Tax Deferral and Reduction

As the saying goes” there are only two things in life that are certain “death” and “taxes”! Ironically both and the anticipation of them and the impact of each of them during and after their untimely death, is a motivating factor for clients wanting to work with us. The wealth and business planning process we utilize addresses and provides multiple solutions for the concerns that the affluent business owner is facing when there is significant wealth to manage and preserve. It’s our professional members complete focus to explore the feasibility of as many government and tax court approved tax advantage strategies available to us and to deliver a well-conceived plan that will help our clients accumulate, manage, protect and distribute their wealth tax efficiently.

 

If you are one of the many business owners, professionals and executives that feels that you may not be getting exposed to the highest level of Tax deferral and reduction strategies available, then look at this Tax Strategy and see if you have seen or heard of this before. If not then please call or email Our Executive Director and network member Tom Ambrose@ 610-613-2181 or contact Kevin Ryan Esq 610-  who can discuss this seldom used and misunderstood Tax Law, Court & Code accepted Tax Deferal strategy to see if its something to consider.

Steps in a Private Annuity Sale To a Family Trust

Review and Evaluation

We will review and analyze financial information furnished to us including current assets, life insurance coverage, trust agreements, existing or proposed business agreements, wills, and other information that helps us understand your family’s retirement and financial goals and experiences.

Written Plan

Based on our review, we will prepare an analysis of your current income tax and estate plan that will encompass specific preliminary recommendations that will seek to address your interests and concerns with respect to your income taxes and estate and potential liquidation and gifting arrangements that you have with your various entities and assets. Our recommendations will include procedural techniques and general strategies based on our analysis of your circumstances.

Where appropriate, we will include financial illustrations and projections for greater understanding of the potential outcomes of the alternatives.

We will consult with you to discuss our analysis and will provide you with a preliminary draft copy. You will be given an opportunity to concur with the preliminary recommendations or suggest modifications. As Tax , Legal and Financial Advisors we will look for ways to improve or augment your financial and retirement plan to reduce risk, taxes and expenses where possible. We will coordinate the suggestions and implementation from other advisors you have.

CASE EXAMPLE

Isadore and Isabel Business Owner, both 55 years old, own a successful construction business and real estate and would like to sell it and invest the proceeds without incurring immediate capital gain taxes.

Common MISTEPS IN COMPLETING A PRIVATE ANNUITY SALE

Implementation

We will assist you in implementing the agreed-upon strategies. Accordingly, we will be available on an ongoing basis to answer questions, to assist you or your other tax and legal advisors to take necessary actions, and to make recommendations regarding these matters. Also recommend an appropriate Independent Corporate Trustee to act on, execute and oversee the management and distribution of your trust assets per the annuity and trust agreements.

Our report includes

  • Written Feasibility Sale Analysis with alternatives.
  • Determination, Suggestions on Legal Services to process the transaction by our Attorney.
  • A Private Annuity income agreement(contract) and verbiage for the Non-Grantor Income Trust ultimately drafted and executed by one of our “friendly” Independent Corporate Trustees with legal and accounting information for the trustee’s use.
  • Coordination of information needed by a Business Broker and/or Title Company
  • Legal wording for sale of assets to the Trust (Only when our lawyer isn’t retained
  • Obtaining name and Federal Identification Number for the trust recognized by the IRS prior to the trust is executed. 
  • Consultation for income and asset protection verbiage for your trust
  • Review of life insurance ownership, beneficiary designation and cost/benefit analysis.
  • Structuring, tax review and allocation of sales price
  • Calculation and guidance on the 3{18df719afccbea81f72d2d6a6c13d9b8defef299d0de5139df0d5cd8b1ec5d82}-7{18df719afccbea81f72d2d6a6c13d9b8defef299d0de5139df0d5cd8b1ec5d82} Gift reserve we believe is requirements
  • Questions and answers through settlement including questions pertaining to Private Annuity Contracts
  • Review of present Wills, Durable Powers of Attorney, Medical Powers of Attorney, and Living Wills. (If any new documents are required, will not be included in the fee)

Our attorneys can or will represent you if needed. However one of our Experienced Advisors will act as your financial consultant and advisor as needed.

Typical Questions and Answers.

How long have Private Annuities been used?

Private Annuities were first used in the 1950’s for estate planning purposes.

