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Leaving an IRA directly to heirs is fraught with pitfalls: the heirs may exhaust the funds quickly to the detriment of any long-term tax deferral benefits, the money may be vulnerable to divorce settlements or creditors, and any withdrawn money will lose the inherent protections of the IRA....
A stock redemption or entity buy-sell agreement is a binding agreement that is implemented by the owner's of a business to facilitate the orderly transition of a business interest in the event of the death, disability or retirement of a business owner...
A stock redemption or entity buy-sell agreement is a binding agreement that is implemented by the owner's of a business to facilitate the orderly transition of a business interest in the event of the death, disability or retirement of a business owner...
A stock redemption or entity buy-sell agreement is a binding agreement that is implemented by the owner's of a business to facilitate the orderly transition of a business interest in the event of the death, disability or retirement of a business owner. With a stock redemption plan, the company agrees to purchase the interest of a business owner in the event that her business interest becomes available due to death, disability or retirement. The entity agreement outlines the terms of the sale and establishes a formula for determining the actual sales price of the stock based on the company's valuation. It also obligates the company to purchase the departing owner's shares while at the same time mandating that the departing owner or her heirs sell their business interest back to the company.
Over the next two decades, the rate of change in population demographics will have a significant effect on value, liquidity, and leadership succession. The population of those between 65 and 84 years of age will increase by nearly 30 million people. During the same period, the population of those between 25 and 64 years of age will only increase by 11.1 million individuals, or nearly one-third of those individuals reaching retirement age.
So why is ownership planning more important now than it's ever been? We have recently begun to see improvements in the overall economy, including long-term growth rates that are gradually beginning to edge upwards. As companies begin to grow again, their need to invest in working capital will also grow. However, if a company's future cash flows are needed to fund stock redemption obligations, its ability to invest in growth will be impaired. Or even worse, it might not have sufficient cash flow to provide the required incentive compensation to its employees to mitigate employee turnover.
To ensure that your business will be positioned to thrive when growth begins to commence in earnest, incorporating a shareholder redemption liability study in your annual strategic planning should be of chief importance. A mere awareness of imminent redemptions is a sign of inadequate planning - you also must know how those redemptions will influence your company's ability to fund future growth while continuing to reward employees.
To learn more about how you can minimize your redemption risk and how your peers are addressing this issue, give us a call.
Over the next two decades, the rate of change in population demographics will have a significant effect on value, liquidity, and leadership succession. The population of those between 65 and 84 years of age will increase by nearly 30 million people. During the same period, the population of those between 25 and 64 years of age will only increase by 11.1 million individuals, or nearly one-third of those individuals reaching retirement age.
So why is ownership planning more important now than it's ever been? We have recently begun to see improvements in the overall economy, including long-term growth rates that are gradually beginning to edge upwards. As companies begin to grow again, their need to invest in working capital will also grow. However, if a company's future cash flows are needed to fund stock redemption obligations, its ability to invest in growth will be impaired. Or even worse, it might not have sufficient cash flow to provide the required incentive compensation to its employees to mitigate employee turnover.
To ensure that your business will be positioned to thrive when growth begins to commence in earnest, incorporating a shareholder redemption liability study in your annual strategic planning should be of chief importance. A mere awareness of imminent redemptions is a sign of inadequate planning - you also must know how those redemptions will influence your company's ability to fund future growth while continuing to reward employees.
To learn more about how you can minimize your redemption risk and how your peers are addressing this issue, give us a call.
STOCK REDEMPTION
IRA Trust A New Approach to Safeguarding the Wealth You Leave to Your Family
Leaving an IRA directly to heirs is fraught with pitfalls: the heirs may exhaust the funds quickly to the detriment of any long-term tax deferral benefits, the money may be vulnerable to divorce settlements or creditors, and any withdrawn money will lose the inherent protections of the IRA.
Trusts offer a safer option for passing on your IRA to heirs. Just like any assets held in trust, an inherited IRA left to a trust will limit exposure to both creditors and unchecked spending, thus providing greater assurance that long term tax deferral will be achieved. Furthermore, leaving an IRA to a trust with a responsible trustee can increase the likelihood that, along as there's no imperative need for cash, your heirs' tax deferral benefits will be maximized.
Will your heirs resent this setup? Those who wish to spend more than you had in mind may be dissatisfied. But an heir who spends recklessly might have a change of heart about trusts once the money is gone. A trustee can be granted the power to draw from the IRA, if necessary, but the trustee can also be given the ability to pay out as little as possible, from this trust. As a result, a $250,000 inheritance can, over time, ultimately pay $1 million, $2 million, or more to the heirs.
The Trouble with Trusts
As nothing in life is perfect, you should be aware that leaving an IRA to a trust has its disadvantages as well. The IRS interprets the minimum required distribution (MRD) rules strictly for trust beneficiaries, which can result in reduced tax deferral.
