Iv. Selected Aspects of Family Wealth Transfer

IV. SELECTED ASPECTS OF FAMILY WEALTH TRANSFER

Program Agenda

A. Tax Implications of Family Wealth Transfer

B. Testamentary Gifts

C. Intervivos Gifts

D. Gifts to Minors

E. Charitable Planning

F. The Irrevocable Life Insurance Trust

G. ERISA and Qualified Plan Benefits

Program Outlines

Estate Planning Update, Including Taxation 761

New York Estate and Gift Taxes 955

Right of Election 989

Lifetime Gifts and Trusts for Minors 1065

Charitable Techniques in Estate Planning 1091

757 758

Charitable Gift Planning (Basics, Including Endowments) 1101

Charitable Gifts of Alternative Assets – Tax and Practical Considerations for Donors and Donees 1115

Estate Planning with Life Insurance 1127

ERISA and Qualified Plan Benefits Lifetime Planning for Clients 1167

759 760

ESTATE PLANNING UPDATE, INCLUDING TAXATION

SANFORD J. SCHLESINGER, ESQ.

and

MARTIN R. GOODMAN, ESQ.

Schlesinger Gannon & Lazetera LLP New York City

761

762 August 2015 ESTATE PLANNING UPDATE, INCLUDING TAXATION

By: Sanford J. Schlesinger, Esq. and Martin R. Goodman, Esq. Schlesinger Gannon & Lazetera LLP

TABLE OF CONTENTS

Page

I. THE AMERICAN TAXPAYER RELIEF ACT OF 2012 ...... 2 A. Federal Transfer Tax Provisions ...... 2 B. Federal Income Tax Provisions ...... 2

II. THE TAX RELIEF, UNEMPLOYMENT INSURANCE REAUTHORIZATION, AND JOB CREATION ACT OF 2010 ...... 3 A. Federal Transfer Tax Provisions ...... 3 1. Federal Estate Tax Provisions ...... 3 2. Federal Gift Tax Provisions ...... 5 3. Federal Generation-Skipping Transfer Tax Provisions ...... 6 4. Federal Portability Provisions ...... 7 (a) General ...... 7 (b) Portability and the Future of Bypass Trusts ...... 10 (c) Portability and Prenuptial Agreements ...... 11 5. Other Provisions...... 11 6. Summary Chart ...... 12 7. Omitted Transfer Tax Provisions ...... 13 8. IRS Publication 950 ...... 13 B. Federal Income Tax Provisions ...... 13 C. State Transfer Tax Considerations ...... 13 1. New York ...... 14 2. Connecticut ...... 15 3. New Jersey ...... 15 4. Pennsylvania ...... 16 5. Florida ...... 16 6. Delaware ...... 16 7. Other States ...... 16 8. State QTIP Elections ...... 16

III. OBAMA ADMINISTRATION FISCAL YEAR 2016 AND CONGRESSIONAL 2015 PROPOSALS ...... 17

IV. OTHER IMPORTANT FEDERAL LEGISLATION ...... 20 A. Medicare Tax on Estates, Trusts and Individuals ...... 20 B. Death Master File ...... 21 C. Patient Protection and Affordable Care Act ...... 22

763 D. Tax Increase Prevention Act of 2014...... 22 E. Surface Transportation and Veterans Health Care Choice Improvement Act of 2015 ...... 22

V. IMPORTANT IRS REGULATIONS, ANNOUNCEMENTS AND COURT DECISIONS ...... 23 A. 2015 Inflation Adjustments...... 23 B. Tax Returns ...... 25 1. Form 706-QDT ...... 25 2. Estate Tax Returns for Post-2012 Decedents...... 25 3. 2014 Gift Tax Returns ...... 25 4. Generation-Skipping Transfer Tax Forms ...... 25 5. Instructions for Form 1040-X ...... 25 6. Form 8690 ...... 25 C. Estate Tax, Gift Tax and Fiduciary Income Tax Audits and Collections ...... 25 D. Request for Discharge From Personal Liability – Form 5495 ...... 29 E. Qualified Personal Residence Trusts ...... 29 F. Private Trust Companies and Family Offices ...... 30 G. Restricted Management Accounts ...... 30 H. Estate Tax Deductions for Claims and Expenses - Section 2053 ...... 31 I. Section 6166 Court Decisions and Announcements ...... 33 J. 2% Floor for Miscellaneous Itemized Deductions ...... 37 K. Alternate Valuation Date Election ...... 38 L. Generation-Skipping Transfer Taxes ...... 40 1. Exercise or Lapse of Power of Appointment ...... 40 2. Qualified Severances ...... 41 3. Allocation of GST Tax Exemption ...... 42 4. Transactions of Interest ...... 43 5. GST Taxes and Code Section 6166 ...... 43 M. Intentionally Defective Grantor Trusts ...... 43 N. GRATs and GRITs ...... 45 O. Gifts, Gift Tax, and Estate Tax Includibility of Gift Tax ...... 48 P. Same-Sex Marriages ...... 50 Q. IRAs and Qualified Retirement Plans ...... 52 R. Special Valuation Rules – Chapter 14 ...... 57 S. Economic Substance Doctrine ...... 58 T. “Dormant Commerce Clause” ...... 58 U. Ponzi Schemes ...... 58 V. Ruling Procedures ...... 59 W. No Ruling Areas ...... 59 X. Priority Guidance Plan ...... 63 Y. Basis Reporting Requirements ...... 64 Z. Change of Address Notification...... 65 AA. Circular 230 ...... 65 BB. Internal Revenue Bulletins and Cumulative Bulletins ...... 65

VI. ESTATE TAX CONSIDERATIONS VS. INCOME TAX CONSIDERATIONS ...... 65

764 VII. DIGITAL ASSETS ...... 66

VIII. FDIC INSURANCE INCREASES ...... 67

IX. SIGNIFICANT FLORIDA LEGISLATION AND CASE LAW DEVELOPMENTS .....67 A. Repeal of Florida's Intangible Tax ...... 67 B. Creation of Dynasty Trusts ...... 68 C. Intestate Shares ...... 68 D. Separate Writings ...... 68 E. Chapter 738: Principal and Income Act ...... 69 F. UTMA Transfers ...... 69 G. Uniform Disclaimer of Property Interests Act ...... 69 H. Anatomical Gift Law ...... 69 I. Fiduciary Responsibility for Life Insurance ...... 69 J. Creditors' Claims ...... 70 K. Homestead Law ...... 71 L. Attorney-Client Privilege ...... 72 M. Privity ...... 73 N. Reformation and Construction of Wills ...... 73 O. Powers of Attorney ...... 73 P. Personal Representatives, Administrators, Trustees and Guardians ...... 74 Q. Standing to Contest Will or Challenge Trust Distributions ...... 75 R. Enforcement of Alimony and Child Support Orders ...... 75 S. Waiver of Spousal Rights ...... 76 T. Ademption of Bequests ...... 76 U. Former Spouses ...... 76 V. Gifts and Bequests to Clients’ Attorneys ...... 76 W. Disposition of Decedents’ Wills ...... 77 X. Florida Trusts ...... 77 Y. Limited Liability Companies ...... 78 Z. Estate Tax Returns ...... 78 AA. InTerrorem Clauses ...... 78 BB. Undue Influence ...... 78 CC. Exercise of Powers of Appointment ...... 79 DD. Foreign Wills ...... 79 EE. Doctrine of Renunciation ...... 79 FF. Attorneys’ Fees ...... 79 GG. Comity Principles...... 79 HH. Disposition of Decedent’s Remains ...... 80 II. Anti-Lapse Statute ...... 80 JJ. Family Trust Companies ...... 80

X. SIGNIFICANT NEW JERSEY LEGISLATION, REGULATIONS AND CASE LAW DEVELOPMENTS ...... 80 A. Domestic Partnership Act ...... 80 B. Same-Sex Marriage and Civil Unions ...... 81 C. Uniform Prudent Management of Institutional Funds Act ...... 82

765 D. New Jersey Estate Tax and Inheritance Tax ...... 83 E. New Jersey Gross Income Tax ...... 83 F. New Jersey Resident Trusts ...... 84 G. Perelman v. Cohen: Alleged Incompetence; Alleged Fraudulent Transfers and Undue Influence; Oral Promise to Make a Will; Gifts vs. Loans; and Sanctions for Frivolous Litigation ...... 84 H. Support Trusts and Alimony ...... 85 I. Revised Uniform Limited Liability Company Act ...... 85 J. Prenuptial Agreements ...... 85 K. Digital Assets ...... 85

XI. NEW YORK STATUTORY, CASE LAW AND ADMINISTRATIVE DEVELOPMENTS ...... 86 A. Powers of Attorney ...... 86 B. Same Sex Couples...... 87 1. General ...... 87 2. New York Taxes ...... 88 3. New York Estate Tax ...... 88 4. New York Income Tax...... 89 C. Other New York Estate Tax and GST Tax Changes ...... 89 D. Other New York Income Tax Changes ...... 93 1. Modified Carryover Basis ...... 93 2. New York Source Income ...... 94 3. Income Tax Rates ...... 94 4. Income Tax Return Extensions ...... 95 5. New York Residency ...... 95 6. New York Resident Trusts ...... 97 E. Statute of Limitations for Tax Collections...... 99 F. Principal and Income Act...... 99 G. Attorney Engagement Letters ...... 104 H. Disclosure Requirements of Attorney-Fiduciaries ...... 106 I. Relaxation of Strict Privity Doctrine ...... 111 J. No Fault Divorce...... 112 K. Decanting ...... 112 L. In Terrorem Clauses ...... 113 M. Other Significant Legislation ...... 114 1. Significant 2008 Legislation ...... 114 (a) Small Estates ...... 114 (b) Revocation of Incompetent’s Will ...... 114 (c) Revocatory Effect of Divorce ...... 115 2. Significant 2009 Legislation ...... 115 (a) Loss of Health Insurance Coverage in Divorce ...... 115 (b) Simultaneous Deaths ...... 115 (c) Sale of Life Insurance ...... 115 3. Significant 2010 Legislation ...... 116 (a) Formula Bequests ...... 116 (b) Life Sustaining Measures ...... 116

766 (c) Renunciations ...... 116 (d) Proof of Paternity ...... 117 (e) Pet Trusts ...... 117 (f) Uniform Prudent Management of Institutional Funds Act ...... 117 (g) Family Exemption ...... 117 4. Significant 2011 Legislation ...... 118 (a) Formula Bequests ...... 118 5. Proposed Significant 2012 Legislation ...... 118 (a) Uniform Trust Code ...... 118 (b) Trust Advisors and Protectors ...... 118 6. Significant 2013 Legislation ...... 119 (a) Not-For-Profit Corporations ...... 119 (b) Anti-Lapse Statute ...... 121 (c) QDOTs ...... 121 (d) Real Estate Tax Abatements ...... 121 (e) Informal Settlement of Fiduciary Accounts ...... 121 (f) Interest on After-Discovered Assets ...... 121 (g) Adult Guardianships ...... 121 7. Proposed Significant 2013 Legislation ...... 122 (a) “Small Estates” ...... 122 (b) Digital Assets ...... 122 8. Significant 2014 Legislation and Court Rules ...... 122 (a) Posthumous Renunciations ...... 122 (b) Availability of Sensitive Documents ...... 122 (c) Interest on Bequests ...... 122 (d) Posthumous Reproduction ...... 123 9. Significant Proposed 2014 Legislation ...... 123 (a) Exculpatory Clauses ...... 123 (b) Surviving Spouse’s Elective Share ...... 123 (c) Finder’s Agreements ...... 123 10. Significant Proposed 2015 Legislation ...... 124 (a) Temporary Maintenance Guidelines ...... 124 N. Other Case Law Developments ...... 124 1. Fiduciary Investments-Diversification and Self-Dealing ...... 124 2. Qualification and Removal of Fiduciaries ...... 128 3. Right of Election ...... 129 4. Jurisdiction and Charitable Trusts ...... 129 5. Presumption Against Suicide ...... 129 6. Forced Heirship and New York Property ...... 130 7. Executor’s Commissions and Trustee's Commissions ...... 130 8. Prenuptial and Postnuptial Agreements ...... 130 9. Payment of Fiduciary's and Beneficiary’s Attorney's Fees ...... 131 10. Loans vs. Gifts ...... 132 11. Health Care Proxies ...... 133 12. Statute of Limitations ...... 133 13. Rule Against Perpetuities ...... 133

767 14. Surcharge Computations ...... 133 15. Exoneration of Fiduciaries ...... 134 16. Slayer Inheritance ...... 134 17. Delaware Trusts ...... 134 18. Equitable Deviation ...... 135 19. Discretionary Trust Distributions ...... 135 20. Incorporation By Reference ...... 135 21. Bequests of Tangibles ...... 135 22. Charitable Pledges ...... 135 23. Inference of Due Execution ...... 135 O. Other Administrative Developments ...... 136 1. Bitcoins ...... 136

XII. CONNECTICUT GIFT TAX, ESTATE TAX AND OTHER PERTINENT LEGISLATION ...... 136

XIII. UNIFORM LAW COMMISSION PROJECTS ...... 137 A. Digital Assets ...... 137 B. Decanting ...... 137 C. Trust Protectors ...... 137

EXHIBIT “A” – Reprint of “Final Regulations Regarding Portability” ...... 138

EXHIBIT “B” – State Estate Tax Chart ...... 154

EXHIBIT “C” – State Death Tax Legislation Chart ...... 155

EXHIBIT “D” – Bases of State Income Taxation of Nongrantor Trusts ...... 172

EXHIBIT “E” – Digital Property Clauses ...... 183

EXHIBIT “F” – Computation of New York State Estate Tax ...... 185

768 August 2015

ESTATE PLANNING UPDATE

By: Sanford J. Schlesinger, Esq. and Martin R. Goodman, Esq. Schlesinger Gannon & Lazetera LLP

Preface

On January 1, 2013 Congress passed the American Taxpayer Relief Act of 2012 (the “2012 Tax Act”). President Obama signed the 2012 Tax Act into law on January 2, 2013.

The 2012 Tax Act retained the existing $5,000,000 exemption (adjusted for inflation from 2010) for estate tax, gift tax and generation-skipping transfer (“GST”) tax purposes, and increased the maximum tax rate for all such purposes from 35% to 40%. In addition, the 2012 Tax Act made “permanent” (absent any further legislation) the federal transfer tax changes made to the Internal Revenue Code1 by the Tax Relief, Unemployment Insurance Reauthorization, and the Job Creation Act of 2010 (the “2010 Tax Act”) and many of the changes made by the Economic Growth and Tax Relief Reconciliation Act of 2001 (“EGTRRA”). Further, the 2012 Tax Act increased the maximum income tax rate from 35% to 39.6% for high income persons, and increased the maximum income tax rate on dividends and long-term capital gains from 15% to 20%. Part I of this outline describes the important transfer tax aspects of the 2012 Tax Act.

On December 16, 2010 Congress passed the 2010 Tax Act. President Obama signed the 2010 Tax Act into law on December 17, 2010. The 2010 Tax Act, among other things, reformed the federal estate tax, gift tax and GST tax laws for 2010 through 2012. The 2010 Tax Act also extended many of the Bush-era income tax reductions for two years. Part II of this outline describes the important transfer tax and income tax aspects of the 2010 Tax Act

1 All references to the Code are to the Internal Revenue Code of 1986, as amended.

769 and state transfer tax considerations resulting from certain changes in the federal transfer tax laws.

The remaining parts of this outline discuss other important federal and state tax developments, and important non-tax developments, regarding estates and trusts.

I. THE AMERICAN TAXPAYER RELIEF ACT OF 2012

A. Federal Transfer Tax Provisions

The 2012 Tax Act retained the $5,000,000 exemption, indexed for inflation since 2010, for transfers occurring, and for estates of persons dying, in 2013 and thereafter, for estate tax, gift tax and GST tax purposes, and increased the maximum tax rate for all such purposes from 35% to 40%. The inflation adjusted exemption for 2015 is $5,430,000.

In addition, the 2012 Tax Act continued the “portability” provisions that allow a surviving spouse to use the unused portion of the gift tax and estate tax exemption of the last deceased spouse of the surviving spouse. The surviving spouse can use such unused portion for both gift tax and estate tax purposes, but not for GST tax purposes. The executor of the estate of the first spouse to die must elect “portability” on a timely filed federal estate tax return for such deceased spouse’s estate, for the surviving spouse to be able to use such deceased spouse’s unused estate tax exemption, even if a federal estate tax return for such deceased spouse’s estate is not otherwise required to be filed.

Very importantly, the 2012 Tax Act did not contain any so-called “sunset” provision regarding these changes. Therefore, these federal transfer tax changes are “permanent”, absent any further legislation (unlike EGTRRA and the 2010 Tax Act, both of which contained “sunset” provisions).

It also is important to note that the 2012 Tax Act did not contain any provisions requiring a minimum term for grantor retained annuity trusts (GRATs), any provisions regarding valuation discounts for gift tax and estate tax purposes (which generally would be applicable in the case of family limited partnerships), or any provisions requiring the includibility in a person’s gross estate for estate tax purposes of so-called “grantor” trusts. As a result, all of these techniques continue to be important estate planning tools, as in the past.

As a result of the 2012 Tax Act, the federal transfer tax laws for 2013 and thereafter have achieved a degree of permanence that did not previously exist.

B. Federal Income Tax Provisions

The 2012 Tax Act increased the maximum income tax rate from 35% to 39.6% for taxable income in excess $450,000 for married persons filing jointly, and $400,000 for an unmarried individual; reinstated the previously existing “phase-out” of personal exemptions (the “PEP” provision) for individuals with adjusted gross income in excess of $300,000 for married persons filing jointly, and $250,000 for an unmarried individual; reinstated the previously existing limitation on itemized deductions (the “Pease provision”) for individuals with adjusted gross income in excess of $300,000 for married persons filing jointly, and $250,000 for an

770 unmarried individual; increased the maximum income tax rate for qualified dividends and long- term capital gains from 15% to 20% for married persons filing jointly having taxable income over $450,000, and for single taxpayers having taxable income over $400,000; made alternative minimum tax relief permanent; and extended the income tax deduction for state and local sales taxes only for 2012 and 2013 (which was further extended for 2014 by the Tax Increase Prevention Act of 2014, as noted below).

In addition, the 2012 Tax Act extended for 2013 the ability of a person who is older than 70-1/2 to make a direct contribution to charity of up to $100,000 from the person’s Individual Retirement Account, without the contribution being included in the person’s income. This provision of the law was further extended for 2014 by the Tax Increase Prevention Act of 2014, as noted below.

II. THE TAX RELIEF, UNEMPLOYMENT INSURANCE REAUTHORIZATION, AND JOB CREATION ACT OF 2010

A. Federal Transfer Tax Provisions

1. Federal Estate Tax Provisions

Prior to the 2010 Tax Act, the applicable exclusion amount (i.e., the exemption) for estate tax purposes was $3,500,000 in 2009, and the maximum estate tax rate was 45% in 2009. Prior law also provided that there would be no estate tax for estates of persons dying in 2010, although such estates would be subject to a modified carryover basis regime for the decedent’s assets, rather than having an income tax cost basis for those assets equal to the federal estate tax values of such assets.

Pursuant to the 2010 Tax Act, the estate of a person dying in 2010 or thereafter would have an applicable exclusion amount of $5,000,000 (indexed for inflation from 2010, but starting in 2012) for estate tax purposes, the maximum estate tax rate would be 35% in 2010 and thereafter, and all such estates would have a basis for income tax purposes with respect to the assets acquired from the decedent equal to the federal estate tax values of such assets.

However, the 2010 Tax Act also permitted the estate of a person who died in 2010 to instead elect not to be subject to any federal estate tax, but to be subject to the modified carryover basis regime that existed under prior law. Under this modified carryover basis regime, for income tax purposes the income tax cost basis of assets that are inherited would be the lesser of the decedent’s income tax cost basis of those assets, or the value of those assets at the date of the decedent’s death, except that such estate could increase the basis of the decedent’s assets to the extent of $1,300,000, and could also increase the basis of assets bequeathed to the decedent’s surviving spouse outright, or bequeathed to a trust for the benefit of the decedent’s spouse for which the estate receives an estate tax marital deduction (i.e., generally a QTIP trust), to the extent of $3,000,000.

The estate of a person dying in 2010 who had a gross estate of less than the applicable exclusion amount of $5,000,000 would generally not opt out of the estate tax regime, since such estate would not be required to pay any estate taxes, due to the $5,000,000 applicable exclusion amount, and would obtain an income tax basis for the assets passing from the decedent

771 equal to the federal estate tax values of such assets. On the other hand, the estate of a person dying in 2010 that had a value in excess of the $5,000,000 applicable exclusion amount might instead elect to not have the estate tax regime apply, and to have the modified carryover basis rules apply. However, in deciding whether or not to make such election, the executors of such estates would have to consider all the relevant factors, including the amount of income that the estate or its beneficiaries are likely to realize upon the eventual disposition of the inherited assets and when and at what rates they are likely to be required to pay income taxes on such income.

The election to opt out of the estate tax regime and to instead be subject to the modified carryover basis regime was made on Form 8939, entitled Allocation of Increase in Basis for Property Acquired From a Decedent, that was issued by the Internal Revenue Service (the “Service”).

As stated above, the estates of persons dying in 2011 and 2012 would have an applicable exclusion amount of $5,000,000 (indexed for inflation, as stated above) and would be subject to an estate tax with a maximum tax rate of 35%.

The 2010 Tax Act also restored the federal estate tax deduction (not the credit) for state death taxes paid by the estate.

THE FEDERAL ESTATE TAX DEDUCTION (NOT THE CREDIT) FOR STATE DEATH TAXES PAID BY THE ESTATE WAS MADE PERMANENT BY THE 2012 TAX ACT.

The due date for the estate tax return and for the payment of any estate tax that may be due with respect to the estate of a person who died in 2010 and prior to the enactment of the 2010 Tax Act was extended to not earlier than nine months after the date of the enactment of such Act. As the 2010 Tax Act was enacted on December 17, 2010, the corresponding date which is nine months later was September 17, 2011. However, as September 17, 2011 was a Saturday, such due date was the next following Monday, or September 19, 2011.

The 2010 Tax Act also provided that the time within which a beneficiary of an estate of a person who died in 2010 and prior to the enactment of such Act must make a qualified disclaimer under Code Section 2518 was extended to not earlier than nine months after the date of the enactment of the 2010 Tax Act. Thus, such extended due date also was September 19, 2011. In this regard, issues may arise as to whether a beneficiary of inherited property could make a qualified disclaimer if the beneficiary already accepted benefits from such property, or if applicable state law did not similarly extend the period in which a qualified disclaimer may be made.

It is noted that Wills and other documents that serve as testamentary substitutes may utilize a formula clause for dividing a decedent’s estate between the portion of the estate that qualifies for the federal estate tax marital deduction and the balance of the estate, which may be bequeathed to or in trust for persons other than the decedent’s surviving spouse. The changes in the applicable exclusion amount could cause an unintentional shift in beneficial interests under estate planning documents.

772 For example, with the advent of a $5,000,000 applicable exclusion amount for estate tax purposes, a formula clause that gives the decedent’s children the maximum amount of the estate which is exempt from the federal estate tax and leaves the remainder of the estate to the surviving spouse may result in a bequest of the first $5,000,000 ($5,430,000 for decedents dying in 2015) of the decedent’s assets to or for the benefit of persons other than the decedent’s surviving spouse, such as the decedent’s children and more remote descendants, or to a trust of which the decedent’s spouse is not the sole beneficiary. This dispositive result may be different from the disposition that the testator had intended by using such a formula clause in an instrument executed when the applicable exclusion amount for estate tax purposes was substantially less than $5,000,000.

Therefore, it is advisable to review estate planning documents to determine whether the dispositive plan in those documents, taking into account the provisions of the 2010 Tax Act, the 2012 Tax Act and applicable state laws, continue to reflect the testator’s estate planning goals.

2. Federal Gift Tax Provisions

Prior to the 2010 Tax Act, the applicable exclusion amount (i.e., the exemption) for gift tax purposes was $1,000,000 in 2010, and the maximum gift tax rate was 35% in 2010.

The 2010 Tax Act did not change the applicable exclusion amount of $1,000,000 for gift tax purposes with respect to gifts made in 2010, and such Act continued the maximum gift tax rate of 35% for gifts made in 2010 and thereafter. However, the 2010 Tax Act provided that after 2010 donors of gifts would have an applicable exclusion amount for gift tax purposes of $5,000,000 (adjusted for inflation from 2010, but commencing in 2012).

Thus, a person who made gifts in 2010 would have an applicable exclusion amount of $1,000,000 with respect to such gifts, and such person’s taxable gifts would be subject to a maximum gift tax rate of 35%. As a result, it generally would have been preferable to make gifts in excess of $1,000,000 in 2011, when the gift tax applicable exclusion amount was increased to $5,000,000, rather than in 2010, when the gift tax applicable exclusion amount was limited to $1,000,000.

It is noted that, as in the past, previously made gifts will “consume” part of this $5,000,000 applicable exclusion amount, but at gift tax rates imposed at the time of the currently made gift. Thus, if a person previously made a gift of $1,000,000 at a time when the maximum gift tax rate was 45%, rather than 35%, the person should still be able to make $4,000,000 of additional gifts after 2010 and have such additional gifts “sheltered” from gift tax by the remaining $4,000,000 of the person’s applicable exclusion amount.

It is also noted that, as of this writing, only Connecticut imposes a state gift tax, as Minnesota repealed its gift tax on March 21, 2014 effective retroactively to the date of its 2013 enactment. Tennessee enacted legislation on May 21, 2012 repealing its gift tax effective as of January 1, 2012.

773 3. Federal Generation-Skipping Transfer Tax Provisions

Prior to the 2010 Tax Act, there was no GST tax imposed on generation-skipping transfers that occurred in 2010.

The 2010 Tax Act created an exemption of $5,000,000 (indexed for inflation from 2010, but commencing in 2012) for GST tax purposes, commencing in 2010; provided that the GST tax rate for generation-skipping transfers occurring in 2010 was zero; and provided that the maximum tax rate for GST tax purposes was 35% for generation-skipping transfers that occur after 2010.

The previously existing rules regarding the identification of the “transferor” of a transfer, and the automatic allocation rules regarding the allocation of the transferor’s GST tax exemption, continued to apply, with respect to transfers made in 2010 and thereafter.

The GST tax exemption of $5,000,000 (indexed for inflation, as stated above) was available for the estate of a person who died in 2010, whether or not such person’s estate elected out of the estate tax regime for estate tax purposes.

As a result of these rules, a person in 2010 could make a gift in an unlimited amount outright and free of trust to a grandchild or more remote descendant without incurring a GST tax, although the amount of the gift that exceeded the unused portion of the donor’s $1,000,000 applicable exclusion amount for gift tax purposes would be subject to the payment of gift taxes.

