Dedon on Estate Planning

Settling Tax Issues with the IRS

The IRS is gearing up its tax compliance efforts after a few years of reduced activity. One indication of these increased efforts is the recent hiring of 400 new IRS Appeals Division employees. The IRS now has roughly the same number of Appeals Officers that existed a decade ago. As professionals who deal with the IRS know, the Appeals Division is the second layer of IRS review for taxpayers whose estate and income tax returns are audited.

The first level is the audit level, where the agent is likely to view issues from the IRS perspective. If matters cannot be settled at the audit level, the next step is typically the Appeals Division. The Appeals Officer is supposed to consider the "hazards of litigation," meaning rather than take a biased IRS view, the Appeals Officer should consider the legal issues supporting each side and strive to reach a reasonable settlement. As Kurt Meier, deputy chief of the Internal Revenue Service's Appeals division recently said at an American Bar Association luncheon, Appeals must provide an "impartial, fresh look." It has been my experience that most Appeals Officers subscribe to this view.

Therefore, often taxpayers who settle their tax problems with the IRS will do so at the Appeal level, not at the audit level with an agent. Settling at the Appeals level avoids the added cost and time involved in Tax Court litigation. For this reason, having adequate Appeals Officers on board is not bad news.

Building Flexibility Into Irrevocable Trusts

Irrevocable Trusts are a common estate planning tool to remove assets from the taxable estate. The "grantor" creates the Irrevocable Trust, transfers assets to the Trust, and after accounting for any gift tax issues, the Trust assets are removed from the grantor’s taxable estate for estate tax purposes. However, to obtain the advantage of estate tax removal, the grantor must give up control over the Trust assets, including the right to change the Trust.

However, often times Trusts need to be, or should be, amended. There may be a change in the law or circumstances that require an amendment. Because Irrevocable Trusts are often designed to last many years – sometimes in perpetuity – there can be a number of reasons why it would need to be amended. For example, there could be ambiguities in the language or a drafting error. Perhaps the Trust should be divided to separate assets or, conversely, perhaps different Trusts should be consolidated.

Herein lies the dilemma: we know the grantor cannot amend the Trust or he would lose the estate tax benefits. A common solution to amend a Trust is to ask a judge to judicially reform the Trust. However, this can be expensive and it may require the consent of the beneficiaries.

A second alternative available in certain states is to take advantage of a "decanting" statute. The decanting statutes allow a Trustee, without court involvement, to essentially prepare a new Trust to address changes in circumstances. (Of course, the assumption is that the Trustee is acting pursuant to the grantor’s wishes during the grantor’s lifetime and after his death.) This flexibility is provided by pouring the assets from the old Trust into the new Trust without court involvement or beneficiary permission. At least seven states allow decanting, including Delaware, New York and Florida. Basic requirements are that the Trustee has the ability to invade Trust principal and the beneficiaries of the new Trust will be identical, or at least similar, to the beneficiaries of the old Trust.

Even states that do not have decanting statutes still allow for some limited Trust amendment without court involvement. For example, a properly drafted Irrevocable Trust will allow for changes of Trustees, the merger of identical trusts, and changes in the Trust situs.

In sum, an "irrevocable" trust will be irrevocable but not necessarily inflexible.

Arguments Supporting the Legal Rights of People in and Revived from Biostasis

This article was adapted from a presentation given by me during the 4th Annual Colloquium on the Law of Futuristic Persons, December 10, 2008, at the Florida Space Coast Office of Terasem Movement, Inc. It offers supporting arguments as to why cryonically preserved individuals and their property should be protected. The accompanying PowerPoint presentation is located at my January 12, 2009 Post.

The topic is the Law of Futuristic Persons and their legal status. When discussing this topic, what we need to realize is that, we really don't know the legal status. So what we are really talking about are positions and arguments supporting the legal rights of people in and revived from biostasis.

There have been challenges to people who have wanted to dispose of their assets in a certain way and their desires have not come to fruition. Family members or others raised concerns and actually contested what the deceased wanted to do.