Why have I never heard of doing a Private Annuity Sale?

Due to their relative complexity Private Annuities have not been highly used in the sale of assets. Most Estate Planning attorneys and accountants are aware of Private Annuities but do not specialize in this area.

What type of assets cannot be used is a Private Annuity Sale?

IRA’s, 401k’s or any type of qualified retirement plans cannot be sold through a Private Annuity without losing their tax-exempt status.

If I own multiple types of properties including non-real estate, can I add them to the trust initially or later?

Yes. If the Private Annuity and the trust are structured properly to comply with IRS regulations, the Trust may be used as a tool to sell many types of assets such as shares of an FLP, LLC Art and Antiques.

If the IRS were to examine a Private Annuity sale what potential important Key factors might they look at?

  1. (1)  Does the Transferor/Seller/ Grantor (Annuitant) have at least a 50{18df719afccbea81f72d2d6a6c13d9b8defef299d0de5139df0d5cd8b1ec5d82} chance of living 18 months?

(Rev. Ruling 96-3 replacing Rev. Ruling 80-80)

(2) Does the income from the annuity contract differ significantly from the income of the assets being sold?

(3) Does the Annuity Agreement state that the liability towards the Transferee and specify that the payments are made without regard to the income generated by the assets?

(5) Does the Transferor /Seller (Annuitant) relinquish complete ownership and control over the assets transferred into the trust? 

(6) Does the transferor/seller and the transferor’s spouse remain “at arm’s length” from the assets inside of the

(7) Does the transferor/seller (Annuitant) receive any excess income from the Trust’s assets, other than what the IRS Annuity tables determine to be his/her annuity income payments, fixed for the remainder of his/her actuarial life.

(8) Does the Trust or Transferee have resources more than the assets that were transferred into the Trust

How is the interest rate determined on the annuity payment?

The IRS will use the ‘Annual Federal Mid Term Rate’ (AFMR) to determine what interest rate will be used on the unpaid balance in the Trust. The AFMR rate moves up and down monthly based on the credit market fluctuations. Your Annuity contract will use the current AFMR rate for the month in which it was established. This rate will “lock in” and become a fixed rate for the life of your annuity payments.

How long can I defer monthly income payments if I do not need it?

You can defer monthly income payments as long as it’s reasonable. Reasonable doesn’t mean till your life expectancy. It’s our preference to use a maximum age of between 70 and 75 as the time to begin principle, interest and tax payments. For transactions done for sellers over age 70, some deferral might be prudent, but it’s not recommended to be prolonged. The courts have ruled negatively and penalized Annuitant/ Sellers that deferred payments to long.

After the annuity contract is set up can I change the payments?

No. The income payments are locked into a fixed amount, so once you begin receiving payments you cannot change the deferral period or stop it. Although the annuitant can start payments sooner if they want.

What if I need to receive more money in addition to my fixed monthly income payments? Can there be any type of variability as to receiving more money before retirement, if needed?

It is not recommended and highly discouraged. But if no other means is available and we planned well ahead, the Trustee might consider:

(1) The trust could lend money to the The loan should have formal loan Documents with a fixed and enforced repayment schedule that includes interest rates and it must also be fully secured.

(2) If the annuitant knows that he/she may need more money before retirement and prior to setting the Private Annuity, then two annuity contracts can be set up in the One for Income the Annuitant needs presently and the second for the amount in which would be deferred until retirement. Calculations would be based on the balance of the value of the asset in the Private Annuity Trust.

Can I sell my assets first and then put them into the Trust?

No.

What if I need cash from the sale, may I keep some?

Yes. You may allocate a partial Private Annuity Sale. In this case the annuitant will be immediately responsible for the proportionate share of capital gains taxes on the cash he/she received.

What happens if I outlive or die prior to my estimated life expectancy?

Income payments are received until the annuitant’s (or in joint annuities, the surviving spouse) death. Life expectancy is just the number used to determine the payment amount. If the annuitant(s) outlives his/her projected life expectancy, he/she will still receive monthly payments as long you live, if the trust has assets. It’s the Independent Trustees Fiduciary Responsibility to the beneficiary, to manage the assets prudently.

My legal advisor or tax advisor is not versed on using a Private Annuity agreement of sale with an Asset Protection Trust being the Buyer. They have heard of it but say that it is no longer advisable to use based on a “Proposed Regulation” 12 years ago to tax them if the assets in the trust are sold within 2 years of being sold/transferred to the trust. How can they be assured that it is still a legitimate Tax Favorable and Estate Planning tool and Strategy?

