A lawyer I've recently used to write a will and related documents ran thru some calculations on my estate value (above the current exemption level) and the taxes which would be due without other planning. They are astounding, and will get worse as the Federal Exemption amount is reduced or eliminated by 2011. I am single, and with only some minor token cash bequests, my estate should all go to my sister, also single (neither of us having children). The lawyer brought up setting up an FLP as a estate tax saving measure. He warned me that it must be done carefully, to satisfy the IRS, and that it would take quite a bit of discussion for me to understand (maybe he meant "trust") the vehicle, and that if I looked online, I would find many who say they are terrible. So far, the latter hasn't happened, but what I have read makes them seem incredibally complex both in funding and administration. I see no articles on using an FLP between siblings, just between parents and children, and there is much emphasis on ongoing gifting,which I hadn't anticipated doing, and protecting the liability of people with businesses, which isn't my situation. Apparently my personal residence should not fund an Flp, and you shouldn't pay personal expenses from an FLP. So that implies my checking/savings/money market account(s) shouldn't either. Since I seem to remember IRAs shouldn't/can't fund them either, what am I left with, just my brokerage accounts? And at such time as I need to take the income or proceeds from security sales in these accounts, how can I get it from the FLP since its use would be for personal expenses? I am completely mystified at how this is supposed to work at this point. I like this lawyer (unusual since I tend to not like "suits"), and think he has a reputable firm and does know his specialty ( estate law). He said we would need more meetings before I would understand it, and I didn't feel I was being pushed to buy something, but guided to something he genuinely believed would benefit my sister and myself. Yet, the more I read on the net, the more confused I get and the more questions I have. I will be addressing them with him eventually, but I'd be interested in feedback from anyone who cares to give it. FYI, the lawyer doesn't think a trust is appropriate for me (one reason is it would be much more expensive, having high yearly maintenance fees ). He did give me an idea of the initial setup costs, and the need for an accountant to do an annual tax form for it. That's about as far into the details as we had time to get. I'm concerned, among other things, that either this really is a good estate tax planning idea but will seem so complicated that I will just give up the idea, or that I will think I understand it all only to find out later than there are more complications that I didn't fully absorb.
They're not really complex from a legal standpoint. But they are time consuming and expensive, both to set up and to maintain.
It's all about ongoing gifting. There's really nothing more to it, except that you retain control while even though your heirs take an ever-increasing ownership interest. This is not a good idea to do with your personal residence. And if you get income from other investments and want to keep getting it, an FLP is not good for those assets, either.
It's good for investments that are likely to increase in value a lot over the years, and that you won't need to use for your own purposes. Investment real estate is the traditional investment for FLPs but stocks can go in there as well.
You can distribute profit to yourself, but only your proportionate share. Every year the ownership percentage of your heirs will increase, so that your share of profits will decrease. That's the reason real estate is often used - most of the appreciation is capital gain and not current income.
That could well be. But FLP's are often way overpriced and oversold. They are not useful for anyone except the very wealthy, who have investments that they won't need to use at all for personal purposes.
Higher than an FLP? No way in hell. Once a revocable trust is set up, there is virtually no further cost. FLP's on the other hand must incur large expenses every year for real property appraisal, legal fees for transferring partial ownership interests and additional accounting expenses for the FLP. The largest savings from trusts comes from eliminating what I like to refer to as the marital penalty in the estate tax. So if you're single you won't save as much as if you were married - because you don't need to since you're not looking at double tax of any of your assets. But it is very useful avoiding the costs and delays of probate. Not only that but if you have an FLP, whatever interest you still own when you die will need to go through probate unless you have a trust.
If the cost is over $5,000 (ok, maybe as much as $10,000, but that's for very complex situations) he's charging way too much. That's standard for FLPs.
My suggestion is not to bother. When you start having assets that you would be willing to give now but want to avoid the gift tax, those assets would be good candidates for an FLP. But if you don't have assets like that, don't bother. Your heirs' savings won't be worth the cost (both financial and emotional) to you. Stu
An FLP structured for estate planning, can be a good idea. But its not a one size fits all. If your estate planning warrants it, it can be a good idea. Complexity is part of the deal. It cannot be avoided.