When we talk about legal rights we are in the process of establishing them. As I thought about this topic, William Goldman comes to mind. If you’re not familiar with William Goldman, he is a legendary screen writer. Over the course of time producers and other Hollywood types would say, "Bill, you know as much about Hollywood as anybody, is this project going to be green lighted, is it going to make a couple hundred million dollars?" Goldman was credited with saying, "Nobody knows anything." That concept applies to a number of areas, and it applies to what we're talking about today.

What does that mean to us in the legal world? Well, laws are made through legislation; Congress or a state legislature will pass laws. They're also made through case law, through precedent, and presently we don't have a lot of precedent. We're really here to shape the law, and to guide the law. To develop the law is our opportunity. That is the blessing that we have. Obviously, that's also a curse, because the law can also go in a direction that we don't want. We need to make our own precedent. In making our own precedent, lets discuss four arguments that we can rely on to shape the law. If a case was in front of a judge, the judge would look to other areas of the law for guidance. Although there may be fifty other arguments that are relevant, here are four arguments that can help us.

The first argument is: Upon death people have the right to do certain things. Well, certainly if those rights apply upon death, cryonically-preserved people who are in a transition period should enjoy those same rights or even greater rights.

Just as the legal dead have rights, cryonic people should have the right to pass their assets to beneficiaries of their choice. A decent burial is a fundamental right. Wrongful death statutes protect the legal dead if death is caused by somebody's negligence. So certainly those who are in a transition period should have these same rights, if not greater rights.

The law is to be developed, it's not a slam dunk that courts are going to respect the wishes of the decedent. In fact, there was an American Bar presentation from earlier this year where a lawyer in New York, Gideon Rothchild, summarized what courts have looked at in determining a decedent’s wishes. He pointed out that, often times the family’s wishes and public norms will supersede a decedent's wishes. His comments were in the context of frozen DNA being used posthumously to conceive children, which is an analogous area of the law.

Second argument: Individuals in biostasis should be protected because the law can't be made through 'abstract moralisms'. What is an abstract moralism? The context to understand abstract moralisms dates back to Roe v Wade and the abortion cases and a woman's right to choose. The Supreme Court said that, under the 14th Amendment, there is a privacy right. There is a right that should be determined by the individual. It should not be left up to the state legislature. The state legislature cannot propound abstract moralisms. In other words, certain things are so fundamental, so important, that it's not an elected official who's going to determine what the law provides.

In Planned Parenthood versus Casey, there is a quote that is so important Planned Parenthood was, again, an abortion case involving state legislation in Pennsylvania. The facts aren't as important as the holding. The Court said you had to look to these privacy rights.

The Court said the following, "These matters involving the most intimate and personal choices a person may make in a lifetime, choices central to personal dignity and autonomy are central to the liberty protected by the 14th Amendment. At the heart of liberty is the right to define one's own concept of existence, of meaning, of the universe, and of the mystery of human life. Beliefs about these matters could not define the attributes of personhood were they formed under compulsion of the State."

That’s powerful language and it really lends itself to what we're suggesting when you look at cryonically-preserved people. This mystery of life and latitude provided to the individual to determine what that means to that individual is not limited to just when life begins but it is also applicable to when life ends. By analogy, borrowing from these right to choose cases and the 14th Amendment, this is helpful to develop this area of the law.

Third argument: Children born from frozen embryos are legal heirs. If that's the case, shouldn't cryonically-preserved people enjoy the same right?

I previously cited Mr. Rothchild. His outline refers to a line of cases that is developing. These cases are parallel to our cases; they are simply ahead of us because the medicine is ahead of us. The courts have concluded that if a child is born from the frozen DNA of a decedent, and it's conceived even with that frozen DNA after the death of the decedent, that that child has the right to inherit.

For example, In Re Martin B., is a recent case by the New York Supreme Court case in '07. It's consistent with a line of cases that are developing in the law that says there is no public policy that prohibits the conception of children with frozen DNA.

I tried to distill the elements of these cases to see how they relate to what we do. If you look at the cases dealing with frozen DNA, there is a genetic relationship between the decedent and the child. There is consent by the decedent to the conception and then the decedent agrees to support the child. So dad dies, his sperm is frozen, after his death it can be impregnated with the woman, and the child is conceived. That child then has the right to inherit.

What does that mean to us? Well, do we have a genetic relationship between the cryonically-preserved person and the revived person? Certainly. The cryonically-preserved person consents to be revived? Well, that's obviously why they are being preserved.

