John Glass expanded his family business to more than 90 employees from seven workers over four decades. Last year, U.S. tax laws prompted him to gift about $2 million of company stock to his three daughters.
Glass, 70, and his wife are debating passing on more of their interest in Illco Inc., a refrigeration and air conditioning distributor based in Aurora, Illinois, before the lifetime tax exclusion on gifts of as much as $10.24 million per couple expires Dec. 31. Like the majority of America’s wealthiest families, they’ve yet to take full advantage of an opportunity wealth advisers call unprecedented.
Families can save millions in taxes by making large gifts, said Lisa Featherngill, a managing director at San Francisco- based Wells Fargo & Co.’s (WFC) Abbot Downing wealth-management unit. Fewer than 10 percent of clients with at least $10 million have used even part of the exemption or plan to by December, said two-thirds of certified public accountants surveyed by the American Institute of CPAs. The New York-based group collected data from 227 accountants who also are financial planners.
“The global economic issues that we experienced and continue to see today have made individuals far more careful and far more concerned with deciding to part with wealth,” said Chris Heilmann, chief fiduciary executive at U.S. Trust, a unit of Charlotte, North Carolina-based Bank of America Corp. “There is an unprecedented opportunity to take advantage” of the tax break before it expires.
Legislation enacted in 2010, which raised the lifetime gift-tax exclusion to $5 million from $1 million for each person starting last year, is set to expire. For 2012, the inflation- adjusted figure is $5.12 million for each person. It will drop to $1 million on Jan. 1 unless Congress acts.
Money or property given while alive may be subject to the gift tax, and wealth transferred at death may incur levies applied to estates, according to the Internal Revenue Service. Under current law, an estimated 3,300 households may have to pay estate taxes this year, according to the Washington-based Tax Policy Center. The figure would increase to about 52,500 estates next year if the exemption drops to $1 million, data from the nonpartisan research group show.
The dilemma Glass faces is making sure he and his wife have enough money for the rest of their lives while also trying to pass on their largest asset to their daughters who are employees of the company, he said.
“I know how much time and energy and money my dad has spent working with people trying to figure out how to pass a company onto his kids who really want to take it,” said Karen Madonia, 48, Illco’s chief financial officer and Glass’s middle daughter. Bill Bergamini, a son-in-law, is the company’s president.
Next year, the gift- and estate-tax exemptions are scheduled to drop to $1 million per person with amounts above that taxed at as much as 55 percent. Glass said if he and his wife die next year and their combined taxable estate is worth $10 million at the time, that means their daughters may have to liquidate some assets or part of the business to pay those taxes.
Under this scenario, the family may owe about $4.5 million in federal estate taxes and about $1 million of Illinois estate taxes, said Linda Hirschson, an estate-tax lawyer at Greenberg Traurig LLP in New York.
Families are focused on whether the current gifting opportunity will expire, and they aren’t rushing to pass on wealth because the financial crisis of 2008 and 2009 has made them more pragmatic about market volatility, said Abbot Downing’s Featherngill, whose clients usually have at least $50 million in investable assets. About 20 percent of her clients have made large gifts in the past 18 months. Some have given away less than the law allows and are waiting to transfer more in the future if the exemption stays high.
About 59 percent of accountants surveyed said their clients who have or will use the gift-tax exemption are giving $1 million or less, data from the American Institute of CPAs report show. The study is scheduled to be released this month.
For families with more than $100 million, deciding to transfer as much as $10 million now may be an easier decision because it’s a much smaller percentage of their net worth, said John Olivieri, a partner in the private clients group at the law firm White & Case LLP in New York who establishes trusts for individuals and families. Many are setting up irrevocable trusts for children or grandchildren and transferring assets such as second homes that have the potential to appreciate.
People are designating trustees in states such as New Hampshire and Delaware because so-called dynasty trusts can exist there without expiration dates and most assets in them may appreciate forever without triggering federal gift, estate or generation-skipping transfer taxes, said David Scott Sloan, chairman of the private wealth services estate-planning practice at the law firm Holland & Knight LLP in Boston. Delaware has a 110-year restriction on real-estate assets.
Trust assets overseen by Hampton, New Hampshire-based Perspecta Trust LLC have increased 400 percent to more than $1.5 billion in the past two years, said Scott Baker, a principal at the firm who also is chairman and president of the New Hampshire Trust Council, a nonprofit organization representing the state’s trust companies. Perspecta, which caters to those with more than $100 million in net worth, has added six billionaire trust clients since 2010.
“The goal is to have the appreciation take place within the trust, or conversely, outside of one’s taxable estate,” he said.
If a couple gifts $10 million of assets to a trust this year, and if its value appreciates by 5 percent annually over the next 30 years, the trust would be worth $43 million, Baker said. That may save the family about $15 million in federal estate taxes under the current 35 percent in the code. Should the federal rate be 55 percent, as is scheduled for in 2013, the savings would increase to more than $23 million.
“It’s not only moving $10.2 million today, it’s the growth on that over 50 years,” said Chris Zander, one of the founding partners at New York-based Evercore Wealth Management, whose clients have at least $5 million in investable assets.
People should run the numbers and consider if the gift works in the case of investments declining or increasing, and if there’s a death of a spouse or divorce, said Nadine Gordon Lee, president of the New York-based wealth-management firm Prosper Advisors LLC, whose clients usually have at least $2 million in investable assets.
“You don’t want to impoverish yourselves to take care of your kids,” she said.
Taxpayers also should be aware that if they retain a partial interest in the property they intended to give away, the IRS may drag it back into their estate for tax purposes upon their death, said Sloan of Holland & Knight. Those who transfer a second home and wish to still use it, for example, may have to pay fair market rent to the new owners of the property.
Families considering making large gifts this year should get their documents drafted now even if they want to wait until December to “pull the trigger,” said Jere Doyle, senior vice president at Bank of New York Mellon Corp.’s wealth-management unit. “By the end of the year, estate planning attorneys are going to be up to their eyeballs.”
It takes time to have appraisals done on illiquid assets for gift-tax purposes before they may be transferred into trusts, said Saly Glassman, a managing director and wealth- management adviser at Bank of America Merrill Lynch.
“We don’t want to be starting the process and discussing this over Thanksgiving,” she said.
The fate of the estate and gift taxes, like other provisions in the code set to expire by Jan. 1, is tied up in a fiscal debate between Republicans and Democrats as the November presidential election nears. Neither party has called for allowing the estate tax threshold to fall to $1 million.
President Barack Obama proposed in his most recent budget to set the federal parameters at a $1 million gift-tax exemption and $3.5 million estate-tax exclusion. Amounts above those limits would be taxed at as much as 45 percent, compared with 35 percent today. The restoration of those parameters, which existed in 2009, would reduce the nation’s deficit an estimated $119 billion over the next decade, compared with today’s rules, according to the proposal.
Illco’s Glass said he is waiting to see if Congress acts.
“If it looks like it’s going to the $1 million, I will do another big transfer this year on Dec. 31,” said Glass, who already has irrevocable trusts established for his daughters. “You’re on pins and needles waiting for all of this to happen.”
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