If that's the core of an FLP, it doesn't make much sense for my situation. I wasn't planning to be regularly gifting anyone, and my sister would be the only one who would be in that catgory anyway (and can't I do that independent of any other legal structure, subject to the usual gift tax regulations?) The income from other investments issue is crucial. After age 65, I will have no income other than social security and whatever is spun off my my [good sized] portfolio. Currently I'm not taking the latter since I have an LTD policy that complements SS. The LTD runs out in 2 years. At that point, if not before, I will be turning to my investments to make up the shortfall. And of course there is the liklihood that down the road I will have to sell parts of the portfolio to create more cash. So I am really mystified what this guy was expecting me to live on.
He knows I have no investment real estate, and my stock portfolio is not likely to be static. I really wish I understood what he was thinking! I'm certainly better off than most single women in my situation and health, but I'm not the head of a family dynasty!
I kinda got that, but if you use the distribution for personal expenses, doesn't that raise a red flag? (I have read that). How often are distributions usually made? I use my brokerage sweep account occasionally as a checking account for large expenses, like tax payments, home repair, etc., so don't see how the timing of a distribution, unless it was allowed to be essentially arbitrary (which I doubt) would account for these types of expenditures, even if the personal use was not an issue. I trully don't get the mechanics of how this vehicle works.
So why not put a personal residence into an FLP? Upon my death it would be left to my sister anyway who has no interest in living in it or converting it to rental property. I wouldn't use an FLP if the house was the only asset in consideration, but am just curious as to why it isn't a good candidate in generate. And isn't there another way to "give" her the house in some form that avoids capital gains? The concept rings some vague bell.
I'm certainly very well off by most people's standards (altho I don't live the lifestyle), but no way would I consider myself VERY wealthy. Those investments are my only nest egg. If I have to buy into a life care community, which is not as remote a possibility for me as might be for some, that's where the money will come from, and I know they are not cheap.
I was told it involves a one time setup fee about about $3700, and a yearly accounting fee (not done by him) to file the information return on the partnershhip. I was also told that a revocable trust is worthless for estate tax savings except in a few limited states, Ca being one of them (and my father's experience bares that out.. his estate was in a family trust. What a complicated mess that was.. Glad I wasn't the executor). I'm in PA so whatever advanatages CA has don't apply to me. (can you shed any light on the differences between the states?) The lawyer said that an irrevocable trust is the one with ongoing yearly fees and that he would make much more money on that structure than an FLP. I kinda think this might be because he would have to act as the trustee, but am not sure. Don't you have to appoint someone not covered by a trust to be the trustee? We are out of young relatives or qualified friends who could act in that capacity.
I think he did indicate that trusts are to expedite probate, not save taxes. What kind of probate costs does one avoid?
It gets more and more complicated with each new piece of information. I can just see my sister dealing with this.
As I indicated above, it was about $3700. Possibly because of a very simple beneficiary/asset situation?
Stu, I think you are right on the money, so to speak. You have given me so much understandable information, I can't begin to tell you how much I appreciate it. I have been freaking out trying to understand enough about the subject to be able to even have a coherent discussion with the lawyer in the future. My sister is quite comfortable with anything I decide, providing it is simple. I think simple means paying the dreadful tax percentage, whatever it is at the time, and hoping that the exclusion amount is raised after 2011. Is there any other simple estate saving structure that you can suggest? Thank you so much.
The idea is that you make gifts of assets that will increase in value, but maintain control of the assets. For example one year you give a 3% interest in real property owned by the FLP, which is worth $12,000. The following year you may only be able to give 2.5%, which is also worth $12,000, because it's the maximum that can be given without incurring gift tax. In this example from year 1 to year 2 the value of the underlying property has gone up from $400,000 to $480,000. The part of the property that was subject of the $12,000 gift in the first year is worth $14,400 in the second year. If you keep that up, due to compounding your total gifting will far exceed the cumulative $12,000 per year exemptions that would have been transferred if the gifts were made in cash. At the same time you, as manager or general partner of the FLP, are in full control of the property, even though you no longer are owner of 100%.
If you put your investments into an FLP, you will be giving away both the appreciation and the income from the portion of the underlying stock you give away. If over time you give away 50%, then that will reduce your available income by the same amount (possibly except to the extent you can justify taking a fee for your services as general partner).
My first guess was that he saw someone who can afford to pay a large fee, and is likely to do so on his recommendation, whether it actually makes sense or not. I'm sorry if I'm cynical, but I've seen exactly that happen more times than I'd like to think. On second thought, though, based on his price quote and some of the other things you have said, I suspect he is not out to sell you something you don't need, but really doesn't know what he's talking about.