  1. The only true way for an attorney or tax advisor to understand the legality, validity and legitimate uses of Private Annuities is for him/her to become familiar with the IRS Revenue Rulings, Tax Court Decisions and legal authorities legal opinions on the yet to be acted on “Proposed Regulation” back in 2006 changes and the inability to be used by the IRS against any transaction before being made permanent and especially in its current form. They need to ask themselves why it hasn’t been made permanent yet.

The more relevant, realistic and still valid rulings on this include IRS Revenue Rulings 55-119 and 69-74, Revenue Ruling 80-80, the IRS GCM39503 (5/19/1986), IRC72 and Treasury Decision TD-8754 (1998), also the Ninth Circuit U.S. Court of Appeals decision “La Fargue vs. Commissioner, 689 F.2d 845 (1982)”

 

Department of Treasury Circular 230 requires that we notify you that (i) any statement contained in this message or in an attachment to it relating to any Federal tax transaction or matter was not intended or written to be used, and it cannot be used by the taxpayer, for the purpose of avoiding penalties that may be imposed on the taxpayer and (ii) such statement may not be used by any person to support the promotion or marketing of or to recommend any Federal tax transaction(s) or matter(s).

What happens to the Private Annuity agreement and the Trust at the Annuitant’s death?

At the death of the Annuitant the income payments continue to the surviving spouse (this only occurs in joint annuities). At the death of the 2ndspouse, annuity payments cease and are voided. The remains of the assets in the Trust will pass to the heirs/beneficiary’s estate tax and gift tax free according to the provisions of the Trust. The beneficiaries may be paid out immediately or may receive payments over a pre-specified period. The trust will be responsible for any unpaid Capital Gains or Recapture taxes that remain before the corpus is distributed. Remember, because the assets in an Asset Protection Trust are considered “outside the Sellers estate”, the Trusts proceeds pass to the heirs/beneficiaries, Estate Tax and Inheritance tax free.

the Annuitant chooses as the trustee or co-trustee, the beneficiary does have the ultimate decision whether to replace an individual or corporate trustee.

How are there no Federal Estate and Gift taxes incurred?

The assets in an Irrevocable Asset Protection Trust are removed from the Annuitants taxable estate via the private annuity agreement and arm’s length sale once transferred into and “sold” by the Trust. The transaction is considered a “sale” and not a “gift”, so there are no gift taxes incurred. We do recommend funding the Trust as soon as possible and as far in advance of an anticipated desire to sell any asset in the trust.

What happens if the trust runs out of money before the death of the Annuitant?

If not invested properly, it is possible that the Trust could run out of money.

Who should be the trustee in a Trust?

It’s our advice to help reduce as much as possible the risk of the IRS challenging the true arm’s-length relationship between the grantor/seller and the trust beneficiaries; it’s in the best interests to having independent personal or corporate trustee. Today there are a plethora of corporate trustees domiciled in Delaware created just for these types of tax favorable transaction. If an individual trustee is desired the Trustee should not be a spouse or sibling. e. Neither the Annuitant nor his/her spouse can be the trustee of the trust. If the Annuitant would like the comfort of extra security, he/she may assign a co-trustee which may be a combination of family members or professionals for example. No matter whom

Can the Private Annuity be set up for both my spouse and I to receive income payments?

Yes. A joint annuity or second-to-die entitlement could be set up in the Private Annuity Trust. In this case your spouse would not serve as a co-owner or joint Annuitant; however, he/she would receive the income payments at your death. These payments would continue until his/her death (or the death of the second spouse).

Can the Annuitant manage or influence the investments in the Trust?

No. As stated above, the trustee is the only person responsible for making investment decisions for the Trust. While the Annuitant may make investment recommendations, it is ultimately the responsibility of the trustee to make prudent investment decisions regarding the Trust. The trustee should also make special precautions as to manage the asset portfolio regarding tax efficiency. Trusts much have higher tax rates than individuals and Corporations

Are the Annuity Payments tax deductible to the Trust?

No. The annuity payments are considered purchase price payments with an “Annuity” amount. Therefore, for tax purposes, the annuity payments are not tax deductible as interest.