful, changes would probably not be effective until the date the proposals are signed into law.  Many taxpayers are seizing the current opportunity to take advantage of the low 7520 rate and establish GRATs before the law changes.  Others are shifting assets from existing GRATs into new ones with lower interest rates.  Those who are concerned with the reinstatement of the estate tax in 2011 should consider incorporating GRATs into their estate planning strategy.

Filed Under: Estate Planning, Estate Tax, Trusts & Trustees Tagged With: , , ,