Let’s look at the impact of the estate tax “repeal” situation.  Clearly, confusion reigns.  Congress continues to be deadlocked on how to approach the estate tax situation.  However, there are three likely scenarios and results for the “repeal” situation.

            The three scenarios which every estate plan must address are:  (1) Congress acts, and passes a law that applies retroactively, (2) Congress acts, and the law does not apply retroactively (or retroactive application is found unconstitutional by the courts), and (3) Congress simply does not act!

            This means that the three most likely results are (1) the 2009 structure is extended.  This would result in a $3.5 Million exemption and a 45% estate tax rate; (2) a $5 Million exemption and a 35% estate tax rate would be in effect, or (3) the former $1 Million exemption with a top rate of 55% is reinstated.  In each case, estate plans must take into account the “gap” period (today’s “purgatory” situation where no estate tax is in effect while we “wait” to find out where we’re going!)

            Unless and until Congress acts, there will be no estate and generation skipping tax.  The gift tax is at 35% with a $1 Million lifetime exemption.  Finally, a new income tax system is installed to replace the revenue lost as a result of the estate tax repeal.  This system features a “carry-over basis” regime.  Under this system, there is no automatic death basis “step-up” as we’re used to.

            Under the 2010 system, estate planning document focus must shift to take into account a system that allows for a $1.3 Million step-up in basis allocation, and for married couples, properly addresses the opportunity to access an additional $3 Million step-up in basis allocation.  Documents must cover the current situation and also account for the potential reversion to the system used in the past.

            What can be done, proactively, about this confusion?  First, you should have your plan reviewed.  There are some situations that are more critical than others, but at least six situations can be improved by being proactive.

            First, any document prepared prior to 2001 would obviously not address issues raised by passage of the law in that year.  Everyone in that situation should have their plans reviewed.

            Second, anyone who dies this year is under the capital gains regime developed to “replace” the expiring estate tax.  If you or a loved one have health problems and are at higher risk of dying this year, you will need to determine the basis of your assets.

            Third, if you have developed a plan informally using the estate tax exemption amount to resolve differing distributions, you are at complete risk.  These plans would likely include blended families and charitably inclined people.  Those plans should be reviewed proactively.

            Fourth, all generation skipping plans should be reviewed so that you can be aware of the impact of the new planning landscape.

            Fifth, if you would be affected by a reduction back to a $1 Million exemption, your plan should be reviewed.

            Finally, documenting your planning intent is critical in changing times like these.  Doing nothing - because the estate tax has been “repealed” - is not recommended.

The question in In re: Estate of Max Feinberg (Supreme Court of Illinois, Docket Number 106982, September 24, 2009) concerned the validity of a trust provision which the Court termed a “beneficiary restriction clause”.  Max Feinberg died in 1986.  Prior to his death, he executed a Will and created a Trust.  The pertinent provisions of the Trust were that some of his assets were to be held in trust for the benefit of his grandchildren; however, any of the grandchildren who married outside the Jewish faith or whose non-Jewish spouse did not convert to Judaism within one year of marriage, would be “deemed deceased for all purposes of this instrument as of the date of such marriage”.  In other words, if the grandchildren did not marry within their faith, they would not be entitled to a share of the money left in trust by their grandfather, Max. 

            Last year, the Illinois Appellate Court had found the Trust provision to be unenforceable because they ruled it was contrary to the public policy of the State of Illinois.  (383 Ill. App. 3^rd 992).  The appeal to the Illinois Supreme Court created national interest and several Jewish organizations filed amicus briefs.  The Supreme Court reversed the decision of the Appellate Court, but did not directly answer the broad public policy question.  Because Max’s wife, Erla, had survived him and was given a limited power of appointment to direct assets after her death, her actions superseded those of her husband.  She decided, however, to leave certain assets to each of then living grandchildren of Max who were not “deemed deceased” under the beneficiary restriction clause of Max’s Trust.  Essentially, she was following Max’s wishes.  Because of this intervening act, the Court found that no grandchild had a vested interest in the Trust assets and because the distribution plan adopted by Erla had no prospective application, the Court held that the beneficiary restriction clause did not violate public policy under those limited facts.  So, to sum up, a restriction in a Trust that requires marriage within a faith is not “automatically” or “per se” a violation of public policy, but it might be depending upon the facts.  What do you think public policy should be?

The case of Keller v. United States, 2006 U.S. Dist. LEXIS 34100 (S.D. Tex., May 26, 2006)     is a significant case for utilizing family limited partnerships for asset protection purposes.  Among other things, the Court recognized that Divorce Protection (protecting family assets from depletion by ex-spouses in divorce proceedings) was a legitimate business purpose.

Also in this $40 million taxpayer victory; a family limited partnership was recognized although not formally funded before decedent’s death; a 47.5% discount was allowed for an assignee interest in the limited partnership’s bond portfolio; a bona fide sale exception to Sections 2036 and 2038 applied; and interest on a loan to borrow money from the partnership after death to pay estate taxes and other obligations was held to be deductible for estate tax purposes.

          In the recent decision of Robertson v Deeb, 2009 Fla. App. LEXIS 11322 (Fla. 2d DCA August 14, 2009), the Court held that an inherited IRA is not protected from creditors under Florida law.  Although an IRA ordinarily is exempt from legal processes under Florida Statute § 222.21, the Court held that an “inherited” IRA is not entitled to the exemption because that section is limited to the “original fund or account”.  The Court reasoned that once an IRA was inherited, it became a separate fund or account after the original fund or account passed to a beneficiary upon the death of the participant.

          This decision illustrates why we often recommend that clients name trusts as beneficiaries of IRA’s, so that the creditor protections of the IRA can be extended to future generations.