Example: You leave your IRA to a trust, naming your sister Karen as the trustee. Karen will have the discretion as to how much she distributes to your son Peter, who is the primary trust beneficiary.
This arrangement serves to protect the assets. Karen can take minimum distributions from the IRA and hold the funds in trust, if she wants to keep Peter from depleting the money too quickly or losing the money to creditors or divorce.
Trap: The IRS considers the above example an "accumulation trust." With such trusts, the shortest life expectancy of all the possible trust beneficiaries will be used to determine MRDs.
Suppose that the IRA passes to the trust when Peter is 48, with a 36-year life expectancy on the IRS table. If his Aunt Belle, 65 years old with a 21-year life expectancy, is the oldest of the secondary beneficiaries, money must be withdrawn from the IRA on a 21-year schedule. The result is that taking money from the IRA over 21 rather than 36 years will curtail tax deferral and reduce potential wealth building.
Alternative: A "conduit" trust in lieu of an accumulation trust may be preferable in certain cases in order to ensure long-term tax deferral.
How it works: A conduit trust has a single individual as a primary beneficiary. The trustee is required to take at least the MRD amount from an inherited IRA each year, and pass that amount through to the trust beneficiary.
Advantage: With a conduit trust, the primary beneficiary's life expectancy can be used to extend the MRD schedule.
Disadvantage: Distributions cannot be accumulated in the trust as they must be passed through to the trust beneficiary, risking the money being spent or lost to creditors even though the IRA principal may still be protected.
Summary: Until recently, leaving an IRA to a trust meant choosing between the maximum protection of an accumulation trust or the maximum tax deferral of conduit trust.
Introducing the IRA Trust
The IRS issued Private Letter Ruling 200537044 in 2006, approving an "IRA Trust." A Private Letter Ruling is an IRS document that approves or rejects a specific request, such as the use of a trust designed in a certain way, for a particular taxpayer.
Using this new strategy, a benefactor begins by creating either an accumulation trust or conduit trust that will inherit his or her IRA. This trust should be a one-purpose trust. Following death, an independent party can "toggle" from one of these types of trust to the other, depending on the beneficiary's needs. At the death of the owner of the IRA, this IRA Trust will divide into smaller "subtrusts," one for each intended beneficiary.
Example: You intend to divide your IRA among your four children. At your death, the IRA Trust (which becomes irrevocable at your death) will divide into one trust for your daughter Rachel, one for your son Matthew, one for your son Charles, and one for your daughter Sabrina.
If you have full confidence in your children's ability to handle their inherited IRAs, each of the subtrusts can be structured as conduit trusts for maximum tax deferral and potential protection of principal. At any point during your lifetime, you can alter the plan if you decide that one or more of your children needs the protection of an accumulation trust.
What happens after your death has now been clarified by Letter Ruling 200537044, which approves an arrangement in which each subtrust can have a "trust protector." The person who serves as trust protector must be unrelated by blood to the trust beneficiary, but may have a personal relationship to him or her, such as a personal financial adviser, attorney, CPA or friend.
If worrisome circumstances arise, such as a beneficiary has matrimonial or creditor problems, the trust protector can change a conduit trust to an accumulation trust by voiding the provision that requires the immediate payout of IRA distributions to the primary trust beneficiary. As a result, the trustee will gain the discretion to accumulate funds, and more significant asset protection is afforded the beneficiary.
This ruling has the benefit of working both ways. If an accumulation trust had been setup for a beneficiary with current financial problems that have since been resolved, the trust protector may switch it to a conduit trust by requiring the full payout of MRDs.
It is important to note, however, that such a post-death toggle can be done only once, regardless of the direction the switch is made. According to the Private Letter Ruling, the one switch can be made within nine months of the IRA owner's death. The decision can, however, be made on a beneficiary-by-beneficiary basis so that some beneficiaries have conduit trusts and some beneficiaries have accumulation trusts.
While this is an exciting and intriguing development in the world of retirement planning, one should proceed with caution. The IRA Trust has been approved in a Private Letter Ruling, which technically applies only to the taxpayer making the request. For more information about incorporating IRA Trusts into your retirement plan, please call.
Trusts offer a safer option for passing on your IRA to heirs. Just like any assets held in trust, an inherited IRA left to a trust will limit exposure to both creditors and unchecked spending, thus providing greater assurance that long term tax deferral will be achieved. Furthermore, leaving an IRA to a trust with a responsible trustee can increase the likelihood that, along as there's no imperative need for cash, your heirs' tax deferral benefits will be maximized.