The cryonically-preserved person has arranged for his or her support? That's what we're working on. Some have, maybe some haven't gotten there, but that's another element that can also be taken care of.

Thus, by analogy we're trying to come in on all fours with these cases.

Fourth argument: The shift in the standard for determining death has moved away from the absence of breathing and toward a brain death concept. That started back in the early '80s when it was recommended by a presidential commission that "brain dead" is the way to measure when you are legally dead. There are court cases over the last several years that have supported that notion. It's relatively accepted that brain death is the standard that applies now when someone is legally dead.

What does that mean in the cryonic world? It can be argued that people that are being cryonically preserved maintain a level of brain activity or at least have the opportunity to maintain a level of brain activity that is not otherwise applicable if you're not being cryonically preserved.

Lets explore two different angles to that concept. One comes from our host, Dr. Rothblatt, who has written about the concept of bemes and the idea that you can download thoughts and impressions and pictures and other things. What you end up with is not just a history of yourself but perhaps even your personality and a presence that may then be used when a person is being revived.

There is a second angle to this, and it is more philosophical. The thought is if the standard has shifted over time regarding what constitutes death, shouldn’t there be an evolving standard that recognizes as the medicine and technology develops so too should the standard shift to recognize that people who are being preserved will ultimately be able to come back to life?

In that regard lets go back to the presidential commission in 1981 where they said, "People's attitudes toward death evolve and changes in medical capabilities certainly come to be reflected in public as well as professional circles."

They weren't thinking of cryonics back in 1981, but certainly as they went from a breathing standard to a brain death standard what they talked about back then is applicable now as you look at our area of the law and our area of the medicine and how it continues to develop.

Those are the four arguments, any one of which we can rely on. As the law develops we would certainly be relying on all four and borrowing from all four in order to establish the precedent for why people who are being cryonically preserved enjoy certain rights.

Lets touch on one of the relevant aspects to determine whether children conceived with frozen DNA should be allowed to inherit. As I stated that area of the law can help us. One of the concepts was the ability to support oneself. This takes us back to these wealth preservation trusts and the idea that you can establish a trust that can continue while you're in biostasis and assets will then be available when you are revived.

This is not directly on the topic, but to quickly touch on it, the concept is that there is a fundamental body of law that recognizes dynasty trusts. A number of states now do, so there is nothing unique about that. What we want to do is design a wealth preservation trust for a cryonically-preserved person to mirror the provisions that you would see in a typical dynasty trust.

With that in mind, there may be distributions that would be made annually or at least provide for the possibility of distributions. There could be some charitable distributions. We want to design a "typical" dynasty trust, but certainly the bulk of the assets would be available for you when you are revived.

Planning For The Future - The Future Future

In December 2008, I was asked by Terasem Movement, Inc., a 501(c)(3) tax exempt charity endowed for the purpose of educating the public on the practicality and necessity of extending human life, to present legal arguments supporting the rights of people in and revived from cryonic preservation.  My PowerPoint presentation is set forth below.

Download Terasem movement inc 12-10-08

GRATs and GRAT Rescue Planning

Prior posts have discussed the estate and gift tax advantages of Grantor Retained Annuity Trusts (GRAT) to transfer family assets to beneficiaries. Reprinted below are my January 28, 2008 and April 21, 2008 posts, which discuss GRATs in detail. The dismal economy presents a unique opportunity to leverage GRATs by funding them with low value marketable securities and real estate. Another advantage is the applicable IRS interest rate, which is only 3.4% for December.

In fact, several clients are now creating new GRATs ("GRAT 2") to hold assets that within the last year had been transferred into GRATs ("GRAT 1"). Because the current values in GRAT 1 are unlikely to exceed the hurdle rate, those assets are being purchased by the client from GRAT 1 and then transferred into GRAT 2. These GRAT "rescue plans" are a highly desirable strategy in the current environment.

Monitoring Tax Exempts

The November 21, 2008 Daily Tax Report published by BNA, reported on IRS Commissioner Steve Miller’s comments at the annual Western Conference on Tax Exempt Organizations held in Los Angeles on November 20^th.  Miller’s theme was full disclosure and transparency regarding tax exempt organizations’ operations.

