The Power and Functionality of Lifetime QTIP Planning Presented by: Lewis W. Dymond

1. The Power and Functionality ofLifetime QTIP Planning Presented by: Lewis W. Dymond

2. The Lifetime QTIP Trust • Part of the WealthDocx® Advanced System. • An irrevocable trust created by one spouse for the benefit of the other spouse. • Completed gift for gift and estate tax purposes. • Qualifies for unlimited marital gift tax exemption. • Donor-spouse can be a remainder beneficiary.

3. Traditional Uses of the Lifetime QTIP • Increase the value of a non-property spouse to take full advantage of both applicable exclusion amounts. • Protect assets of one spouse from the claims of future, unknown creditors by giving those assets to the other spouse. • Marital planning agreements. • Pre-Marital agreements. • Post-Marital agreements. • Divorce settlements – pre-decree.

4. Better than an Outright Gift • Outright no control in the event of death or divorce. • Lifetime QTIP can control the ultimate distribution after death even in the event of divorce. • May limit spouse’s access to income only. • May allow discretionary distributions of principal. • Provides asset protection from donee-spouse’s creditors. • Determine management and distribution of assets upon death of donee-spouse. • Structured distribution to desired beneficiaries. • Can include donor-spouse as a remainder beneficiary.

5. Caveat: Divorce Considerations Lifetime QTIP - marital planning agreement. • If QTIP may be taken into account in the event of a divorce, possibly includible in Grantor’s taxable estate because it discharged a legal obligation. • IRC §2036(a)(1) – Retained Life Estate. • Reg. §20.2036-1(b)(2). • Reg §25.2523(f)-1(d)(1). • If married, a marital deduction should be allowed. • Include statement that cannot be used to discharge a legal support obligation of donor-spouse. • Donor-spouse should not serve as Trustee if discretionary distribution of principal permitted.

6. The Lifetime QTIP • Statutory Authority: • IRC §2523(f) – Gift to Spouse; Election with respect to life estate for donee-spouse. • Treas. Reg. §25.2523(f) – 1. Election with respect to life estate transferred to donee-spouse. • PLRs – 200406004; 9731009; 9437032 and 8944009.

7. Drafting the Lifetime QTIP Trust • An irrevocable trust created by one spouse for the benefit of the other spouse. • Completed gift for gift tax purposes. • Avoid estate tax inclusion in donor’s estate. • Qualify for unlimited marital gift tax exemption under IRC §2523(f).

8. Qualifying for Marital Deduction • Spouse must be a U.S. citizen; no QDOT. • Reg. §25.2523(i)-(1)(d), Examples 3 and 4. • Testamentary gpoa, qualify for $100,000 special annual exclusion; but only to the extent of the lifetime income interest. • Requirements similar to testamentary QTIP §2056(b)(7). • Right to all income at least annually. • Right to convert trust property to productive assets. • No one has power to appoint to anyone other than spouse.

9. Drafting the Lifetime QTIP Trust • Qualifies for unlimited marital gift tax exemption under IRC §2523(f). • Must file timely 709 (federal gift tax return). • Will be included in donee-spouse’s estate §2044.

10. Drafting the Lifetime QTIP Trust • Principal distributions. • No requirement that spouse have any right to distributions of principal. • Discretionary principal distributions are permitted. • Donor as Trustee (not recommended). • Ascertainable standards. • Retained interest to satisfy support obligation. Estate of Virgil C. Sullivan, T.C.M. 1993-531 (1993). • Independent Trustee – not limited to ascertainable standards. • Donee-spouse – limit to ascertainable standards. • Is this a retained interest to satisfy support obligation?

11. Drafting the Lifetime QTIP Trust • Testamentary power of appointment. • General power of appointment permissible. • Not necessary and generally not desired. • Included in donee-spouse’s estate under IRC §2041. • Would reverse a reverse QTIP election. • Limited power of appointment. • Same considerations as when drafting a testamentary QTIP. • Will exist even if there is a divorce. • Will generally draft permissible appointees more narrowly. • Restrict to situations where the donor-spouse is deceased.