Will your heirs resent this setup? Those who wish to spend more than you had in mind may be dissatisfied. But an heir who spends recklessly might have a change of heart about trusts once the money is gone. A trustee can be granted the power to draw from the IRA, if necessary, but the trustee can also be given the ability to pay out as little as possible, from this trust. As a result, a $250,000 inheritance can, over time, ultimately pay $1 million, $2 million, or more to the heirs.
The Trouble with Trusts
As nothing in life is perfect, you should be aware that leaving an IRA to a trust has its disadvantages as well. The IRS interprets the minimum required distribution (MRD) rules strictly for trust beneficiaries, which can result in reduced tax deferral.
Example: You leave your IRA to a trust, naming your sister Karen as the trustee. Karen will have the discretion as to how much she distributes to your son Peter, who is the primary trust beneficiary.
This arrangement serves to protect the assets. Karen can take minimum distributions from the IRA and hold the funds in trust, if she wants to keep Peter from depleting the money too quickly or losing the money to creditors or divorce.
Trap: The IRS considers the above example an "accumulation trust." With such trusts, the shortest life expectancy of all the possible trust beneficiaries will be used to determine MRDs.
Suppose that the IRA passes to the trust when Peter is 48, with a 36-year life expectancy on the IRS table. If his Aunt Belle, 65 years old with a 21-year life expectancy, is the oldest of the secondary beneficiaries, money must be withdrawn from the IRA on a 21-year schedule. The result is that taking money from the IRA over 21 rather than 36 years will curtail tax deferral and reduce potential wealth building.
Alternative: A "conduit" trust in lieu of an accumulation trust may be preferable in certain cases in order to ensure long-term tax deferral.
How it works: A conduit trust has a single individual as a primary beneficiary. The trustee is required to take at least the MRD amount from an inherited IRA each year, and pass that amount through to the trust beneficiary.
Advantage: With a conduit trust, the primary beneficiary's life expectancy can be used to extend the MRD schedule.
Disadvantage: Distributions cannot be accumulated in the trust as they must be passed through to the trust beneficiary, risking the money being spent or lost to creditors even though the IRA principal may still be protected.
Summary: Until recently, leaving an IRA to a trust meant choosing between the maximum protection of an accumulation trust or the maximum tax deferral of conduit trust.
Introducing the IRA Trust
The IRS issued Private Letter Ruling 200537044 in 2006, approving an "IRA Trust." A Private Letter Ruling is an IRS document that approves or rejects a specific request, such as the use of a trust designed in a certain way, for a particular taxpayer.
Using this new strategy, a benefactor begins by creating either an accumulation trust or conduit trust that will inherit his or her IRA. This trust should be a one-purpose trust. Following death, an independent party can "toggle" from one of these types of trust to the other, depending on the beneficiary's needs. At the death of the owner of the IRA, this IRA Trust will divide into smaller "subtrusts," one for each intended beneficiary.
Example: You intend to divide your IRA among your four children. At your death, the IRA Trust (which becomes irrevocable at your death) will divide into one trust for your daughter Rachel, one for your son Matthew, one for your son Charles, and one for your daughter Sabrina.
If you have full confidence in your children's ability to handle their inherited IRAs, each of the subtrusts can be structured as conduit trusts for maximum tax deferral and potential protection of principal. At any point during your lifetime, you can alter the plan if you decide that one or more of your children needs the protection of an accumulation trust.
What happens after your death has now been clarified by Letter Ruling 200537044, which approves an arrangement in which each subtrust can have a "trust protector." The person who serves as trust protector must be unrelated by blood to the trust beneficiary, but may have a personal relationship to him or her, such as a personal financial adviser, attorney, CPA or friend.
If worrisome circumstances arise, such as a beneficiary has matrimonial or creditor problems, the trust protector can change a conduit trust to an accumulation trust by voiding the provision that requires the immediate payout of IRA distributions to the primary trust beneficiary. As a result, the trustee will gain the discretion to accumulate funds, and more significant asset protection is afforded the beneficiary.
This ruling has the benefit of working both ways. If an accumulation trust had been setup for a beneficiary with current financial problems that have since been resolved, the trust protector may switch it to a conduit trust by requiring the full payout of MRDs.
It is important to note, however, that such a post-death toggle can be done only once, regardless of the direction the switch is made. According to the Private Letter Ruling, the one switch can be made within nine months of the IRA owner's death. The decision can, however, be made on a beneficiary-by-beneficiary basis so that some beneficiaries have conduit trusts and some beneficiaries have accumulation trusts.
While this is an exciting and intriguing development in the world of retirement planning, one should proceed with caution. The IRA Trust has been approved in a Private Letter Ruling, which technically applies only to the taxpayer making the request. For more information about incorporating IRA Trusts into your retirement plan, please call.
