Lamson, Dugan and Murray, LLP, Attorneys at Law

Transfer on Death Deeds Can Be A Useful Estate Planning Tool

By Daniel J. Waters on Posted in Estate and Business Succession Planning, Real Estate, Tax

The fundamentals of estate planning and real estate conveyances have always been joined at the hip, particularly for families in the Midwest where real estate often represents a significant portion of the value transferred upon death.  The bond between real estate and estate planning grew even stronger when Nebraska’s DeedUnicameral adopted the Uniform Real Estate Transfer on Death Deed Act (Act) in 2012.

A transfer on death deed (TOD deed) is a revocable instrument that conveys ownership of real property from one person to another upon the death of the grantor or owner.  It is signed and filed by the grantor during the grantor’s lifetime, but the transfer of property does not become effective until the grantor’s death.

The capacity to create and/or revoke a TOD deed is the same as the “testamentary” capacity to make a will.  The formalities of executing a TOD deed are also very similar to those required for making a will.  TOD deeds must be filed within thirty days of their execution.

Under the right circumstances, a TOD deed is a simple but effective way to avoid instituting a probate proceeding to transfer property from a decedent to a third party, while still allowing the grantor to retain complete ownership of the property during his or her lifetime.  A TOD deed is similar to a conveyance of property subject to the grantor’s reservation of a “life estate” – i.e., possession and income rights to the property until death.  However, unlike a conveyance of property subject to a life estate, TOD deed may be revoked at any time and it does not create any legal rights in the TOD deed’s grantee (known as the beneficiary).

Ownership of property subject to a TOD deed is significant for both the grantor and grantee/beneficiary.  For example, property that is subject to a TOD deed may still considered an asset – or resource – of the grantor for Medicaid qualification.  For tax purposes, since the property is considered to be transferred upon death, the grantee/beneficiary enjoys the benefit of a step-up in basis by reason of the grantor’s death.

The grantor under a TOD deed retains the right to transfer, pledge or otherwise encumber the property during his or her lifetime.  Conversely, the grantee/beneficiary has no right to transfer, pledge or encumber the property because the grantee/beneficiary has no interest in the property until the grantor’s death.  This also means that the property is entirely shielded from creditors of the grantee/beneficiary.

The Act provides residents with an estate planning mechanism that, when utilized properly, can efficiently transfer real estate from generation to generation.  Ultimately, the usefulness of a TOD deed undoubtedly depends on the specific property owner’s circumstances and those of the intended beneficiary or beneficiaries.

Estate Tax Uncertainty Continues

By Robert J. Murray on Posted in Tax

President Obama’s new budget seeks an increase in estate taxes.

Although the ink is barely dry on the American Taxpayer Relief Act of 2012 (the “2012 Tax Act”) which became effective in January of 2013, President Obama’s new budget includes a proposed increase to estate and gift taxes.  Under current law, which was enacted as part of the “Fiscal Cliff” negotiations, estates are subject to a 40% tax on values in excess of $5,250,000.  In his recent budget proposal, the President would reduce the estate/gift exemption to $3,500,000 and increase the applicable tax rate to 45% of any amount that exceeds that exemption amount.

In the April 16, 2013 edition of the Wall Street Journal, the editors comment unfavorably on the President’s proposal and opine that the GOP is certainly going to resist the President’s efforts to change existing law.

The editors go on to observe that it is too soon to know if the President is serious about this part of his budget initiative or if the proposal is simply a bargaining chip to be exchanged for other provisions in his budget.  To read the full article, visit http://online.wsj.com/article/SB10001424127887323346304578422763444261352.html

The Shareholders’ Duel: “Shootout” Provisions Can Resolve Deadlock

By Daniel J. Waters on Posted in Corporate and Business, Estate and Business Succession Planning, Real Estate, Uncategorized

Deadlock can be a serious problem for closely-held businesses.  That is particularly true for companies with an even number of managing “votes” such as a 50-50 partnership.  Deadlock occurs when a conflict among the owners of a small business becomes so significant that the business is in danger of being unable to carry out its functions, resulting in danger of loss of company assets.  In extreme cases, deadlock can lead to death of the company through its judicial dissolution.

