This is the fourth in a four-part blog series on the Setting Every Community Up for Retirement Enhancement Act (SECURE Act). The first three installments can be read here.

An area of estate planning that is impacted by the changes in the recently enacted SECURE Act is the use of qualified charitable distributions (“QCDs”). A QCD is a distribution from an IRA (up to $100,000 per year, per individual) made directly to an eligible charity.

Those 70½ and older may continue to make QCDs to public charities. A QCD will count toward an individual’s RMD requirement and generally will not trigger an income tax on distribution. While the age to begin taking RMDs was raised to 72 under the SECURE Act, the age to make QCDs remains unchanged at 70½. Because QCDs are not included in income, they are typically more tax-efficient than taking a charitable deduction.

One important change impacting QCDs brought about by the SECURE Act is that contributions to a traditional IRA after age 70½ will reduce the amount of eligible QCDs, even if the QCDs occur years after the contributions were made to the traditional IRA. If not planned properly, this reduction in QCDs due to traditional IRA contributions after age 70½ could inadvertently cause taxable income. Thus, if you anticipate making QCDs, you may consider contributing to a Roth IRA after age 70½, which will not result in a reduction of the QCD.  

In addition to the planning options mentioned above, there are additional planning strategies that may be used to reduce the overall tax burden if you decide to direct your retirement account to a trust for your beneficiaries.

Please contact someone in our Trusts & Estates Practice Group if you would like more information regarding how to plan with QCDs and other tax reduction planning options available.

While the outbreak of the COVID-19 coronavirus has certainly brought a sudden dramatic change to our daily lives, there is still a continuous need for legal work. Many legal documents require notarization, and even in some cases witnesses, to take effect. With the various levels of governments now requiring “social distancing” and instituting shelter-in-place or stay-at-home orders, the normal rules that require a signer to be in the “presence” of a notary or witness have been put into question.

Unfortunately, the laws of most states have not kept pace with modern uses of technology when it comes to signing legal paperwork. Applications like FaceTime, Skype, Zoom and other video conferencing systems have made connecting with friends and family much easier, but the legal world has been slow to adopt this technology when it comes to executing documents. With the recent restrictions in place, legal practitioners (especially those in the estate planning field) have been scrambling to figure out ways for their clients to sign important documents that require a notary and/or witnesses.

Fortunately for those in Illinois, much-needed guidance has now been provided. On March 26, 2020, Illinois Gov. J.B. Pritzker issued an executive order addressing this issue. Under the order, documents requiring a person to “appear before” or sign in the presence of a notary or witness may now be signed remotely “via two-way audio-video communication technology.” There are a number of strict requirements for this new method to be used, including all parties being physically located in Illinois and acknowledging such during the signing ceremony. Also, the audio-video communication must be recorded and preserved for at least three years.*

While the order does not define audio-video communication, guidance from the secretary of state says it means “communication by which a person is able to see, hear and communicate with another person in real time using electronic means.” Communication technology means “an electronic device or process that allows a notary public and a remotely located person to communicate with each other simultaneously by audio-video communication.” Before signing anything remotely, all the rules and guidelines should be carefully reviewed. The order can be found here and the secretary of state guidance here.

The secretary of state guidance makes clear that it is still permissible to use electronic notarization companies connecting customers to “qualified notaries whose notarial acts are acceptable in Illinois.”

You can find directions for recording on Zoom here and Skype here. To record using video functions on an iPhone or Android device, there are third-party apps you may be able to download and use.** However, we still recommend that any document signing continue to be performed under the supervision or direction of an attorney to ensure the proper formalities are followed and met.

The executive order makes clear that all legal documents (specifically including wills, trusts, durable powers of attorney, and deeds) may be signed in counterparts, unless the document itself prohibits it. Note that the order applies as long as the Gubernatorial Disaster Proclamation remains in effect in Illinois. Hopefully these new methods may find their way into permanent law eventually, but in the meantime as we all deal with the current restrictions in place, this should help those wanting to get important legal documents taken care of.

*Under the order and secretary of state guidance, it appears both the notary and the signatory (or the signatory’s designee) are required to preserve the recording.

**DISCLAIMER: Please be aware of any privacy laws that might apply when using a device to record video or audio with a third party.

Read an update on Missouri’s remote notarization order here.