12. Distribution upon Death of Donee • Usual suspects – similar to testamentary QTIP. • Descendants or named beneficiaries. • Donor-spouse can be a remainder beneficiary. • Reg §25.2523(f)-1(d) – Treatment of interest retained by the donor-spouse. “. . . if a donor-spouse retains an interest in qualified terminable interest property, . . . the retention of the interest until the donor-spouse's death does not cause the property subject to the retained interest to be includible in the gross estate of the donor-spouse.” • Reg §25.2523(f)-1(f) – Examples 10 and 11.

13. Donor as Remainder Beneficiary • Outright distribution to surviving spouse. • Outright distributions seldom make sense. • Primary purpose was to use any available exemption amount of donee-spouse. • All to a QTIP for the donor-spouse. • Partial QTIP election to use donee-spouse’s available exemption amount. • QTIP election to qualify any amount in excess of available exemption amount for unlimited marital deduction. • Discretionary principal distributions are permissible.

14. Donor as Remainder Beneficiary • Drafting in WealthDocx™.

15. Donor as Remainder Beneficiary • Creating Marital and Non-Marital Share. • Non-Marital Share can go to a Bypass trust. • Bypass trust does not require that all income be available to the beneficiary/donor-spouse. • There can be other beneficiaries of a bypass trust. • Better creditor protection.

16. Donor as Remainder Beneficiary • Drafting discretionary guidelines to avoid estate tax inclusion when donor-spouse is a beneficiary. • Reg §25.2523(f)-1(d) renders IRC §2036 and §2038 inapplicable in the donor’s estate. • Reg does not rule out the possible application of §2041. • If under state law donor-spouse’s creditors could attach the assets in the remainder trust, IRS may argue the donor-spouse has a general power of appointment under §2041. • Palozzi v. Commissioner, 23 T.C. 182 (1954). • Outwin v. Commissioner, 76 T.C. 153 (1981). • Rev. Rul. 76-103.

17. Donor as Remainder Beneficiary • Drafting to avoid possible general power of appointment. • Limit discretionary distributions to ascertainable standards. • Creditors rights to assets would then be limited to the donor-spouse’s interest which in turn is limited to ascertainable standards. • The power of appointment created by creditor access to the trusts would be limited by ascertainable standards which is an exception to a general power of appointment. • Form the lifetime QTIP under the laws of a state that does not permit the grantor’s creditors to access trust assets.

18. Donor as Remainder Beneficiary • Donor-spouse can retain a testamentary limited power of appointment over the trust assets. • Exercisable only if donor-spouse survives donee-spouse. • PLRs 9437032 and 8944009.

19. Income Taxation of the QTIP • The inter vivos QTIP during marriage. • Donor-spouse will be treated as the grantor of the trust under IRC §677(a)(1). • Taxed on all income. • And principal if donee-spouse is a principal beneficiary. • Include grantor power to substitute trust property with other property of equivalent value to invoke IRC §675(1) to be taxed on capital gains as well. • Invoking grantor status as to both income and principal will allow the inter vivos QTIP to hold S corporation stock.

20. Income Taxation of the QTIP • The inter vivos QTIP during marriage. • Grantor trust status will cease if the donor-spouse and donee-spouse get divorced. • IRC §682(a). • Reg §1.1361-1(k)(1), example 10(ii) as to no longer qualifying as S corporation stock holder. • Grantor trust status will obviously terminate when the Grantor dies.

21. Income Taxation of the QTIP • Remainder trusts for benefit of donor-spouse. • Donor-spouse will continue to be treated as the grantor of the trust provided the Trustee has discretion to make distributions of income and principal to the donor-spouse. • Reg. §1.671-2(e)(5) – no change in identity of the grantor unless someone exercises a general power of appointment over the trust. • Donor-spouse’s payment of income tax on the trust’s income does not constitute a taxable gift; Rev. Rul. 2004-64. • Sometimes referred to as the “Super-Charged Credit Shelter Trust.” “Supercharged Credit Shelter Trust” is a servicemark of Prof. Gans, Mr. Blattmachr and Ms. Zeydel.