In addition, a person could make a gift in 2010 in trust for the benefit of the person’s grandchild and more remote descendants, and no GST tax would be immediately imposed at the time of such transfer, as the transfer was a “direct skip” for GST tax purposes but the GST tax rate with respect to such transfer was zero. After the transfer, the donor, who is the “transferor” for GST tax purposes, will be treated as “moving down” one generation, so that the generation assignment of the donor’s grandchild will only be one generation below that of the transferor. As a result, distributions by the trust to the grandchild after 2010 will not be generation-skipping transfers, and no GST tax will be payable on account of such transfers. However, if the trust also provides for the eventual distribution of the trust property to the donor’s great grandchildren, then the death of the donor’s grandchild after 2010 will be a taxable termination, and the GST tax will be due at that time, unless the value of the trust remaining at the grandchild’s death is includible in the grandchild’s estate for estate tax purposes, or if such value is not so includible, unless the trust is exempt from GST taxes as a result of the donor having allocated his or her GST tax exemption to the gift that he or she made to the trust.

774 4. Federal Portability Provisions

THE PORTABILITY PROVISIONS IN THE 2010 TAX ACT WERE MADE PERMANENT BY THE 2012 TAX ACT.

(a) General

The 2010 Tax Act provided that the unused applicable exclusion amount of the last deceased spouse of a person can be used by such a person for gift tax and/or estate tax purposes. However, these portability provisions do not apply to a person’s GST tax exemption.

It is important to note that these provisions apply only if the death of the first spouse to die occurs after 2010. Thus, pursuant to the 2010 Tax Act both spouses must have died after 2010 and before 2013 for these provisions to apply to the estate of the second to die. However, pursuant to the 2012 Tax Act these provisions will apply if both spouses die at any time after 2010.

For example, if a husband died in 2011 and he and his estate have used only $3,000,000 of his $5,000,000 estate tax applicable exclusion amount, then his surviving wife will have an aggregate applicable exclusion amount of $7,000,000 (i.e., her own $5,000,000 applicable exclusion amount, plus the unused $2,000,000 of her deceased husband’s applicable exclusion amount), assuming the widow does not remarry and she died before 2013.

Importantly, the 2010 Tax Act permitted a person to use the unused portion of the applicable exclusion amount of only such person’s last deceased spouse. Thus, a person cannot accumulate the unused portion of the applicable exclusion amount of more than one deceased spouse.

However, on March 23, 2011 the Congressional Joint Committee on Taxation issued an errata to the General Explanation of the 2010 Tax Act, suggesting a technical correction to the 2010 Tax Act regarding the portability exemption that could increase the unused exclusion amount of a deceased spouse (i.e., W) that her or his surviving spouse (i.e., H- 2) could use to include the portion of the exclusion amount that such deceased spouse’s (i.e., W’s) previously deceased spouse (i.e., H-1) did not use and that the deceased spouse (i.e., W) did not use.

THE 2012 TAX ACT INCLUDES THIS TECHNICAL CORRECTION.

In addition, the unused portion of the applicable exclusion amount of the deceased spouse that can be used by the surviving spouse is not itself indexed for inflation; only the applicable exclusion amount of the surviving spouse is indexed for inflation, as described above.

To apply such portability provisions, the estate of the first spouse to die must elect to do so on a timely filed federal estate tax return. Thus, the estate of the first spouse to die must file such return, even if that person’s gross estate is less than that person’s applicable exclusion amount, if the person’s estate wants to apply these portability provisions.

775 On September 29, 2011 the Service issued News Release IR-2011-97 and Notice 2011-82 providing guidance on portability for estates of decedents dying after December 31, 2010.

The Notice stated that:

• To elect portability, the executor must file a complete estate tax return (Form 706) on a timely basis, including extensions, whether or not the value of the gross estate exceeds the exclusion amount, and whether or not the executor is otherwise obligated to file an estate tax return. • An estate will be deemed to make the portability election by timely filing a complete estate tax return without the need to make an affirmative statement, check a box, or otherwise affirmatively elect to make the election. • Until the Service revises Form 706 to expressly contain the computation of the deceased spousal unused exclusion amount, a complete and properly prepared Form 706 will be deemed to contain the computation of the deceased spousal unused exclusion amount. Note that the estate tax return and instructions for decedents who died in 2012 includes provisions for such computation. • To not make the portability election: •• The executor must follow the instructions for Form 706 describing the steps to do so. The instructions for the 2011 Form 706 state that to opt out of the portability election, a statement should be attached to Form 706 indicating that the estate is not making the election under Code Section 2010(c)(5), or “No Election under Section 2010(c)(5)” should be entered across the top of the first page of Form 706. •• Not timely filing a Form 706 effectively prevents making the election. • As the portability election is not available to the estate of a decedent dying on or before December 31, 2010, any attempt to make a portability election on a Form 706 for such estate will be ineffective. • The Service intends to issue regulations regarding portability and invites comments on the following issues: •• The determination in various circumstances of the deceased spousal unused exclusion amount and the applicable exclusion amount. •• The order in which exclusions are deemed to be used. •• The effect of the last predeceasing spouse limitation. •• The scope of the Service’s right to examine a return of the first spouse to die without regard to the period of the statute of limitations. •• Any additional issues that should be considered for inclusion in the proposed regulations. On February 18, 2012, in order to enable estates to make the portability election, the Service issued Notice 2012-21 granting a six-month extension of time to file the federal

776 estate tax return for the estate of a decedent who is a United States citizen or resident and who dies after December 31, 2010 and before July 1, 2011, if the decedent is survived by a spouse, the fair market value of the decedent’s gross estate does not exceed $5,000,000, the decedent’s estate did not request a six-month extension of time to file the return by timely filing Form 4768 requesting such extension, and if the executor files such Form 4768 within 15 months after the decedent’s death (which may be filed simultaneously with the filing of the estate tax return). The Notice also stated that if, prior to the issuance of the Notice, an executor of such an estate files an estate tax return after its due date, but before 15 months after the decedent’s death, without having timely requested an automatic six- month extension of the time to file the estate tax return, the executor can file Form 4768 pursuant to the Notice and the extension will relate back to the due date of the estate tax return.

On May 11, 2013 a representative of the Service advised that it is considering granting so-called Code Section 9100 relief to estates that failed to elect portability by the required deadline. In this regard, practitioners have asked the Service to eliminate the current requirement of a private letter ruling for Code Section 9100 relief for late elections of estate tax portability.

In PLR 201338003 (2013), the Service ruled that a QTIP election made with respect to a credit shelter trust should be disregarded for federal transfer tax purposes because the election was not necessary to reduce the decedent’s estate tax liability to zero.

Members of the American College of Trust and Estate Counsel are attempting to persuade the Service to clarify that under Rev. Proc. 2001-38, which treats certain QTIP elections as a nullity if the election is not required to reduce the estate tax, estates of less than the amount of the estate tax exemption are allowed to qualify for the federal estate tax marital deduction using a QTIP trust and electing portability. On May 10, 2014 a representative of the Service’s Chief Counsel Office stated that the Service is considering addressing this issue by limiting the application of Rev. Proc. 2001-38 to instances where there is no portability election. The Service’s Priority Guidance Plan for 2015-2016 includes the preparation of a Revenue Procedure regarding this issue.2

In Rev. Proc. 2014-18, IRB 2014-7, the Service issued guidance providing a simplified procedure for estates to obtain an automatic extension of time to make a portability election. Pursuant to the Rev. Proc. if a decedent died after 2010 and before 2014 leaving a surviving spouse, the decedent was a citizen or a resident of the United States on his or her death, the decedent’s estate is not required to file an estate tax return based on the value of the estate and the amount of the decedent’s taxable gifts, and the decedent’s estate did not timely file an estate tax return to elect portability, the decedent’s estate may file an estate tax return on or before December 31, 2014, in order to elect portability, and such tax return will be deemed to be timely filed. This blanket relief permits a qualifying estate to file an estate tax return in order to elect portability without having to obtain Code Section 9100 relief to do so. In the preamble to the final regulations regarding portability, noted below, the Service stated that it is considering making this safe harbor permanent.

2 See Part V, Section X for a discussion of the Service’s Priority Guidance Plan.

777 On June 12, 2015 the Service released final regulations (T.D. 9725) regarding the portability provisions in the 2010 Tax Act. A full discussion of these regulations is contained in an article written by the authors of this outline and published by Commerce Clearing House in Estate Planning Review – The Journal. A copy of that article is attached hereto as Exhibit “A”.

(b) Portability and the Future of Bypass Trusts3

Estate planning documents for spouses having combined assets of more than the basic exclusion amount of one person traditionally would commonly contain provisions under which the estate of the first spouse to die would create a so called “bypass” trust for the benefit of the surviving spouse, in order to effectively utilize the basic exclusion amount of both spouses, rather than provisions under which the first spouse to die would leave his or her entire estate to the surviving spouse, outright and free of trust. Some proponents of portability have contended that where the combined assets of a married couple are less than $10,500,000, then the necessity of the first spouse to die to create a bypass trust for the benefit of the surviving spouse is eliminated, thereby simplifying the estate planning documents for such persons. However, significant reasons continue to exist for the use of bypass trusts, even in cases where the value of the combined assets of a married couple is less than $10,500,000.

First, as noted above, the portability provisions of the 2010 Tax Act were made “permanent” by the 2012 Tax Act. However, it is always possible that portability could be repealed by future legislation.

Second, the first spouse to die, by creating a bypass trust for the surviving spouse, can ensure that the balance in such trust remaining at the death of the surviving spouse will pass to the person or persons whom the first spouse to die wants to inherit such remaining balance, rather than giving the surviving spouse the opportunity to bequeath such assets to other persons.

Third, a bypass trust affords a degree of creditor protection for the assets in the bypass trust that the surviving spouse would not have with respect such assets if they were bequeathed to the surviving spouse, outright and free to trust.

Fourth, the appreciation in value of the assets bequeathed to a bypass trust will not be subject to estate tax in the estate of the second spouse to die, whereas the appreciation in value of assets bequeathed to a surviving spouse, outright and free of trust, will be subject to estate tax on the death of the surviving spouse.

Therefore, many sound reasons exist for the continued use of bypass trusts, even where the combined wealth of a married couple is less than $10,500,000.

However, there are other tax considerations that must be taken into account in deciding whether or not to use a bypass trust.

3 This subsection of the Outline is adapted from a portion of an article that the authors of this Outline wrote and that was published in Estate Planning Review – The Journal, a Wolters Kluwer Business.

778 First, the assets in a bypass trust will not receive a so called “stepped-up” basis at the death of the surviving spouse, whereas the assets that the surviving owns at his or her death will receive a “stepped-up” basis at that time.

Second, if the state in which the decedent resided at his or her death has “decoupled” its estate tax from the federal estate tax regime, and if the state estate tax exemption is less than the federal estate tax exemption, then the use of a bypass trust could result in the payment of state estate taxes, even though no federal estate taxes would be due, whereas such state estate taxes could be avoided if the estate instead elects portability and does not use a bypass trust.4

These tax considerations should be taken into account in deciding whether or not to use a bypass trust.

When negotiating and drafting a prenuptial agreement, consideration should be given to the desirability of including a section in such agreement regarding portability.

Assume, for example, that one party to the intended marriage owns assets that have a value substantially in excess of the applicable exclusion amount and that the other party owns assets having a value significantly less than such amount. In such case, the wealthier party may want a provision in the agreement that requires the executor of the estate of the less wealthy party, if the wealthier party survives the less wealthy party, to timely file a federal estate tax return for the estate of the less wealthy party and to elect on that return to permit the wealthier party, as the surviving spouse, to use the unused portion of the exclusion amount of the less wealthy party. Such a provision could provide a substantial tax benefit to the wealthier party, if he or she survives the less wealthy party.

Note, however, that in such case the executor of the estate of the less wealthy party will be required to prepare and file a federal estate tax return for such estate, even though the amount of the gross estate of the less wealthy party is less than the minimum filing requirement for such tax return, in order to make the required election.

5. Other Provisions

As a result of the 2010 Tax Act, many of the other provisions of prior law would continue to be effective for 2011 and 2012, including the provisions regarding modifications for GST tax purposes, the automatic allocation of the GST tax exemption, the retroactive allocation of the GST tax exemption, qualified severances, 9100 relief for GST tax purposes, and the relaxation of the requirements for the deferral of estate tax payments under Code Section 6166.

4 See Part II, Section C, of this Outline for a fuller discussion of “decoupling”. 5 This subsection of the Outline is adapted from a portion of an article that the authors of this Outline wrote and that was published in Estate Planning Review – The Journal, a Wolters Kluwer Business.

779 THESE PROVISIONS ARE MADE “PERMANENT” BY THE 2012 TAX ACT. 6. Summary Chart The following chart summarizes the changes made by the 2010 Tax Act and the 2012 Tax Act:

2010 2011 2012 2013 (Pursuant to the (Pursuant to the (Pursuant to the and thereafter (Pursuant 2010 Tax Act) 2010 Tax Act) 2010 Tax Act) to the 2012 Tax Act) Estate Tax Election between $5,000,000 and $5,000,000 $5,000,000 indexed Exemption $5,000,000 portability indexed for for inflation since exemption, or no inflation since 2010 and portability estate tax and 2010 and modified carryover portability basis

Maximum 35% 35% 35% 40% Estate Tax Rate

Step-up in Unlimited with Unlimited Unlimited Unlimited Income estate tax, or Tax Cost modified carryover Basis at basis without Death estate tax Lifetime $1,000,000 $5,000,000 and $5,000,000 $5,000,000 indexed Gift Tax portability indexed for for inflation since Exemption inflation since 2010 and portability 2010 and portability Maximum Gift Tax 35% 35% 35% 40% Rate

Lifetime $5,000,000 $5,000,000 $5,000,000 $5,000,000 indexed Generation- and no indexed for for inflation since Skipping portability inflation since 2010 and no Transfer 2010 and no portability Tax portability Exemption

Maximum Generation- Skipping -0- 35% 35% 40% Transfer Tax Rate

780 7. Omitted Transfer Tax Provisions

The 2010 Tax Act did not contain any provisions requiring a minimum term for grantor retained annuity trusts (“GRATs”), as had been included in the President’s Budget Proposal for the prior two years and in prior legislative proposals. Thus, short term GRATs continued to be a viable estate planning tool.

In addition, the 2010 Tax Act did not contain any provisions restricting valuation discounts for transfer tax purposes. As a result, valuation discounts for family limited partnerships continued to apply for transfer tax purposes, as in the past.

THESE PROVISIONS THAT WERE OMITTED FROM THE 2010 TAX ACT WERE ALSO OMITTED FROM THE 2012 TAX ACT.

8. IRS Publication 950

In October 2011 the Service released a revised version of Publication 950, Introduction to Estate and Gift Taxes, highlighting the changes to the estate tax, gift tax and GST tax as a result of the 2010 Tax Act.

B. Federal Income Tax Provisions

The 2010 Tax Act extended many of the Bush-era income tax cuts through 2012. Thus, for two more years the maximum income tax rate on ordinary income would remain at 35%, and the maximum income tax rate on long term capital gains and qualified dividends would remain at 15%.

THE 2012 TAX ACT MADE “PERMANENT” MANY OF THE BUSH-ERA INCOME TAX CUTS, BUT INCREASED THE MAXIMUM INCOME TAX RATE FROM 35% TO 39.6% FOR HIGH INCOME PERSONS.

In addition, the 2010 Tax Act extended for 2010 and 2011 the ability of a person who is at least 70-1/2 years old to make a direct contribution to charity of up to $100,000 from the person’s Individual Retirement Account, without the contribution being included in the person’s income. Moreover, the 2010 Tax Act permitted a person to make such a contribution in January 2011 and to treat the contribution as having been made on December 31, 2010.

THE 2012 TAX ACT EXTENDED THESE PROVISIONS REGARDING DIRECT CONTRIBUTIONS TO CHARITY ONLY FOR 2012 AND 2013, AND THE TAX INCREASE PREVENTION ACT OF 2014 EXTENDED THESE PROVISIONS ONLY FOR 2014.

C. State Transfer Tax Considerations

EGTRRA repealed the federal estate tax credit for state death taxes paid, for estates of decedents dying after 2004, and replaced such credit with a federal estate tax deduction for state death taxes paid. However, most states and the District of Columbia previously had the

781 “sop” or pick-up tax as their estate tax, although numerous states also have an inheritance tax. The estate tax in a majority of these states automatically conformed to changes in the federal estate tax, and therefore the economic effect of the elimination of the state death credit had an impact on revenue from the credit. As a result, many states enacted estate, inheritance and/or succession taxes to make up for the revenue loss due to the elimination of the credit; thus, they “decoupled” from the changes in the federal tax code. However, different states decoupled based upon different pre-EGTRRA applicable exclusion amounts, and different states have different exemption amounts. The elimination of the federal estate tax credit for state death taxes paid, the existing federal estate tax deduction for state death taxes paid, and the “decoupling” by many states of their estate tax from the federal estate tax regime, requires the consideration of the state estate tax planning implications of these changes. A discussion of actions taken by certain of these states is contained below in this Section.

1. New York

In the instance where a state statute does not automatically follow changes made to the federal estate tax, such as the New York State Tax Law, its residents may find themselves with a larger estate tax burden.

As of April 1, 2014, New York increased in stages the amount of a decedent’s taxable estate that can be exempt from New York estate tax from $1,000,000 to an amount that from and after January 1, 2019 will be equal to the federal basic exclusion amount. For a New York decedent who died after March 31, 2014 and prior to January 1, 2015 with a full federal credit shelter bequest of $5,340,000, the decedent’s estate will be required to pay New York estate taxes of $431,600 even though the estate would not have to pay any federal estate taxes. In addition, for a New York decedent who dies in 2015 with a full federal credit shelter bequest of $5,430,000, the decedent’s estate will be required to pay New York estate taxes of $442,400, even though the estate would not have to pay any federal estate taxes. Since the New York estate tax is deductible for federal estate tax purposes, the effective combined federal and New York estate tax rate for such decedents is the sum of the federal estates tax rate of 40%, plus the effective New York estate tax rate of 9.6% (i.e., 60% of the New York estate tax rate of 16%), or 49.6%. After this change is fully phased in, a credit shelter disposition upon the death of the first spouse to die of the New York estate tax basic exclusion amount (which will be the same as the federal estate tax basic exclusion amount) will not result in any New York (or federal) estate tax, as the New York taxable estate would not be more than the New York estate tax basic exclusion amount.

Possible Planning Technique: If the New York estate tax is paid from the credit shelter disposition, the amount of the New York estate tax imposed on the estate as described in the preceding paragraph will apply. However, paying the New York estate tax from the credit shelter disposition will reduce the net after-tax amount of that disposition, and correspondingly increase the amount of the marital deduction disposition, causing an increase in the amount of the federal estate tax payable on the death of the second spouse to die. Instead, practitioners should consider having the New York estate tax payable from the marital deduction disposition (which will not cause a federal estate tax to be payable, since the New York estate tax is deductible for federal estate tax purposes), in order to maximize the amount of the credit shelter disposition and avoid such increase in the amount of the federal estate tax payable on the death

782 of the second spouse to die. Note, however, that paying the New York estate tax from the marital deduction disposition will cause the amount of the New York estate tax to increase from $431,600 to $490,454 for decedents dying in 2014, and to increase from $442,400 to $502,727 for decedents dying in 2015.

2. Connecticut

As a result, the estate of a person who died in 2014 a resident of Connecticut with a taxable estate of $5,340,000 would be required to pay Connecticut estate taxes of $259,800, and a person who dies in 2015 a resident of Connecticut with a taxable estate of $5,430,000 would be required to pay Connecticut estate taxes of $267,900, even though such estate would not be required to pay any federal estate taxes.

3. New Jersey

New Jersey, by affirmative legislation, on July 1, 2002 enacted an estate tax (P.L. 2002, Chapter 31) on the estate of every resident decedent dying after December 31, 2001 which would have been subject to an estate tax payable to the United States under the provisions of the Internal Revenue Code in effect on December 31, 2001. The amount of the New Jersey tax is the maximum state death tax credit that would have been allowable under the Code as in effect on December 31, 2001. For example, if the unified credit bequest equaled $1,000,000, there would be a New Jersey estate tax due of $33,200. On February 27, 2008, in the case of Oberhand v. Director, Division of Taxation, 193 N.J. 558, 9420 A.2d 1202 (2008), the Supreme Court of New Jersey found that the amendment was constitutional but that the application retroactive to December 31, 2001 violated the doctrine of “manifest injustice”. There is an alternative to this method which is the amount determined using a “simplified tax system” based on the $675,000 unified estate and gift tax applicable exclusion amount provided in the Internal Revenue Code, but the simplified method cannot be used if the taxpayer files or is required to file a Federal return. The legislation was implemented by rule amendments published on April 7, 2003. The amendment provides that a New Jersey estate tax return must be filed whenever the gross estate as determined in accordance with the provisions of the Code in effect on December 31, 2001 exceeds $675,000.

As a result, the estate of a person who died in 2014 a resident of New Jersey with a taxable estate of $5,340,000 would be required to pay New Jersey estate taxes of $431,600, and a person who dies in 2015 a resident of New Jersey with a taxable estate of $5,430,000 would be required to pay New Jersey estate taxes of $442,400, even though such estate would not be required to pay any federal estate taxes.

783 In Estate of Stevenson v. Director, 008300-07 (N.J. Tax Court, 2008), the New Jersey Tax Court held that when calculating the New Jersey estate tax where a marital disposition was burdened with estate taxes, creating an interrelated computation, the marital deduction must be reduced not only by the actual New Jersey estate tax, but also by the hypothetical federal estate tax that would have been payable if the decedent had died in 2001.

4. Pennsylvania

Pennsylvania does not have an estate tax for decedents who die after December 31, 2004, due to the elimination of the credit against federal estate taxes for state death taxes paid. However, Pennsylvania still has an inheritance tax, which is independent of the federal state death tax credit and the phase-out of that credit.

5. Florida

In certain states, there are additional barriers to decoupling. For example, in Florida, a constitutional provision restricting the amount of estate tax levied would likely need to be altered. Therefore, since the complete phase-out of the state death tax credit in 2005, Florida has not been able to collect any estate tax from its residents.

Attached hereto as Exhibit “B” is a chart showing a comparison of the state estate taxes after the 2012 Tax Act of New York, New Jersey, Florida and Connecticut.

6. Delaware

Delaware reinstated its estate tax for decedents dying after June 30, 2009. The amount of the estate tax is equal to the credit against federal estate taxes for state death taxes paid by the estate, as such credit was in effect as of January 1, 2001.

7. Other States

Attached hereto as Exhibit “C” is a chart showing the effect as of January 26, 2015 of EGTRRA on the “pick-up” tax of each state and the status as of that date of any death tax legislation in each state.

8. State QTIP Elections

In states which have decoupled and which have a separate qualified terminable interest property (“QTIP”) election for state estate tax purposes, practitioners should consider drafting testamentary documents with a separate QTIP trust for that election. As of this writing, Connecticut (only if no federal QTIP election is made), Illinois, Indiana, Kansas, Kentucky, Maryland, Massachusetts, Maine, New Jersey (only if a federal estate tax return is not required to be filed), Ohio, Oregon, Pennsylvania, Rhode Island, Tennessee and Washington have such an election. On July 29, 2011 the New York State Department of Taxation and Finance issued TSB-M-11(9)M stating that if a federal estate tax return is filed solely to elect portability, any QTIP election that is made on such federal tax return must also be made for New York estate tax purposes. If a QTIP election is not made on such federal return, it may not be made for New York estate tax purposes. However, a New York state only QTIP election is permitted if no

784 federal estate tax return is filed. With regard to Connecticut, the Department of Revenue Services, by special notice, has taken the position that if the federal QTIP election is made, a state election must also be made for the same amount, although this is not in accord with the underlying statute. If no federal election is made, a state-only QTIP election may be made. With regard to New Jersey, NJAC 26:18-3A.8(d) provides that the New Jersey estate tax return must be consistent with the federal return. Accordingly, if a federal QTIP election is made, it must also be made for New Jersey in the same amount. However, if a federal QTIP election would not reduce the federal estate tax liability, such an election will not be given effect for New Jersey estate tax purposes.

Since both New York and New Jersey take the position that, even if a federal estate tax return is filed solely for the purpose of electing portability, the same QTIP election that is made on such federal return must also be made for state estate tax purposes. If a QTIP election is not made on the federal estate tax return, then it may not be made for state estate tax purposes. Thus, the executors in such states may have to choose between a state QTIP election and portability.

III. OBAMA ADMINISTRATION FISCAL YEAR 2016 AND CONGRESSIONAL 2015 PROPOSALS

President Obama’s February 2015 budget request for the fiscal year ending September 30, 2016 (the “Greenbook”) includes:

• A proposal to make permanent the estate tax, gift tax and GST tax exemptions and rates as they applied during 2009 (i.e., an estate tax and GST tax exemption of $3,500,000, a gift tax exemption of $1,000,000, and a maximum tax rate of 45%), effective for the estates of decedents dying, and for transfers made, after December 31, 2015. • A proposal that would eliminate the present interest requirement for gifts that qualify for the gift tax annual exclusion, and that would define a new category of transfers (without regard to the existence of any withdrawal or put rights), and would impose an annual limit of $50,000 (indexed for inflation after 2016) per donor on the donor’s transfers of property within this new category that will qualify for the gift tax annual exclusion. This new $50,000 per donor limit would not provide an exclusion in addition to the annual per donee exclusion; rather, it would be a further limit on those amounts that otherwise would qualify for the annual per donee exclusion. Thus, a donor’s transfers in the new category in a single year in excess of a total amount of $50,000 would be taxable, even if the total gifts to each individual donee did not exceed $14,000. The new category would include transfers in trust (other than to a trust described in Code Section 2642(c)(2)), transfers of interests in passthrough entities, transfers of interests subject to a prohibition on sale, and other transfers of property that, without regard to withdrawal, put, or other such rights in the donee, cannot immediately be liquidated by the donee. • A proposal under which the lifetime transfer, or the transfer on death, of appreciated property generally would be treated as a sale of the property, with certain limited exclusions.