Link to COVID-19 Resources page

This is the third in a four-part blog series on the Setting Every Community Up for Retirement Enhancement Act (SECURE Act). Parts 1 and 2 can be read here. The final installment will cover how the SECURE Act affects Qualified Charitable Deductions.

As discussed in previous installments of this blog series, after the death of a retirement plan participant or IRA owner, non-eligible designated beneficiaries of a retirement account (other than a Roth) will experience an acceleration of taxable income and the loss of tax-deferred growth that was available before the recently enacted SECURE Act. This is due to the elimination of the life expectancy, or stretch, payout. If it is important to you to minimize the additional future income tax caused by the 10-year payout, there are several items worth considering.

Roth IRA Conversions. It may make sense to systematically convert an IRA to a Roth IRA over many years if the tax rate on the conversion is less than the tax rate the beneficiary will ultimately pay.

Life Insurance. Another option is to withdraw funds from your retirement account to purchase whole life insurance on your life. The beneficiary can be a trust designed to make distributions to the beneficiary over an extended period of time. The trust would receive the life insurance proceeds income tax-free. Whether or not this strategy will increase the value of the beneficiary’s ultimate inheritance should be carefully analyzed and will depend on many factors outside of your control.

Charitable Remainder Trusts. A charitable remainder trust (“CRT”) can be named as the beneficiary of a retirement account. A CRT pays an amount to one or more individuals for life (or for a fixed period up to 20 years), with the remainder passing to charity. The CRT can be structured so the payouts are similar to a stretch, except that additional principal payments cannot be paid from a CRT, even if there is an emergency. Also, the charity’s interest in a CRT must be at least 10 percent of the value of the trust, so these should only be considered if you have charitable intent.

Leaving Retirement Accounts Outright to Charity. If you have charitable intent, tax-deferred retirement accounts are often the most tax-efficient way to fund charitable contributions at your death. As charities are exempt from paying income taxes, the retirement account will be worth much more to a charity than it would be to anyone else who would be required to pay income taxes on withdrawals of the retirement funds. In other words, leaving your retirement account to charity can completely eliminate the income taxes associated with the account, but, obviously, at the expense of leaving less assets to your family members or other intended beneficiaries. 

Qualified Charitable Distributions. Those 70½ and older may continue to make qualified charitable distributions (“QCDs”) to public charities. However, one important change impacting QCDs is that contributions to a traditional IRA after age 70½ will reduce the amount of eligible QCDs, even if the QCDs occur years after the contributions were made to the traditional IRA. We will cover more on QCDs in the next installment of this series.

In addition to the planning options mentioned above, there are additional planning strategies that may be utilized to reduce the overall tax burden if you decide to direct your retirement account to a trust for your beneficiaries.

It is important to review your estate plan in light of the changes brought about by the SECURE Act. Please contact someone in our Trusts & Estates Practice Group to discuss the changes mentioned above, how they may impact your plan, and the planning options available.

This is the first in a four-part blog series on the Setting Every Community Up for Retirement Enhancement Act (SECURE Act). Future installments will cover more details on the impact of the SECURE Act on estate plans, minimizing the tax burden of the act’s 10-year payout, and how it affects Qualified Charitable Deductions.

The following overview of the SECURE Act is adapted from a summary by Thomson Reuters’ RIA Checkpoint.

Congress recently passed, and President Trump signed into law, the SECURE Act, landmark legislation that may affect how you plan for retirement. Most of the provisions went into effect in 2020, which means now is the time to consider how these new rules affect your estate and tax planning.

Below is a summary of some of the key provisions of the SECURE Act affecting individuals.

Partial elimination of the stretch. If the death of a plan participant or IRA owner occurred before 2020, beneficiaries (both spousal and nonspousal) were generally allowed to stretch out the tax-deferral advantages of the plan or IRA by taking distributions over the beneficiary’s life expectancy (this is called a “life expectancy payout” or “stretch”).

However, if the plan participant or IRA owner dies on or after Jan. 1, 2020 (later for some participants in collectively bargained plans and governmental plans), distributions to most nonspouse beneficiaries are generally required to be distributed within 10 years following the plan participant’s or IRA owner’s death. So, for those beneficiaries, the “stretching” strategy is no longer allowed. This maximum 10-year payout applies to most retirement accounts, including all IRAs (traditional, Roth, SEP, SIMPLE, etc.) and most qualified plans (401(k)s, Roth 401(k)s, 403(b)s, etc.).