Many people believe that not having a will allows the state to take part of the estate (not true), that having a will automatically reduces taxes (also not true), or that having a will means that a lawyer gets to take a big fee out of the estate (also not true). The purpose of this article is to provide a brief explanation of what a will can do, and some practical advice on why a will is needed
Why have a will?
What Happens Without a Will?
If you die with assets in your name, and without a will:
•The division and distribution of your estate is governed by a statute, called an "intestate" law. (The word "intestate" comes from the combination of the Latin suffix "in," meaning "not" or "without," and "testate," meaning "will," so "intestate" means someone who dies without a will.) If you are survived by a spouse and children, your estate is usually divided between your spouse and children. If you have only children (or grandchildren), the estate is divided among your children (and grandchildren). If you have neither spouse, children, nor grandchildren, the estate is distributed to your parents, brothers and sisters, grandparents, aunts and uncles, or cousins, depending on who survives you.
•The person (or persons) who inherits your estate is usually appointed to serve as the Executor of your estate, to collect your assets and settle your estate.
•If you have minor children who inherit from you, a court will appoint a guardian for their estates until they reach the age of eighteen.
•If you have minor children and your husband or wife did not survive you, a court will appoint a guardian for their persons.
•The person (or persons) who inherits your estate is usually appointed to serve as the Executor of your estate, to collect your assets and settle your estate.
•If you have minor children who inherit from you, a court will appoint a guardian for their estates until they reach the age of eighteen.
•If you have minor children and your husband or wife did not survive you, a court will appoint a guardian for their persons.
These laws do not always cause problems, but there are many situations in which you will want to arrange things differently by your will.
A Will Can Protect Your Husband or Wife
Most people assume that, if a husband or wife dies, everything goes to the survivor of them. That is certainly true of jointly owned property, but in Massachusetts (and most other states), the surviving husband or wife is entitled to only about one half the individually owned assets of a deceased spouse, the rest of the assets passing to the children. Your husband or wife could therefore be very surprised to find, after your death, that half of your property has passed to your children. (If your children are minors, insult can be added to injury, because the court must appoint a guardian for the property passing to the children. That means that the children get one half of your property, your husband or wife is still responsible for raising them, and your husband or wife has to account to the children and the Probate Court on how the money has been invested and used for the children.)
If you are married and want your husband or wife to own everything after your death, it is usually a good idea to have a will that says that and avoid any possible confusion or surprise.
If you are married and want your husband or wife to own everything after your death, it is usually a good idea to have a will that says that and avoid any possible confusion or surprise.
A Will Can Appoint Guardians for Your Children
If you have minor children, you have the right to appoint the guardians who will take care of your children upon the deaths of you and your husband or wife. (Upon the death of only one parent, the surviving parent obviously continues as the natural guardian, so the problem only arises if both parents die in a common accident, or if one parent has already died.)
A Will Can Appoint Trustees for Children
If you have minor children, you also have the right to appoint a guardian of their estates. (A guardian of the estate invests and takes care of the property that a minor inherits, while a guardian of the person takes the place of the parent in caring for the minor.) However, it is usually better to appoint a trustee and put specific directions in the will for applying the child's inheritance for support and education, and specific directions for the age at which the child may receive the balance of the inheritance outright, free of trust.
If you fail to write a will and your minor children inherit from you, a court will appoint a guardian for them, and your children will receive their inheritances at the age of eighteen when a more reasonable age might be 25 or even 30.
If you fail to write a will and your minor children inherit from you, a court will appoint a guardian for them, and your children will receive their inheritances at the age of eighteen when a more reasonable age might be 25 or even 30.
A Will Can Appoint Executors
Although the job of an executor (or administrator) of an estate is usually not as important as many people think (it's really just a matter of finding the assets, paying the debts, paying the taxes, and distributing whatever is left), there are sometimes disputes about who should be the administrator when there is no will, or there are disputes among the administrators if more than one is appointed. Having a will that names an executor can eliminate these kinds of problems.
A Will Can Save Taxes
Having a will does not, in itself, save any taxes. If your estate would pass to your children without a will, and you write a will leaving everything to your children, the death taxes (state inheritance tax and federal estate tax) will be exactly the same with or without the will.
It is possible for a married couple whose combined estates are more than the federal estate tax "applicable exclusion amount" (which is $5,000,000.00 in 2013) and the Massachusetts exemption (which is $1,000,000.00) to save federal and or state estate tax through special trust provisions in a will or revocable trust. A properly drafted Credit Shelter trust will effectively double those exemptions.
It is possible for a married couple whose combined estates are more than the federal estate tax "applicable exclusion amount" (which is $5,000,000.00 in 2013) and the Massachusetts exemption (which is $1,000,000.00) to save federal and or state estate tax through special trust provisions in a will or revocable trust. A properly drafted Credit Shelter trust will effectively double those exemptions.