785 • A consistency requirement in the value of property for transfer tax and income tax purposes, under which the basis of property received by reason of death under Code Section 1014 must equal the value of that property for estate tax purposes, the basis of property acquired from a decedent whose estate elected the modified carryover basis regime is the basis of that property, including any additional basis allocated to that property by the executor, as reported on Form 8939, and the basis of property received by gift during the donor’s life must equal the donor’s basis under Code Section 1015, and a reporting requirement with respect thereto. • A requirement that a GRAT have a minimum term of 10 years and a maximum term of the life expectancy of the annuitant plus 10 years. • A requirement that the remainder interest in a GRAT at the time the interest is created must have a minimum value equal to the greater of 25% of the value of the assets contributed to the GRAT or $500,000, but not more than the value of the assets contributed. • A prohibition on any decrease in a GRAT annuity during the GRAT term. • A prohibition on the grantor of a GRAT from engaging in a tax-free exchange of any assets held in the GRAT. • A limitation of 90 years of the time during which a trust could be exempt for GST tax purposes. • As to grantor trusts, if the deemed owner of a trust engages in a transaction with that trust that constitutes a sale, exchange or comparable transaction that is disregarded for income tax purposes by reason of the grantor trust rules, a proposal that the portion of the trust attributable to the property received by the trust in that transaction generally will be subject to estate tax as a part of the deemed owner’s gross estate, will be subject to gift tax at any time during the deemed owner’s life when his or her treatment as the deemed owner of the trust is terminated, and will be treated as a gift by the deemed owner to the extent any distribution is made to another person during the deemed owner’s life. This proposal would not apply to any irrevocable trust whose only assets typically consist of one or more life insurance policies on the life of the grantor and/or the grantor’s spouse. • If an estate elects to pay estate taxes in installments under Code Section 6166, a proposal to extend the 10 year estate tax lien under Code Section 6324(a)(1) for the entire Code Section 6166 deferral period; • A proposal to clarify that the exclusion from the definition of a generation- skipping transfer under Code Section 2611(b)(1) applies only to a payment by a donor directly to the provider of medical care or to the school in payment of tuition and not to trust distributions, even if for those same purposes. • A proposal to empower the executor of a decedent’s estate to act on behalf of the decedent in all matters relating to the decedent’s taxes, and to grant regulatory authority to adopt rules to resolve conflicts among multiple executors. • A proposal to increase the highest long-term capital gains and qualified dividend tax rate from 20% to 24.2% which, together with the 3.8% net investment income tax,

786 would result in a maximum total capital gains and dividend tax rate (including the net investment income tax) of 28%. • A proposal to limit the income tax value of specified deductions or exclusions from adjusted gross income and all itemized deduction to 28% of the specified exclusions and deductions that would otherwise reduce taxable income in the 33%, 35% or 39.6% income tax brackets. • A proposal to simplify the rules limiting income tax deductions for charitable contributions by providing that the contribution base limit would remain at 50% for contributions of cash to public charities, that a single deduction limit of 30% of the taxpayer’s contribution base would apply for all other contributions, and that the carry-forward period for excess contributions would be extended from 5 years to 15 years. • A new minimum tax, called the Fair Share Tax, on high income taxpayers to be phased in linearly starting at $1,000,000 of adjusted gross income, or $500,000 in the case of a married person filing a separate return, that would be fully phased in at $2,000,000 of adjusted gross income, or $1,000,000 in the case of a married person filing a separate return, and that in general would require the taxpayer to pay a minimum income tax of 30% of adjusted gross income less a credit for charitable contributions. • A proposal to tax so-called “carried interests” as ordinary income. • A proposal requiring non-spouse beneficiaries of retirement plans and IRAs in general to take distributions over no more than five years. • A proposal prohibiting a participant in a tax-favored retirement system from making additional contributions or receiving additional accruals under those arrangements, if the participant has accumulated amounts in such system in excess of the amount necessary to provide the maximum annuity permitted for a tax-qualified defined benefit plan under current law (which currently is an annual benefit of $210,000 payable in the form of a joint and 100% survivor benefit commencing at age 62 and continuing each year for the life of the participant and, if longer, the life of the participant’s spouse). Currently, the maximum permitted accumulation for an individual age 62 is approximately $3,400,000. • A proposal to exempt an individual from the minimum distribution requirements if the aggregate value of the individual’s IRA and tax-favored retirement plan accumulations does not exceed $100,000 (indexed for inflation). • A proposal to permit a qualified retirement plan to allow participants to take a distribution of a lifetime income investment through a direct rollover to an IRA or another retirement plan if the annuity investment is no longer authorized to be held under the plan, without the distribution being subject to the 10% additional tax. • A proposal to require employers with 10 or more employees who do not already have a retirement plan to automatically enroll those employees in an IRA. • A proposal to allow a non-spouse beneficiary of a tax-favored retirement plan or an IRA to move inherited plan or IRA assets to a non-spousal inherited IRA by a 60-day rollover of such assets. • A proposal to index all civil tax penalties for inflation.

787 On February 2, 2015 The Permanent IRA Charitable Contribution Act (H.R. 637), which would permanently allow tax-free distributions of up to $100,000 per year from an IRA to charities by a person age 70-1/2 or older, was introduced in the House of Representatives, and on February 4, 2015 the House Ways and Means Committee approved the proposed legislation.

On April 16, 2015 the House of Representatives passed legislation (H.R. 1105) to repeal the estate tax.

On July 15, 2015 the House of Representatives passed legislation (H.R. 3038) providing a five-month extension of the Highway Trust Fund that includes a requirement that an estate must report the value of property when an owner dies, in order to fix the property’s value on the owner’s death for use in connection with the property’s income tax cost basis for future income tax purposes, and includes a provision clarifying the six-year statute of limitations on reassessing tax returns where there is an overstatement of basis.

IV. OTHER IMPORTANT FEDERAL LEGISLATION

A. Medicare Tax on Estates, Trusts and Individuals

The Health Care and Education Reconciliation Act of 2010 enacted new Code Section 1411, which imposes a 3.8% unearned income Medicare contribution tax, starting in 2013. As to estates and trusts, the tax is imposed on the lesser of (1) undistributed net investment income for the tax year, or (2) any excess of adjusted gross income over the dollar amount at which the highest tax bracket for estates and trusts begins for the applicable tax year, which for 2014 is $12,150, subject to inflation adjustments each year. Trusts all of the unexpired interests in which are devoted to charitable purposes are exempt from this tax. As to individuals, the tax is imposed on the lesser of (1) the taxpayer’s net investment income for the tax year, or (2) any excess of the taxpayer’s modified adjusted gross income for the tax year, over $250,000, in the case of a taxpayer filing a joint return, or over $200,000, in the case of an unmarried taxpayer.

On November 30, 2012 the Service issued proposed regulations regarding such tax (REG-130507-11). The proposed regulations provide that any net investment income recognized by a charitable remainder trust before the end of 2012 is not included in such trust’s accumulated net investment income when a subsequent distribution is made after 2012. Pursuant to Proposed Reg. Section 1.1411-3, the 3.8% tax on the net investment income of an individual, estate or trust pursuant to Code Section 1411 is imposed on the lesser of (1) the taxpayer’s undistributed net income, or (2) the excess, if any, of its adjusted gross income over the threshold for the highest tax bracket under Code Section 1(e), which is $12,150 in 2014 for trusts.

On November 29, 2013 the Service issued final regulations on the net investment income tax (T.D. 9645), which generally contain many of the provisions of the proposed regulations. Under the final regulations, pooled income funds are not exempt from such tax, whereas wholly charitable trusts and wholly charitable estates are exempt from such tax. However, the regulations also state that the issue of what constitutes material participation for trusts and estates should be determined in guidance under Code Section 469, thereby leaving this issue unsettled.

788 On November 27, 2013 the Service updated its Questions and Answers regarding the 3.8% net investment income tax, that came into effect on January 1, 2013 and is imposed under Code Section 1411. Estates and trusts are subject to such tax if (1) they have undistributed net investment income, and (2) their adjusted gross income is greater than the dollar amount at which the highest income tax bracket for trusts and estates begins (which is $12,150 in 2014). Such tax is equal to 3.8% of the lesser of (1) the undistributed net investment income for the tax year, or (2) the excess of the gross income over the dollar amount at which the highest income tax bracket for trusts and estates begins. Such tax applies only to trusts that are subject to the fiduciary income tax under Part I of Subchapter J of Chapter 1 of Subtitle A of the Code. Trusts that are generally exempt from income tax, such as charitable trusts and qualified retirement plan trusts, are exempt from this tax. In addition, there are special rules for the calculation of the net investment income with respect to charitable remainder trusts and electing small business trusts that own interests in S corporations. Net investment income includes the various types of income and gain that are generated by investment activities, such as interest, dividends, capital gains, rental and royalty income. Individuals, estates and trusts will use Form 8960 to compute their net investment income tax and attach such form to their federal income tax returns.

At an American Law Institute Continuing Legal Education Program on February 18, 2014, an attorney with the Service’s Office of Chief Counsel stated that if a trust distributes its net investment income to a beneficiary, the income will retain its character as investment income in the beneficiary’s hands. In addition, such person stated that if there is an active business at the trust level, the business remains active for purposes of the beneficiary under the final regulations, even though there may not be a clear rule as to whether trust income retains its character in the beneficiary’s hands for purposes of Code Section 469. Further, such person stated that grantor trusts are disregarded for purposes of the net investment income tax, and the trust’s activity therefore is treated as though the grantor owned the activity directly.

In Frank Aragona Trust v. Commissioner, 142 T.C. No. 9 (2014), the Court held that the services performed by the trustees of a trust with respect to the trust’s real estate interests can be considered personal services performed by the trust, so the trust could be treated as materially participating in its real estate operations. On June 17, 2014 the Service asked the Tax Court to extend the deadline for filing computations of tax liability from June 16, 2014 to July 30, 2014.

On January 31, 2015 an attorney in the Service’s Chief Counsel’s Office advised that the Service would begin to work on guidance concerning the passive loss rules in Code Section 469 as they pertain to the net investment income tax payable by estates and trusts.

As the tax applies with respect to tax years beginning after December 31, 2012, the estate of a decedent who died in 2012 and that selected a fiscal year ending on or before November 30, 2012 would avoid such tax on the estate’s net investment income for such fiscal year and also for the next following fiscal year.

B. Death Master File

On December 26, 2013 the Continuing Appropriations Resolution, 2014, was enacted. The resolution includes a provision that limits public access to death records held by

789 the Social Security Administration, known as the Death Master File, to certified entities such as life insurers and pension funds that use the data to combat fraud and administer benefits. The limits apply for three years after an individual’s death.

C. Patient Protection and Affordable Care Act

On August 27, 2013 final regulations were issued on the “individual mandate” requirements of the Patient Protection and Affordable Care Act, which takes effect on January 1, 2014. Every non-exempt individual must have minimum essential coverage under a government sponsored program, an employee sponsored plan, a plan in the individual market, or any other health plan recognized by the United States Department of Health and Human Services. Exempt individuals include individuals who cannot afford coverage, individuals who obtain a hardship exempt certificate, non-United States citizens, and a United States citizen or resident with a tax home outside of the United States who is a bona fide resident of a foreign country during an uninterrupted period that includes an entire taxable year. Individuals who opt not to carry health coverage and who are not exempt must make a shared-responsibility payment, which for 2014 is the lesser of 1% of the individual’s modified adjusted gross income, or $95. The penalty is scheduled to increase in 2015 to $325 and 2%, and in 2016 to $695 and 2-1/2%. After 2016, the dollar limit will be indexed for inflation. The payment is made by individuals on their income tax returns.

D. Tax Increase Prevention Act of 2014

The Tax Increase Prevention Act of 2014 was enacted on December 19, 2014. The Act, among other things, extended through the end of 2014 the election to claim an itemized deduction for state and local general sales taxes in lieu of state and local income taxes, excludes from income a cancellation of mortgage debt on a principal residence of up to $2,000,000 through the end of 2014, and extended through the end of 2014 the ability of individuals who are 70-1/2 years old and older to make tax-free distributions of up to $1,000,000 from an IRA to a qualified charitable organization.

E. Surface Transportation and Veterans Health Care Choice Improvement Act of 2015

The Surface Transportation and Veterans Health Care Choice Improvement Act of 2015 (also known as the Highway Funding Bill) was enacted on July 31, 2015. This statute includes the following provisions:

• The income tax cost basis of any property acquired from a decedent within the meaning of Code Section 1014 shall not exceed the estate tax value of such property. However, this requirement only applies to property whose inclusion in the decedent’s estate increased the estate tax liability of such estate. • The executor of an estate who is required to file a federal estate tax return, within the earlier of 30 days after the due date of such return or 30 days after such return is filed, must send a statement to the Service and to each person acquiring any interest in property that is included in the decedent’s gross estate for federal estate tax purposes identifying the value of such interest as reported on such estate tax return.

790 • If there is an adjustment to the value of such interest as reported on the estate tax return, the executor, within 30 days after such adjustment is made, must send a supplemental statement to the Service and to such person advising as to such adjustment. • The penalty under Code Section 6721 for the failure to comply with a specified information reporting requirement applies to the failure to provide such statements. • Generally, the accuracy-related penalty for an underpayment of tax pursuant to Code Section 6662 applies if the income tax cost basis of property claimed on a return exceeds the estate tax value of such property. • The above provisions apply to property with respect to which a federal estate tax return is filed after July 31, 2015. • The six-year statute of limitations in the case of a substantial omission under Code Section 6501 applies to an understatement of gross income by reason of an overstatement of the income tax cost basis of property. This provision is effective with respect to tax returns filed after July 31, 2015, and also with respect to tax returns filed on or before such date if the period for the assessment of taxes under Code Section 6501 has not expired as of such date.

V. IMPORTANT IRS REGULATIONS, ANNOUNCEMENTS AND COURT DECISIONS

A. 2015 Inflation Adjustments

In Rev. Proc. 2014-61, 2014-47 IRB (October 30, 2014), the Service released inflation-adjusted numbers as of January 1, 2015 as follows:

The inflation-adjusted annual gift tax exclusion is $14,000, as it was in 2014; the annual gift tax exclusion for non-citizen spouses is $147,000, increased from $145,000 in 2014; the basic exclusion amount is $5,430,000, increased from $5,340,000 in 2014, for determining the amount of the unified credit against the estate tax and gift tax; the amount used to calculate the 2% portion for purposes of Code Section 6166 is $1,470,000, increased from $1,450,000 in 2014; for executors electing to use the special use valuation method under Code Section 2032A for qualified real property, the aggregate decrease in the value of qualified real property resulting from electing to use Code Section 2032A that is taken into account for purposes of the estate tax may not exceed $1,100,000, increased from $1,090,000 in 2014.

Beginning in 2004, the GST tax exemption became tied to the applicable exclusion amount under Code Section 2010(c). Pursuant to the 2010 Tax Act, this exemption was increased to $5,000,000, starting in 2010. Starting in 2012, this exemption is indexed for inflation from 2010, and the inflation-adjusted amount of this exemption is $5,430,000 in 2015.

In addition, Rev. Proc. 2014-61 announced the following 2015 inflation-adjusted amounts for income tax purposes: the maximum income tax brackets starts at $464,850 for

791 married individuals filing jointly and surviving spouses, $439,000 for heads of households, $413,200 for other unmarried individuals, $232,425 for married individuals filing separately, and $12,300 for estates and non-grantor trusts; the income tax standard deduction is $12,600 for married individuals filing jointly and surviving spouses, $9,200 for heads of households, $6,300 for other unmarried individuals, and $6,300 for married individuals filing separately; the income tax personal exemption is $4,000; the alternative minimum tax exemption is $83,400 for married individuals filing jointly and surviving spouses, $53,600 for other unmarried individuals, $41,700 for married individuals filing separately, and $23,800 for estates and trusts; the personal and dependency exemptions increase to $4,000; and the personal exemption phase-out (PEP) begins at adjusted gross income of $309,900 for married individuals filing jointly and at $258,200 for other individuals.

On October 23, 2014 the Service issued IR-2914-99, which announced cost-of- living adjustments affecting dollar limitations for pension plans and other retirement-related items for tax year 2015. The adjustments include the following:

• The elective deferral (contribution) limit for employees who participate in 401(k), 403(b), most 457 plans, and the federal government’s Thrift Savings Plan is increased from $17,500 to $18,000. • The catch-up contribution limit for employees aged 50 and over who participate in 401(k), 403(b), most 457 plans, and the federal government’s Thrift Savings Plan is increased from $5,500 to $6,000. • The limit on annual contributions to an Individual Retirement Arrangement (IRA) remains unchanged at $5,500. The additional catch-up contribution limit for individuals aged 50 and over is not subject to an annual cost-of-living adjustment and remains $1,000. • The deduction for taxpayers making contributions to a traditional IRA is phased out for singles and heads of household who are covered by a workplace retirement plan and have modified adjusted gross incomes (AGI) between $61,000 and $71,000, up from $60,000 and $70,000 in 2014. For married couples filing jointly, in which the spouse who makes the IRA contribution is covered by a workplace retirement plan, the income phase-out range is $98,000 to $118,000, up from $96,000 to $116,000. For an IRA contributor who is not covered by a workplace retirement plan and is married to someone who is covered, the deduction is phased out if the couple’s income is between $183,000 and $193,000, up from $181,000 and $191,000. For a married individual filing a separate return who is covered by a workplace retirement plan, the phase-out range is not subject to an annual cost-of-living adjustment and remains $0 to $10,000. • The AGI phase-out range for taxpayers making contributions to a Roth IRA is $183,000 to $193,000 for married couples filing jointly, up from $181,000 to $191,000 in 2014. For singles and heads of household, the income phase-out range is $116,000 to $131,000, up from $114,000 to $129,000. For a married individual filing a separate return, the phase-out range is not subject to an annual cost-of-living adjustment and remains $0 to $10,000. In addition, the Social Security Administration announced that the Social Security wage base is increased for 2015 from $117,000 to $118,500.

792 B. Tax Returns

1. Form 706-QDT

In August 2014 the Service released the final version of Form 706-QDT, United States Estate Tax Return for Qualified Domestic Trusts, and accompanying instructions. This form is used by the trustee or the designated filer of a Qualified Domestic Trust (“QDOT”) to calculate and report the estate tax due on certain distributions from the QDOT, the value of the property remaining in the QDOT on the date of the surviving spouse’s death, and the principal portion of certain annuity payments. This form is also used to notify the Service that the trust is exempt from future filing because the surviving spouse became a United States citizen and meets the requirements provided in Part II-Elections by the Trustee/Designated Filer, Line 4 Spousal Election of the instructions.

2. Estate Tax Returns for Post-2012 Decedents

On October 29, 2013 the Service released the estate tax and generation-skipping tax return for the estates of decedents dying after December 31, 2012.

3. 2014 Gift Tax Returns

On October 30, 2014 the Service released the gift tax return to report gifts made in 2014.

4. Generation-Skipping Transfer Tax Forms

On October 11, 2013 the Service released a revised Form 706-GS(D) to report taxable distributions made after December 31, 2010, and a revised Form 706-GS(T) to report taxable terminations that occur after December 31, 2012.

5. Instructions for Form 1040-X

On January 7, 2014 the Service issued new instructions for Form 1040-X that includes language on how taxpayers can use such form to amend a return filed before September 16, 2013 to change their filing status to a married filing status.

6. Form 8690

On February 26, 2014 the Service issued Form 8960 regarding the 3.8% Medicare Contribution Tax on unearned income for individuals, estates and trusts under Code Section 1411.

C. Estate Tax, Gift Tax and Fiduciary Income Tax Audits and Collections

The Service recently announced on its website that it will not automatically issue closing letters for estate tax returns filed on or after June 1, 2015, and that a taxpayer who wants an estate tax closing letter should request it in a separate letter submitted to the Service at least four months after the estate tax return is filed.

793 In Estate of Davidson v. Commissioner, T.C. No. 13748-13 (2015), where the Service had asserted estate tax and GST tax deficiencies totaling $2,800,000,000 in connection with transfers by the taxpayer to trusts for his grandchildren of self-cancelling installment notes in reliance on an allegedly unrealistic life expectancy, and where the taxpayer had asserted that the medical consultants retained by the parties stated that the taxpayer had a greater than 50% probability of living at least one year, but the taxpayer died only two months after the transfers, the Service stipulated to estate taxes and GST taxes totaling approximately $321,000,000.

On July 2, 2014 and September 3, 2014 the Service issued memoranda to estate tax and gift tax employees, stating that Appeals will not be able to raise new issues that have not already been dealt with on audit, that at least 270 days must remain on the statute of limitations before Appeals will accept an estate tax case and 365 days must remain on the statute of limitations before Appeals will accept a case involving gift tax or fiduciary income taxes, and that if Appeals receives a file that does not raise issues or properly develop them, then Appeals must send the case back to the examiner, rather than pursing such issues at the Appeals level.

In the ongoing litigation between the Estate of Michael Jackson and the Service regarding the estate’s estate tax liability, the Service valued the decedent’s “image and likeness” at more than $430,000,000, while the estate valued the decedent’s image and likeness at approximately $2,000

In the companion cases of Rogers v. Commissioner, 728 F.3d 673 (Ct. App. 7th Cir. 2013), and Superior Trading, LLC v. Commissioner, 728 F.3d 676 (Ct. App. 7th Cir. 2013), involving a distressed asset-debt transaction, the Court disallowed losses resulting from such transaction, charactering it as a sham, and imposed a 40% gross valuation misstatement penalty, where the aggregate tax basis of the subject receivables had been close to zero but they were valued at approximately $30,000,000, and where the taxpayers did not have reasonable cause for same.

In United States v. Mangiardi, S.D. Fla., No. 9:13-cv-80256 (July 22, 2013), the Court held that the 10-year statute of limitations under Code Section 6324, rather than the four year statute of limitations under Code Section 6901, applies to the collection of unpaid federal estate taxes from a transferee.

In Estate of Liftin v. United States, Fed Cl No. 10-589 (2013), where the executor of the decedent’s estate, on the advice of counsel, did not file the federal estate tax return by the extended due date, in order to wait until the naturalization process for the surviving spouse was completed, to take full advantage of the estate tax marital deduction, and where the executor filed the estate tax return after the extended due date and nine months after the surviving spouse obtained her United States citizenship, the Court held that the executor’s failure to file the return until after the surviving spouse obtained her citizenship was due to a reasonable reliance of the erroneous advice of the estate’s attorney, because the advice related directly to the filing date, but that the nine month delay in filing the return after the surviving spouse obtained her citizenship was not reasonable. As a result, the Court sustained the Service’s imposition of the penalty for failure to timely file the tax return.

794 In Knappe v. United States, No. 10-56904 (9th Cir. 2013), cert. denied (Oct. 15, 2013) where the executor of the decedent’s estate, in reliance on the erroneous advice of the estate’s accountant, believed that the automatic six month extension of the time to file the estate tax return was a one year extension, and the executor filed the estate tax return after the six month extension period, the Court sustained the late filing penalty on the grounds that there is reasonable cause to abate a penalty resulting from a taxpayer’s erroneous advice only when the advice is in regard to a substantive tax law issue, which in effect means an issue arising from an ambiguous tax provision, but that there was no ambiguity as to the extended due date for filing the tax return.

In CCA 201249015 (August 14, 2012) the Service advised that interest is assessed on gift taxes for an unreported gift from the date on which the gift tax return should have been filed to report such gift, even though such gift was reported on the estate tax return for the decedent’s estate.

In CCA 201214031 (March 15, 2012) the Service advised that Code Section 6423(a)(2) imposed personal liability for the payment of estate taxes on the transferees of nonprobate property of the decedent, and that bringing an action under Code Section 6901 to enforce such liability would result in assessments against the transferees and liens against the transferees’ property, although the nonprobate property was not encumbered by an estate tax lien under Code Section 6423(a)(1), as the transferees did not receive such property from the decedent’s estate.

In T. Gaughen, D.C. Pa., 2012 U.S. Dist. LEXIS 11662 (January 31, 2012), the Court, denying the taxpayer’s summary judgment motion for a refund of a fraud penalty relating to the understatement of the value of real estate for gift tax purposes, found that there was sufficient evidence to find that the donor had intentionally undervalued the properties, where a large difference existed between the values claimed on the gift tax return and the values claimed by the Service at trial, a substantial difference existed between the values of the properties reported for gift tax purposes and the County tax assessments of the value of such properties, prior contracts to sell certain of the properties were for almost 10 times the reported gift tax values of such properties, and the appraisal on which the taxpayer based the gift tax values of such properties could be found to directly reflect the values suggested by the donor to the appraiser. On December 1, 2011 the Service posted on its website an amendment to the Service’s Manual regarding the treatment of the gift tax statute of limitations in estate tax and gift tax examinations. The provision states that if an examiner determines that a gift has not been adequately disclosed on a gift tax return prior to the expiration of the statute of limitations, examiner must obtain the taxpayer’s consent to extend the limitations period on the entire return, but that if the examiner is unable to obtain that consent, then the examiner may allow the limitations period to expire if the examiner obtains written approval of his or her manager to do so.

The Service has been searching for and examining taxpayers who have made gifts of real property to family members and who have failed to report the transfers for gift tax purposes. The Service is working with representatives in Connecticut, Florida, Hawaii, Nebraska, New Hampshire, New Jersey, New York, North Carolina, Ohio, Pennsylvania, Tennessee, Texas, Virginia, Washington and Wisconsin to locate such taxpayers. In this regard,

795 in In re: The Tax Liabilities of John Does, E.D. Cal., No. 2:10-mc-00130-MCE-EFB (May 23, 2011)., the Court rejected the Service’s request for leave to serve a “John Doe” summons on the California Board of Equalization requiring the Board to give the Service the records of transfers of real property for little or no consideration, on the grounds that the Service failed to demonstrate that the information was not available through other sources. However, the Court thereafter allowed the Service to resubmit its petition to address its previous shortcomings, and on December 15, 2011 the Court (WL 6302284) granted a John Doe summons requiring the State of California to turn over information on property transfers in which the parties may not have paid federal gift taxes.

On January 27, 2011 the Service issued a memorandum (SBSE-04-0111-008) directing its tax examiners to refer to the Service’s Art Advisory Panel works of art with a reported value of $50,000 or more, rather than the prior threshold of $20,000 or more.

In Estate of Adelina Cheng Van v. Commissioner, T.C. Memo 2011-22 (January 26, 2011), the Court held that a residence purchased by the taxpayer was includible in her gross estate for federal estate tax purposes under Code Section 2036, where the taxpayer had purchased the residence for her daughter’s family, the taxpayer signed the purchase documents, including the sales agreement and a secured promissory note, members of the family of the taxpayer’s daughter paid the down payment for the purchase and the ongoing promissory note payments, the taxpayer subsequently conveyed the residence to a revocable trust that she created for the benefit of her daughter and grandchildren, and the taxpayer resided in the residence from the time of its purchase until her death.

In Estate of Le Caer v. Commissioner, 135 T.C. No. 14 (September 7, 2010), where a wife’s estate claimed a credit for prior transfers under Code Section 2013 for federal estate taxes and state estate taxes paid by estate of the decedent’s husband, who had predeceased the decedent by three months, the Court held that the wife’s estate can claim the credit for the federal estate taxes (but not the state estate taxes) paid by the husband’s estate, but subject to the limitations set forth in Code Sections 2013(b) and (c), and that in calculating the amount of the husband’s taxable estate for purposes of Code Section 2013(b), it is not reduced by the applicable exclusion amount.