According to Commissioner Miller, the revised Form 990, which is the annual tax return filed by tax exempt organizations, and greater information required at the creation of the organization, as required by Form 1023, will facilitate the IRS monitoring these organizations. Miller was quoted as saying "[w]e intend to let the sun shine" on governance issues. Thus, it will become increasingly important to have the board of directors actively review key decisions and document those decisions in Minutes.

The Daily Tax Report quoted Miller as saying the IRS will focus on the following:

• The composition and independence of the board

• Internal financial controls

• Compensation

• Conflict of Interest policies

Planned Giving: The 2008 Charitable Remainder Annuity Trust

The November/December issue of Advancing Philanthropy, the bimonthly magazine dedicated to ideas and strategies pertaining to fundraising which is published by the Association of Fundraising Professionals, contains an article I wrote regarding Charitable Remainder Annuity Trusts combined with life insurance. As charities struggle to maintain gift levels, the article illustrates how CRAT's can help charity and the individual. The article contains case studies applying the concept to particular client situations. It is reproduced here.  (It will take a minute to download.)

Generational Planning: Take Care of Non-Tax Issues First

Business owners are well aware of how federal estate taxes can prevent the family business from passing to the next generation. With a maximum 45 percent tax rate on assets exceeding $2 million, upon death almost half of the company value is owed to the IRS. With a new President and Congress convening in January 2009, an uncertain estate tax environment will become even more uncertain. (Thankfully, Virginia has repealed its estate tax.)

Future posts will focus on methods business owners can employ to reduce or eliminate estate tax, whatever the tax rate and the exemption amount turn out to be. The focus of this post, however, is on the non-tax issues which can torpedo the business owner’s best intentions. As Keith Schiller, an attorney in Northern California has written in a wonderfully entertaining and informative article about Hollywood movies and their depiction of estate planning issues, "…non-tax issues often dwarf all tax considerations. Controversies within families, particularly over the family business, will continue to spawn novels, children’s stories, criminal cases and the news." See Schiller, 33 Tax Mgmt. Est., Gifts and Tr. J. 175, 177 (July/Aug. 2008).

Of course, most families will not suffer the same consequences as the Corleone family upon the "Godfather’s" death, and no business succession plan could have saved Vito’s family business, but for most business owners proactive planning can preserve the business for the next generation. Without claiming to identify all succession planning issues to consider, the following are reoccurring themes I have seen in my practice. Failure to address them can doom the business, with or without estate tax problems.

• If the company is to pass to the children, who will manage it? Will a power struggle arise because the children do not have well defined responsibilities and roles? Will jealousies arise if one child is granted more control than another? These issues can be further exacerbated if son-in-laws and daughter-in-laws are involved in the management. If the children inherit the stock equally, stalemates can arise that effectively shut down the company operations.

Often times the business owner exerts such control during his lifetime that these problems are ignored or bubble below the surface until his death or retirement. Without him, it is too late to remedy the ills that could have been treated with his involvement. The owner should strive during his active involvement in the company to define the children’s roles and foster a management structure that can continue when he is no longer present. It would be helpful to hold quarterly or semi-annual meetings with the owner and next generation present to inculcate the management structure. To formalize the relationships, the children should be parties to the same documents executed by unrelated parties, such as employment contracts and a shareholder agreement. Unfortunately, planning for the future is often easier said than done when a controlling owner lacks the interest to plan for the future.

Perhaps some of the children are not working in the company. In this case, should the company pass equally to all of the children or only to the children-employees? The children in the business do not want to answer to the passive, non-working children. The non-working children may not be pleased with real or perceived excessive salaries or perquisites enjoyed by the working children. There can also be disagreements involving dividend distributions versus reinvesting in the company, and whether or not to sell, borrow, merge and other major decisions. It may be preferable to leave the business to only the children working in it. However, that may not be possible if a goal is to divide all assets equally among the children.

Obtaining an appraisal to value the company and other assets can alert the family to the looming problem. Next, solutions can be discussed, such as life insurance to help allocate the family resources. Also, strategies such as purchasing stock and lifetime gifting can help divide the assets fairly.

