Top Ten Tax Planning Issues and Opportunities for 2011 and 2012

A shifting political landscape indicates that current tax planning opportunities soon may no longer be available. We offer ten issues and opportunities to be mindful of in the coming year.

1. Basic Gifts

   Make sure you are taking full advantage of basic tax-free transfer opportunities:

   • Annual Exclusion Gifts: An individual may transfer $13,000 per donee per year. Married couples may transfer $26,000 per donee per year (either separately or if they file gift tax returns to split gifts).

   • Tuition (but not books, supplies, dormitory fees or board).*

   • Medical Expenses:* By taking advantage of these tax-free gifts year after year, over time, significant estate, gift and generation-skipping taxes (GST) can be saved.

* Tuition and Medical Expenses must be paid by the donor directly to the educational institution or medical care provider.

2. Larger Exempt Gifts

   Under current law, each individual may transfer up to $5 million ($10 million per married couple), less the value of any lifetime taxable gifts, tax free. This is a golden opportunity for those who can afford it. It is uncertain whether the exemption will be reduced in 2013 to $1 million as scheduled, and there is a small risk of retroactive recapture of used exemptions. Keep an eye on developments and be prepared to move fast if appropriate.

3. Take Care of Your Spouse

   The increased transfer tax exemption allows $5 million to go to a credit shelter or family trust tax free. Many estate plans employ formulas that fund this tax-free amount first, sometimes in ways that cannot be accessed by a surviving spouse, or with restrictions on access by a surviving spouse. Review your assets and estate plans to be sure your spouse is not left short.

4. IRAs and Retirement Benefits

   Roth Conversion: Yes, it’s a complex analysis. And if you elect to convert, the immediate tax bite hurts! But especially with possible income tax increases starting in 2013, this may be the time to bite the bullet and convert. Ask your tax adviser to calculate the conversion tax and potential savings before deciding to forego this opportunity.

   Traditional IRAs: Individuals with large taxable IRAs or other retirement benefits sometimes are willing to make charitable gifts if it doesn’t hit the family pocketbook too hard. Consider naming a charitable remainder trust as the IRA death beneficiary. Dramatically reduced income and transfer tax levels can be achieved, and the bulk of those tax reductions can benefit charitable beneficiaries at very low cost to the family. Also consider naming a charity as the sole IRA beneficiary at death.

5. Charitable Contributions

   Keep a close eye on the 2012 national elections and the content of the tax reform debate. If the benefit of itemized deductions is “in play,” consider accelerating your future contributions into a current year (but keep your eye on the charitable deduction limits and the impact of the alternative minimum tax). Also, don’t overlook the opportunity to make a direct charitable contribution of up to $100,000 from your IRA and avoid income tax on that $100,000, if you have reached age 70½. Although this opportunity could be extended to 2012 or later years (as Congress has done in the past few years), currently this opportunity is scheduled to “sunset” at the end of 2011.

6. Low Interest Rates

   Historically low current interest rates offer remarkable leveraged gifting opportunities, particularly when you factor in the current downturn of the stock market and depressed asset valuations. GRATs, sales to grantor trusts, family loans and charitable lead trusts are among the transfer techniques that are especially attractive in this low interest rate environment. For example, the current short-term rate, which is used to calculate the interest on a short-term family loan is 0.19% (as of November 2011). Short-term GRATS are a particularly attractive planning opportunity due to a low IRS hurdle rate of 1.4% (as of November 2011), depressed asset values and the potential that Congress will act to eliminate this opportunity in the future (adverse legislation currently is pending).

7. Decanting

   Review existing irrevocable trusts for possible improvements through decanting or merger into new trusts. Potential improvements include: directed investment provisions; trustee succession provisions that reflect the current needs of the family; utilization of domestic asset protection trust laws; possible state income tax advantages. Watch out not to lose GST grandfather status in older trusts.

8. Trust Situs and Residence of Individual Beneficiaries

   Trust Situs: Explore whether a change in the situs of irrevocable trusts will be beneficial from the perspective of state income tax or trust administration. This may be less onerous than decanting, while still generating important benefits.

   Domicile Change: Explore whether individuals are candidates for a change in domicile to a state with more favorable individual taxation (income, gift and estate) rules, friendlier trust rules and income tax regimes.

9. Creative Planning with Irrevocable Trusts

   Many families have irrevocable trusts that likely will terminate in favor of living family members who already have large estates. Explore whether those trust interests can be accelerated so that the recipient can take advantage of the current historically favorable climate for leveraged gifting techniques. Alternatively, explore possible assignment of the interests under the trust, using leveraged gifting techniques.

10. Family C Corporations

    Look out for changes in the tax rates applicable to dividends and capital gains. Will the 15% rate revert to something higher? If a family C corporation has significant accumulated earnings, a large dividend before the rates rise may be appropriate. If there are reasons to dissolve or merge the corporation that have not been implemented because of the tax cost, consider the opportunity to do so at a 15% federal rate that may not be seen again.