In Estate of Thompson v. Commissioner, No. 09-3601-ag (March 17, 2010), the Court of Appeals for the Second Circuit, in an unpublished opinion, affirmed a Tax Court decision which declined to impose accuracy-related penalties on an estate pursuant to Code Section 6662, where the Tax Court found that the estate’s reliance on its experts was reasonable and in good faith, even though the two individual experts were inexperienced in valuing large companies.

In R. Cederloff Estate, 2010-2 USTC ¶ 60,604 (DC Md. 2010), the United States District Court in Maryland held that an estate was liable for a late filing penalty with respect to a federal estate tax return, where the executor obtained a six-month extension of time to file the return, thereafter requested a second one-month extension of time to file, the Service informed the executor that it was prohibited by law from granting an extension of time to file beyond six months, and the executor filed the return almost a year after the extended due date.

796 In Estate of J. Fuertes, 2009-2 USTC ¶60,581 (U.S. Dist. Ct. Tex. 2009), the Court refused to grant the estate’s request for a refund of late filing penalties and late payment penalties assessed with respect to the late filing of the federal estate tax return and the late payment of the federal estate tax, where the executrix’s counsel acknowledged responsibility for the late filing and the late payment, finding that the executrix’s reliance on her counsel to file the return and to pay the tax was a delegation of her unambiguous duty to timely file the return under Code Section 6075(a) and did not constitute reliance on legal advice.

D. Request for Discharge From Personal Liability – Form 5495

An executor of a decedent’s estate may file Form 5495, Request for Discharge From Personal Liability Under Internal Revenue Code Section 2204 or 6905, with the Service to be discharged from personal liability for the estate taxes payable with respect to the decedent’s estate (Code Section 2204) and for income taxes and gift taxes payable by the decedent (Code Section 6905). The Service recently requested comments regarding such Form as part of the Service’s continuing efforts to reduce paperwork.

E. Qualified Personal Residence Trusts

In Riese v. Commissioner, T.C. Memo 2011-60 (March 15 2011), where the decedent had transferred her residence to a qualified personal residence trust (“QPRT”) and continued to reside in the residence for approximately six months after the end of the term of the QPRT until her death without paying any rent, the Tax Court found that there was an agreement among the parties that the decedent would pay rent after the end of the QPRT term, even though there was no written lease and she had not paid any rent prior to her death, and the Court therefore held that the residence was not includible in the decedent’s gross estate for estate tax purposes under Code Section 2036. The Court also held that the estate was entitled to an estate tax deduction under Code Section 2053(a)(3) for the rent due for the period from the end of the QPRT to the date of the decedent’s death as a claim against the estate.

In PLR 200920033 (February 3, 2009), the Service ruled that a “Reverse QPRT”, under which the taxpayer transferred a residence to a QPRT which gave his parents the right to use the residence for a term of years, with the son retaining the reversion interest, qualified as a QPRT under Code Section 2702. Since the taxpayer had received the residence at the expiration of a QPRT created by his father with the same residence, the ruling noted that the Service was not expressing any opinion as to whether the residence would be included in his father’s gross estate under Code Section 2036, reserving the right to claim that the parties had an express or implied agreement that, after the first QPRT term ended, the son would retransfer the home to the reverse QPRT so that his father could continue to use it for his life.

On May 9, 2003, the Service in Rev. Proc. 2003-42 issued a sample declaration of trust that meets the requirements of the Code for a qualified personal residence trust with one term holder and provides samples of certain alternative provisions concerning additions to the trust to purchase a personal residence and disposition of trust assets on cessation of its qualification as a QPRT.

797 F. Private Trust Companies and Family Offices

In Notice 2008-63, IRB 2008-31 (August 4, 2008), the Service issued a proposed revenue ruling concerning the income, estate, gift and GST tax consequences of creating a private trust company to serve as the trustee of trusts having family members as grantors and beneficiaries. The private trust companies’ governing documents create a committee having exclusive authority regarding discretionary distributions from each trust. No member of the committee can participate in matters concerning any trust of which that member or his or her spouse is a grantor or a beneficiary or having a beneficiary to whom the member or his or her spouse who is a support obligation. Furthermore, no family member can have any express or implied reciprocal agreement with another family member regarding distributions. The Service ruled that a trust would not be includible in the grantor’s gross estate under Code Section 2036(a) or Code Section 2038(a) by reason of the trust company service as trustee, the grantor’s interest in the trust company, or the grantor’s service as an officer, director, manager, employee or member of the distribution committee of the trust company. The Service also ruled that the service by a grantor on the distribution committee would not cause the grantor to be liable for gift taxes on discretionary distributions from the trust of which such person is the grantor, since the grantor cannot participate in distribution decisions. Furthermore, the Service ruled that the trust company serving as trustee, by itself, would not cause any grantor or beneficiary of that trust to be treated as the trust’s owner for income tax purposes.

On June 22, 2011 the Securities and Exchange Commission issued its final Rule 202(a)(11)(G)-1 exempting family offices from registration requirements under the Investment Advisers Act of 1940. The Rule stated that in order to qualify for the exemption, a family office adviser must only advise “family clients” with respect to securities, be wholly-owned by “family clients” and exclusively controlled by “family members”, and not hold itself out to the public as an investment adviser.

G. Restricted Management Accounts

On October 9, 2009 the Service determined in Chief Counsel Advice 200941016 that a restricted management account creates a principal/agent relationship and, therefore, that the only discount allowable for purposes of estate tax and gift tax valuation would be a discount for potential damages for breach of contract, which ordinarily would be significantly less than discounts for lack of control and lack of marketability.

In Rev. Rul. 2008-35, IRB 2008-29 (July 21, 2008), the Service ruled that for estate and gift tax purposes, the fair market value of a restricted management account is the actual value of the cash and marketable securities in the account without any restrictions or discounts, where the account was managed by a bank which had complete discretion regarding the investments, all dividends, interest and other earned income during the five-year term of the account would be reinvested, and no distribution would be made until the end of the term, except as permitted in the agreement. After one year and pursuant to the terms of the agreement, the decedent assigned the appreciation of the account assets to a child. The Service ruled that the assets remaining in the account were includible in the decedent's gross estate under Code Section 2036(a), finding that the decedent had always retained a property interest in the account’s assets.

798 Moreover, the Service ruled that the account restrictions did not reduce the fair market value of the account’s assets for estate tax or gift tax purposes under Code Sections 2031 and 2512.

H. Estate Tax Deductions for Claims and Expenses - Section 2053

On October 16, 2009 the Service finalized previously proposed regulations regarding the determination of the amount deductible from a decedent’s gross estate for claims under Code Section 2053(a)(3). The final regulations generally provide that a deduction for any claim or expense described in Code Section 2053 is limited to the amount actually paid in settlement or satisfaction of the claim or expense. The final regulations provide exceptions for claims against an estate as to which there is a claim or asset includible in the gross estate that is substantially related to the claim against the estate, and for claims against the estate which in the aggregate do not exceed $500,000. These regulations generally apply to the estates of decedents dying on or after October 20, 2009.

The Service also issued Notice 2009-84, IRB 2009-44 (November 2, 2009), which provides that if an estate timely files a protective claim for refund based on a Code Section 2053 deduction, the Service will limit its review of the estate tax return to such deduction if the claim becomes ready for consideration after the expiration of the period of limitations for the assessment of additional estate taxes against the estate, rather than examining the entire estate tax return. However, this exception does not apply when the Service is considering a protective refund claim based on a Code Section 2053 deduction and, in the same estate, is considering a refund claim that is not based on a protective claim regarding a Code Section 2053 deduction. This Notice applies to protective refund claims filed on behalf of estates of decedents dying on or after October 20, 2009.

On October 17, 2011 the Service issued Rev. Proc. 2011-48, IRB 2011-42, providing guidance regarding protective estate tax refund claims under Code Section 2053, applicable with respect to protective refund claims filed on behalf of estates of decedents dying on or after October 20, 2009. The Revenue Procedure provides in part that the claim may be filed at any time before the expiration of the statute of limitations, must describe the reasons and contingencies delaying the actual payment of the claim or expense, must set forth each ground upon which the claimed refund is based and facts sufficient to apprise the Service of the exact basis of the claim, and may be filed using Form 843 (Claim for Refund and Request for Abatement). The Revenue Procedure states that filing such a claim will not cause the Service to reopen issues on the estate tax return other than those that pertain to the claimed refund.

In J. Smith Exr., 2008-2 USTC ¶ 60,566, the Court of Appeals for the Fifth Circuit held that the Service was entitled to deduct the remaining obligation of an estate for unpaid underpayment interest against an overpayment of the estate tax and refund the balance of the overpayment to the estate.

In Estate of Malkin v. Commissioner, T.C. Memo 2009-212 (2009), the Tax Court held that the deductions claimed by the decedent’s estate under Code Section 2053 could not exceed the value of the estate property which was subject to claims.

799 In Estate of Black v. Commissioner, 133 T.C. No. 15 (December 14, 2009), the Tax Court held that a loan from a family limited partnership to the decedent’s estate, which the estate used to pay its tax liabilities and expenses, was not necessarily incurred by the estate and, therefore, that the interest paid by the estate in connection with the loan was not a deductible administration expense under Code Section 2053(a)(2).

In Stick v. Commissioner, T.C. Memo 2010-192 (September 1, 2010), the Tax Court held that the decedent's estate could not deduct interest for estate tax purposes as an administration expense under Code Section 2053, where the interest was incurred on a loan made by the trust which was the residuary beneficiary of the estate, and the loan was used to pay the decedent's estate taxes, where the estate failed to establish that the loan was required to enable the estate to pay such taxes.

In Keller v. United States, S.D. Tex., No.V-02-62 (September 15, 2010), the United States District Court for the Southern District of Texas held that the decedent's estate could deduct for estate tax purposes interest on a loan from an investment partnership established by the decedent's financial advisors to two trusts which the decedent controlled, disallowed the estate tax deduction of a contingency fee paid to a law firm as not necessary to the administration of the estate, and allowed the estate to deduct for estate tax purposes fees paid to only one of the four executors (but not the fees paid to the three other executors), finding that only such one person actually performed the role of the executor of the estate.

In Duncan v. Commissioner, T.C. Memo 2011-255 (October 31, 2011), where the decedent’s estate borrowed funds from a trust that was the residuary beneficiary of the estate and the assets of which were includible in the decedent’s gross estate, in order to pay federal estate taxes, the Court held that the interest payable by the estate with respect to such loan was deductible for federal estate tax purposes as an administration expense under Code Section 2053, as the Court found that the loan at issue was a bona fide debt, the interest expense was actually and necessarily incurred in the administration of the estate, and the amount of interest was ascertainable with reasonable certainty.

In Naify v. United States, No. 3:09-cv-01604 (September 8, 2010), aff'd., 9th Cir. No. 10-17358 (2012) the District Court for the Northern District of California held that the decedent's estate, which had claimed an estate tax deduction of $62,000,000 for income taxes owed by the decedent to the State of California, could only deduct $26,000,000, which is the amount for which the estate settled that claim after the decedent's death.

In Saunders v. Commissioner, 136 T.C. No. 18 (2011) aff’d, No. 12-70323 (9th Cir. 2014), the Tax Court held that the decedent’s estate could claim an estate tax deduction under Code Section 2053 for the amount of a claim against the decedent that was actually paid during the administration of the estate, but not for the more substantial amount for which such claim was appraised as of the date of the decedent’s death because the value was not ascertainable with reasonable certainty.

In Gill v. Commissioner, T.C. Memo, 2012-7 (January 9, 2012), the Court held that an amount paid by an estate as legal fees under a settlement agreement to reimburse the decedent’s children for legal fees they incurred in an undue influence litigation regarding the

800 decedent’s will are a deductible administration expense of the estate for federal estate tax purposes.

In Estate of Koons v. Commissioner, T.C. Memo 2013-94 (2013), where the decedent’s revocable trust owned a majority interest in a limited liability company having assets consisting largely of liquid securities, the Court denied an estate tax deduction for interest with respect to a loan from the limited liability company to such trust, noting that the loan was not necessary to the administration of the estate, as the trust could have caused the company to make a distribution of the required funds, rather than a loan.

I. Section 6166 Court Decisions and Announcements

In Adell v. Commissioner, T.C. Memo 2014-89 (2014), the Court held that an estate’s claimed overpayment of the non-deferrable portion of its estate tax liability could not be applied to a later assessed gift tax liability because the estate did not pay more than the full amount of the estate tax due and, therefore, did not leave the Service with an available overpayment to credit against the gift tax.

In Adell v. Commissioner, T.C. Memo 2013-228 (2013), the Court held that the Service appropriately terminated the estate’s Code Section 6166 deferral election where probate litigation caused the estate to miss required interest payments.

On January 25, 2013 the Service issued CCA 201304006, advising that where an estate makes a Code Section 6166 election for part of a closely held business interest, and a deficiency is subsequently assessed, the portion of the deficiency that is attributable to the business will be prorated to the installments payable pursuant to the original election, but that a deficiency that is unrelated to the value of the portion of such interest as to which the estate originally made the election cannot be used to expand such election.

In United States v. Johnson, 2012 U.S. Dist. LEXIS 72194 (D. Ct. Utah 2012), the executors of the decedent’s estate elected to pay estate taxes in installments pursuant to Code Section 6166, the decedent bequeathed the residue of her estate to an existing trust, the executors distributed such residue to that trust, and such trust distributed those assets to the trust’s beneficiaries pursuant to an agreement under which the beneficiaries agreed to pay the remaining estate tax due. The Court held that the trust’s beneficiaries were not liable for the remaining estate tax as transferees, as such beneficiaries did not receive assets directly from the decedent’s gross estate. However, the Court also held that such beneficiaries were liable for the estate tax as beneficiaries of life insurance policies insuring the decedent’s life, to the extent of the benefit that they received from such policies. Further, the Court held that the trustees of the trust were transferees of the estate, and that the trustees, as well as the estate’s executors, were personally liable for the estate tax.

It is noteworthy that the portion of the deferred tax that bears interest at the rate of 2% per year is currently being subjected to a higher rate of interest than the floating interest rate that generally is applicable to the underpayment of estate taxes.

In PLR 201403012, the Service ruled that a post-death reorganization that converted the ownership of interests in real estate from a general partnership to a limited liability

801 company would not terminate the estate’s deferral of the payment of estate taxes under Code Section 6166.

On October 21, 2011 the Service issued CCA 201142024, advising that a change in the form of the business that holds the property for which the Code Section 6166 election was made would not constitute a divestment of the interest in that property for purposes of Code Section 6166(g).

On October 21, 2011 the Service issued CCA 201142025, which advised that a distribution by gift of 51% of the Code Section 6166 property to other family members was an accelerating event for purposes of Code Section 6166(g), thereby causing the Code Section 6166 election to cease to apply.

In CCA 201144027, dealing with an election to pay estate taxes in installments pursuant to Code Section 6166, and the holding company election under Code Section 6166(b)(8), the Service advised that an estate may not make a bifurcated Code Section 6166(b)(8) election with respect to the holding company stock, but that the estate may either apply Code Section 6166(b)(8) and forgo the deferral option under Code Section 6166(a)(3), or not make the Code Section 6166(b)(8) election.

In United States v. Kulhanek, 2010 U.S. Dist. LEXIS 130039 (W.D. PA., December 8, 2010), where there was an election to defer the payment of estate taxes under Code Section 6166, the Court held that the 10 year statute of limitations for the collection of unpaid estate taxes under Code Section 6324(a)(1) is suspended and does not begin to run until the disposition of the closely held stock.

In PLR 200939003 (June 23, 2009), the Service ruled that the GST tax payable on a taxable termination is not eligible to be paid in installments under Code Section 6166. Note, however, that the installment payment election is applicable to the GST tax imposed on direct skips occurring on the death of the transferor.

In Carroll v. United States, 2009-2 USTC ¶ 60,577 (N.D. Ala. July 29, 2009), the Court held that where executors are personally liable for the payment of estate taxes as a result of electing to pay such taxes in installments under Code Section 6166 and then distributing the estate assets to themselves as beneficiaries of the estate before paying all such installments, a co- executor could not discharge such liability in a bankruptcy proceeding, holding that the tax debt was excepted from discharge since the co-executor before the Court willfully evaded the payment of the estate tax debt, even though tax debts generally are dischargeable through bankruptcy.

In Chief Counsel Memorandum POSTS – 113182-07 (February 25, 2009), the Service advised that, in connection with an election to pay estate taxes in installments under Code Section 6166, the Service may require the estate to provide a bond or a lien in an amount including not only the deferred estate tax but also the aggregate amount of interest to be paid over the deferral period, provided that the amount of interest does not exceed the amount of the deferred tax; that the Service may accept a bond or a lien in a lesser amount on a case-by-case basis after examining all the relevant facts and circumstances; that the value of the property

802 offered by the estate for the lien may or may not be the same as its value as reported on the federal estate tax return; that if an interest in a family limited partnership is being pledged as security, the federal estate tax discount used to value that interest should also be used in valuing it for purposes of the lien; and that if mortgaged property is used for purposes of the lien, such property should be valued based on its net equity.

On June 12, 2009 the Service issued a memorandum (SB/SE-05-0609-010) stating that, effective immediately, the Estate Tax Advisory Group of the Service will determine on a case by case basis whether a bond or the special estate tax lien under Code Section 6324A is required in all cases in which estates elect to pay estate taxes in installments pursuant to Code Section 6166 and will negotiate the bond or special lien, after the Service’s Estate and Gift Tax Section has determined that the estate qualifies for the election. The memorandum states that prior to making a determination as to whether to require a bond or a special estate tax lien, the Advisory Estate Tax Group will first request the estate to voluntarily provide a bond or special estate tax lien. If the estate declines to do so, the Advisory Estate Tax Group will make its determination based on a list of non-exclusive factors, which are the duration and stability of the business, the perceived ability to pay the installments of tax and interest on a timely basis, and the tax compliance history of the business, the estate and the decedent. After such determination, the estate will be given the right to appeal.

In CCA 200848004 (2008), the Service’s Office of Chief Counsel stated that a Code Section 6166 election can only be made by attaching a notice of election to a timely filed federal estate tax return.

In PLR 200842012, the Service ruled that the closely held company in which the decedent had an interest carried on an “active trade or business” for purposes of Code Section 6166, where the corporation owned, developed, managed and leased commercial property, the employees of the corporation were involved in all aspects of the business, and a separate facilities team was responsible for day-to-day repairs, maintenance and other tasks in connection with the properties.

In Roski v. Commissioner, 128 T.C. No. 10 (April 12, 2007), the Tax Court held that the Service does not have the authority to require a bond or a special lien for every estate that elects to defer the payment of estate taxes under Code Section 6166. Moreover, the Court stated that the Service must exercise its discretion as to whether or not to require a bond or a special lien in each case by reviewing the applicable facts and cannot arbitrarily rely on a standard which in effect precludes that exercise of discretion.

On November 13, 2007, as a result of the Court’s decisions in Roski, the Service announced a change in its policy and provided interim guidance for estates making a Section 6166 election (Notice 2007-90). The Service will now determine on a case-by-case basis whether security is required when a qualifying estate elects under Section 6166 to pay all or part of the estate tax in installments. The Treasury Department and the Service are in the process of establishing standards to apply and until such regulations are issued, the Service will evaluate three factors to determine whether at any time and occasionally during the deferral period the government’s interest in the estate tax and the interest is sufficiently at risk to justify the requirements of a bond or special lien. The factors are (1) the duration and stability of the

803 closely held business on which the estate tax is deferred; (2) the estate’s ability to timely pay installments of tax and interest; and (3) the estate’s compliance history.

The Chief Counsel’s office of the Service in C.C.A. 200645027 has advised that when an estate elects to pay estate taxes in installments pursuant to Code Section 6166 and gives the Service the special estate tax lien provided for in Code Section 6324A with respect to the Code Section 6166 assets of the estate, that special lien does not divest the balance of the assets of the gross estate from the estate tax lien provided for in Code Section 6324.

The Chief Counsel’s office of the Service addressed questions regarding the acceptance of stock in a closely held corporation as collateral for a lien under Section 6324A for estate tax deferred under Section 6166 (C.C.A. 200747019). The Service said that stock in a closely held corporation qualifies as “other property” acceptable as collateral for such a lien if three statutory requirements are met: (1) the stock must first be expected to survive the deferral period and retain its value, based on the Service’s valuation; (2) the stock must be identified in the written agreement described under Section 6324A(b)(1)(B) which must show all persons having an interest in the stock agree to the creation of the special lien; and (3) the value of the stock as of the agreement date must be sufficient to pay the deferred taxes plus required interest. The Service noted that the principles in the C.C.A. are equally applicable to interests in a limited liability company or a partnership. In order to secure the Service’s interest in the stock, a Notice of Federal Tax Lien should be filed and the Service may hold the stock certificates to prevent their sale to third parties.

In addition, the Chief Counsel’s office in C.C.A. 200803016 has provided advice on whether the Service is required to accept an interest in a limited liability company as collateral under Section 6324A. As with the sufficiency of stock in a closely held corporation, the Chief Counsel explained that if the three requirements [i.e., (1) the interest has to be expected to survive the deferral period; (2) the interest has to be identified in the written agreement described under Section 6324A(b)(1)(B); and (3) the value of the interest has to be sufficient to pay the deferred taxes plus required interest] under Section 6324A are met, the special lien arises and the collateral offered by the estate has to be accepted by the Service. In the case of an LLC, the Chief Counsel observed that the Service was required to file a Notice of Federal Tax Lien for the special estate tax lien against the LLC.

In Rev. Rul. 2006-34, 2006-1 Cum. Bull. 1171, the Service set forth a non- exclusive list of factors which the Service would use to determine whether a decedent’s real estate activities were sufficiently active to qualify the real estate interest as a closely held business interest for purposes of allowing the decedent’s estate to defer the payment of estate taxes under Code Section 6166. The Service stated that, to determine whether the decedent’s interest is an asset used in the active conduct of a trade or business, the Service will consider the amount of time the decedent devoted to the trade or business, whether an office was maintained from which the decedent’s activities were conducted or coordinated and whether the decedent maintained regular business hours for that purpose, the extent to which the decedent was actively involved in finding new tenants and negotiating and executing leases, the extent to which the decedent provided landscaping, grounds care or other services beyond the mere furnishing of leased premises, the extent to which the decedent personally made, arranged for, performed or supervised repairs and maintenance to the property, and the extent to which the decedent handled

804 tenant repair requests and complaints. The Ruling further stated that no single factor would be determinative.

J. 2% Floor for Miscellaneous Itemized Deductions

In Rudkin v. Commissioner, sub nom, Knight v. Commissioner, 552 U.S. 181 (2008), the Court unanimously held that deductions for investment advisory fees paid by a trust are subject to the 2% floor on miscellaneous itemized deductions under Code §67(a). The Court rejected the approach which asked whether the cost at issue “could” have been incurred by an individual. Instead, the Court adopted the test which asked whether the costs incurred would not “commonly” or “customarily” be incurred by individuals, holding that Code §67(e)(1) excepts from the 2% floor only those fees that would be uncommon, unusual or unlikely for such a hypothetical individual to incur.

On February 27, 2008, and in light of the U.S. Supreme Court’s decision in Knight, id., the Service issued Notice 2008-32 to provide interim guidance on the treatment under Code Section 67 of investment advisory costs and other costs subject to the 2% floor. Taxpayers will not be required to determine the portion of a bundled fiduciary fee that is subject to the 2% floor for any tax year prior to January 1, 2008. The proposed regulations from July, 2007 were based on reasoning that was specifically rejected by the Supreme Court in Knight. Accordingly, the Notice indicates that the Service will issue final regulations that conform to Knight and anticipates that final regulations under §1.67-4 will be published after the extended comment period which ends May 27, 2008. On December 11, 2008 the Service issued Notice 2008-116 extending the application of Notice 2008-32 to tax years beginning before January 1, 2009. On April 1, 2010 the Service issued Notice 2010-32, 2010-16 IRB 594, further extending the application of Notice 2008-32 to tax years beginning before January 1, 2010. On April 13, 2011 the Service issued Notice 2011-37 extending the application of Notice 2008-32 to tax years that begin before the date that final regulations regarding this issue are published in the Federal Register.

On May 9, 2014 the Service issued final regulations (Treas. Reg. Section 1.67-4) as to which expenses that are incurred by estates and trusts other than grantor trusts are subject to the two-percent floor for miscellaneous itemized deductions under Code Section 67(a). These regulations provide that:

• In general, an administration expense is subject to the two-percent floor if the expense would be “commonly” or “customarily” incurred by a hypothetical individual owning the same property as the property owned by the estate or the non-grantor trust. • In determining whether an expense is “commonly” or “customarily” incurred by a hypothetical individual owning the same property, the determining factor is the type of product or service that the estate or the non-grantor trust purchases, rather than the description of the cost of that product or service. Expenses incurred in the defense of a claim against the estate, the decedent or a non-grantor trust that are not related to the existence, validity or administration of such estate or trust are subject to such two-percent floor. • Ownership costs that are chargeable to or incurred by an owner of property merely by reason of owning such property are subject to the two-percent floor. Such

805 costs include condominium fees, insurance premiums, maintenance and lawn services, automobile registration and insurance costs, and partnership costs that are passed through to and reportable by the estate or the trust as a partner, if these costs are defined as miscellaneous itemized deductions pursuant to Code Section 67(b). • The cost of preparing estate tax returns, GST tax returns, fiduciary income tax returns and a decedent’s final individual income tax returns are not subject to the two-percent floor. However, the cost of preparing other tax returns are subject to the two-percent floor. • Investment advisory fees generally are subject to the two-percent floor. However, a special, additional charge that is added solely because the investment advice is rendered to an estate or a trust rather than to an individual, or is attributable to a unusual investment objective or the need for a specialized balancing of the interests or various parties (beyond the usual balancing of the varying interests of current beneficiaries and remaindermen), such that a reasonable comparison with individual investors would be improper, is not subject to the two-percent floor. • Appraisal fees to determine the fair market value of assets as of the decedent's date of death or the alternate valuation date, to determine value for purposes of making estate or trust distributions, or otherwise required to properly prepare the estate's or trust's tax returns, or a GST tax return, are not subject to the two-percent floor. The cost of other appraisals for other purposes (for example, for insurance purpose) is subject to the two-percent floor. • Certain other fiduciary expenses, including but not limited to probate court fees and costs, fiduciary bond premiums, legal publication costs of notices to creditors or heirs, the cost of certified copies of the decedent's death certificate, and costs related to fiduciary accounts, are not subject to the two-percent floor. • Generally, “bundled” fees must be allocated between costs that are subject to the two-percent floor and costs that are not subject to such floor. However, if a “bundled fee” is not computed on an hourly rate basis, then only the portion of such fee that is attributable to investment advice is subject to the two-percent floor, except that payments from a “bundled” fee to third parties that would have been subject to the two-percent floor if they had been paid directly by the estate or the trust are subject to such floor, and except that any fees or expenses that are separately assessed by the fiduciary or other payee, that are in addition to the usual or basic “bundled” fee and that are “commonly” or “customarily” incurred by an individual, are subject to the two-percent floor. • The allocation of the portion of the “bundled” fee that is subject to the two-percent floor may be made by any “reasonable” method. The regulations are effective for tax years beginning on or after January 1, 2015.