For those reasons, many business owners wisely choose to address the deadlock issue before it becomes a problem by contractually agreeing to a resolution mechanism when the company is formed.  Typically this is done in conjunction with the preparation of a shareholders’ buy-sell agreement, a partnership agreement or an LLC operating agreement.

One such resolution mechanism has a very “Wild West” feel to it – so much so that it is oftentimes referred to as a “shootout”.  Generally speaking, a shootout provision grants a shareholder, partner or LLC member – as the case may be – the right to force either an immediate sale of his interest or purchase of another owner’s interest.  The catch: the other party(s) gets to decide whether to be buyer or seller.  The shootout works like this:  The initiating shareholder  “pulls the trigger” by setting the price per share (or unit) when he provides notice to the other party(s).  The non-initiating owner(s) would then have a fixed period of time in which to decide whether to sell all of its shares at the stated price, or buy all of the initiating shareholder’s shares at the same price.

The rationale of a shootout is that it avoids the need to obtain a formal valuation of the company since the initiating shareholder has an incentive to price the shares/units fairly.  After all, the shareholder doesn’t know whether he or she will be buyer or seller.  It also should incentivize owners to resolve issues before deadlock occurs to avoid the risk and uncertainty of a shootout.  From a practical standpoint, however, the shootout favors (1) the owner with deep pockets because he or she can afford to be the buyer more readily, and (2) the owner who is better equipped to operate the company because the value of the company diminishes if he or she leaves and the other owner(s) may not have the wherewithal to keep the company successfully operational.

There are several variations of the shootout described above, all of which are designed to avoid the downside risks and consequences of company deadlock.  Business owners are free to decide the best way to address the deadlock scenario that best fits their business.  The key is to plan ahead.  Owners are wise to address these issues contractually when the playing field is level and their interests are aligned – namely, when the business is formed.  A well-crafted buy-sell agreement, partnership agreement or operating agreement accomplishes those objectives.

Supplemental Needs Trusts Provide Resources for Disabled Individuals

By Daniel J. Waters on Posted in Estate and Business Succession Planning

Families of special needs individuals are faced with challenges when it comes to estate and succession planning.  Often special needs individuals are not able to earn a living in the workforce.  In those instances, the individual depends on governmental assistance (e.g., Medicaid, Social Security) to ensure that his or her needs are adequately met.  If that governmental assistance is insufficient, the disabled individual likely depends on the kindness and generosity of family members to “supplement” governmental assistance.

But what happens if the source of those “supplemental” funds passes away?  If the disabled individual inherits funds, will that affect his or her ability to receive governmental aid?  The answer, of course, is it depends.  Receiving an inheritance outright may require the disabled individual to “spend down” significant resources, repay the state for governmental assistance upon death, or both.  However, if the disabled person is the beneficiary of a Supplemental Needs Trust, the family can ensure that the disabled person maintains eligibility for governmental assistance, that he will be able to enjoy an enhanced quality of life, and that the funds set aside for his or her benefit will remain in the family.

A Supplemental Needs Trust is an irrevocable trust established and funded by parents, grandparents or other persons (but not the disabled person or his or her spouse) to supplement the disabled person’s needs.  Funds allocated to a Supplemental Needs Trust are intended to enhance the disabled person’s quality of life.  For example, the trust funds might be used to pay for special transportation equipment, a vacation or other entertainment expenses.

A Supplemental Needs Trust can be created during the grantor’s lifetime or upon the grantor’s death in his or her estate plan.  A properly drafted Supplemental Needs Trust allows the grantor to set aside substantial assets without those assets being considered “available” for governmental assistance purposes.  In order to qualify as a valid Supplemental Needs Trust, the trust document must generally be for the sole benefit of the disabled person and grant complete discretion to the Trustee, so that the disabled beneficiary has no power over the assets in the trust.  Further, the funds should not be used to pay for items or services that are “covered” by governmental assistance.

Upon the death of the Beneficiary, the remaining assets of the Supplemental Needs Trust will be distributed according to the provisions set forth in the trust as originally determined by the grantor.  Thus, the remaining trust assets may pass to other family members.

Keep in mind, the Supplemental Needs Trust is different than a Special Needs Trust funded by the disabled beneficiary or his spouse, which may be subject to recovery by governmental agencies upon the disabled person’s death.

