The first step in a well-developed estate plan is to have a solid foundation with documents in place — including, for example, a revocable trust, pour-over will, powers of attorney and medical directive. The next step, and perhaps the most critical, is making sure assets are properly titled or proper beneficiary designations are in place so the overall plan is achieved.

When a closely held business is involved, though, merely titling shares of a corporation or membership interests in a limited liability company in a revocable trust may not be enough, if the company documents even permit it. A closely held business owner must ask additional questions such as: What happens to the stock or other interest at death? If there are other owners in the business, will they or the company buy the interest from the trust or estate? Will there be enough cash to pay estate taxes considering the value of the interest?

Thus, as part of a comprehensive estate plan review, an owner in a closely held business with multiple owners needs to determine whether an agreement between the owners and possibly the company is in place to alter or control the disposition of an ownership interest upon death, establish a value for the interest at death, or provide liquidity for the estate.

This agreement can come in a variety of forms. With a corporation, it may be a buy-sell agreement, stockholder agreement or restricted stock agreement. With a limited liability company, the terms may be incorporated into the operating agreement. However, notwithstanding the differing names or even the types of entities, these agreements generally have the same objectives. Common provisions include:

• Providing possible restrictions on an owner’s ability to transfer his or her interest during life or at death;
• Providing for an existing owner or the company’s right or obligation to acquire an outgoing owner’s interest;
• Terms regarding existing owners’ ability to avoid having their interest diluted by the issuance of additional shares or membership interests; or
• Providing for certain mechanisms to handle or avoid deadlocks between owners.

From an estate planning standpoint, important items that may be covered in such an agreement include:

• What happens to the owner’s interest upon death? That is, whether the company or other owners are required to purchase the interest or if such purchase or redemption is optional;
• How the ownership interest is valued at death and whether that value will be sufficient for federal estate tax purposes; or
• If the company or other owners are to purchase the interest, what are the purchase terms? Will it be a lump sum or payments over a term? This is especially important if the estate needs liquidity.

 Additional items may be addressed in such an agreement. However, it is critically important when putting together a comprehensive estate plan that includes a closely held business interest that the owner go beyond merely retitling the ownership interests, but also consider what other agreements are or should be in place.

For more information on business succession planning or any other estate planning matter, please contact the attorneys in our Trusts & Estates group.

An often overlooked part of an estate plan relates to something most people care about deeply during life: Where will my pets go when I pass away?

Although many people consider their pets to be a part of the family, legally pets are considered personal property. They should be included in a client’s estate plan if there is concern regarding where the pet will go at the client’s death. Most people assume a family member or even a friend will step up to take care of their pets. However, to ensure that a furry friend is properly taken care of and provided for at death, a pet trust can be created.

When most people hear about pet trusts, they think of someone leaving all of their money to their dog so that the dog can live a life of luxury with its own swimming pool and a private movie theater (e.g., Leona Helmsley’s pampered pooch, Trouble). However, in reality, a pet trust allows a client to name the individuals they would like to care for their pet after they have passed away. It also provides a sum of money for the pet caregiver to use in caring for the animal for its lifetime.

If you would like to discuss creating a pet trust for your furry loved one, please contact an attorney in our Trusts & Estates group.  

A good friend of mine called me in a panic the other day. She and her husband were leaving town for vacation and were worried about not having their estate plan in order. She asked how to name guardians for their four minor children, should she and her husband die.

This is a question estate planners hear all the time. The answer is that you just need to make a few decisions to get your will and other estate planning documents in order. She told me they did not have time to sign a will as they were leaving in the morning. She asked if her children would become wards of the state if they died without a will. A ward is someone who is placed under the protection of a legal guardian. When someone becomes a ward of the state, they are under the protection of some arm of the government.

Each state can be different, but in Missouri if both parents die with a child under the age of 18, then the probate court must appoint a guardian to make legal decisions for the minor. If the minor is over age 14, then the court will first consider the recommendation of the minor. Next, the court looks to the person named in the will of the last surviving parent. If there is no will naming a guardian, then the court will appoint “the most suitable person who is willing to serve and whose appointment serves the best interests of the child to a stable and permanent placement.”

Naming a guardian in a will is still just a recommendation to the probate court. The person named in the will must be willing to serve, file a petition for guardianship and be found by the court to be fit to handle the duties of a guardian. 