K. Alternate Valuation Date Election

In PLR 201109014 (March 4, 2011), rescinding PLR 201033023 (August 20, 2010), the Service granted an estate additional time to make the alternate valuation date election for federal estate tax purposes, where the estate had timely filed a federal estate tax return valuing the decedent’s assets on the date of the decedent’s death and, more than 18 months after

806 the due date of that return, the executors asked the Service to grant additional time to make such election.

On November 18, 2011 the Service released new proposed regulations under Code Section 2032 (REG-112196-07) regarding the alternate valuation date election and withdrew previously proposed regulations regarding that election that were released in April 2008. The new proposed regulations provide that:

• If an interest in a corporation, a partnership or any other entity that is includible in a decedent’s gross estate is exchanged for one or more different interests in the same entity, or in an acquiring or resulting entity, the transaction will not constitute a “disposition” for purposes of such election, if, on the date of the exchange, the value of the interest surrendered equals the value of the acquired interest. • In determining whether or not the exchanged properties have the same fair market value, a difference in value that is equal to or less than 5% of the value of the surrendered property as of the transaction date will be ignored. • If the decedent’s estate receives a distribution or a disbursement from a partnership, a corporation, a trust (including an Individual Retirement Account, a Roth IRA, or other deferred compensation plans), the distribution or disbursement will not constitute a “distribution” of the asset for purposes of such election, if on the date of the distribution or disbursement the value of the decedent’s interest in such property before the distribution or disbursement equals the sum of the value of the distribution or disbursement received and the value of such property after that distribution or disbursement. • If the estate disposes of only a portion of the decedent’s interest in an asset and retains the other portion on the six-month date, or if an estate disposes of a decedent’s entire interest in an asset in two or more transactions prior to the end of the six-month date, the value of each portion of the asset is determined by multiplying the value of the decedent’s entire interest by a fraction, the numerator of which is the portion of the interest in the asset that is disposed of, and the denominator of which is the decedent’s entire interest in the asset. • An asset owned by the decedent at his death is not considered to be “distributed” merely because it passes directly to another person at the decedent’s death as a result of a beneficiary designation, or other contractual arrangement, or by operation of law. • Factors such as economic or market conditions, occurrences described in Section 2054 of the Code (i.e., losses arising from fires, storms, shipwrecks, other casualties, or theft, that are not compensated for by insurance or otherwise) can be taken into account in determining the value of an asset for purposes of such election. • Management decisions made in the ordinary course of operating a business generally are taken into account as occurrences relating to economic or market conditions. • Changes in value due to the mere lapse of time generally are not taken into account in determining the value of an asset for purposes of such election. • As to the value of a life estate, remainder interest or term interest for purposes of such election, the value of the interest as of the alternate valuation date is determined

807 by applying the age, at the decedent’s death, of each person whose life expectancy may affect the value of that interest, and the value of the property and the applicable interest rate under Section 7520 of the Code shall be determined using values that apply on the alternate valuation date. L. Generation-Skipping Transfer Taxes

1. Exercise or Lapse of Power of Appointment

Conflict continues among the Courts in regard to the “grandfather” exception to GST taxes for trusts that were irrevocable before September 25, 1985 where a general power of appointment is not exercised. The issue is whether the lapse of the general power of appointment is an “addition” to the corpus of a trust which thereby subjects the trust to the GST tax even though it would otherwise not be subject to the GST tax because of the “grandfather” exception.

In Peterson Marital Trust v. Commissioner, 78 F.3d 795 (2d Cir. 1996), the Court held that (1) the lapse of the surviving spouse’s general power of appointment was a “constructive addition” to the marital trust under Temporary Regulation Section 26.2601-1(b), and (2) since the lapse occurred after 1985, the entire trust, which was payable to the settlor’s grandchildren, was subject to the GST tax.

However, in Simpson v. United States, 183 F.3d 812 (8th Cir. 1999), the Court held that the 1993 transfer of trust corpus to the settlor’s widow’s grandchildren, pursuant to the widow’s failure to exercise a general power of appointment under the settlor’s testamentary trust, which became irrevocable upon his death in 1966, came within the “grandfather” provision, making the GST tax inapplicable to any generation skipping transfer under the trust.

In the Estate of Gerson, 2007-2 USTC ¶ 60,551 (6th Cir. 2007), the Sixth Circuit Court of Appeals affirmed the Tax Court finding that a decedent’s exercise of her testamentary general power of appointment in favor of her grandchildren with respect to an irrevocable trust created by her deceased husband prior to September 25, 1985, was subject to the GST tax under Reg. Section 26.2601-1(b)(1)(i). The Court of Appeals found that the regulation was a valid interpretation of language in the effective date rule of Section 1433(b)(2)(A) of the Tax Reform Act of 1986 (which provided a grandfather exception for trusts that were irrevocable before September 25, 1985 but only to the extent that such transfer is not made out of corpus added to the trust after that date). The Tax Court’s opinion agreed with the Second Circuit’s ruling in Peterson Marital Trust v. Commissioner, supra., that the words of TRA ‘86 Section 1433(b)(2)(A) can only be given meaning in a particular context. The Tax Court’s ruling was at odds with decisions from the Eighth and Ninth Circuits (see, Simpson, supra., and R. Belcher, 281 F.3d 1078 (9th Cir. 2002)), which have allowed such transfers. On May 27, 2008 the United States Supreme Court denied certiorari in Gerson (sub nom Kleinman v. Commissioner, No. 07- 1064).

In Estate of Timken v. United States, 630 F. Supp. 2d 823 (U.S. Dist. Ct., N.D. Ohio 2009), the Court held that a lapse of a general power of appointment under a trust is a constructive addition to the trust for GST tax purposes, finding that Treas. Reg. Section 26.2601- 1(b)(1)(v)(A) which, so provides, is valid as a permissible construction of the effective date provisions of the GST tax. The Court of Appeals for the Sixth Circuit (Case No. 09-3650, April

808 2, 2010) affirmed the District Court decision. On January 10, 2011 the United States Supreme Court (U.S. No. 10-363) denied a petition for certiorari.

2. Qualified Severances

Final regulations (NPRM-REG-128843-05) with regard to a qualified severance for GST tax purposes were effective on August 2, 2007. For severances made after December 31, 2000 and before August 2, 2007, taxpayers may rely on any reasonable interpretation of Sec. 2642(a)(3), provided that reasonable notice of the severance has been given to the Service. Although the proposed regulations posited that the severance rules of Reg. Section 26.2654-1(b) were superseded by Sec. 2642(a)(3), the final regulations note that the provisions address different circumstances. Therefore, Reg. Section 26.2654-1(b) is not superseded by the final regulations. While the non pro rata funding of trusts resulting from a qualified severance is still permitted, the final regulations provide that such funding must be achieved by applying the appropriate fraction or percentage to the total value of the trust assets as of the “date of severance”. The “date of severance” is defined as the date selected for determining the value of trust assets, either on a discretionary basis or by court order, so long as funding is begun immediately and occurs within a reasonable time (not more than 90 days) after the selected date of severance.

In addition, the final regulations also address the qualified severance of a trust that was irrevocable prior to September 25, 1985, but to which an addition was made after that date. The regulations explain that, while the reporting provision of the regulations is not a requirement for qualified severance status, a severance should be reported to the Service to ensure the proper application of the GST tax. Notification of a qualified severance must be made by marking “Qualified Severance” at the top of Form 706-GS(T) and attaching a “Notice of Qualified Severance” to the return.

Proposed amendments to Reg. Sections 26.2642-6 and 26.2654-1 were issued contemporaneously with the final regulations (T.D. 9348 (FEGT ¶43,113)) and address the situation where the trusts resulting from a severance do not meet the requirements of a qualified severance. In such case, the new trusts will be treated as separate trusts for GST tax purposes as long as the resulting trusts are recognized under applicable state law. However, each trust will have the same inclusion ratio immediately after the severance as the original trust had prior to the severance. In addition, an additional type of qualified severance is proposed (as authorized by Section 2642(a)(3)(B)(ii)): the severance of a trust with an inclusion ratio between zero and one into two or more new trusts. The proposed regulations clarify Reg. Section 26.2642-6(d)(4) by providing that no discount or reduction from value of an asset owned by the original trust arising as a result of the division of the original trust’s interest in the assets between the resulting trusts is allowed in funding the new trusts. This clarification is proposed to be effective with respect to severances occurring on or after August 2, 2007.

Effective July 31, 2008, the Service published final rules (T.D. 9421) regarding qualified severances of trusts for GST tax purposes. The final rules rejected a recommendation of an alternative funding rule for qualified severances of trusts in relation to the GST tax and clarified that, for the requirements of a qualified severance, regardless of whether the funding is done on a pro rata basis, the cumulative value of the resulting trusts equals the value of the

809 original trust. The Service stated that "this funding rule produces a bright line test, the same result whether or not the trust assets are divided on a pro rata basis, and recognizes that in many circumstances, where a trust is severed for tax purposes into two identical trusts with the same or related beneficiaries, any closely held stock or partnership units divided between the two resulting trusts are likely to be sold as a unit without any actual reduction in value that may be reflected in the claimed discounts." In addition, the final rules added cautionary language to Example 3 of Reg. Section 26.2642-6(j) to the effect that a GST taxable event will result as a consequence of a nonqualified severance and added a new example to confirm that a trust resulting from a nonqualified severance may subsequently be severed in a qualified severance.

On January 31, 2014 the Treasury Department published a notice in the Federal Register asking the Office of Management and Budget to review the Service’s regulations requiring taxpayers to report a qualified severance by filing a Generation-Skipping Transfer Tax Return for Terminations (Form 706-GS (T)) to report qualified severances.

3. Allocation of GST Tax Exemption

On April 16, 2008, the Service issued proposed regulations (REG-147775-06) that describe the circumstances and procedures under which an extension of time will be granted to make a late allocation of a GST tax exemption to a transfer, to make a late election out of an automatic allocation of that exemption to a transfer, and to elect to have the deemed allocation of a GST exemption apply to a direct skip. The proposed regulations would replace Treas. Regs. Section 301.9100-3 regarding relief under Code Section 2642(g)(1).

Requests for relief under Code Section 2642 will be granted when the taxpayer establishes to the Service’s satisfaction that the taxpayer acted reasonably and in good faith and that the grant of relief will not prejudice the interests of the government. Factors such as the intent of the transferor to timely allocate the GST tax exemption or to timely make an election under Code Section 2632 will be used to determine whether the taxpayer acted reasonably and in good faith.

In the event an extension of time to allocate a GST tax exemption is granted under Code Section 2642, the allocation will be considered effective as of the date of the transfer and the value of the property transferred will determine the amount of the GST tax exemption allocated. If an extension of time to elect out of the automatic allocation of the GST tax exemption is granted under Code Section 2632, the election will be considered effective as of the date of the transfer. In the event an extension of time to treat any trust as a GST trust under Code Section 2632 is granted, the election will be considered effective as of the first (or each) transfer covered by the election. If an extension is granted under Code Section 2642, the amount of the exemption is limited to the amount of the transferor’s unused GST tax exemption under Code Section 2631. If an amount of the GST tax exemption has increased since the date of the transfer, no portion of the increased amount can be applied because the grant of relief is to a transfer taking place in an earlier year and prior to the effective date of that increase. The proposed regulations apply to requests for relief filed on or after the date of publication of the Treasury decision adopting these rules as final regulations.

810 4. Transactions of Interest

On November 14, 2011 the Service published final regulations (T.D. 9556) containing rules giving material advisors to reportable tax shelter transactions involving GST taxes 30 days to prepare a list of advisees that must be disclosed to the Service.

On September 11, 2009 the Service issued Proposed Reg. Section 26.6011-4 (REG-136563-07), which would require the disclosure under Code Section 6011 of certain listed transactions and transactions of interest regarding the GST tax. However, the Service has not yet identified any such transactions, pending the proposal of the relevant regulations.

5. GST Taxes and Code Section 6166

M. Intentionally Defective Grantor Trusts

In Woelbing v. Commissioner, T.C. No. 30260-13, petitioned filed December 26, 2013, and Woelbing v. Commissioner, T.C. No. 30261-13, petitioned filed December 26, 2013, where the decedent sold stock to an insurance trust pursuant to an installment sale agreement, and the trust owned life insurance policies insuring the lives of the decedent and his wife, and the trust and the wife were parties to a split-dollar insurance agreement that required the wife to pay a portion of the premiums and the trust to reimburse her for such premiums following the death of the survivor of the husband and wife, the taxpayers claimed that the Service erroneously determined that the value of the stock should be treated as a taxable gift notwithstanding that the stock was sold for a promissory note bearing interest at the applicable federal rate with a principal amount equal to the appraised fair market value of the stock sold, and that the Service erroneously determined that the stock sold should be includable in the husband’s estate under Code Sections 2036 and 2038, instead of including the promissory note as an asset owned by the husband at his death.

In Adams v. Commissioner, T.C. Memo 2010-72 (April 13, 2010), the Tax Court held that a beneficiary of a grantor trust that owned real property was entitled to claim a mortgage interest deduction on the trust property where the beneficiary had the duty to maintain and repair the property, the beneficiary paid the taxes attributable to the property and the beneficiary had a right of first refusal to purchase the property.

In Rev. Rul. 2011-28, IRB 2011-49 (Dec. 5, 2011), the Service ruled that the retention by a trust’s grantor of a non-fiduciary power to acquire an insurance policy held in the trust by substituting other assets of equivalent value will not, by itself, cause the value of the policy to be includible in the grantor’s gross estate under Code Section 2042 if the trustee has a fiduciary obligation (either under applicable local law or in the trust instrument) to ensure that the substitute property is of equivalent value and the substitution power cannot be exercised in a manner that shifts benefits among trust beneficiaries.

811 In Rev. Rul. 2008-22, 2008-16 IRB 796 (April 21, 2008), the Service ruled that an inter vivos trust will not be included in a grantor's taxable estate under Code Sections 2036 or 2038 solely because the grantor retains a nonfiduciary power to substitute property of equivalent value. The Service was presented with a trust instrument where the grantor had created and funded an irrevocable inter vivos trust for the benefit of his descendants. The trust instrument prohibited the grantor from serving as a trustee but provided the grantor with the power, exercisable in a nonfiduciary capacity, at any time, to reacquire trust property by substituting other property of equivalent value. Approval of such action was not required by any third party. The grantor was required to certify in writing that the original and substituted properties were of equivalent value. Under local law, a trustee had the obligation to ensure that the original and substituted properties were of equivalent value. Based on these facts, the Service concluded that as long as the trust instrument or local law provide that the trustee has a fiduciary obligation to ensure that the original and substituted properties are of equivalent property, then such a retained power exercisable in a nonfiduciary capacity will not cause the trust corpus to be included in the grantor's gross taxable estate under either Code Section 2036 or Section 2038, "provided that the power is not exercised in a manner that can shift benefits if (a) the trustee has both the power (under local law or the trust instrument) to reinvest the trust corpus and a duty of impartiality with respect to trust beneficiaries or (b) the nature of the trust investments or the level of income produced by any or all of the trust's investments does not impact the respective interests of the beneficiaries, such as when the trust is administered as a unitrust …or when distributions from the trust are limited to discretionary distributions of principal and income."

In PLR 200944002 the Service ruled that the retention by the grantor of an irrevocable trust of the power to substitute trust assets with other property of equal value did not cause the trust property to be included in the grantor’s gross estate for estate tax purposes, where the trustee was prohibited from distributing trust funds to the grantor or the grantor’s estate to satisfy the grantor’s income tax liabilities.

In PLR 200848006, PLR 200848015, PLR 200848016 and PLR 200848017, the Service refused to rule as to whether a plan to modify a trust to give the grantor the power, exercisable solely in a non-fiduciary, to reacquire trust property by substituting other property of equivalent value would cause the trust to be treated as a grantor trust for income tax purposes, advising that this is a fact question to be determined after the federal income tax returns for the relevant parties have been filed and examined.

In Karmazin v. Commissioner, Tax Court Docket No. 2127-03 (2003), in a gift tax audit resulting in the taxpayer filing a petition in Tax Court, the Service issued an unagreed report and a 90-day tax deficiency letter in which the Service viewed an installment note, issued by an intentionally defective grantor trust in exchange for the assets, as equity rather than debt. If this characterization was sustained, it would result in the note having a value of zero (pursuant to the rules of Code Chapter 14) and the taxpayer being burdened with a sizable gift tax obligation. The Service claimed that the notes, as equity, constitute an “applicable retained interest” and must be valued at zero for gift tax purposes. The Service’s conclusion that the notes constitute equity was based on a number of factors, including a low equity-to-debt ratio (which nevertheless was in excess of the 10% equity requirement often cited as sufficient), the fact that the only assets supporting the “debt” were the FLP interests transferred to the family trusts and the fact that the debt was non-recourse as to the trust beneficiaries. In the alternative,

812 the Service also took the position that the FLP should be disregarded for transfer tax purposes because it lacked economic substance and had no valid business purposes, or Code Section 2703(a)(2) applies to disregard the FLP for transfer tax purposes, since the limited partnership form itself constitutes a restriction on the right to sell or use the underlying assets. The Service stated that although no discount was applicable, if one was determined to apply it should be limited to 3% and no annual exclusions may be claimed, citing Hackl v. Commr.. The Service is reported to have withdrawn its position that the sale of limited partnership interests to an intentionally defective grantor trust in exchange for a note was not a bona fide transaction under Code Sections 2701 and 2702.

In Rev. Rul. 2004-64, 2004-2 Cum. Bull. 7, the Service addressed the gift and estate tax issues involved in a grantor trust where neither applicable state law nor the trust instrument contains any provision requiring or permitting the trustee to reimburse the grantor for income taxes payable by the grantor with respect to trust income, or where applicable state law or the governing instrument requires the trustee to do so, or where applicable state law or the governing instrument merely gives the trustee discretion to do so. As to the gift tax consequences, the Service held that the grantor’s payment of those income taxes does not constitute a gift by the grantor to the trust beneficiaries in any of those situations because the grantor, rather than the trust, is liable for the payment of the taxes. In addition, the Service held that the trust’s reimbursement of the grantor for the payment of those taxes, whether that reimbursement is permitted or required, is not a gift by the trust beneficiaries to the grantor.

As to the estate tax consequences, the Service held that no portion of the trust is includible in grantor’s gross estate under Code Section 2036 where neither applicable state law nor the trust instrument contains any provision requiring or permitting the trustee to reimburse the grantor, since the grantor did not retain the right to have the trust property used to discharge his legal obligation to pay the income tax. However, where the trust instrument requires the trustee to reimburse the grantor, or where state law requires the trustee to reimburse the grantor (unless the trust instrument provides otherwise), the full value of the trust’s assets will be includible in the grantor’s gross estate under Code Section 2036(a)(1), but the Service will not adversely apply this estate tax holding to a grantor’s estate with respect to any trust that was created prior to October 4, 2004. As to a trust instrument which gives the trustee discretion to reimburse the grantor, the Service held that this discretionary reimbursement power (whether granted in the trust instrument or under state law), by itself, will not cause the trust assets to be includible in the grantor’s gross estate, whether or not the trustee actually reimburses the grantor. However, the Service noted that the trustee’s discretion combined with other facts such as an expressed or implied understanding between the grantor and the trustee regarding the trustee’s exercise of that discretion could cause inclusion of the trust assets in the grantor’s gross estate tax purposes.

N. GRATs and GRITs

On November 7, 2011 the Service issued final regulations under Code Section 2036 regarding the value of property transferred in trust that is includable in the transferor’s gross estate for estate tax purposes where the transferor retained an interest in such property. The regulations provide that: If the decedent and another individual were joint income beneficiaries of the trust, the decedent’s estate includes (a) one-half of the value of the trust

813 property, plus (b) the value of the other half of the trust property reduced by the value, as of the decedent’s death, of the present value of the survivor’s interest. Where the grantor’s beneficial interest succeeds another individual’s interest, the includable amount is the value of the trust property necessary to produce the grantor’s annuity or unitrust payment had he survived the current recipient, less the present value of the current recipient’s remaining interest, except that the includable amount cannot be less than the amount of the trust property required to produce the annuity or unitrust payment to which the decedent was entitled in the year of his death. Where the decedent is entitled to increasing payments, the includable amount is (a) the value of the trust property necessary to produce the decedent’s annuity or unitrust payment for the year of death, plus the value of the trust necessary to produce the incremental amount resulting from the increased annuity in each of the future years, discounted to reflect the delay in the decedent receiving this additional amount. The regulations also provide that if Code Section 2036 applies to include the value of trust property in the decedent’s estate, any payments payable to such estate after the decedent’s death will not also be includable under Code Section 2033.

On July 14, 2008, the Service adopted amendments and revisions to Treas. Reg. Sections 20.2036-1 and 20.2039-1 relating to a grantor's retained interest in a trust. The final regulations incorporate guidance provided in Rev. Rul. 82-105, 1982-1 C.B. 133 and Rev. Rul. 76-273, 1976-2 C.B. 268 regarding the portion of a trust which is includible in a grantor's gross estate under Code Section 2036 if the grantor retained the right to use trust property or the right to receive an annuity, unitrust, or other income payment for the grantor's life, for any period not ascertainable without reference to the grantor's death or for any period that does not end before the grantor's death. The covered trusts include grantor retained annuity trusts, charitable remainder trusts and qualified personal residence trusts, among others. Pursuant to amended Treas. Reg. Section 20.2036-1, if a grantor retained the right to use the trust property, the portion of the trust corpus includible in the grantor's gross estate is that portion of corpus, valued as of the grantor's date of death or alternate valuation date, necessary to yield the annual payment using the then applicable Code Section 7520 rate. In addition, as to pooled income funds, the retained interest is the right to all the income. Thus, the entire share of the fund's corpus attributable to the transferor is includible in the transferor's gross estate. The amendments clarify that although Code Section 2039 may also have implications on the issue of includibility in the grantor's gross estate, only Code Section 2036 will apply to an annuity, unitrust or other payment retained by a deceased grantor in a CRT or GRAT. The amended regulations are effective with respect of decedents for which the valuation date of the gross estate is on or after July 14, 2008.

In Walton v. Commissioner, 115 T.C. No. 41 (Dec. 22, 2000), the grantor funded two substantially identical GRATs with common stock worth approximately $100 million. Each GRAT had a term of two years and, in the event of the grantor’s death, the annuity amounts were to be paid to her estate. At the end of the two year term, the remaining value of each trust was to be distributed to the grantor’s daughters. The Tax Court determined that for purposes of valuing the gift to the grantor’s daughters upon the creation of the GRATs under Code Section 2702, the retained qualified annuity should have been valued as an annuity for a specified term of years, rather than as an annuity for the shorter of a term certain or the period ending upon the grantor’s death. The Court also determined that the grantor retained all interests in the annuities set forth in the GRATs because she could not, as a matter of law, make a gift of the property to herself or her estate. Finally, the Court reviewed Example (5) of Treasury Regulation Section 25.2702-3(e) which the Service relied upon in arguing that the value of the annuity payable for the shorter of

814 two years or the period ending upon the grantor’s death could be subtracted from the fair market value of the gifted stock. The Court rejected the Service’s argument and held that Example 5 was an invalid interpretation of Code Section 2702 because it was inconsistent with the statutory text, the policy objectives which motivated the statute’s enactment, and the approach taken in the comparable context of valuing split-interest gifts to charities. The Service in Notice 2003-72 announced its acquiescence in the Court’s decision. In that Notice, the Service also announced that it would change the regulations to allow treatment of a retained unitrust interest payable to a donor or his or her estate as a qualified interest. On July 23, 2004, the Service issued those Proposed Regulations (Reg-163679-02) which clarify that a unitrust amount or annuity payable to a grantor, or the grantor’s estate if the grantor dies prior to the expiration of the term, is a qualified interest for the specified term. On February 24, 2005, the Service adopted the proposed regulations.

In Cook v. Commissioner, 269 F.3d 854 (7th Cir. Oct. 22, 2001), the Seventh Circuit affirmed the Tax Court’s holding that a husband and wife who each created two GRATs must determine the value of the remainder interest in the GRATs using the factor for single-life annuities not a dual-life annuity, because the spousal interests in each trust were not fixed and ascertainable and because the retained interests in each GRAT may extend beyond the shorter of a term of years or the period ending upon the death of the grantor. The couple were co-trustees for each GRAT and funded them with shares of stock in their closely-held family company. The grantors each transferred the shares into a retained annuity for a fixed number of years or until the grantor’s death; if the grantor died prior to the expiration of the annuity, the annuity would be paid to the surviving grantor until the earliest of the death of the surviving grantor or an additional specified term and each grantor retained the right to revoke the other grantor’s interest.

In Schott v. Commissioner, T.C. Memo 2001-110 (2001), a case with nearly identical facts as Cook v. Commissioner, the Tax Court held that a successor annuity interest of a spouse in a retained two-life annuity is not a qualified interest that is subject to valuation under Code Section 2702. Under the terms of the GRAT, the grantor retained an annuity interest for 15 years or, if sooner, until the grantor’s death. If the grantor died prior to the expiration of the annuity term, the annuity was to be paid to the spouse. If the spouse did not survive the grantor or the grantor revoked the interest, the annuity payments ceased. The Court held that this contingent spousal interest was distinguishable from the fixed, noncontingent spousal interest for a fixed term of years in both Example (6) and Example (7) of Treasury Regulation Section 25.2702-2(d)(1). Finally, the Court noted that the legislative intent to conform qualified interests in valuing GRATs with charitable split interest trusts did not include dual-life annuities. Accord: Tech. Adv. Mem. 200230003 (July 26, 2002), where the spousal interests were nearly the same as those in Cook and Schott, as the spousal interests were contingent, rather than fixed and ascertainable, because it was possible that they would never vest. The Service concluded that the spousal interests were not qualified interests and were valued at zero in determining the value of the grantors’ gifts to the GRATs. The Service rejected the grantors’ argument that the GRATs were of the “fixed” term variety considered in A. Walton, supra. The Service further determined that the fact that the spousal interests were payable to the spouse’s estate if the spouse died before the end of the annuity term did not alter the contingent nature of the spousal interests. The Ninth Circuit reversed the Tax Court’s judgment in Schott v. Commissioner, 81 TCM (CCH) 600, rev’d 319 F.3d 1203 (9th Cir. 2003) and distinguished the Seventh Circuit Cook

815 decision (Cook v. Commissioner, 269 F.3d 854 (7th Cir. 2001). The Ninth Circuit held that the two-life annuity retained by the Schotts in their GRATs is an interest which is qualified under Code Section 2702 and therefore is to be subtracted from the value of the gift. The Court stated that the Commissioner’s interpretation of Example 7 in 20 CFR Sec. 25.2702-2(d) to exclude the contingency of the spouse being alive at the time her annuity begins is unreasonable and invalid; the annuity created by each Schott trust for the lives of the grantor and spouse or 15 years is as qualified as the annuity in Example 7 paying a fixed amount for 10 years to the grantor, then to the spouse if living. The Court held that a two-life annuity, based on the lives of the grantor and spouse with a limit of 15 years, falls within the class of easily valued rights that Congress meant to qualify under Code Section 2702. The Ninth Circuit distinguished Cook on the basis of the requirement in Cook that the parties be married at the date the survivor annuity begins.