If they're distributions from your portion of the profits, you can use them for whatever you want. If you distribute to yourself profits that should have gone to the limited partners, that's theft. The only exception I can think of is that you might be entitled to some sort of a fee for your services as the general partner. But you should be prepared to justify those fees by a detailed accounting of your time worked and services rendered to the FLP.
Monthly, quarterly, it really doesn't matter. It depends on the investment. And again, the idea is for the investment (thus the effective size of the total gifts) to grow. So distributions really don't makes much sense.
Ideally the only distributions made would be those just sufficient to allow the partners to pay their taxes on their shares of the income from the FLP. If anyone (including you) needs current income from FLP assets, then that's not a tool you should be using, in my opinion.
It makes some tax issues very messy. For example let's say you put your residence into the FLP, and then over time give half of it away. Are you supposed to pay rent to the FLP? Do you have taxable income to the extent you don't pay rent? Where does the FLP get money to make mortgage payments? If from you, those payments could be seen to be gifts to the limited partners that are not within the annual gift tax exemption, thus requiring a gift tax return and reducing your lifetime exclusion. It can be a real mess.
The best way to do that is to leave it to her after you die, either in probate or in a trust. When you die any capital gain you have is basically wiped off the books. If you have a house bought for $100,000 but worth $500,000 when you die, your sister can sell it for $500,000 and have no taxable income. If she sells it for more, her taxable capital gain will be only the amount in excess of the date of death value.
The setup cost is reasonable. But the purpose of the FLP can only be achieved if you make annual gifts equal to the maximum gift tax exemption. To do that you have to have your property formally appraised each year. If you're talking about publicly traded stocks that's not an issue. But for real estate it certainly is. Stocks may or may not be a good thing to put into an FLP - talk to your accountant about it. Talk to your accountant about the whole concept, in fact. Based on what you've said, I have serious doubts that it is a good thing for you to do.
If your lawyer told you that, he has no clue what he's talking about. It is true that revocable trusts can't save estate taxes for someone who is not married. The only estate taxes they can save are what I call the estate tax marital penalty, as I have said. If you're not married, no penalty. But trusts do avoid probate. And in California probate fees can be a minimum of 5% or more of your total gross (that is gross as opposed to net) assets. That can amount to a lot of money. Trusts can also save income tax by avoiding probate compared to joint tenancy, which also avoids probate. Because with joint tenancy your heirs may not get the full stepped-up basis (that is forgiven capital gain) that would be available for property inherited some other way.
The differences have to do with community property. If your father's estate was a mess, it would have been whether it passed through trust or probate. But again, if you are not married, there should not be much of a difference on this score.
That's never been my experience. Unless there are specific questions that requires a lawyer's time, the only time fees would be required would be when the tax laws change in ways that require it. And that is not a common occurrence - certainly not annually.
While you are alive, you are trustee of your own trust. Therefore there are no fees. After you die your heir can be (and generally is) your successor trustee - particularly when you have only one heir. And in that case as well, no fees are necessary.
In California the laws provide statutory fees for lawyers and executors. These fees amount to 1% plus $13,000 of the value of the gross estate when it's over $1,000,000. That's for each each. There are also additional fees - a .1% court filing fee ($1,000 on a $1,000,000 estate), another .1% for the probate referee (appraiser - required to have one by law) and other various costs which may or may not come up depending on the specifics around the estate. And if the lawyer or executor have to do anything unusual, they get to charge more for what they do.
I can think of two other things. One is a charitable remainder trust. You give a charity what you would otherwise invest, and receive income from that at a rate you specify, for the rest of your life. When you do that you get an income tax deduction when you first set it up, and your estate is reduced by that same amount after you die. The only drawback to that is that, while taxes are saved, your property goes to a charity rather than to your sister. The other thing would be for you to make the same sort of arrangement with your sister. That is to say that you sell her your assets in return for periodic payments that you will need to live on. You will get any increase in value out of your taxable estate while preserving your retirement income. But this only makes sense for assets that are increasing in value, and if you don't need all the income generated from those assets. If you do set up something like this, the savings will likely be small. But talk about it with your accountant to determine if it might make sense. Good luck!
I understand it in principle now, but everything you've said makes it pretty clear that this is not the right thing for me.