What if the business is inherited by the children but they are not capable of operating it? Often times the children are pursuing their own interests. They have no interest or involvement in the business, other than receiving their quarterly distributions. Or, the company may have reached a growth stage where its continuing prosperity is dependent on abilities or experience beyond the children’s capabilities. Only if successful talent is hired and retained can the company continue. In this model, the children are merely shareholders. However, they should also act as the company’s Directors, with enough interest and oversight to provide direction and input. If the children can recognize their limitations, the company can still succeed with unrelated employees and outside counsel.

What if there is a step-parent involved? The recent poster-case for this problem is the relationship – or failed relationship – between Dale Earnhardt, Jr., and his step-mother, Teresa. In 2007, Junior left the company his father had founded in 1998, Dale Earnhardt Inc. Junior and Teresa, DEI’s owner, could no longer peacefully coexist. A May 10, 2007 ESPN article quoted Junior as saying his relationship with Teresa "ain’t a bed of roses." Money was not the issue: at the time of his departure Junior was the highest paid NASCAR driver. But according to the same ESPN article, Junior wanted at least 51% ownership so he could control DEI’s destiny.

These issues can appear overwhelming to the business owner already struggling to manage and operate the company. Finding the time, energy and interest to plan for the future is often put off until tomorrow. There also is no "one size fits all" solution that is easily discernible. Just as there are a myriad of issues to address, there will be a number of possible solutions. The solution reached may even be to sell the company. If so, this realization is healthy in that the decision is made on the owner’s terms, not a forced decision upon his death or retirement.

One thing is certain: the failure to plan will likely lead to the failure of the business’ continuation and the diminution of its value. Whatever may be the appropriate solution, business owners can take comfort in knowing they are not the first ones to face these difficult issues. With proper planning and effort, management and control issues can be identified and solved.

Annual Compliance for Public Charities

In its continuing effort to better police and monitor tax exempts, the IRS in August issued the instructions to the newly revised Form 990. For the first time since 1979, the IRS changed Form 990, which is the compliance return public charities file each year. The Form 990, as well as a charity’s organizational documents, are public documents available to anyone who desires to review them.

Charities will begin using the new Form 990 for the 2008 year. The form was released in December 2007, and can be found at the IRS web site, www.IRS.gov/eo.com. It consists of 11core pages and 16 schedules. According to the IRS, the initial draft garnered 3,000 pages of written comments that were considered before the final draft.

From the IRS’ perspective, "the revised form will give the IRS and the public a much better view of how exempt organizations operate." IRS Commissioner Doug Shulman continued, "the improved transparency provided by these changes will also benefit the tax-exempt community."

From the charitable community’s perspective as well as its return preparers, new Form 990 adds detail and complexity to an already thorough return. However, this is the price to pay in response to abuses that had developed in the charitable area after a period of relative IRS neglect. The IRS is now devoting more resources and greater attention to tax exempts, and the revised Form 990 is one illustration of that new policy.

Intent Test

A prior post (June 9, 2008) dealt with fraudulent conveyances and their ability to expand potential remedies available to creditors beyond those present under the asset protection arrangement being used by a debtor. When determining whether a transfer is a fraudulent conveyance one of two tests, an intent test or an insolvency test, may be used for the relevant analysis. This post will be dedicated to exploring the intricacies of the intent test.

A debtor has committed a fraudulent conveyance under the intent test when he has transferred property with the intent to hinder, delay, or defraud his creditors. If the intent test is satisfied then the transfer constitutes actual fraud. Intent can be difficult to prove; therefore, courts permit circumstantial evidence, also referred to as "badges of fraud", to assist the creditor in his showing (see prior post for examples of "badges of fraud"). While numerous "badges of fraud" exist to support a creditor’s claim, a transfer from a debtor to an "insider" is highly probative that a fraudulent conveyance has occurred. The term "insider" is defined under both the Bankruptcy Code, Section 101(31), and the UFTA, Section 1(7), and includes relatives of the debtor, partnerships in which the debtor is a general partner, general partners of the debtor (as long as the debtor is also a general partner under the UFTA), and a corporation where the debtor is a director, officer, or person who is in control. When an adequate number of "badges of fraud" are present, then a presumption of actual fraud may be inferred. While the debtor may rebut the creditor’s assertions, the burden always remains with the creditor to prove intent.