In response to the decision in Schott, on July 23, 2004 the Service issued Proposed Regulations (REG -163679-02) that clarify when a revocable spousal interest is a qualified interest. The Proposed Regulations provide that the qualified interest must be for a fixed term and payment cannot be contingent on an event other than survival of the term holder (subject to the transferor’s retained right of revocation). A revocable spousal interest is contingent, and therefore not a qualified interest, if the spouse will not receive any payments if the transferor survives the fixed term during which the transferor is the holder. These regulations clarify that the revocable spousal interest is a qualified interest only if the spouse’s interest, standing alone, would constitute a qualified interest but for the grantor’s revocation power. On February 24, 2005 the Service adopted the proposed regulations and added new Example 8 in Reg. §25.2702-3(e) to clarify that the grantor makes a completed gift to the spouse when the revocation right lapses on the expiration of the grantor’s retained term.

The final regulations amending Reg. §2702-2 and Reg. §2702-3 apply to trusts created on after July 26, 2004, but the Service will not challenge any prior application of the changes to Example 5 and Example 6 in Reg. §25.2702-3(e).

O. Gifts, Gift Tax, and Estate Tax Includibility of Gift Tax

In Cavallaro v. Commissioner, T.C. Memo 2014-189, where a company which was owned by the senior generation and which manufactured certain equipment, and a company owned by the junior generation which sold that equipment, merged, the Court held that the allocation of value between the two generations’ ownership of the post-merger company was inconsistent with the pre-merger value of each company, and that the senior generation therefore made a $30,000,000 gift to the junior generation as a result of the merger.

In V. Kite Estate, TCM 2013-43, the decedent appointed her children as trustees of certain trusts, including QTIP trusts. The children then terminated such trusts, with the assets passing to the decedent’s revocable trust. The assets consisted entirely of interests in a family limited partnership, and the decedent’s revocable trust then sold its interest in the partnership to the decedent’s children in exchange for deferred private annuities. The Tax Court held that the sale was for full and adequate consideration and, therefore, not subject to gift tax. However, the Court also held that the termination of the QTIP trusts and the sale of the decedent’s interest in the partnership disregarded the Code Section 2519 QTIP rules and, therefore, was subject to gift tax, noting that the disposition of the QTIP trusts was part of a prearranged and simultaneous

816 transfer. In addition, the Court held that where the income beneficiary of a QTIP trust is deemed to have made a gift of the remainder interest in the trust pursuant to Code Section 2519, any consideration that such beneficiary receives in the transaction cannot reduce the amount of the gift for gift tax purposes, since the trust’s income beneficiary did not own such remainder interest and, therefore, cannot technically receive any consideration in exchange for it.

In Sommers v Commissioner, T.C. No. 9305-07, T.C. Memo 2013-8 (January 10, 2013), where the decedent transferred his art collection during his life to a limited liability company and made gifts of units in the company to his nieces, and where state court cases held that such gifts were valid and complete, the Tax Court held that the estate was collaterally estopped by such state court decisions from arguing that the gifts were not gifts for federal gift tax purposes, and from arguing that the decedent retained a power to alter, amend, revoke or terminate the gifts.

In PLR 201310002 (2013) and PLR 201310006 (2013) the Service ruled with respect to Delaware incomplete non-grantor trusts (i.e., so-called “DING” trusts), where there was a corporate trustee that was required to distribute income or principal to the grantor or his issue at the direction of a distribution committee consisting of the grantor and his four children, or must make distributions of principal to the grantor’s issue at the grantor’s direction pursuant to an ascertainable standard, the Service ruled that the trusts are not grantor trusts, that the grantor did not make completed gifts on the creation of the trusts, and that the distribution committee members did not make completed gifts upon making distributions to the grantor or to persons other than the grantor.

In CCA 201208026 dated September 28, 2011 the Service advised that a transfer to an irrevocable trust as to which the donor retains a testamentary limited power of appointment is a completed gift of the term interest in the trust, and the value of the term interest for gift tax purposes is 100% of the amount transferred to the trust due to the application of Chapter 14 of the Code. On August 21, 2012 officials of Bessemer Trust Company advised the Real Property, Trust and Estate Law Section of the American Bar Association that using a retained testamentary limited power of appointment is no longer an absolute way of avoiding having a transfer to a trust treated as a completed gift if the grantor is not the sole beneficiary of the trust.

On June 18, 2010 the Service issued a Chief Counsel Advice Memorandum (CCA 201024059) advising that the gift tax imposed on the transfer of closely held stock could be assessed at any time where the donor failed to disclose on the gift tax return the method used to value the stock and a description of the discounts taken in valuing the stocks, thereby failing to comply with the requirement that the transfer must be “adequately disclosed” for the statute of limitations to begin to run.

On May 21, 2010 the Service issued a Chief Counsel Advice Memorandum (CCA 201020009), advising that Code Section 2035(b), which includes in the gross estate of a decedent the amount of any gift tax paid on gifts made within three years of death, does not apply to the payment of gift tax made by a non-resident non-U.S. citizen.

In Estate of Morgens v. Commissioner, 133 T.C. No. 17 (December 21, 2009), where the income beneficiary of QTIP trusts, within three years of her death, made a gift of her

817 income interests in the trusts to the remainder beneficiaries of the trusts, thereby causing a gift of the trusts’ remainder interests under Code Section 2519, the Tax Court held that the income beneficiary was liable for the payment of the gift tax, resulting in the includibility of that gift tax in the income beneficiary’s gross estate for estate tax purposes pursuant to Code Section 2035(b), even though the remainder beneficiaries had agreed to indemnify the income beneficiary for any gift tax payable by reason of the gift. On May 3, 2012 the Court of Appeals affirmed the Tax Court decision (109 AFTR2d 2006, 9th Cir. 2012), and held that the gift taxes paid must be included in the transferor’s gross estate under Code Section 2035(b).

In E. Barnett, Admr., 2009-2 USTC ¶ 60,576, the District Court in Pennsylvania held that checks issued by the decedent’s agent to make gifts pursuant to a power of attorney which did not specifically authorize the agent to make gifts were not valid gifts and were includible in the decedent’s gross estate for estate tax purposes.

On September 9, 2009 the Service issued final regulations under Code Section 7477 (Treas. Reg. §301.7477-1) as to when a donor may file a Tax Court petition seeking a declaratory judgment as to the gift tax value of a gift. The regulations provide that a donor may file such a petition if (1) the transfer is shown or disclosed on a gift tax return, (2) the Service has made a determination regarding the gift tax treatment of the transfer that results in an “actual controversy”, (3) the donor has exhausted all available administrative remedies, and (4) the donor files the Tax Court petition requesting a declaratory judgment under Code Section 7477 within 91 days of the Service’s notice of proposed adjustment. The final regulations apply to civil proceedings described in Code Section 7477 which are filed in the Tax Court on or after September 9, 2009.

In CCA 201330033 (February 24, 2012) the Service advised as to the gift tax and estate tax consequences of transfers of stock to grantor trusts in exchange for self-cancelling notes that provided only for the payment of interest during their term, with a balloon payment of principal at the end of the term, where the transferor died in the year after the transfer and before the notes matured. The Service stated that the fair market value of the notes is to be determined pursuant to the willing buyer, willing seller standard in Treas. Reg. Section 25.2512-8, rather than based on the Code Section 7520 mortality tables, and that if the value of the notes is less than the value of the stock, measured at the time of the transfer, then there is a deemed gift by the transferor of the difference. The Service stated that in the instant case the notes lacked the indicia of genuine debt, which requires a reasonable expectation of payment, since it was unclear as to whether or not the trusts were adequately funded to be able to pay the notes. As a result, the Service concluded that notes were worth significantly less than the value of the stock and that the difference was a gift. The Service also advised that there were no estate tax consequences as a result of the cancellation of the notes at the transferor’s death.

P. Same-Sex Marriages

In Obergefell v. Hodges, U.S. No. 14-556 (June 26, 2015), the United States Supreme Court held that the equal protection clause of the Fourteenth Amendment to the United States Constitution prohibits states from banning same-sex marriages.

818 As a result of the United States Supreme Court’s decision in Obergefell, tax officials in states that did not provide marriage related tax benefits to same-sex married couples before such decision have begun the process of adjusting their tax benefits to provide equal tax treatment.

In United States v. Windsor, 570 U.S. ____ (2013), the United States Supreme Court held that Section 3 of the Defense of Marriage Act was unconstitutional and that the estate of a same-sex spouse was entitled to a federal estate tax marital deduction for the bequest to the surviving same-sex spouse.

In Hollingsworth v. Perry, 570 U.S. ______(2013), the United States Supreme Court also held that the proponents of Proposition 8, which was California’s ban of same-sex marriage, lacked standing to appeal a Federal District Judge’s ruling that Proposition 8 violated the Constitution.

In Cozen O’Connor, P.C. v.Tobits, E.D. Pa., No. 2:11-cv-00045-CDJ (2013), the Court held that the same-sex spouse of a deceased participant in a profit sharing plan, which provided that death benefits would be paid to the participant’s surviving spouse, was entitled to the spousal death benefits under the plan and under the Employee Retirement Income Security Act (“ERISA”).

In Rev. Rul. 2013-17, IRB 2013-38, the Service ruled that a same-sex couple that is legally married in a jurisdiction that recognizes such marriages will be treated as married for federal tax purposes, whether or not the couple resides in a jurisdiction that recognizes same-sex marriages.

On August 29, 2013 the Service issued a FAQs on same-sex marriage. For tax year 2013 and thereafter, same-sex spouses generally must file using a married filing separately or jointly filing status. For tax years 2012 and earlier, same-sex spouses who file an original tax return on or after September 16, 2013 generally must file using a married filing separately or jointly filing status. Same-sex spouses who file their 2012 tax year return before September 16, 2013 may choose, but are not required, to amend their federal tax returns to file using a married filing status.

On November 26, 2013 the Service issued new draft instructions for Form 1040- X that includes language on how taxpayers can use such form to amend a return filed before September 16, 2013 to change their filing status to a married filing status.

The Service in its FAQs on registered domestic partnerships stated that such partners are not considered as married or spouses for federal tax purposes, as such partners are not married under state law. Thus, domestic partners cannot file federal returns using a married filing status, and a taxpayer cannot file as head of household if the taxpayer’s only dependent is his or her registered domestic partner. In addition, a registered domestic partner can itemize his or her deductions whether or not his or her partner itemizes or claims the standard deduction.

819 Q. IRAs and Qualified Retirement Plans

In Running v. Miller, 778 F.3d 711 (Ct. App. 8th Cir., 2015), the Court held that an annuity purchased through a direct rollover from a tax-exempt IRA is exempt from the debtor’s Chapter 7 estate.

On July 2, 2014 the Service published final regulations (T.D. 9673) under Code Sections 401, 403 408, 408A and 6047 regarding qualifying longevity annuity contracts (“QLACs”), which allow a participant in a retirement plan or a person who has an IRA to use a portion of his or her plan or IRA account balance to purchase an annuity that will begin to pay benefits at an advanced age (up to a maximum of age 85), and that will continue to pay benefits for the life of the plan participant or IRA owner. The regulations also allow the plan participant or IRA owner to deduct the cost of the QLAC from the account balance for purposes of determining the required minimum distribution that must be paid from the plan to the participant or from the IRA to its owner. In addition, the regulations require that a company that issues a QLAC must send a report to the plan participant or IRA owner annually regarding that contract, and the Service has issued Form 1098-Q for that purpose

On July 1, 2014 the Service issued final regulations (T.D. 9673) modifying the required minimum distribution rules to allow for the purchase of deferred annuities that start at an advanced age, such as 80 or 85. The regulations provide that the maximum permitted investment that individuals can use to purchase qualifying longevity annuity contracts regardless on non-compliance with the age 70-1/2 minimum distribution requirements is 25% of their account balance or $125,000, whichever is less. The $125,000 limitation will be inflation adjusted. The final regulations apply to plans covered by Code Section 401(a), Code Section 403(b), and individual retirement annuities and IRAs under Code Section 408, and eligible governmental plans under Code Section 457(b).

In Bobrow v. Commissioner, T.C. Memo 2014-21, the Court held that a taxpayer who maintained multiple individual retirement accounts could not make a rollover contribution for more than one IRA in a one-year period. As a result of this decision, on July 10, 2014 the Service stated that it would withdraw its proposed changes to Treas. Reg. Section 1.408- 4(b)(4)(ii) and IRS Publication 590, providing that this limitation is applied on an IRA-by-IRA basis, and would issue revised guidance to clarify that rules limiting IRA rollovers to one per year apply on an aggregate basis. On November 24, 2014 the Service published Announcement 2014-32, clarifying that a 2014 transfer of a distribution from one IRA to another IRA will not have an impact on the new rule only allowing one IRA-to-IRA transfer per year beginning in 2015.

In Notice 2014-19, the Service stated that qualified retirement plans must reflect the outcome of United States v. Windsor as of June 26, 2013, the date of the United States Supreme Court’s decision in that case, but need not reflect that outcome prior to such date in order to continue to be qualified.

In Clark v. Rameker, the United States Supreme Court (No. 13-299, June 12, 2014), held that an inherited IRA does not represent "retirement funds" and is therefore not an exempt asset in connection with a debtor's bankruptcy filing.

820 In PLR 201125009 (June 24, 2011), the Service ruled that the executor of the estate of a surviving spouse could disclaim the undistributed portion in a retirement account, even though required minimum distributions had already been made from such account to the estate’s account.

In Rev. Rul. 2005-36, 2005-1 Cum. Bull. 1368, the Service ruled that a beneficiary’s receipt from a decedent’s individual retirement account of the required minimum distribution for the year of the decedent’s death does not prevent the beneficiary from making a qualified disclaimer of her beneficial interest in the IRA.

In In re Wachovia Corp. ERISA Litigation, W.D.N.C., No. 3:09-cv-00262-MR (October 24, 2011), the Court approved a settlement of $12,350,000, plus attorney’s fees, in an action by Code Section 401(k) plan participants against Wachovia Corp., where Wachovia allegedly breached its fiduciary duties by permitting substantial investment of the plan assets in Wachovia’s common stock when it was not prudent to do so.

ROTH IRA CONVERSIONS: For tax years beginning after 2009, an individual can convert a traditional IRA into a Roth IRA without regard to the amount of the individual’s adjusted gross income, thereby avoiding income tax on all future income and appreciation in the IRA, whereas prior to 2010 an individual could do so only if his or her modified adjusted gross income was not more than $100,000. A taxpayer who made such a conversion in 2010 can elect to recognize the conversion ratably in 2011 and 2012.

On September 18, 2014 the Service issued proposed regulations (REG-105739- 11) and Notice 2014-54, clarifying that plan participants who receive a distribution from a retirement account can roll over the after-tax funds to a Roth IRA.

In Notice 2009-75, IRB 2009-39 (September 28, 2009), the Service stated that a Roth IRA conversion made directly from a non-IRA account will be treated as though it first passed through a traditional IRA, so that special tax rules, such as those applicable to net unrealized depreciation on employer securities, which otherwise would require the payment of current income tax only on the amount of the stock’s cost basis until the participant later sells the stock, would not be applicable, with the result that the participant will be required to pay income tax on the entire amount.

In Paschall v. Commissioner, 137 T.C. No. 2 (2011), and Swanson v. Commissioner, T.C. Memo 2011-156 (2011), the Tax Court held that taxpayers who utilized a Roth IRA conversion tax shelter were liable for excise taxes due to excess contributions to the Roth IRA and were liable failure to file penalties for relying on the tax advice of the tax shelter promoter.

In Strong v. Dubin, NY Slip Op 04121 (May 13, 2010), the Appellate Division, First Department, held that a prenuptial waiver of equitable distribution rights to retirement assets is valid, distinguishing the requirement under ERISA that a waiver of survivorship rights to retirement assets can only be validly accomplished by a spouse.

In Hess v. Wojcik-Hess, 1:08-cv-789 (January 26, 2010), the District Court for the Northern District of New York held that the decedent’s employee benefit plans were

821 governed by ERISA, which required that the Court must apply the terms of the plans in determining the eligible beneficiary, thereby entitling the decedent’s separated spouse to the benefits under those plans, notwithstanding a separation agreement between the decedent and his spouse in which the spouse waived any claim which she may have in those plans.

In Diversified Investment Advisors Inc. v. Baruch, N.Y.L.J. June 30, 2011, the United States District Court for the Eastern District of New York held that the waiver by the surviving spouse of the decedent’s pension benefits or non-wage compensation benefits during his years of employment for the New York State Teachers Retirement System was an enforceable waiver with respect to the decedent’s participation in an annuity pension plan regulated by state and federal law, as the waiver was explicit, voluntary and made in good faith.

In Kesinger v. URL Pharma Inc., No. 09-cv-06510 (D. Ct. New Jersey, March 20, 2012), where the decedent’s wife waived her right to the proceeds of the decedent’s 401(k) plan as part of their divorce decree, but the decedent failed to change the designated beneficiary of his plan benefits prior to his death, the Court held that the plan administrator is obligated to pay the plan proceeds to the decedent’s former wife, as the designated beneficiary, but that the decedent’s estate could sue the decedent’s former wife to enforce her waiver of her right to receive the plan proceeds and to recover such proceeds for the decedent’s estate.

In Charles Schwab & Co. v. Debickero, 593 F.3d 916 (January 22, 2010), the Ninth Circuit Court of Appeals affirmed a District Court decision that automatic protections provided by ERISA for a surviving spouse which are applicable to pension plans do not apply to IRAs, even though some of the funds in the IRA originated in an ERISA-protected pension plan before being rolled over to the IRA.

In Prudential Insurance Co. of America v. Glacobbe, No. 3:07-cv-04113-AET- TJB (October 30, 2009), the District Court in New Jersey, in an unpublished decision, held that, where the decedent attempted to change the beneficiary designation of a life insurance policy held in a welfare benefit plan which was governed by ERISA, but omitted the Social Security numbers of the new beneficiaries, the plan was required to be administered in accordance with the plan documents and that the decedent had failed to “substantially comply” with the plan’s requirements by not including those Social Security numbers on the beneficiary designation form.

In PLR 200944059 (August 3, 2009), the Service ruled that where the decedent named a trust as the beneficiary of his IRA and the lifetime beneficiary of the trust was the decedent's wife and the remainderman was his son, the wife was not treated as the payee of the IRA and, therefore, she could not roll the decedent's IRA into an IRA in her own name.

In PLR 201011036 (December 14, 2009), the Service ruled that a taxpayer who suffered from multiple sclerosis and was unable to engage in any substantial gainful employment by reason of his illness was disabled and, therefore, was not subject to the 10% early distribution penalty for early distributions from his IRA.

The Department of Labor in Advisory Opinion 2009-02A (September 28, 2009) stated that benefit distributions from an IRA to a trust, when the IRA’s owner’s grandson is the

822 sole beneficiary, the IRA owner is the trustee and the owner’s son is the designated successor trustee, would not constitute a prohibited transaction for purposes of Code Section 4975, even though the trust is a “disqualified person” under Code Section 4975, since ordinary benefit distributions are not prohibited transactions if the benefit is computed and paid on a basis consistent with the terms of the plan and is applied to all other participants and beneficiaries.

In Hallingby v. Hallingby, No. 08-1866-cv (2009), the United States Court of Appeals for the Second Circuit held that commercial annuities purchased for retirement plan participants in connection with the termination of such plan are not subject to ERISA, since ERISA allows an employee benefit plan to be terminated under stated conditions, including by the purchase of commercial annuities for the plan participants, notwithstanding that ERISA requires a pension plan to prohibit the assignment of plan benefits. The Court of Appeals remanded the case to the District Court for the Southern District of New York to decide in accordance with state law whether the decedent’s final wife is entitled to the survivor benefit payments under the annuity contract, or whether a prior wife of the decedent who had waived all rights to any retirement benefits in her divorce settlement with the decedent was entitled to such survivor benefit payments.

In McCauley v New York State and Local Employees’ Retirement System, 2012 N.Y. Slip Op 22283 (Sup. Ct. August 13, 2012), the Court held that the dissolution of the plan participant’s marriage revoked his beneficiary designation that he executed prior to his death.

In In re Estate of Sauers, 971 A.2d 1265 (Pa. Super. Ct. 2009), the Superior Court of Pennsylvania held that the decedent’s ex-wife, who received the death benefit payable under a life insurance policy insuring the decedent’s life as the policy’s beneficiary, where the policy was part of an employee benefit plan subject to ERISA and the insured did not change the policy beneficiary after his divorce, was required to transfer the policy proceeds to the contingent beneficiary under the policy, on the grounds that the Pennsylvania revocation-on-divorce statute did not affect the administration of the Plan and, therefore, ERISA did not preempt such Pennsylvania statute.

In Kennedy v. Plan Administrator for Dupont Savings and Investment Plan, 129 S. Ct. 865 (2009), the United States Supreme Court held that the Plan Administrator properly paid the death benefit payable under the company’s savings and investment plan to the decedent’s former wife, whom the decedent had properly designated as the beneficiary of that benefit when the decedent was married to her, even though the decree divorcing the decedent and his former wife divested her of her rights under that plan, since the decedent had not executed another beneficiary designation form after his divorce, where the plan required that beneficiary designations must be made as required by the Plan Administrator using the specific forms the Administrator had created for that purpose. However, the Court expressly refused to decide whether the decedent’s estate (to whom the plan benefit would have been payable in the absence of a valid beneficiary designation) would have a valid federal or state contract claim against the decedent’s former spouse and whether federal law would preempt any such state law claim.

In Egelhoff v. Egelhoff, 532 U.S. 141, 121 S. Ct. 1322 (2001) the United States Supreme Court held that ERISA preempts state laws that automatically revoke group-term life insurance and pension plan beneficiary designations upon the participant’s divorce because such

823 state laws directly relate to the administration of ERISA plans. A decedent’s children sought to have the decedent’s group-term life insurance proceeds and pension benefits paid to them under Washington state law rather than the decedent’s ex-wife who was still the named beneficiary for the plans. Under Washington law, and many other state laws, beneficiary designations for nonprobate assets are automatically revoked upon divorce as a matter of law. The Court reasoned that ERISA’s broad preemption clause was intended to ensure uniform administration of employee benefit plans. The Supreme Court decision does not, however, preclude plan sponsors from choosing to include automatic beneficiary designation revocation as part of the plan design to the extent permitted under the Code and ERISA.

In McGowan v. NJR Service Corp., 423 F.3d 241 (3d Cir. 2005), a divided panel of the United States Court of Appeals for the Third Circuit held that, in the absence of a qualified domestic relations order, an Employee Retirement Income Security Act benefits plan administrator is not required to recognize a non-participant beneficiary’s waiver of benefits. The Court stated that the explicit prohibition against alienation or assignment of benefits in ERISA Section 206(d) applies to invalidate the waiver by the participant’s former spouse in a divorce settlement.

In Silber v. Silber, 99 N.Y.2d 395 (Ct. App. 2003), the New York Court of Appeals held that a qualified domestic relations order (“QDRO”) may serve as a qualified deferred compensation plan document that changes the beneficiary designation of a plan governed by ERISA in the absence of the filing of a plan beneficiary designation form, even though the QDRO in question only constituted a waiver of the claimant’s rights to the plan benefit and did not specifically designate a beneficiary of that benefit.

In a PLR 200826008 (June 30, 2008), the Service considered the income tax consequences of a sale of an IRA to a trust created for the benefit of the IRA's beneficiary. A decedent left his IRA to his two children, one of whom was a minor. The minor child's conservator proposed to create a trust for the sole benefit of the child, from which the child could withdraw increasing portions as he attained certain ages, eventually having the power to withdraw the trust's entire balance. At the child's death, any remaining property would pass as he designates under a general power of appointment. Code Section 691(a)(1) generally provides that when a person inherits a right to income in respect of a decedent (such as an IRA) and then transfer this right, that person must include in gross income the fair market value of this right at the time of transfer, plus any amount by which any consideration for the transfer exceeds the fair market value. Citing Rev. Rul. 85-13, 1985-1 C.B. 184, the Service concluded that, because the proposed trust would be a grantor trust to the beneficiary, a sale of the IRA would be disregarded for income tax purposes, and assuming the transfer would not constitute a completed gift by the beneficiary, the transfer of the IRA would not be a sale or disposition of the IRA for federal income tax purposes or a transfer for purposes of Code Section 691(a)(2).

In Tech. Adv. Memo 2002-47-001, the National Office ruled that the value of decedent’s IRAs holding marketable securities should not be discounted for estate tax purposes to reflect income taxes that will be payable by the beneficiaries upon receipt of distributions from the IRAs, or for lack of marketability. The ruling follows the rationale in Estate of Robinson v. Commissioner, 69 T.C. 222 (1977), which held that the fact that the assets are subject to income tax on distribution should not impact on the application of the “willing buyer -

824 willing seller” standard because the IRA distributee can sell the underlying assets at market price without any discount. With respect to the lack of marketability, the ruling stated that “while § 408(e) imposes penalties on the transfer or assignment of the IRA there are no restrictions preventing the distribution of assets to the beneficiaries after the decedent’s death and short administrative delays in processing the beneficiaries’ request for distribution should not warrant a discount.” The Service declined to treat an IRA as a separate entity like a corporation, viewing it as merely a custodial arrangement with the assets held in the IRA as being no different from securities held in a brokerage account. The Service also noted that the Code provides for an income tax deduction for the estate tax attributable to the income tax inherent in the IRA and that this deduction is intended to operate in lieu of a valuation discount for estate tax purposes.

In L. Smith Est., 300 F. Supp. 2d 474 (D. Ct. Texas 2004), the Court held that the value of a decedent's retirement accounts for estate tax purposes could not be discounted to reflect the income tax liability to be incurred by the accounts' beneficiaries when the accounts are distributed and noted that Congress alleviated the impact of the double taxation of income in respect of a decedent by allowing the recipient of that income to deduct the estate tax attributable to it pursuant to Code Section 691(c) . On November 15, 2004, the Court of Appeals for the Fifth Circuit (391 F.3d 621) affirmed the District Court decision.