Exceptions to the 10-year rule are allowed for distributions to “eligible designated beneficiaries.” Eligible designated beneficiaries include only (1) the surviving spouse of the plan participant or IRA owner; (2) a child of the plan participant or IRA owner who has not reached majority; (3) a chronically ill or disabled individual; and (4) any other individual who is not more than 10 years younger than the plan participant or IRA owner. Those beneficiaries who qualify under one of these exceptions may generally still take their distributions over their life expectancy (as allowed under the rules in effect for deaths occurring before 2020). In the case of a minor child, the 10-year rule would apply when the child reaches majority. There is some ambiguity as to when a child reaches “majority” that we hope the IRS will clarify.

Repeal of the maximum age for traditional IRA contributions. Before 2020, traditional IRA contributions were not allowed once the individual attained age 70½. Starting in 2020, the new rules allow an individual of any age to make contributions to a traditional IRA so long as the individual has compensation, which generally means earned income from wages or self-employment.

Required minimum distribution age raised from 70½ to 72. Before 2020, retirement plan participants and IRA owners were generally required to begin taking required minimum distributions (“RMDs”) from their plan by April 1 of the year following the year they reached age 70½. The age 70½ requirement was first applied in the retirement plan context in the early 1960s and, until recently, had not been adjusted to account for increases in life expectancy. Beginning in 2020, the age at which an individual must begin taking distributions from their retirement plan or IRA is increased from 70½ to 72. Those who turned 70½ before Jan. 1, 2020 will take their RMDs as required prior to the SECURE Act.

Expansion of Section 529 education savings plans. A Section 529 education savings plan (also known as a qualified tuition program) is a tax-exempt program established and maintained by a state, or one or more eligible educational institutions. Any person can make nondeductible cash contributions to a 529 plan on behalf of a designated beneficiary. The earnings on the contributions accumulate tax-free. Distributions from a 529 plan are excludable up to the amount of the designated beneficiary’s qualified higher education expenses.

Before 2019, qualified higher education expenses did not include the expenses of registered apprenticeships or student loan repayments. However, for distributions made after Dec. 31, 2018 (the effective date is retroactive), tax-free distributions from 529 plans can now be used to pay for fees, books, supplies, and equipment required for the designated beneficiary’s participation in an apprenticeship program. In addition, tax-free distributions (up to $10,000, per individual) are allowed to pay the principal or interest on a qualified education loan of the designated beneficiary, or a sibling of the designated beneficiary.

Kiddie tax changes for gold star children and others. In 2017, Congress passed the Tax Cuts and Jobs Act (“TCJA”), which made changes to the so-called “kiddie tax,” which is a tax on the unearned income of certain children. Before enactment of the TCJA, the net unearned income of a child was taxed at the parents’ tax rates if the parents’ tax rates were higher than the tax rates of the child.

Under the TCJA, for tax years beginning after Dec. 31, 2017, the taxable income of a child attributable to net unearned income would be taxed according to the brackets applicable to trusts and estates, resulting in the highest tax rate being applied at a much lower income threshold than for individuals. Children to whom the kiddie tax rules applied and who had net unearned income would also have a reduced exemption amount under the alternative minimum tax (“AMT”) rules.

There had been concern that the TCJA changes unfairly increased the tax on certain children, including those who were receiving government payments (i.e., unearned income) because they were survivors of deceased military personnel (“gold star children”), first responders, and emergency medical workers.

The new rules enacted on Dec. 20, 2019, repeal the kiddie tax measures that were added by the TCJA. So, starting in 2020 (with the option to start retroactively in 2018 and/or 2019), the unearned income of children is taxed under the pre-TCJA rules, and not according to the trust and estate tax brackets. And starting retroactively in 2018, the new rules also eliminate the reduced AMT exemption amount for children to whom the kiddie tax rules apply and who have net unearned income.

Penalty-free retirement plan withdrawals for expenses related to birth or adoption. Generally, a distribution from a retirement plan must be included in income. And, unless an exception applies (for example, distributions in case of financial hardship), a distribution before the age of 59½ is subject to a 10 percent early withdrawal penalty on the amount includible in income.