The 2013 “Fiscal Cliff” Deal is Good News For Estate Planning Clients

By Daniel J. Waters on Posted in Estate and Business Succession Planning, Tax, Uncategorized

The proverbial “fiscal cliff” was averted on January 1, 2013, when Congress approved H.R. 8, the “American Taxpayer Relief Act.”  The federal estate tax component of the fiscal cliff was oftentimes overshadowed by the income tax ramifications.  However, anyone with experience in estate tax planning will tell you that the threat of dropping the exemption amount from $5 million per person in 2012 to $1 million per person in 2013 posed a substantial threat to individuals and small businesses alike.  Fortunately, Congress agreed in substance to extend the 2012 estate and gift tax rules and, perhaps more importantly, agreed to make those changes permanent.

There are five key estate tax items that you should be aware of. They are as follows:

(1) An extension of the $5,000,000 estate/gift tax exemption which is now indexed for inflation.

(2) A continuation of the generation-skipping tax exemption in an amount equal to estate/gift tax exemption.

(3) A top marginal rate of 40% on taxable estates.

(4) Permanent extension of the portability rules.

(5) The elimination of the “sunset” provisions of the Tax Act put into effect in 2001.

Essentially, from an estate tax perspective, the measure makes permanent all of the provisions of the 2012 rules except the rate.  In other words, there is an exclusion amount of $5 million per person, adjusted for inflation.  For 2013, the exclusion is $5.25 million.  This exclusion amount remains “unified” with the federal gift tax so that up to $5.25 million per person may be transferred tax free at death or during lifetime, with lifetime taxable gifts subtracted from the exclusion amount remaining for use at death.  The tax rate is capped at 40% rather than the 35% provided in prior law.

The “portability” provision for married couples is similarly retained by the new law.  Thus, the unused exclusion amount of the first spouse to die may be used by the surviving spouse, assuming an estate tax return is filed for the pre-deceasing spouse.

The Generation-Skipping Tax (GST) exemption is also set at an annual inflation-adjusted $5 million.  However, as with prior law, GST exemption is not portable.  Thus, in order to preserve the GST exemption of the first spouse to die, the use of a credit shelter trust is needed.  Incidentally, the use of a credit shelter trust is also advisable to provide remarriage protection and other benefits.

Under prior law, the “Bush Tax Cuts” were legislatively scheduled to expire on December 31, 2010.  That “sunset provision” was extended in December of 2010 for an additional two years, or until December 31, 2012.  The fiscal cliff legislation extended the rules indefinitely so that there is no longer a sunset provision.  The rules can always be changed, but only by the affirmative act of Congress.

The end result:  taxpayers now will enjoy rules that are considerably more “taxpayer friendly” than the rules which were otherwise scheduled to go into effect if Congress had taken no action.

Like-Kind Property: 1031 Like-Kind Exchange Series

By Matthew J. Bock on Posted in Real Estate, Tax

Tax is not recognized on the exchange of property held for productive use in a trade or business or for investment if such property is exchanged solely for property of like-kind which is to be held either for productive use in a trade or business or for investment.  ”Like-kind” refers to the character of the property.  For example, the Chrysler Building is the same character of property as the Willis Tower (formerly the Sears Tower).  Real estate is a separate class of property than personal property.  Personal property is separated into multiple classes of separate properties.

Real estate is the most commonly exchanged class of property and the “kind” is extremely broad.  Examples of like-kind real estate include:

  • Unimproved real estate is of like-kind to improved real estate
  • City real estate for a ranch or farm
  • Commercial buildings for vacant lots
  • A single property for multiple properties
  • A tenancy-in-common interest for a fee interest
  • An easement for a fee interest
  • Perpetual water rights for a fee interest
  • An easement for a fee interest
  • Undivided fractional interest for an entire interest
  • 30-year or longer leasehold interest for a fee interest
  • A condominium unit for a fee interest

Depreciable personal property is like-kind to other personal property if the personal properties are either within the same General Asset Class or within the same Product Class.