That's the conclusion I came to. And just what kind of justification would pass muster with the IRS for me to take a general partner's fee? in fact, what kind of "business" purpose would this FLP have that would be accepted by the IRS? And wouldn't an FLP that didn't make regular gifts be challenged? This is all for my own education, at this point, and so I will sound somewhat credible when I next speak to the lawyer, but if you don't mind continuing, I'm interested. These kinds of discussions appeal to my sense of order.
I hate blanket cynicism too, but you deliver yours with just the right touch. It's depressing, especially since I had decided I actually had found someone knowledgeable and honest, but I'm afraid you are right. A woman alone must keep her antennae up for this kind of stuff and it makes me both sick and furious. If a man had accompanied me, regardless of our relationship, I wonder if he would have started down the same path. I wish I could structure the next conversation so that I clearly catch him ignoring the practical aspects of my life while pushing this vehicle, so I would know definitely what his motives are, but I'm not very good at these games. However, he doesn't know just how much an information gatherer I am, so he's not getting any blanket acquiescence to any plan from this corner. How in the world do you find professionals who trully have your best interests at heart?
I'm not sure which would be worse, a calculated snow job or stupidity!
It would be pretty hard to justify any fee because I don't really see what service I'd be providing to the FLP, although I guess if I was choosing what investments to buy and sell, as i do now with the help of my broker, it would qualify as wealth manager or something in that category. But since I can't predict most of my expenses in advance, except at some basic level (eg utility bills were x last year and probably wont' change much), it'd be pretty hard to know either what level distribution to make from profits (and what if the investments don't make any that year??), or how much of a fee to take. I'm thinking out loud at this point.
And distributions would have to make sense because that's what I will be living off of eventually.
Got it.
Got it. Strike the personal residence.
Exactly what would happen now, with just a will. Not quite sure how or if a trust would do anything for us.
Assuming the lawyer was giving me a best efforts first suggestion (we really didn't get into details because of time, so I should give him the benefit of the doubt), he was probably operating on the assumption that the FLP would consist of only stocks, thus no difficult appraisal. I suppose if I were older (i'm 63), and my living and health situation were clearer, doing this would have more merit because there would be fewer questions on how much money I was going to need and I would be more inclined to start giving it away to sister dear.
Don't have an accountant. I'm one of those control freaks who enjoy the annual ritual of tax preparation. There just aren't any complicated issues in my taxes. I've been doing itemized returns with schedule d's for decades. it really isn't brain surgery, altho I have to admit I do pull my hair out every year because I'm not very organized with receipts. I have the same serious doubts.
I imagine that's what he meant.
That's why my father had a trust. He was in CA. Do you happen to know how PA works? I know there is a 12% state estate tax. Is that tax eligible as a deduction/credit for, in this case, my sister, or is this taxation completely separate from one's individual return? I must confess total ignorance of how one finalizes an estate for tax purposes.
"A mess" is from my vantage point. He did complicate things by rewriting his will and making codicills himself, instead of having his lawyer redraft it, but fortunately when the executor, a family friend and lawyer, went thru his files, he found a copy that was at least witnessed and notarized. This is a case of the shoemaker's children have no shoes: my dad was a law professor, first at U of Penn, then at Hastings til his 80's, and it was his "frugality" (passed on to me) that made him think he could do the will himself (and it was not a simple "my wife gets everything" will). The trust that had been set up was clear in its terms and well structured. It just took a good executor, lawyer, and accountant a lot of time to do all the proper assessments, distributions and paperwork. The majority of the work came on the death of my step mother, who inherited the trust (sorry if my terminology is off) from my father. To maximize her income, there were a lot of clever devices used,all legal, but all requiring several someones with great expertise to tidy up.
We didn't get into the specifics, but he mentioned something about how he has the responsibility of writing checks to beneficiaries of a trust that he set up, and having to do periodic justification of all trust expenditiures. Does this ring any bells? Sounds like he's the trustee to me.
would avoid probate costs, it might be something to consider.... eventually.
Hefty but so is PA's 12% tax. It almost sounds worse then CA. Or maybe you mean these fees are in excess of the state tax on the estate, and my estate would incurr similar fees also?
The only drawback to that is that, while taxes are saved, your property goes to a charity rather than to your sister. I'm familiar with CRTs. Had a client whose business was to manage the administrative end of a variety of trust forms and I learned a bit about them. This would seem to only make sense if my sister predeceased me and I had noone else to make a beneficiary, which could very well be the case. What about an annuity trust? Am just throwing it out since it was one of the types my client administered (not the financial side, just the paper work) and it sounds like something that might put some regularity into my income stream in later years.