Starting in 2020, plan distributions (up to $5,000) that are used to pay for expenses related to the birth or adoption of a child are penalty-free. That $5,000 amount applies on an individual basis, so for a married couple, each spouse may receive a penalty-free distribution up to $5,000 ($10,000 per couple) for a qualified birth or adoption.

Please contact someone in our Trusts & Estates Practice Group if you would like more information regarding the SECURE Act and how it may affect your planning.

How many times have you prepared your income tax returns for the previous year, only wishing you knew then what you know now, so you could go back and make more advantageous tax decisions? In most cases, you are stuck with the decisions you made before the new tax year began, even though you may not have all the relevant tax information available to assist with those decisions until several months into the new tax year. Too bad for you, says the IRS, unless you are an estate or trust.

Under Section 663(b) of the Internal Revenue Code, any distribution by an estate or trust within the first 65 days of the tax year can be treated as having been made on the last day of the preceding tax year. For example, a distribution of $500 of trust income by the trustee to a beneficiary on Jan. 22, 2020, can be treated as having been made in the 2019 tax year or the 2020 tax year. In most years, the last day to make a distribution count toward the previous tax year is March 6; but in leap years like 2020, the last day is March 5.

The election to treat the distribution as being made in the previous tax year must be made by the fiduciary on a timely filed income tax return (including extensions) for the tax year to which the distribution is meant to apply. A fiduciary may make the election for only a partial amount of the distribution(s) within the 65-day period, but once made the election is irrevocable.

The main advantage of this tax rule is that it may provide an opportunity for tax savings. An estate or trust pays income taxes at graduated rates similar to individuals, but for 2019, the top tax rate (37 percent) applies to income in excess of $12,750. However, married couples filing jointly pay the top rate when income exceeds $612,350 (or $510,300 for single filers). In some cases, an additional 3.8 percent Medicare surtax (also known as the Net Investment Income Tax) on the net investment income of the estate or trust may apply, resulting in a total marginal tax of 40.8 percent. To avoid paying such a high tax rate, income from the estate or trust may be distributed to a beneficiary, and the beneficiary will then pay any income taxes associated with the distribution, rather than the estate or trust, at the beneficiary’s individual tax rate. For example, a beneficiary who pays income taxes at a rate of 24 percent would pay less income tax on the distribution amount than a trust already paying at the top rate of 37 percent (or even 40.8 percent). In cases of estates or trusts with large taxable income and beneficiaries in lower tax brackets, the tax savings can be significant.

State income tax consequences may also apply to distributions made from a trust or estate, and there may be limitations on the amounts of distributions a fiduciary can apply using the 65-day rule. It is recommended that you discuss all possible consequences with your tax advisor before trying to apply the rules discussed above.   

The Internal Revenue Service recently published its annual inflation-adjusted figures for 2020 for estate and trust income tax brackets, as well as the exemption amounts for estate, gift and generation-skipping transfer (GST) taxes. These figures are adjusted annually for cost-of-living increases.

Below is a summary of the 2020 figures. The original news release from the IRS may be found here.

2020 Estate, Gift, GST and Trusts & Estates Income Tax Rates

Estate tax:  Generally, a person dying between Jan. 1 and Dec. 31, 2020, may be subject to an estate tax, with an applicable exclusion amount of $11,580,000 (increased from $11.4 million in 2019). The top marginal rate remains 40 percent. 

Gift tax: The lifetime gift tax exemption for gifts made during 2020 is $11,580,000 (increased from $11.4 million in 2019). The top marginal rate remains 40 percent. The gift tax annual exclusion amount remains $15,000. The annual exclusion for gifts made to noncitizen spouses in 2020 is $157,000 (increased from $155,000 in 2019).

GST tax: The GST tax exemption amount, which can be applied to generation-skipping transfers (including those in trust) during 2020, is $11,580,000 (increased from $11.4 million in 2019). The rate remains 40 percent.

Income tax: The tax rate schedule for estates and trusts in 2020 is as follows:

Each year, Greensfelder hosts a fall Estate Planning Symposium that addresses recent developments in estate planning. At the 2019 symposium, Trusts & Estates attorney Keith Herman presented on recent developments in asset protection.

As a follow-up to Keith’s presentation, we are pleased to present a three-part blog series that touches upon the lessons learned from several recent case law developments that impact asset protection planning. The topics include the importance of timing when protecting assets from creditors, when to name an irrevocable trust as beneficiary of an IRA or other retirement account, and why using trusts for divorce protection may not be enough.