So, the answer to my friend’s question was no — her children would likely not become wards of the state if she died without a will. However, it is unlikely her preference for guardian would be considered by the court if she never stated it in a validly executed will.

Have you considered who will have control of your body after death? In some instances, the disposition of remains may work out as planned even if the default rules set by state statute apply. In other instances, while you may hope to be dust in the wind, you may instead be pushing up daisies.

Missouri law provides that “next of kin” may determine the disposition of a body. The statute generally provides that people in the following order have control:

1. An attorney-in-fact designated in a durable power of attorney that grants a right of sepulcher
2. The person designated in Form 93 for a soldier in the military
3. Spouse
4. Children
5. Parents
6. Siblings, and the list goes on…

Unfortunately, even an agent under a durable power of attorney (DPOA) may not have authority, as was the situation in the 2013 case of Collins v. Shoemaker. After executing a DPOA, Collins was involved in an automobile accident and died instantly. Shoemaker, believing she had authority under the DPOA, sought to have Collins’ remains cremated. However, Collins’ children, who were not appointed as agents, wanted Collins to be buried in a family plot and filed an action to stop cremation.

On appeal, the court ruled that the DPOA had not at the time of death given Shoemaker the right of sepulcher. This was because the DPOA required that Collins be certified by a physician as being incapacitated before the agent would have the authority to act under the DPOA. Because Collins died instantly, there was never a moment when Collins was still alive but incapacitated, effectively never turning on Shoemaker’s ability to act as agent and have control of the remains.

If you are unsure who has control of the disposition of your body, please contact our Trusts & Estates group to prepare or review your estate planning documents to see if changes are necessary — especially if the person you would like to have control is not “next of kin” according to Missouri law. 

Many people do not realize the importance of correctly designating the beneficiaries of their retirement accounts (IRAs, 401(k) plans, etc.). Because retirement accounts are funded with pretax dollars, there can be significant tax consequences when required minimum distributions are taken, depending on the beneficiary named.

The minimum required distributions are calculated based on the life expectancy of the beneficiary, and then the beneficiary pays income tax on those distributions. However, if a trust is named as the designated beneficiary of a retirement account and the designation is not done in the right way, the retirement account will have to be withdrawn over a five-year period.

If the trust that is the named beneficiary is a conduit trust, though, the distributions may be withdrawn over the life expectancy of the beneficiary of the trust. By extending the time period over which withdrawals are required to be made, less income tax will need to be paid on each distribution.

Because of the income tax owed by beneficiaries on minimum required distributions from retirement accounts, this can result in paying both income and estate tax on retirement accounts.

If the owner of the retirement account intends to make some type of charitable gift at death, this double tax can be avoided by naming the charity as the beneficiary of the retirement account and leaving other assets to individuals. Estate tax will not be owed on gifts to the charity, and the charity will not have to pay income tax on distributions from the retirement account. In addition, the individual beneficiaries are then able to receive assets that will not be reduced by income tax.

Please contact the attorneys in our Trusts & Estates group for more information about how to incorporate retirement accounts into your estate plan.

If you are one of the countless parents sending a child to college this year, you have a lot on your mind. Packing clothes, buying dorm room accessories and learning how to do laundry are probably only a few of the items on your child’s college checklist. Odds are that signing estate planning documents is not near the top of that list, but it should be. 

While you may not realize or want to admit it, your college-bound child is legally an adult. Every adult 18 years or older, including you, at a minimum should have a current medical directive and durable power of attorney for health care decisions and a durable power of attorney for financial matters in place.

These documents allow your adult child to appoint someone trusted to make medical and financial decisions on his or her behalf in the event he or she is unable to do so. Whether a routine surgery is needed or something catastrophic occurs, the durable powers of attorney will ensure medical decisions are made and financial transactions are carried out seamlessly and without lengthy, expensive court proceedings. With a little planning, your college student’s immediate needs can be met if and when life gets off track.

There is never a better time to sign durable powers of attorney than right now – well before they are ever needed, well before the unexpected takes place. The peace of mind and protection these simple, yet powerful documents offer make them well worth the minimal costs incurred to create them. 

For more information on this topic, please contact one of the attorneys in our Trusts & Estates practice group.