General Asset Classes are set forth in Treasury Regulation §1.1031(a)-2.  There are 13 classes:

  • Office furniture, fixtures, and equipment
  • Information systems
  • Data handling equipment, except computers
  • Airplanes (airframes and engines) except those used in commercial or contract carrying of passengers or freight, and all helicopters (airframes and engines)
  • Automobiles, taxis
  • Buses
  • Light general-purpose trucks
  • Heavy general-purpose trucks
  • Railroad cars and locomotives, except those owned by railroad transportation companies
  • Tractor units for use over-the-road
  • Trailers and trailer-mounted containers
  • Vessels, barges, tugs, and similar water-transportation equipment
  • Industrial steam and electric generation and/or distribution systems

Product Classes consist of depreciable tangible personal property described in a 6-digit product class within sections 31, 32 and 33 (pertaining to manufacturing) of the North American Industry Classification System (NAICS).

Whether intangible personal property and nondepreciable personal property are of a like-kind depends on the nature or character of the rights involved and also on the nature or character of the underlying property to which the intangible personl property relates.  For example, a copyright on a novel is of like-kind to a copyright on a different novel.  However, a copyright on a novel is not like-kind to a copyright on a song.

The goodwill or going concern value of a business is not like-kind to the goodwill or going concern value of another business.

There are properties that are not like-kind to any other properties and thus do not qualify for nonrecognition treatment under section 1031:

  • Property held primarily for sale
  • Stocks, bonds and promissory notes
  • Other securities or evidences of indebtedness
  • Interests in partnerships
  • Certificates of trust or beneficial interests
  • Choses in action
  • Inventory
  • Personal residences

Next up:  The simplest exchange method–the simultaneous exchange.

Does Serving on a Nonprofit’s Board Expose Directors to Liability?

By Daniel J. Waters on Posted in Corporate and Business

A director on the board of a nonprofit corporation can be liable for the debts of or judgments against the nonprofit corporation, but only if the director improperly carried out his duties as director or failed to indicate his representative capacity when entering into a contract.

Directors of nonprofit corporations are required to discharge their duties as directors in good faith, with the care that an ordinarily prudent person in a like position would exercise under similar circumstances, and in a manner he or she reasonably believes to be in the best interests of the organization.  That standard of conduct also applies to directors who serve as members of a committee.  In discharging their duties, directors are entitled to rely on information, opinions, reports, or statements prepared or presented by:

(1) One or more officers or employees of the corporation whom the director reasonably believes to be reliable and competent in the matters presented;

(2) Legal counsel, public accountants, or other persons as to matters the director reasonably believes are within the person’s professional or expert competence;

(3) A committee of the board of which the director is not a member as to matters within its jurisdiction if the director reasonably believes the committee merits confidence; or

(4) In the case of religious corporations, religious authorities and ministers, priests, rabbis, or other persons whose position or duties in the religious organization the director believes justify reliance and confidence and whom the director believes to be reliable and competent in the matters presented.

Not surprisingly, a director is not considered to be acting in good faith if the director has actual knowledge of facts concerning a matter in question which would make reliance on the information or reports described above unwarranted.  In addition, directors with financial control of the organization can be exposed to personal liability for failure to remit certain “trust fund” employment taxes for employees of the organization.

Generally, however, if the director is adhering to his or her duty as a director or committee member under the rules described above, that director cannot be liable to any person or entity for an action taken or not taken as a director.  In other words, a director is absolved from all liability so long as he acts in good faith, with reasonable care and in a manner that he reasonably believes is in the best interest of the organization.  Still, many organizations elect to obtain insurance to deflect some of the directors’ risk associated with serving in that capacity.  Directors and Officers (“D & O”) liability insurance is available to protect the nonprofit corporation and its volunteer directors and officers.  D & O insurance can be expensive, however, particularly for cash-strapped small nonprofits.

From a contractual standpoint, directors are not per se liable for the debts of the organization simply by reason of being a director.  Contractual liability of directors is governed by general agency law.  Directors are normally deemed to be acting as agents of the organization, not as individuals, and therefore are not personally liable for contracts made by them on behalf of the organization.  Instances, however, can arise where a director intentionally agrees to personal liability (e.g., guaranteeing or co-signing documents), or unintentionally agrees to be liable because of inadequate disclosure that the officer or director is acting as an agent of the organization.  Directors should always be careful to indicate their representative capacity when signing documents that are intended to bind the organization.