I'd have to think about this.
My nest egg is my security blanket, so I'm inclined not to part with any assets in the near future, and who knows if they will increase or not. I'd like to hope that I live to a ripe old age and have enough to be as comfortable as my dad was in his plush life care facility, but those kinds of things can't always be guaranteed. Thanks again for your intelligent, helpful feedback. It's helped me sleep again. jo
As far as a fee? I really couldn't say off the top of my head. My guess is that it would have to be related to the amount of work actually done on the FLP's business, and might be also related to the responsibility (e.g. total assets held by the FLP) the general partner takes on.
No, it wouldn't be challenged, but it would be useless. The whole purpose of the FLP is to transfer ownership gradually through the use of annual gifts.
It's like dating. Keep kissing frogs until you find the prince. Talk to friends and family members about other people they have used. Don't give up. It's only 99% of the lawyers who give the rest of us a bad name. ;-)
A trust will avoid the cost and delay of probate without the problems caused by other means of avoding probate. But that's about it.
Oh, that's nothing. For me it's only a mess when the gifts are vague and the heirs fight about who gets what. That can be a nightmare. I wonder if I knew your father when he was at Hastings. I did know one law professor who claimed to have a roll of butcher paper on his desk. He'd rip off a sheet every now and then, and hand-write a new codicile.
That's normal. It's considered a reasonable tradeoff because the financial and/or tax savings are enough to justify it. That's the kind of thing you'd be doing with an FLP, but with a lot of the complexity while you're still alive, and without enough savings to justify it.
To me, too. That's enough way for him to make money, though it's certainly not necessary, or even common.
Yes, probate fees are separate from inheritance tax. I don't know how probate lawyers are paid in PA. It's generally "reasonable fees" but often must be approved by the judge. Still, those fees are generally higher than what would be paid if the heirs aren't fighting and a trust could be used instead.
That's a vehicle I haven't had occasion to use, so you'll have to check with a financial planner (e.g. stock broker/insurance agent) about that. My guess is that it would be more trouble than it's worth. Stu
If memory serves he used to participate in this forum. I would also like to add that the estate tax savings that Stuart referred to can be achieved without a living trust by creating a trust through your will after death. However you don't get the probate savings using a trust created under the will. Another thing I didn't see in your discussion is the valuation discounts typically claimed by FLPs. For example, you transfer stocks worth $1,000,0000 to an FLP. You gift to your sister 40% of the FLP via a LP interest. Most people would believe the gift tax value is $400,000 but the proponents of FLPs claim that you get a discount because your sister doesn't have control of the FLP and perhaps a marketability discount (it is harder to sell a minority interest than a majority interest). So they might get it appraised for $400,000 less a discount of $100,000 for a net gift of $300,000. Thus reducing gift/eventual estate taxes by the tax on the $100,000. Plus of course the estate tax saved for all the appreciation on the 40% after the gift and prior to your death. The appraisals are not cheap and one is required every time you make a gift. You also have to make sure that the FLP is structured in such a way that it is not brought back into your estate and thus negating all the gift/estate tax savings. The IRS seems to be on a crusade to curb the discounts as there are a lot of cases on this matter. (See for example the Strangi case but make sure you read all the appeals, remands, etc. Just type "Strangi" into a search engine and you will get plenty of hits.) Another possible advantage of an FLP is it can provide, depending on state law, some asset protection. Typically if you lose a lawsuit the plaintiff gets your distribution rights but not control of the FLP. So the FLP can just not make any distributions thus frustrating the plaintiff. FLPs are not a do it yourself project and they must either be monitored annually by a tax professional or you will likely end up with a bad result.
That's exactly right. In reality trusts are not necessary at all, but if you don't use them then avoiding probate can cause some other problems.
Yes, that is a point, and even more taxes can be saved (eventually) as a result. FLP's are certainly good for some people, but by no means all.
The courts generally uphold reasonable discounts. I remember seeing cases where the IRS expert is excoriated by the court as someone who doesn't know what he's talking about.
That may or may not be the situation in any individual case. But if the heir's FLP share (or anything else) is held in a spendthrift trust, that kind of thing is very often the case. Stu
The attacks I see are more on the structure than on the discount. Sorry I wasn't more clear. The IRS would probably not be so interested if there wasn't a discount and that was my point.
Please note the word "possible" in my post. I think you basically agreed with me.
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