Furthermore, on June 21, 2004 the National Office ruled in Tech. Adv. Memo 2004-44-021 that income taxes paid by a decedent’s estate on distributions from IRAs were not deductible for federal estate tax purposes under Code Sec. 2053 as administration expenses or as claims against the estate.

In Estate of Kahn v. Commissioner, 125 T.C. No.11 (2005), the Tax Court held that the decedent’s estate could not reduce the value of the decedent’s individual retirement accounts owned at her death by the anticipated amount of federal income taxes which the beneficiaries of the accounts would pay when they received distributions from the accounts. Instead, the Court held that the estate had to report the accounts for estate tax purposes at the net aggregate value of the assets in the accounts. On April 4, 2005, the United States Supreme Court in Rousey v. Jacoway, 544 U.S. 320, held that an IRA is exempt from the reach of creditors in bankruptcy pursuant to §522(d)(10)(E) of the Bankruptcy Code, which exempts certain assets from the debtor’s bankruptcy estate. The Court stated that the 10% penalty imposed on withdrawals from an IRA before the accountholder is 59-1/2 years old, and the elimination of this penalty for withdrawals after the accountholder attains that age, indicates that the accountholder’s right to receive payments from the IRA is a right to payment "on account of age" for purposes of that section of the Bankruptcy Code, which exempts payments under certain types of plans on account of age, as well as on account of other specified factors.

R. Special Valuation Rules – Chapter 14

At the May 2015 meeting of the American Bar Association Section of Taxation, Treasury Estate and Gift Tax Attorney-Advisor Cathy Hughes stated that the Service may issue regulations adding an additional category of restrictions that may be disregarded for purposes of determining the value under Code Section 2704 of interests in family-controlled entities where there is a transfer to family members, if the restrictions have the effect of reducing the value of the transferred interest, but do not ultimately reduce the value of that interest to the transferee.

825 In St. Laurent v. Commissioner, T.C. Nos. 24963-13 through 24970-13 (2013), the petitioners challenged the Service’s assessment of gift tax deficiencies regarding gifts of membership interest in limited liability companies, claiming that the Service erroneously valued the gifts under Code Section 2703 without regard to any options, agreements, rights to acquire or use such property, or restrictions on the right to sell or use such property, and without regard to Code Section 2704 by determining the value without consideration of any lapse in voting or liquidation rights.

In Rankin v. Smith, 109 A.F.T.R.2d 987 (Fed. Ct. Cl. 2012), where the decedent owned stock that was required to be converted at his death into another class of stock that would have fewer voting rights than the original stock, the Court held that Code Section 2704 required the lapsed voting rights of the pre-converted stock to be disregarded in determining the estate tax value of such stock, as the decedent and his family controlled the corporation both before and after the conversion.

S. Economic Substance Doctrine

On October 9, 2014 the Service issued Notice 2014-58 amplifying the Service’s Notice 2010-62, regarding the economic substance doctrine. The 2010 Notice stated that a transaction would not be accorded the expected tax benefits if it lacked economic substance or a business purpose. The 2014 Notice clarified both the definition of a “transaction” in applying the economic substance doctrine, and the meaning of the term “similar rule of law” in applying the accuracy-related penalties. The 2014 Notice stated that a transactions includes all of the factual elements relevant to the expected tax treatment of any investment, entity, plan or arrangement, and any or all of the steps that are carried out as part of a plan; and that a “similar rule of law” means a rule or doctrine that disallows tax benefits because the transaction does not change a taxpayer’s economic position in a meaningful way, apart from federal income tax effects, and the taxpayer did not have a substantial purpose for entering into the transaction aside from the federal income tax effects.

T. “Dormant Commerce Clause”

In Comptroller of the Treasury of Maryland v. Wynne, No. 13-485 (May 18, 2015), the United States Supreme Court held that Maryland’s income tax structure was unconstitutional, as it violated the so-called “dormant Commerce Clause”, which is a doctrine that allows courts to invalidate laws having the effect of hindering interstate commerce, since Maryland’s tax structure subjected earnings that were already taxed outside of Maryland to a second layer of taxation within Maryland.

U. Ponzi Schemes

On October 22, 2013 the Service posted program manager technical advice memorandum 2013-03, stating that a taxpayer may amend tax returns for open years to eliminate from income amounts that were falsely reported to the taxpayer as income, may they also deduct on open year tax returns amounts falsely reported as income in closed years as losses from a fraudulent investment scheme under Code Section 165(c)(2).

826 V. Ruling Procedures

On January 2, 2015 the Service issued Rev. Proc. 2015-1, IRB 2015-1, updating the Service’s procedures for the issuance of private letter rulings and similar taxpayer requested guidance. On the same date, the Service issued Rev. Proc. 2015-5, IRB 2015-1, updating the process for the Service’s issuance of determination letters regarding a Code Section 501(c)(3) exemption for organizations that submit the Form 1023-EZ (Streamlined Application for Recognition of Exemption Under Section 501(c)(3) of the Internal Revenue Code).

On January 12, 2015 the Service issued Rev. Proc. 2015-9, IRB 2015-2, updating its procedures for the issuance of determination letters and rulings on the tax exempt status of organizations. On the same date, the Service issued Rev. Proc. 2015-10, IRB 2015-2, updating its procedures for the issuance of rulings and determination letters regarding the tax status of private foundation and private operating foundations.

W. No Ruling Areas

On January 2, 2015 the Service published Rev. Proc. 2015-3, IRB 2015-1, containing a revised list of areas in which the Service will not, or ordinarily will not, issue letter rulings or determination letters. The areas in which the Service will not issue letter rulings include:

1. Whether there has been a transfer for value for purposes of Code Section 101(a) in situations involving a grantor and a trust when (i) substantially all of the trust corpus consists or will consist of insurance policies on the life of the grantor or the grantor’s spouse, (ii) the trustee or any other person has a power to apply the trust’s income or corpus to the payment of premiums on policies of insurance on the life of the grantor or the grantor’s spouse, (iii) the trustee or any other person has a power to use the trust’s assets to make loans to the grantor’s estate or to purchase assets from the grantor’s estate, and (iv) there is a right or power in any person that would cause the grantor to be treated as the owner of all or a portion of the trust under Code Sections 673 to 677.

2. Whether a transfer is a gift within the meaning of Code Section 102(a).

3. Whether property qualifies as a taxpayer’s principal residence for purposes of Code Section 121.

4. Whether a charitable contribution deduction under Code Section 170 is allowed for a transfer of an interest in a limited partnership or a limited liability company taxed as a partnership to an organization described in Code Section 170(c).

5. Whether a taxpayer who advances funds to a charitable organization and receives therefor a promissory note may deduct as contributions, in one taxable year or in each of several years, amounts forgiven by the taxpayer in each of several years by endorsement on the note.

6. Whether the period of administration or settlement of an estate or a trust (other than a trust described in Code Section 664) is reasonable or unduly prolonged.

827 7. Allowance of an unlimited deduction under Code Section 642(c) for amounts set aside by a trust or estate for charitable purposes when there is a possibility that the corpus of the trust or estate may be invaded.

8. Whether the settlement of a charitable remainder trust upon the termination of the noncharitable interest is made within a reasonable period of time.

9. Whether the grantor will be considered the owner of any portion of a trust when (i) substantially all of the trust corpus consists or will consist of insurance policies on the life of the grantor or the grantor’s spouse, (ii) the trustee or any other person has a power to apply the trust’s income or corpus to the payment of premiums on policies of insurance on the life of the grantor or the grantor’s spouse, (iii) the trustee or any other person has a power to use the trust’s assets to make loans to the grantor’s estate or to purchase assets from the grantor’s estate, and (iv) there is a right or power in any person that would cause the grantor to be treated as the owner of all or a portion of the trust under Code Sections 673 to 677.

10. Matters relating to the validity of a family partnership when capital is not a material income producing factor.

11. Whether the termination of a charitable remainder trust before the end of the trust term as a defined in the trust’s governing instrument, in a transaction in which the trust beneficiaries receive their actuarial shares of the value of the trust assets, is treated as a sale or other disposition by the beneficiaries of their interests in the trust.

12. Whether the termination of a charitable remainder trust before the end of the trust term as defined in the trust’s governing instrument, in a transaction in which the trust beneficiaries receive their actuarial shares of the value of the trust assets, is treated as a sale or exchange of a capital asset by the beneficiaries.

13. Actuarial factors for valuing interests in the prospective gross estate of a living person.

14. Whether a charitable contribution deduction under Code Section 2055 is allowed for the transfer of an interest in a limited partnership or a limited liability company taxed as a partnership to an organization described in Code Section 2055(a).

15. Actuarial factors for valuing prospective or hypothetical gifts of a donor.

16. Whether a charitable contribution deduction under Code Section 2522 is allowable for a transfer of an interest in a limited partnership or a limited liability company taxed as a partnership to an organization described in Code Section 2522(a)

17. Whether a trust exempt from GST tax under Section 26.2601-1(b)(1),(2), or (3) of the GST tax regulations will retain its GST tax exempt status when there is a modification of a trust, a change in the administration of a trust, or a distribution from a trust in a factual scenario that is similar to a factual scenario set forth in one or more of the examples contained in Section 26.2601-1(b)(4)(i)(E).

828 18. Requests involving Code Section 6166 where there is no decedent.

19. Whether a taxpayer is liable for tax as a transferee.

In addition, the areas in which the Service ordinarily will not issue letter rulings or determination letters include:

1. Whether a transfer to a pooled income fund described in Code Section 642(c)(5) qualifies for a charitable contribution deduction under Code Section 170(f)(2)(A).

2. Whether a taxpayer who transfers property to a charitable organization and thereafter leases back all or a portion of the transferred property may deduct the fair market value of the property transferred and leased back as a charitable contribution.

3. Whether a transfer to a charitable remainder trust described in Code Section 664 that provides for annuity or unitrust payments for one or two measuring lives qualifies for a charitable deduction under Code Section 170(f)(2)(A).

4. Whether a pooled income fund satisfies the requirements described in Code Section 642(c)(5).

5. Whether a charitable remainder trust that provides for annuity or unitrust payments for one or two measuring lives or for annuity or unitrust payments for a term of years satisfies the requirements described in Code Section 664.

6. Whether a trust that will calculate the unitrust amount under Code Section 664(d)(3) qualifies as a Code Section 664 charitable remainder trust when a grantor, a trustee, a beneficiary, or a person related or subordinate to a grantor, a trustee, or a beneficiary can control the timing of the trust’s receipt of trust income from a partnership or a deferred annuity contract to take advantages of the difference between trust income under Code Section 643(b) and income for federal income tax purposes for the benefit of the unitrust recipient.

7. Whether a person will be treated as the owner of any portion of a trust over which that person has a power to withdraw the trust property (or had such power prior to a release or modification, but retains other powers which would cause that person to be the owner of the trust under Code Section 671 if the person were the grantor), other than a power which would constitute a general power of appointment within the meaning of Code Section 2041, if the trust purchases the property from that person with a note and the value of the assets with which the trust was funded by the grantor is nominal compared to the value of the property purchased.

8. Whether trust assets are includible in a trust beneficiary’s gross estate under Code Sections 2035, 2036, 2037, 2038 or 2042 if the beneficiary sells property (including insurance policies) to the trust or dies within three years of selling such property to the trust, and (i) the beneficiary has a power to withdraw the trust property (or had such power prior to a release or modification, but retains other powers which would cause that person to be the owner if the person were the grantor), other than a power which would constitute a general power of appointment within the meaning of Code Section 2041, (ii) the trust purchases the property with

829 a note, and (iii) the value of the assets with which the trust was funded by the grantor is nominal compared to the value of the property purchased.

9. Whether a transfer to a pooled income fund described in Code Section 642(c)(5) qualifies for a charitable deduction under Code Section 2055(e)(2)(A).

10. Whether a transfer to a charitable remainder trust described in Code Section 644 that provides for annuity or unitrust payments for one or two measuring lives or a term of years qualifies for a charitable deduction under Code Section 2055(e)(2)(A).

11. Whether the sale of property (including insurance policies) to a trust by a trust beneficiary will be treated as a gift for purposes of Code Section 2501 if (i) the beneficiary has a power to withdraw the trust property (or had such power prior to a release or modification, but retains other powers which would cause that person to be the owner if the person were the grantor), other than a power which would constitute a general power of appointment within the meaning of Code Section 2041, (ii) the trust purchases the property with a note, and (iii) the value of the assets with which the trust was funded by the grantor is nominal compared to the value of the property purchased.

12. Whether the transfer of property to a trust will be a gift of a present interest in property when (i) the trust corpus consists or will consist substantially of insurance policies on the life of the grantor or the grantor’s spouse, (ii) the trustee or any other person has a power to apply the trust’s income or corpus to the payment of premiums on policies of insurance on the life of the grantor or the grantor’s spouse, (iii) the trustee or any other person has a power to use the trust’s assets to make loans to the grantor’s estate or to purchase assets from the grantor’s estate, (iv) the trust beneficiaries have the power to withdraw, on demand, any additional transfers made to the trust, and (v) there is a right or power in any person that would cause the grantor to be treated as the owner of all or a portion of the trust under Code Sections 673 to 677.

13. If the beneficiaries of a trust permit a power of withdrawal to lapse, whether Code Section 2514(e) will be applicable to each beneficiary in regard to the power when (i) the trust corpus consists or will consist substantially of insurance policies on the life of the grantor or the grantor’s spouse, (ii) the trustee or any other person has a power to apply the trust’s income or corpus to the payment of premiums on policies of insurance on the life of the grantor or the grantor’s spouse, (iii) the trustee or any other person has a power to use the trust’s assets to make loans to the grantor’s estate or to purchase assets from the grantor’s estate, (iv) the trust beneficiaries have the power to withdraw, on demand, any additional transfers made to the trust, and (v) there is right or power in any person that would cause the grantor to be treated as the owner of all or a portion of the trust under Code Sections 673 to 677.

14. Whether a transfer to a pooled income fund described in Code Section 642(c)(5) qualifies for a charitable deduction under Code Section 2522 (c)(2)(A).

15. Whether a transfer to a charitable remainder trust described in Code Section 664 that provides for annuity or unitrust payments for one or two measuring lives or a term of years qualifies for a charitable deduction under Code Section 2522(c)(2)(A).

830 16. Whether a trust that is exempt from the application of the generation- skipping transfer tax because it was irrevocable on September 25, 1985, will lose its exempt status if the situs of the trust is changed from the United States to a situs outside of the United States.

17. Whether annuity interests are qualified annuity interests under Code Section 2702 if the amount of the annuity payable annually is more than 50 percent of the initial net fair market value of the property transferred to the trust, or if the value of the remainder interest is less than 10 percent of the initial net fair market value of the property transferred to the trust. For purposes of the 10 percent test, the value of the remainder interest is the present value determined under Code Section 7520 of the right to receive the trust corpus at the expiration of the term of the trust. The possibility that the grantor may die prior to the expiration of the specified term is not taken into account, nor is the value of any reversion retained by the grantor or the grantor’s estate.

18. Whether a trust with one term holder satisfies the requirements of Code Section 2702(a)(3)(A) and Treas. Reg. Section 25.2702-5(c) to be a qualified personal residence trust.

19. Whether the sale of property (including insurance policies) to a trust by a trust beneficiary is subject to Code Section 2702 if (i) the beneficiary has a power to withdraw the trust property (or had such power prior to a release or modification, but retains other powers which would cause that person to be the owner if the person were the grantor), other than a power which would constitute a general power of appointment within the meaning of Code Section 2041, (ii) the trust purchases the property with a note, and (iii) the value of the assets with which the trust was funded by the grantor is nominal compared to the value of the property purchased.

Rev. Proc. 2015-3 also states that the Service will not issue letter rulings or determination letters as to the following issues until the Service resolves the issues through the publication of a revenue ruling, a revenue procedure, regulations or otherwise:

1. Whether the corpus of a trust will be included in a grantor’s estate under any of Code Sections 2036, 2038 or 2041 when the trustee of the trust is a private trust company owned partially or entirely by members of the grantor’s family.

2. Certain income tax, gift tax and GST tax aspects of the distribution from one irrevocable trust to another irrevocable trust (i.e., "decanting").

In Rev. Proc. 2015-37, IRB 2015-26, the Service announced that it will no longer issue private letter rulings on basis adjustments pursuant to Code Section 1014 with respect to assets in grantor trusts where such assets are not includable in the gross estate of the deemed owner of such assets for estate tax purposes.

X. Priority Guidance Plan

On July 31, 2015 the Service issued its 2015-2016 Priority Guidance Plan. The proposed projects include Revenue Procedures updating grantor and contributor reliance criteria

831 under Code Sections 170 and 509; proposed regulations under Code Section 501(c) relating to political campaign intervention; final regulations and additional guidance on Code Section 509(a)(3) supporting organizations; guidance under Code Section 4941 regarding a private foundation's investment in a partnership in which disqualified persons are also partners; final regulations under Code Sections 4942 and 4945 on reliance standards for making good faith determinations; final regulations under Code Section 4944 on program-related investments and other related guidance; guidance regarding the excise taxes on donor advised funds and fund management; guidance under Code Section 6033 relating to the reporting of charitable contributions; guidance relating to Obergefell v. Hodges; final regulations under Code Section 170 regarding charitable contributions; regulations under Code Section 170(f)(8) regarding donee substantiation of charitable contributions; guidance under Code Section 170(e)(3) regarding charitable contributions of inventory; guidance regarding material participation by trusts and estates for purposes of Code Section 469; guidance on qualified contingencies of charitable remainder annuity trusts under Code Section 664; final regulations under Code Section 1014 regarding uniform basis of charitable remainder trusts; guidance on basis of grantor trust assets at death under Code Section 1014; Revenue Procedure under Code Section 2010(c) regarding the validity of a QTIP election on an estate tax return filed only to elect portability; guidance on the valuation of promissory notes for transfer tax purposes under Code Sections 2031, 2033, 2512 and 7872; final regulations under Code Section 2032(a) regarding imposition of restrictions on estate assets during the six month alternate valuation period; guidance under Code Section 2053 regarding personal guarantees and the application of present value concepts in determining the deductible amount of expenses and claims against the estate; guidance on the gift tax effect of defined value formula clauses under Code Sections 2512 and 2511; regulations under Code Section 2642 regarding available GST tax exemption and the allocation of GST tax exemption to a pour-over trust at the end of an ETIP; final regulations under Code Section 2642(g) regarding extensions of time to make allocations of the GST tax exemption; regulations under Code Section 2704 regarding restrictions on the liquidation of an interest in certain corporations and partnerships; guidance under Code Section 2801 regarding the tax imposed on U.S. citizens and residents who receive gifts or bequests from certain expatriates; regulations under Code Section 6166 regarding the furnishing of security in connection with an election to pay the estate tax in installments; and guidance under Treas. Reg. Section 301.9100. Projects to adjust the charitable remainder sample trust forms and to issue guidance on private trust companies were not included in this Priority Guidance Plan, due to the Service’s need to apply its resources to other projects.

Y. Basis Reporting Requirements

On February 1, 2010 the Service issued proposed regulations (REG-101896-09) requiring brokers, mutual funds and others to report the basis of stock and to classify capital gains and losses as long-term or short-term, explaining how to compute average stock basis, and requiring stock issuers to report corporate actions that affect stock basis. Brokers reporting gross proceeds from the sale of a security will be required to report the adjusted basis and type of gain for most stock acquired on or after January 1, 2011, for stock in a mutual fund or a dividend reinvestment plan acquired on or after January 1, 2010, and for other securities and options acquired on or after January 1, 2013.

832 Z. Change of Address Notification

In Rev. Proc. 2010-16, IRB 2010-19 (May 10, 2010), the Service updated its procedures for taxpayers to notify the Service of a change of address. Generally, the Service uses the address on a taxpayer’s most recently filed and properly processed return as the taxpayer’s address of record. In addition, a taxpayer can file Form 8822, Change of Address, to properly notify the Service of the taxpayer’s change of address. The Revenue Procedure noted that a taxpayer’s new address listed on an application (Form 4868) for an automatic extension of time to file the taxpayer’s income tax return, or a power of attorney and declaration of representative (Form 2848), will not be used by the Service to automatically update a taxpayer’s address.

AA. Circular 230

On September 14, 2012 the Service issued proposed regulations (REG-138367- 06) regarding Circular 230 that would eliminate the current requirements under Section 10.35 of Circular 230 governing “covered opinions” that are provided to clients. The proposed regulations eliminate the requirement that practitioners fully describe the relevant facts and the application of the law to the facts in the written advice itself, and the use of the Circular 230 disclaimers in documents and transmissions, including emails. Section 10.35 of Circular 230 would be replaced with a proposed Section 10.37 that would require only that practitioners base all written advice on factual and legal assumptions, exercise reasonable reliance, and consider all relevant facts that the practitioner knows or should know. On June 9, 2014 the Service issued final regulations (T.D. 9668) governing the Circular 230 Rules of Practice that, among other changes, remove the so-called covered opinion rules and replace them with a single, expanded set of rules for all written tax advice. The amended rules governing written tax advice apply to such advice rendered on or after June 12, 2014.

BB. Internal Revenue Bulletins and Cumulative Bulletins

In Ann. 2013-12, the Service announced that it will cut costs by suspending the printing of paper copies of the Internal Revenue Bulletin and that it has eliminated the Cumulative Bulletin for editions after the 2008-2 edition.

VI. ESTATE TAX CONSIDERATIONS VS. INCOME TAX CONSIDERATIONS

As noted above, the federal estate tax exclusion amount for the estates of persons dying in 2015 is $5,430,000. Thus, a married couple having combined assets of $10,860,000, with proper planning, will not be required to pay any federal estate taxes. As a result, a very small percentage of the entire population of the country is required to pay federal estate taxes. In addition, the federal estate tax exclusion amount is indexed for inflation from 2010, and is projected to be approximately $6,000,000 by 2020.

Due to the continuously increasing amount of the federal estate tax exclusion, and the corresponding reduction in the number of people whose estates will be required to pay federal estate taxes, consideration must be given to not using estate planning techniques that would cause appreciated assets to be excluded from a person’s gross estate at death, in order to cause such assets to obtain a so-called “stepped up” income tax cost basis at the person’s death,

833 thereby reducing the amount of income taxes that will be payable on the eventual sale of such assets. For example, a lifetime gift of an appreciated asset may cause such asset to be excluded from the donor’s estate tax base at the donor’s death, but the donee’s income tax cost basis for such asset will generally be the same as the donor’s income tax cost basis in that asset. On the other hand, by not making such lifetime gift, such asset will be includable in the donor’s gross estate at his or her death, but the estate and its transferees generally will have an income tax cost basis in such asset equal to the estate tax value of such asset.

Estate planning for persons whose estates will not be subject to the payment of federal estate taxes may still include the use of testamentary trusts for non-tax reasons. In the case of a testamentary trust that receives all or part of the residue of the decedent’s estate, the trust’s income tax cost basis for the assets that it receives from the estate will generally be the same as the estate’s income tax cost basis for such assets. Therefore, it may be important to consider not only the federal income tax regime, but also the state income tax regime, that would be applicable to the sale of those assets by such trusts, in order to compare the possible estate tax savings that would result from making lifetime gifts with the possible income tax savings that would result from not making such gifts. In this regard, on April 21, 2015 the California Franchise Tax Board issued an information letter stating that a trust with one California resident trustee would be required to file a California income tax return and that its income would be subject to California income tax based on the proportion of California resident trustees to California non-resident trustees (other than its California source income, which would all be subject to California income tax).

Attached hereto as Exhibit “D” is a chart entitled “Bases of State Income Taxation of Nongrantor Trusts” and dated March 31, 2015 that describes the manner in which each state in the United States and the District of Columbia would tax such trusts.

In addition, it may also be important to consider any applicable state estate tax or inheritance tax in making this analysis.

VII. DIGITAL ASSETS

As a result of the advent of the technology age, estate planning documents should expressly provide for the marshaling, access, administration and disposition of a person’s technological assets, which are commonly referred to as “digital assets”.

Digital assets include tangible digital devices, such as a computer, an Ipod, an Ipad and a blackberry; digital information, such as email, which may be stored in a tangible digital device, on a service provider’s platform, or generally on the internet; on-line accounts, including social media accounts, such as Facebook and Twitter; and “clouds”, which generally refer to the storage of digital information on the internet. Estate planning documents, such as a Will and a Power of Attorney, should provide specific authority regarding the digital assets of the decedent or principal. In addition, consideration should be given to the appointment by Will of a “Digital Executor”, who would have the authority to deal with digital assets.

Accessing a person’s digital assets after the person becomes incompetent, or after the person dies, may require applicable passwords. Thus, clients should be encouraged to

834 prepare and maintain a current inventory of digital assets, including applicable passwords, so that such assets can be readily identified and accessed as needed. In addition, digital service providers may have policies and contractual provisions regarding the accessibility of the digital information that they provide. Accordingly, a person’s designated agent pursuant to a Power of Attorney, or the Executor of an estate of a deceased person, may be required to review and comply with such policies and contractual provisions in order to access digital information.

Delaware has adopted the model Uniform Fiduciary Access to Digital Assets Act, effective January 1, 2015, which gives fiduciaries the right to obtain user name and password information required to access digital assets of the decedent, unless the decedent has expressly barred fiduciary access.

A few other states, including Connecticut, Idaho, Indiana, Oklahoma and Rhode Island, also have enacted legislation specifically authorizing the personal representative of a decedent’s estate to obtain the decedent’s digital information.

Attached hereto as Exhibit “E” are sample Will provisions regarding the appointment of a Digital Executor, the definition of digital assets, and the administration and disposition of such assets in a decedent’s estate, and sample provisions for a Power of Attorney authorizing the principal’s agent to act with respect to the principal’s digital assets.

VIII. FDIC INSURANCE INCREASES

The Federal Deposit Insurance Corporation (“FDIC”) has increased its insurance coverage for deposits from the existing limit of $100,000. The new coverage limitation for single accounts owned by one person is $250,000 per owner; for joint accounts owned by two or more persons is $250,000 for each co-owner; for IRAs and certain other retirement accounts is $250,000 per owner; for revocable trust accounts is $250,000 per owner per beneficiary, up to five beneficiaries; for corporations, partnerships and unincorporated associations is $250,000 per entity; for irrevocable trusts is $250,000 for the non-contingent, ascertainable interest of each trust beneficiary; for employee benefit plan accounts is $250,000 for the non-contingent, ascertainable interest of each plan participant; and for government accounts is $250,000 per official custodian. The increased coverage was scheduled to expire on December 31, 2009, after which the standard coverage limit would return to $100,000 for all deposit categories except IRAs and certain other retirement accounts, which would continue to be insured up to $250,000 per owner. The Helping Families Save Their Homes Act, which was signed by President Obama on May 20, 2009, extends this increased insurance coverage through December 31, 2013.