Property Held For Trade Or Business Requirement: 1031 Like-Kind Exchange Series

By Matthew J. Bock on Posted in Real Estate, Tax

Tax is not recognized on the exchange of property held for productive use in a trade or business or for investment if such property is exchanged solely for property of like-kind which is to be held either for productive use in a trade or business or for investment.  In order to qualify, the property must be used in a trade or business in which the taxpayer is actually engaged.  In other words, business property can not be exchanged for non-business property.  Business property may be exchanged for investment property.

Some properties can be a combination of investment property and personal use property.  For example, if you own a vacation home you may use the vacation home part of the time and rent it at times.  The IRS will generally look to determine your primary purpose for owning the vacation property.  For example, if you rent the vacation home for more than 50% of the year, the primary purpose should be business related.  If you use the property for personal use more than 50% of the time your chance of convincing the IRS or any court that the primary purpose of the vacation home is business or investment related is unlikely.

Even when a vacation home is rented more than 50% of the time and considered primarly used for business, any personal use will likely disqualify the personal use portion of the vacation home on a pro rate basis.  Thus if you use your vacation home for personal purposes 20% of the time, then 20% of the property will likely be nonqualified property for purposes of a 1031 like-kind exchange.

Next up:  What it means to be “like-kind”.

 

 

Illegal Procedure? The Federal Government’s Take on Fantasy Football

By Daniel J. Waters on Posted in Corporate and Business

Fantasy football is a $1 billion industry with 27 million people competing in fantasy leagues annually.  From couch potatoes to CEOs, men and women from all walks of life make fantasy football a part of their Sundays from September to December every year.  Draft rooms are typically filled with pizza, beer and plenty of trash-talking, with everyone’s hopes set on the trophy – and, yes, prize money – that awaits the winner at the end of the season.  Virtually all leagues are conducted online with drafts, stats and transactions tracked by a host website.

However, the federal government has outlawed internet gambling.  So is fantasy football illegal?  No, says Congress.

The Unlawful Internet Gambling Enforcement Act was adopted by Congress in 2006.  Fearing that internet gambling was becoming the “Wild West of the 21st century,” Congress wanted to set a firm stance prohibiting bets or wagers placed online.  The Act defines a “bet or wager” as “the staking or risking by any person of something of value upon the outcome of a contest of others, a sporting event, or a game subject to chance, upon an agreement or understanding that the person or another person will receive something of value in the event of a certain outcome.”  However, Congress went a step further by listing those things which are not considered to be a “bet or wager.”  Included in that list was fantasy sports.  The result – fantasy football was specifically carved out of the Act.  A federal court addressing a subsequent challenge to that carve-out held that although the Act broadly prohibits gambling and related transactions, the law confirms that fantasy sports do not constitute gambling as a matter of law.

But why?  Many proponents (including the NFL itself) believe that fantasy football is not gambling because it is a game of skill, rather than a game of chance.  Generally speaking, games of chance are seen as gambling while games of skill are not.  Fantasy football requires skill to assess players on draft day and strategy to properly start, bench or trade players throughout the season.  That being said, an element of chance always remains – even the most talented players can get injured.   As a past champion of my fantasy football league, I tend to agree that it is indeed a game of skill.  Regardless of this debate, the fact remains that fantasy football remains alive and well, and in part we all have Congress to thank for that.

1031 Like-Kind Exchange of Real Estate Series: Introduction

By Matthew J. Bock on Posted in Real Estate, Tax

This introductory article begins a series which will explore the fundamentals and procedures for 1031 like-kind exchanges of real property along with planning and tax insights.  A sale of real estate is usually a taxable transaction.  Section 1031 of the Internal Revenue Code allows for the deferral of tax.  There are four general elements of a basic “like-kind exchange”:

  • Held for
  • Productive Use
  • Transfer
  • Like Kind
This series will delve into the general elements as well as the following exchange methods:
  • Simultaneous Exchanges
  • Deferred Exchanges
  • Reverse Exchanges

We will explore key terms such as qualified intermediary, exchange agreement, replacement property, relinquished property, three property rule, 200% rule, 95% rule, identification period, related party rules, holding period, exchange accommodator titleholder, parked property, qualified exchange accommodation agreement, 180 day limit.

Advanced like-kind exchange techniques such as build-to-suit exchanges will also be explored.

Next up:  What it means for property to be held for productive use in a trade or business or for investment.