22. GSTT Issues and the QTIP • Taxable distributions – anytime there is a distribution from a trust. • Who is the transferor? • Is the transferee a skip person? • What is the inclusion ratio? • GSTT = Amount transferred x I/R x Maximum FET rate.

23. GSTT Issues and the QTIP • Taxable terminations – anytime a beneficiary’s interest in a trust terminates (usually by death). • Who is the transferor? • Are any of the remaining beneficiaries non-skip individuals? • What is the inclusion ratio? • GSTT = Amount of property in trust x I/R x maximum FET rate.

24. GSTT Issues and the QTIP • Transferor. • A GSTT transferor is the person most recently subject to estate or gift taxes with respect to the property. IRC §2652(a)(1); Reg §26.2652-1(a)(1). • Normally, this would mean that the donee-spouse would become the transferor upon death of donee-spouse. • The donor-spouse of a lifetime QTIP may make a reverse QTIP election, whereby the donor continues to be treated as the transferor rather than the surviving spouse. IRC §2652(a)(3); Reg §§25.2552-1(a)(3), 26.2652-1(a)(5), Ex. 3, 6; and 26.2652-2.

25. GSTT Issues and the QTIP • Inclusion ratio. • Zero = exempt trust. • I/R = 1 – A/F. • A/F = GST Exemption Allocated to the transfer Amount of the transfer

26. GSTT Issues and the QTIP • Inclusion ration - to exempt or not to exempt, that is the question. • Who will be the transferees? • Will there be any taxable terminations?

27. GSTT Issues and the QTIP • Whose exemption to use? • Donor-spouse – allocation can be made at the initial funding of the lifetime QTIP. • Future growth covered. • Certainty of inclusion ratio. • Uncertainty of whether there will be taxable distributions or terminations. • Donee-spouse – allocation can’t be made until the death of the donee-spouse. • Assets may have grown significantly. • Donor has no control over inclusion ratio.

28. Payment of Estate Taxes • The lifetime QTIP will be included in the donee-spouse’s estate under IRC §2044. • The QTIP trust property is valued in the estate of the donee-spouse at the donee-spouse’s date of death values. Reg §20.2044-1(d).

29. Allocating Estate Taxes • The executor of the donee-spouse’s estate is entitled to recover from the QTIP trust the estate tax caused by the inclusion. IRC §2207A. • The donee-spouse can specifically waive the right of recovery in his or her will. • The waiver must refer to QTIP, QTIP trust, or IRC §2044 or §2207A. IRC §2207A(a)(2). • Without waiver there is a gift by donee-spouse estate beneficiaries to QTIP trust remainder beneficiaries. • Reg §20.2207A-1(a)(3) – to the extent the spouse’s will waives or if beneficiaries can’t compel recovery, no gift. • Giving discretion to the executor to waive means beneficiaries can’t compel. • Therefore no gift.

30. Allocating Estate Taxes • If donor-spouse allocated GST Exemption so lifetime QTIP has inclusion ratio of zero. • A reverse QTIP should be made at time Form 709 is filed. • Donee-spouse should provide in his or her will that the executor waive right to recover estate taxes from estate inclusion. • If no GST Exemption was allocated upon creation. • No reverse QTIP should be made. • Upon death of donee-spouse, he or she will be transferor for GSTT purposes for remainder trusts. • Executor will need to recover any estate taxes from QTIP unless given the discretion to waive or directed to waive.

31. Allocating Estate Taxes • If upon death of donee-spouse all remaining property is allocated to QTIP for benefit of donor-spouse or a zero-out estate tax marital formula is used, there should be no estate tax upon death of donee-spouse. • If donor-spouse allocated sufficient GST Exemption for a zero inclusion ratio and reverse QTIP election was made, donor-spouse should provide in his or her will that his or her executor waive the right to recover any estate taxes from the resultant remainder QTIP for his or her benefit.

32. Allocating Estate Taxes • Upon death of donor-spouse after death of donee-spouse. • Any property allocated to a remainder bypass trust should not be included in donor-spouse’s estate. • Any property allocated to a QTIP would be listed on Schedule M of donee-spouse and included in the estate of the donor-spouse, except to the extent of a partial QTIP election.

33. Drafting the Lifetime QTIP using WealthDocx™