As discussed in an earlier post, trusts and estates may be subject to a 3.8 percent tax on net investment income over certain threshold amounts. Net investment income may include trade or business income from passive activities — those in which the taxpayer does not “materially participate,” according to Section 469 of the code. So, the determination of whether a trust or trustee materially participates may decide whether the income is passive, and consequently, subject to the net investment income tax, or NIIT. 

Under Section 469, material participation is defined as an activity in which the taxpayer participates on a “regular, continuous, and substantial basis.” For individuals, one of seven tests may be used to establish material participation (e.g. the 500-hour rule) to avoid passive income treatment. A separate exception also applies for real estate professionals (750 hours in real property trades or businesses).

Because grantor trusts are not treated as a separate entity for tax purposes, the IRS will look to the grantor (individual taxpayer) to determine material participation. However, no clear guidance exists regarding material participation by non-grantor trusts. Thus, because of the absence of regulations, taxpayers and practitioners must rely on the limited legal authorities available.

The IRS takes the position that trusts and estates are not treated as individuals under Section 469. Thus, the seven tests available to individuals do not apply to trusts and estates. The IRS also takes the position that the trustee must be involved directly in the operations of the business. Recent legal developments, however, have knocked the IRS back from this hard-nosed position. In Mattie K. Carter Trust v. U.S. (N.D. Tex. 2003), the Federal District Court concluded that material participation is determined by reference to all persons who conduct business on behalf of a trust, whether employees or fiduciaries. However, in TAM 200703023, the IRS rejected the court’s position in Carter Trust and adhered to the proposition that the IRS will look solely to the activities of the trustee and not the trustee’s agents or employees.

The IRS took similar positions in PLR 201029014 and TAM 201317010. However, in Frank Aragona Trust v. Commissioner (2014), the Tax Court provided welcome guidance that (1) a trust can qualify for the real estate professional exception, and (2) the activities of a trustee who is also an employee of a trust can be used to assess whether a trust materially participates in an activity.

With no clear guidance regarding material participation by trusts or estates, the IRS is considering regulations to address the issue. However, until additional guidance is provided, taxpayers and advisors must continue to rely on cases like Aragona Trust and the other authorities to determine material participation by trusts and whether such trade or business income may be non-passive, thereby avoiding imposition of NIIT.

If you would like more information regarding the net investment income tax or would like to discuss tax saving strategies, please contact the attorneys in our Trusts & Estates group. 

To help fund the Affordable Care Act, a 3.8 percent net investment income tax took effect in 2013. The tax, known as the NIIT, is imposed against individuals, trusts and estates on non-business income from interest, dividends, annuities, royalties, rents and capital gains above certain thresholds. 

For the tax year 2016, the threshold for trusts and estates is $12,400. Thus, if a non-grantor trust has net investment income, the 3.8 percent tax may be applied to the lesser of the amount of the undistributed net investment income or the amount in excess of $12,400. For individuals, NIIT applies to amounts in excess of $250,000 of adjusted gross income for joint filers or $200,000 for non-married filers.

For grantor trusts, NIIT applies not at the trust level, but instead at the grantor level. This can be significant, not only because individuals have a much higher threshold but also because of the rules regarding material participation for determining whether a business activity is a passive activity, making income from that point possibly subject to NIIT.

Minimizing NIIT

There are several ways for a trust to minimize NIIT. First, the trust could invest in tax-exempt income. Secondly, the trustee could allocate indirect expenses to undistributed net investment income. For example, all or a portion of trustee fees could be allocated to capital gain that is not distributed by the trust, resulting in a reduction in undistributed investment income subject to NIIT.

Another way to minimize NIIT for a trust is for the trustee to make discretionary distributions of net investment income to the beneficiary. If the trustee knows the adjusted gross income of the beneficiary, the trustee could distribute net investment income to the beneficiary that would not cause that adjusted gross income to exceed the much higher individual threshold, and at the same time, reduce or eliminate the NIIT for the trust.

As part of such a planning strategy, the use of a one-pot trust could help provide more flexibility for distributions to multiple beneficiaries. However, evaluation of the standard for making distributions may need to be considered. In addition, the trustees will still need to consider not only whether such distributions are authorized or could cause a breach of the trustee’s fiduciary obligations, but also such factors as the maturity of the beneficiary, loss of creditor protection, future estate taxes or the future divorce of a beneficiary.

If you would like more information regarding the net investment income tax or would like to discuss tax saving strategies, please contact the attorneys in our Trusts & Estates group.