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Supercharge your estate plan

Kami Pomerantz //December 22, 2009//

Supercharge your estate plan

Kami Pomerantz //December 22, 2009//

Like the old adage for investing that one should buy low and sell high, wealth transfer planning is most effective when asset values are depressed and interest rates are low.

The current economic crisis has created an ideal opportunity to transfer assets to heirs through tax efficient vehicles. The current combination of discounted assets and low interest rates can supercharge any estate plan.

To state the obvious, the lower the value of an asset, the less tax cost to transfer it out of one’s estate. The tax cost to gift an asset is equal to the value of the asset at the time of transfer multiplied by the gift tax rate. Since gift tax rates are fixed, the lower the asset value at the time of transfer, the lower the gift tax cost.

For example, assume you wished to transfer a piece of real estate that was valued at $100 per acre in 2007 but is currently valued at $75 per acre today. It would cost less to transfer the property today than it would have cost in 2007. Moreover, if after the transfer the real estate appreciates from the $75 per acre figure back to $100 per acre, the differential of $25 per acre escapes gift and estate tax altogether.

Similarly, historically low interest rates can facilitate the transfer of assets to heirs. The IRS imposes minimum interest rates to be charged for intra-family loan transactions. This rate is called the applicable federal rate or AFR. The AFR is based on commercial interest rates and interest rates for U.S. Treasury Bills. Not surprisingly, AFRs currently are set at their lowest rate in many years. For example, the December AFR rate for loans between 3 and 9 years in duration is 2.64 percent. These low rates allow wealthy family members to loan money to their heirs at extremely favorable rates, essentially transferring the opportunity of investing those funds, whether in a residence, a business or even stock to their heirs.

A common wealth transfer technique leverages depressed asset values and low interest rates to transfer assets to heirs. The basic plan requires the wealthy family member to sell assets to a trust for the benefit of her heirs in exchange for a promissory note. Typically, the wealthy family member sells assets she expects to appreciate in the future. The promissory note is usually a nine-year note with the interest rate set at the AFR. If over the course of the note term the transferred assets appreciate at a rate greater than the AFR, the excess appreciation is transferred to the trust tax-free.

Because asset values are at historic lows and interest rates are low, there is a greater chance that the trust assets will appreciate over the course of the note term. Depending on the rate of appreciation, the technique could result in the transfer of substantial asset value to heirs at little to no gift and estate tax cost.

It is human nature to think of transferring assets to heirs when one is feeling flush and asset values are rising quickly. It seems counterintuitive to many to consider shedding wealth when they have seen their portfolios and their hard assets decrease in value so substantially over the last year and half. However, for those who have taxable estates or may have taxable estates in the future, now is exactly the time to transfer wealth to heirs.

Wealth transfer transactions implemented today are simply cheaper to undertake and more likely to succeed than at any time in the recent past. Given that the highest marginal rate for the estate tax is 45 percent, wealthy individuals cannot afford to wait or to miss this opportunity.

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