If you have questions about asset protection planning or any of the topics discussed in Keith’s presentation or this series, please contact Keith or another attorney in our Trusts & Estates group.

Generally, if a taxpayer fails to pay any tax after demand by the IRS, the U.S. will have a lien on all of the taxpayer’s property.^[1] It is commonly understood that traditional creditor protection does not work against tax liens — the IRS can go after all of your property even if the property would generally be protected from creditors under state law. However, in the 2019 U.S. Tax Court case of Campbell v. Commr. Of Internal Revenue,^[2] the Tax Court determined that assets placed in an off-shore trust could not be considered in an Offer in Compromise, which in effect, allowed the trust assets to remain shielded from a tax lien and therefore out of reach of the IRS.

In April 2004, the taxpayer, Campbell, created an off-shore asset protection trust on the Caribbean island of Nevis with a Nevis corporate trustee. Campbell and his family were the beneficiaries of the trust. Campbell funded the trust with $5 million (20 percent of his net worth at the time). No contributions were made to the trust after April 2004.

Shortly after creating the trust, in May 2004, the IRS notified Campbell that his 2001 personal income tax return was being audited based on his failure to report a tax shelter strategy called a “custom adjustable rate debt structure” (CARDS) transaction. The IRS had issued a notice in March 2002 requiring taxpayers to report any involvement in a CARDS transaction, such as the transaction used by Campbell. However, Campbell had failed to properly report his involvement in the 2001 CARDS transaction.

In 2006 Campbell moved back to the U.S. and invested $27 million in real estate opportunities involving the Gulf Coast region after a series of hurricanes. Campbell lost all of his investment due to economic circumstances and Chinese drywall problems that were beyond his control.

In 2007, the IRS issued a deficiency notice to Campbell for $1.1 million. Campbell filed for an Offer in Compromise (OIC), which allows a taxpayer to reduce the tax due if there is “doubt as to collectability.” Campbell claimed he could only pay $12,603 due to his change in economic circumstances. The IRS determined that Campbell could pay much more due to the asset protection trust in Nevis, which then had $1.5 million. Campbell appealed to the Tax Court.

The Tax Court found that the asset protection trust could not be considered for purposes of the OIC as Campbell (i) funded the trust prior to his tax liability, (ii) did not retain the right to replace the trust company as trustee, and (iii) could not force the trustee to make distributions or investments.  The Tax Court further determined that a taxpayer’s “ability to pay” for purposes of the OIC is to be determined as of the date the tax liability is assessed.

Prior cases have held that off-shore asset protection trusts were not protected in bankruptcy based on the state law of the forum court (as opposed to the law designated in the trust document).^[3] However, the Tax Court did not address federal fraudulent transfer laws or whether a judgment against Campbell could have been satisfied with the assets in the off-shore trust.

Lesson: This case highlights the importance of engaging in asset protection before you have foreseeable creditors. It is never wise to engage in asset protection to specifically protect your assets from tax liens, as this will often be criminal. However, engaging in asset protection for general creditors is wise for people in high-risk industries, and in this case, that type of planning had the secondary effect of also protecting assets from paying federal taxes.

[1] See 26 U.S.C. Section 6321.

[2] Campbell v. Commr. Of Internal Revenue, T.C. Memo. 2019-4.

[3] In re Rensin, No. 17-11834-EPK, 2019 WL 2004000 (Bankr. S.D. Fla. May 6, 2019); In re Portnoy, 201 B.R. 685 (Bankr. S.D.N.Y. 1996); In re Brooks, 217 B.R. 98 (D. Conn. Bkrpt. 1998); In re Huber, 2012 Bankr. LEXIS 2038 (May 17, 2013); Gideon Rothschild, Daniel S. Rubin and Jonathan G. Blattmachr, “Self-Settled Spendthrift Trusts: Should a Few Bad Apples Spoil the Bunch?”, Journal of Bankruptcy Law & Practice (Vol. 9, No. 1); Rush University Medical Center v. Roger Sessions, 980 N.E.2d 45 (IL 2012)  (The Supreme Court of Illinois found self-settled trust was void against creditors under Illinois law, even though the trust provided it was to be governed by the law of the Cook Islands).