IX. SIGNIFICANT FLORIDA LEGISLATION AND CASE LAW DEVELOPMENTS

In recent years, the Florida Legislature has enacted significant new legislation regarding Florida taxes, estates and trusts. The following are the highlights of some aspects of this new legislation, as well as certain case law developments:

A. Repeal of Florida's Intangible Tax

Effective January 1, 2007, the tax was repealed in its entirety.

835 B. Creation of Dynasty Trusts

The length of time that a trust can exist before being terminated by law has been extended in Florida to a term of 360 years. This changes the prior rule against perpetuities, which normally forced a trust to terminate after approximately 90 years.

Accordingly, it is now possible to establish "dynasty" trusts in Florida. These trusts, when funded with not more than an amount equal to the GST tax exemption available to an individual, can continue for up to 360 years without the payment of any GST tax.

C. Intestate Shares

In Estate of Maher v. Iglikova, 2014 WL 1386660 (Fla. 3d DCA Apr. 9, 2014) the Court held that for purposes of the Florida pretermitted child statute, a child is not deemed to be born after the making of a will even though the adjudication of the testator’s paternity occurred after the execution of the will, reasoning that such adjudication is merely an acknowledgment of an existing relationship.

In Aldrich v. Basile, 136 So.3d 530 (Fla. 2014) the Florida Supreme Court held that assets acquired by the decedent after the execution of a will, which did not contain a residuary disposition, passed pursuant to Florida’s intestacy statute and not to the named beneficiaries of the specific bequests in the will.

In Astrue v. Capato, 132 S.Ct. 2021 (2012), the United States Supreme Court held that twins conceived through in vitro fertilization after their father’s death in Florida did not qualify for Social Security Survivors’ benefits as Florida intestacy law permits children who are born posthumously to inherit only if conceived during the decedent’s lifetime.

In 2011 Florida enacted legislation, Fla. Stat. Section 732.102, effective October 1, 2011, changing the intestate share of a surviving spouse to the entire intestate estate of the deceased spouse if all of the decedent’s descendants are also descendants of the surviving spouse and the surviving spouse does not have any other descendants. If the decedent has one or more surviving descendants who are not descendants of the surviving spouse, the intestate share of the surviving spouse is one-half of the decedent’s intestate estate. If there are one or more surviving descendants of the decedent, all of whom are also descendants of the surviving spouse, and if the surviving spouse also has one or more descendants who are not descendants of the decedent, the surviving spouse receives one-half of the decedent's intestate estate.

D. Separate Writings

Effective January 1, 2002, even though a testator may still refer to a separate writing in his will for purposes of disposing of tangible personal property, a testator may not dispose of property used in a trade or business. If there are conflicts, the provisions of the most recent writing shall control.

836 E. Chapter 738: Principal and Income Act

On March 20, 2002, the Florida Legislature enacted an entirely new Principal and Income Act under Chapter 738, Florida Statutes. Section 738.804 provides that the new Act will apply to any receipt or expense received or incurred and any disbursement made after January 1, 2003.

The new sections of the Principal and Income adopt the basic concepts of the Uniform Act, but also contain Florida-specific provisions. Most significant is that the Trustee is given a power to adjust between principal and income and power to convert an income to a total return trust, or vice versa.

F. UTMA Transfers

In 2005, the Florida legislature enacted a statute that allows a custodian under the Uniform Transfers to Minors Act to transfer custodial assets to a trustee of a Code Section 2503(c) trust.

G. Uniform Disclaimer of Property Interests Act

In 2005, Florida enacted The Florida Uniform Disclaimer of Property Interests Act. The Act contains broad powers to disclaim, including the right to disclaim a survivorship interest in jointly held property, the right to disclaim property held as a tenancy by the entirety, the right to disclaim a power of appointment, the right to disclaim by an appointee, object or taker in default of the exercise of a power of appointment, and the right of a fiduciary to disclaim a power held in a fiduciary capacity. In addition, the Act authorizes a fiduciary to disclaim any interest in or power over property, without court approval, if and to the extent that the instrument creating the fiduciary relationship expressly gives the fiduciary the right to do so. In the absence of that grant of authority in the governing instrument, a fiduciary can disclaim an interest in or power over property with court approval.

H. Anatomical Gift Law

Florida adopted revisions to its anatomical gift law (Fla. Statutes Sections 765.511, et seq.), effective July 1, 2009, to incorporate certain provisions from the Revised Uniform Anatomical Gift Act of 2006 (Fla. Sess. Law Serv. Ch. 2009-218). The Act limits the authorized donee of an anatomical gift to (1) any procurement organization (which is defined as an entity that is designated as an organ procurement organization by the Secretary of the United States Department of Health and Human Services and that engages in the retrieval, screening, testing, processing, storage or distribution of human organs), (2) any accredited medical or dental school, college or university for education, research, therapy or transplantation, or (3) any individual specified by name for therapy or transplantation needed by such individual.

I. Fiduciary Responsibility for Life Insurance

In 2009 Florida enacted legislation (Title XXXIII, Section 518.112) permitting a trustee of a life insurance trust, after written notice to the beneficiaries, to delegate investment management of life insurance to others, including the grantor of the trust or the trust beneficiary,

837 thereby eliminating trustee responsibility for the investment decisions or actions or omissions of the selected agent, if all the requirements of the legislation are satisfied.

In 2010 Florida enacted legislation (Title XLII, Section 736.0902), effective July 1, 2010, under which a trustee of a trust will have no duty to ensure that the trust has an insurable interest in a life insurance policy if:

(1) The trust owns insurance on the life of a person who is the insured, a proposed insured, or such person's spouse, and any such person has furnished the trustee with the funds used to acquire or pay premiums on the policy insuring the life of any such person;

(2) The trust agreement does not opt out of the statute’s application;

(3) The insurance policy is not purchased from a trustee affiliate, and neither the trustee nor any trustee affiliate receives commissions regarding the policy’s purchase unless the trustee’s investment duties were delegated to another person;

(4) The trustee did not know that the beneficiaries lacked an insurable interest when the policy was purchased; and

(5) The trustee did not have knowledge of a stranger-owned life insurance arrangement.

The statute also provides that a trustee has no duty to determine whether the life insurance policy is a proper trust investment, to diversify with respect to any such policy, to investigate the financial strength of the issuing company, to decide whether to exercise any policy options, or to examine the financial and physical health of the insured, if the statements in clauses (1), (2) and (3) in the preceding sentence apply, and if either:

(a) The trust agreement affirmatively opts into the application of the statute; or

(b) The trustee gives notice to the trust beneficiaries of the trustee’s intention to opt into the statute and no beneficiary objects within 30 days of receipt of that notice or any written objections are withdrawn.

J. Creditors' Claims

In Miller v. Kresser, 34 So.3d 172 (Fla. 4th DCA, May 5, 2010), the Court held that a creditor cannot invalidate the spendthrift provision of a trust, even where the trustee had completely turned over management of the trust to the beneficiary, provided that the language of the trust meets certain statutory requirements.

838 In Olmstead v. Fed. Trade Commission, No. SC08-1009 (June 24, 2010), the Florida Supreme Court held that a Court may require an owner of a single member Florida limited liability company to surrender his ownership interest in the company to satisfy an outstanding judgment against the member.

In 2011 Florida enacted legislation which amended Florida Statutes Section 608.433 to clarify the decision in Olmstead by expressly providing that a charging order is the “sole and exclusive remedy” against limited liability company membership interests, except that a charging order is not the sole and exclusive remedy in the context of a single member limited liability company if the judgment creditor can establish that distributions under a charging order will not satisfy the judgment within a reasonable amount of time.

In 2011 Florida enacted legislation to amend Florida Statutes Section 222.21(c) to provide that inherited IRAs are exempt from the claims of creditors of the owner, beneficiary or participant of the inherited IRA. The statute applies retroactively to all inherited IRA accounts regardless of the date on which the account was created.

In Staum v. Rubano, 2013 WL 4081055 (Fla. 4th DCA, August 14, 2013), where a nursing home that was owed payment from a decedent filed a complaint against the personal representative of the decedent’s estate in New York before the estate was opened, the nursing home subsequently filed a claim against the New York domiciliary estate after the estate was opened, and the nursing home filed a claim against the decedent’s ancillary estate in Florida and petitioned for an accounting of the ancillary estate and for the transfer of the ancillary estate’s assets to the New York domiciliary estate, the Court held that the claim against the ancillary estate was time barred, but the Florida courts should not determine whether or not the claim was time barred against the domiciliary estate in New York, and the ancillary estate’s assets should be transferred to the New York domiciliary estate for the New York courts to adjudicate such claim.

In Golden v. Jones, 2013 WL 5810360 (Fla. 4th DCA 2013), the Court held that if a known or reasonably ascertainable creditor of a decedent is never served with a copy of the notice to creditors, the statute of limitations set forth in FS Section 733.201(1) never begins to run, and the creditor’s claim is timely if it is filed within two years of the decedent’s death.

In Souder v. Malone, 143 So. 3d 486 (Fla. 5th DCA 2014), the court held that a creditor’s claims that were filed after the expiration of the three-month creditors’ claims period were not timely filed, even though the creditor was a reasonably ascertainable creditor of the decedent but did not receive the required notice to creditors.

Florida amended its statutes (Fla. Stat. Section 733.808) to provide that general language in a will or a trust directing the fiduciary to pay the decedent’s debts does not undo the creditor-exempt status of death benefits payable to a trust unless such language expressly refers to this statute and directs that it shall not apply.

K. Homestead Law

The Florida Constitution and related statutes restrict the ability of a homestead owner to devise the homestead if survived by a spouse or minor children and also impose certain

839 restrictions on the lifetime transfer of such property. A series of Florida statutes, effective on October 1, 2010, permit greater flexibility with respect to the transfer of such property.

• FS 732.4015(3) provides that if a homestead property is validly devised (for example, an owner with no minor children devises the homestead to his or her surviving spouse outright), the surviving spouse's disclaimer of the devise will cause the disclaimed homestead to pass to the specified takers in default, rather than pursuant to the restrictions on the devise of homestead property that otherwise would apply.

• FS 372.401(4) provides that if a homestead property is invalidly devised (for example, if one spouse devises the homestead property to one of several children, and the devising spouse has a surviving spouse), a disclaimer by the surviving spouse will not correct the invalid devise.

• FS 732.4017 permits an inter vivos transfer of homestead property to an irrevocable trust without post-death devise restrictions, even if the transferor retains certain interests in the property, without invoking the restrictions on the devise of homestead property that otherwise would apply.

In addition, as to the estates of decedents dying after October 1, 2010, if homestead property is invalidly devised, FS 732.401(2) gives the surviving spouse an election to take a one-half interest as a tenant in common in the devised property, instead of a life estate in such property, as would have applied prior to such statute.

In Habeeb v. Linder, 3D 10-1532 (FL. 3d DCA 2011), the Court held that a husband and wife had waived their post-death homestead rights by signing a joint warranty deed transferring the homestead property to the wife. However, the Court subsequently withdrew its decision, leaving open the possibility of future litigation regarding this issue.

In Grisolia v. Pfeffer, 2011 WL 5864806 (Fla. 3d DCA 2011), where the decedent and his wife were registered aliens and the decedent had purchased an apartment for his family in Florida, the Court held that, despite the decedent’s immigration status at the time of his death, his intention to make the condominium his family’s permanent residence caused the condominium to be homestead property, which could not be subject to a forced sale to pay the decedent’s debts.

L. Attorney-Client Privilege

In 2011 Florida enacted legislation, Fla. Stat. Section 90.5021, providing that the attorney-client privilege applies between a fiduciary and an attorney employed by the fiduciary. For this purpose, the term "fiduciary" includes without limitation personal representatives, trustees, guardians and attorneys-in-fact. The legislation requires a personal representative in a probate proceeding to include in the Notice of Administration a statement that the attorney-client privilege applies with respect to the personal representative and any attorney employed by the personal representative, and requires a trustee to include in the initial notice to qualified beneficiaries a statement that the attorney-client privilege applies with respect to the trustee and any attorney employed by the trustee.

840 M. Privity

In Hodge v. Cichon, Fla. Ct. App., No. 5D10-1852 (February 6, 2012), a case in which beneficiaries of a decedent’s estate sued the attorneys who prepared the decedent’s estate planning documents for legal malpractice, the Court held that the issue of whether or not the estate’s beneficiaries had standing to sue the attorneys raised an issue of material fact, as there may have been a conflict among the parties as to the identity of the estate’s beneficiaries.

N. Reformation and Construction of Wills

In 2011 Florida enacted legislation, Fla. Stat. Sections 733.615, 733.616 and 733.1061, effective July 1, 2011, permitting a Court to reform a will, even if the will is not ambiguous, to conform its terms to the testator’s intent if it is proven by clear and convincing evidence that both the accomplishment of the testator’s intent and the terms of the will were affected by a mistake. In addition, the legislation permits a Court to modify a will, with or without retroactive effect, to accomplish a testator’s tax objectives, if the modification is not contrary to the testator’s probable intent.

In Basil v. Aldrich, 2011 WL 3696309 (Fla. 1st DCA 2011), where the decedent's will did not have a residuary clause the Court held that property acquired by the decedent after the execution of the will should pass subject to Florida's intestate succession rules, rather than to the beneficiary of specific bequests named in the will.

O. Powers of Attorney

Florida amended its statute (FS Sections 709.2101-709.2402) regarding powers of attorney, effective on October 1, 2011, to provide that a power of attorney must be signed by the principal and by two subscribing witnesses and must be acknowledged by the principal before a notary public, effective for powers of attorney executed after September 30, 2011; that a power of attorney executed in another state which does not comply with such execution requirements is nonetheless valid if it complied with the execution requirements of the state in which it was executed at the time it was executed; that a third party who is asked to accept such a power of attorney may in good faith request, and rely upon without further investigation, an opinion of counsel as to any matter of law concerning the power of attorney; and that a power of attorney signed after September 30, 2011 cannot be contingent upon some future event, such as the principal’s incapacity. A power of attorney that is executed prior to October 1, 2011 that is contingent on a future event is only exercisable upon delivery of an affidavit of a physician that must state that the physician is licensed to practice medicine under Florida law, that the physician is the primary physician who has responsibility for the treatment and care of the principal, and that the principal lacks the capacity to manage his or her property. The statute does not create a "statutory" form of power of attorney. The statute also provides that a power of attorney containing only a blanket grant of authority, or a power of attorney that contains incorporations by reference, executed after the amendment to the statute, are generally ineffective.

841 P. Personal Representatives, Administrators, Trustees and Guardians

Pursuant to proposed legislation, an attorney, or a person related to the attorney, shall not be entitled to compensation for serving as the personal representative of a decedent’s estate, if the attorney prepared or supervised the execution of the will which nominated the attorney or the related person as such personal representative, unless the testator executes a statement acknowledging that the attorney disclosed to the testator that most family members regardless of their residence, and other persons who are residents of Florida, are all eligible to serve as a personal representative, that any person, including an attorney, who serves as a personal representative is entitled to receive reasonable compensation for such service, and that compensation payable to the personal representative is in addition to any attorney’s fees payable to the attorney for legal services rendered to the personal representative. The proposed legislation contains similar provisions regarding an attorney serving as a trustee of a trust that the attorney prepared for the trust’s settlor.

In Bookman v. Davidson, 136 So.3d 1276 (Fla. 1st DCA 2014) the Court held that a successor personal representative had standing to sue the prior personal representative’s attorney for malpractice in connection with the administration of the decedent’ s estate, since under Florida law the lawyer’s client was the prior personal representative, rather than the estate itself or the estate’s beneficiaries, and the powers and duties granted to the original personal representative flow to the successor.

In Leyva v. Daniels, 530 Fed. Appx. 933 (11th Cir. 2013), the Court held that for purposes of federal diversity jurisdiction, the personal representative of a decedent’s estate is deemed to be a citizen only of the state of the decedent, regardless of the state in which the personal representative actually resides.

In Garcia v. Diamond Marine Ltd., 2013 WL 6086916 (S.D. Fla. 2013), the Court held that the personal representative of a decedent’s estate, rather than the decedent’s estate itself, is the proper party in litigation concerning such estate, and that to subject a decedent’s estate to the jurisdiction of the court, the personal representative must be served in his or her representative capacity.

In Roughton v. R.J. Reynolds Tobacco Co., 129 So. 3d 1145 (Fla. 1st DCA 2013), the Court held that the only party that has standing to bring a wrongful death action in Florida is the personal representative of the decedent’s estate, even with respect to acts that occurred prior to the personal representative’s appointment.

In Hill v. Davis, 2011 WL 3847252 (Fla. 2011), the Florida Supreme Court held that the statutory time limit for objecting to the qualifications of a personal representative of a decedent's estate bars an untimely objection, even when the personal representative was never qualified to serve as such person failed to meet the qualifications required for a nonresident, absent fraud, misrepresentation or misconduct.

In Naftel v. Pappas, 2011 WL 3678004 (Fla. 1st DCA 2011), where the Order appointing a personal representative of the decedent's estate was entered before the issuance of Letters of Administration, the Court held that the time within which an objectant could appeal

842 such appointment commenced on the date of such Order, rather than on the later date of the issuance of the Letters of Administration.

In Romano v. Olshen, 2014 WL 940700 (Fla. 4th DCA Mar. 12, 2014) the Court held that the guardian of the property of the ward can be granted access by the Court to the ward’s joint brokerage account, not only during the ward’s life but also after the ward’s death, for purposes of satisfying certain expenses related to the guardianship, even though the account was titled in the name of the ward and the ward’s wife as a joint tenancy with right of survivorship.

In Long v. Willis, 2011 WL 3587411 (Fla. 2d, DCA 2011), where an unmarried decedent died intestate survived my three minor children, and where Florida law provides that the Administrator of the intestate estate, in the absence of a spouse, is to be selected by a majority in interest of the decedent's heirs, the votes of minor heirs are cast not by their surviving parent (i.e., the decedent's former wife) or natural guardian, but instead by the guardian of the property of such minor heirs, and that a guardian of the property of the decedent's minor children should be appointed so such children's vote, by such guardian, could be counted.

Q. Standing to Contest Will or Challenge Trust Distributions

In Agee v. Brown, 2011 WL 5554833 (Fla. 4th DCA 2011), the Court held that an attorney who prepared the decedent’s prior will is an “interested person” under Fla. Stat. Section 733.109(1) who can seek to revoke the decedent’s last will, as such attorney was a beneficiary under the decedent’s prior will, even though the bequest to such attorney under the decedent’s prior will might be found to be improper and void.

In Siegel v. JP Morgan Chase Bank, 71 So. 3d 935 (Fla. 4th DCA 2011), the Court held that beneficiaries of the decedent’s inter vivos trust had standing to challenge distributions that the trustee of such trust made before the grantor’s death.

In Gordon v. Kleinman, 2013 WL 4081027 (Fla. 4th DCA, August 14, 2013), the Court held that the petitioner, who was named as a beneficiary in the decedent’s 1983 will but not as a beneficiary in the decedent’s subsequently executed wills, had standing to challenge the probate of the decedent’s 2009 will, even though the petitioner was not named as a beneficiary in the decedent’s most recent will executed prior to 2009, as the petitioner sufficiently alleged that all of the wills executed after the 1983 will (in which the petitioner was named as a beneficiary) were invalid.

R. Enforcement of Alimony and Child Support Orders

In Jackmore v. Jackmore, 71 So. 3d 912 (Fla. 1st DCA 2011), the Court held that Florida does not have any limitations period for the enforcement for alimony or child support orders and that, pursuant to the Uniform Interstate Family Support Act, the law of the state with the longer limitations period, which in such case is Florida, applies. However, the Court remanded the case and directed the trial court to determine whether or not the plaintiff’s claim should nonetheless be barred by laches or Florida’s two-year statute of non-claim under Fla. Stat. Section 733.710.

843 S. Waiver of Spousal Rights

In Steffens v. Evans, 70 So. 3d 758 (Fla. 4th DCA 2011), where the decedent had executed a will naming his wife as a beneficiary but thereafter entered into a post-nuptial agreement waiving all rights as to certain property of each other, the Court held that the postnuptial agreement waived any benefits that would have passed to the decedent’s wife under his will, as the language of the agreement tracked the language of Fla. Stat. Section 732.702(1), regarding a waiver of rights of a surviving spouse, even though the agreement also provided that either party could transfer to the other party any property or interest, as the Court held that such provision referred to transfers of property after the execution of the agreement and would not preserve the rights of the decedent’s wife under the previously executed will.

T. Ademption of Bequests

In Melican v. Parker, 289 Ga. 420 (2011), where the decedent had devised his Florida condominium to the plaintiff but executed a contract to sell the condominium before he died and the closing of such sale occurred after the decedent’s death, the Court held that under Florida’s nonademption statute, Fla. Stat. Section 732.606(2)(a), which provides that a “specific devisee has the right to the remaining specifically devised property and …[a]ny balance of the purchase price owing from a purchaser to a testator at death because of the sale of the property”, the plaintiff was entitled to the sale proceeds as a specific devisee of the condominium.

U. Former Spouses

Pursuant to Fla. Stat. Sections 732.507(2) and 736.1105, designations of a former spouse as the beneficiary of a non-probate asset that would otherwise be transferred or paid to the spouse pursuant to such designation upon the death of a the decedent are void. The statute applies to all designations made by or on behalf of decedents dying on or after July 1, 2012, regardless of when the designation was made.

In Passamondi v. Passamondi, 130 So. 3d 736 (Fla. 2d DCA 2014). where one of the parties to a divorce proceeding died before the completion of that proceeding, but after the entry of a final judgment in such proceeding dissolving the marriage, the court held that the Florida matrimonial court, rather than the Florida probate court, has jurisdiction over the remaining equitable distribution issues relating to the divorce.

V. Gifts and Bequests to Clients’ Attorneys

In 2013 Florida enacted a statute (Section 732.806) that voids any part of a written instrument, including a will, a trust, a deed, a document exercising a power of appointment, or a beneficiary designation under a life insurance contract, that makes a gift to a lawyer or a person related to the lawyer, if the lawyer prepared or supervised the execution of the instrument, or solicited the gift, unless the lawyer or other recipient of the gift is related to the person making the gift.

844 W. Disposition of Decedents’ Wills

Pursuant to Fla. Stat. Section 732.901, a custodian of a will must deposit it with the clerk of the court within 10 days after receiving information that the testator died.

X. Florida Trusts

Pursuant to Fla. Stat. Section 732.0202, any beneficiary of a trust is subject to the jurisdiction of the Florida courts to the extent of the beneficiary’s interest in the trust; and any trustee, trust beneficiary or other person, whether or not a citizen or resident of Florida who personally or through an agent does any of the following acts related to a trust, submits to the jurisdiction of the Florida courts involving that trust:

• Accepts trusteeship of a trust with its principal place of administration in Florida at the time of acceptance.

• Moves the principal place of administration of a trust to Florida.

• Serves as trustee of a trust: (i) created by a settlor who was a resident of Florida at the time of creation; or (ii) having its principal place of administration in Florida.

• Accepts a delegation of powers/duties from the trustee of a trust with its principal place of administration in Florida.

• Commits a breach of trust in Florida or with respect to a trust with its principal place of administration in Florida at the time of the breach.

• Accepts compensation from a trust with its principal place of administration in Florida.

• Performs any act or service for a trust with its principal place of administration in Florida.

• Accepts a distribution from a trust with its principal place of administration in Florida with respect to any matter involving the distribution.

Section 736.0813 of the Florida Statutes was amended to clarify that a trustee who provides accountings more frequently than annually, such as on a monthly or quarterly basis, need not provide a second accounting covering the same period at the end of the annual period.

Sections 717.112 and 717.101 (24) of the Florida Statutes have been revised, and Section 717.1125 of the Florida Statutes has been enacted, to shorten the time period that a trustee must hold unclaimed property before seeking to deliver such property to the state, from a period of five years to a period of two years.

In Peck v. Peck, 2014 WL 768827 (Fla. 2d DCA 2014), the Court held that the Florida courts have the authority to modify or terminate an irrevocable trust on the consent of the settlor and the beneficiaries, even if doing so would defeat the purpose of the trust.

845 Florida has amended its directed trust statute (Fla. Stat. Section 736.0703(9)) to provide that where the terms of a trust appoint more than one trustee but confer on one or more of the trustees, to the exclusion of the other trustees, the power to direct or prevent specified actions of the trustees, the excluded trustees shall not be liable for any consequences resulting from compliance with the direction, except where the excluded trustees engage in willful misconduct.

Florida amended its trust code (Fla. Stat. Section 736.0207) to provide that a party contesting the validity or revocation of all or part of a trust has the burden of proof in such proceeding, to make the trust code in this regard consistent with the Florida probate code, which specifies that the party contesting the probate of a will has the burden of proof in that proceeding.

Although not a Florida case, in In re Stanley A. Seneker Trust, Nos. 317003, 317096, 2015 WL 847129 (Mich. Ct. App., Feb. 26, 2015), where a settlor had created a revocable trust while a resident of Michigan and then moved to Florida where he died, and where the trustee was a Florida resident, and Florida was the principal place of administration of the trust under both Florida and Michigan law, the Michigan court held that it lacked subject matter jurisdiction in a proceeding to remove the trustee and appoint a successor trustee, since the trustee had not changed the place of administration of the trust from Florida to Michigan.

Y. Limited Liability Companies

On June 14, 2013 Florida enacted the Revised Limited Liability Company Act (Fla. Stat. Ch. 605), which makes substantial changes to the rules governing limited liability companies in Florida.

Z. Estate Tax Returns

Florida Statutes Section 198.13 has been revised to eliminate the requirement that an estate must file an estate tax return with the Florida Department of Revenue for any decedent dying after December 31, 2012.

AA. InTerrorem Clauses

In Dinkins v. Dinkins, 2013 WL 3834371 (Fla. 5th DCA, July 26, 2013), the Court held that a trust provision which would give the decedent’s surviving spouse $5,000,000, outright and free of trust, if such spouse validly disclaims all of her interest in a QTIP trust created under such trust agreement and also validly waives her right to take an elective share in the decedent’s estate, does not constitute an invalid in terrorem clause, as such provision only provides an optional alternative devise to the beneficiary.

BB. Undue Influence

Under Florida law, a presumption of undue influence arises with respect to a transaction if the contestant can demonstrate that a person in a confidential or fiduciary relationship actively procured the transaction from which he or she substantially benefits, and that presumption shifts the burden of proof from the contestant to the proponent of the transaction. Florida amended its statutes (Fla. Stat. Section 733.107) to clarify that this policy is

846 not limited to will contests but applies to other transactions as well, such as trust contests and challenges to inter vivos gifts.

In Estate of Kester v. Rocco, 117 So. 3d 1196 (Fla. 1st DCA 2013), where one of the decedent’s three daughters assisted the decedent during her life in changing financial accounts from the decedent’s name alone to “pay on death” accounts or joint accounts with right of survivorship, the Court held that there was no demonstration that the child who assisted her mother was active in procuring such changes, noting that the mere evidence that a parent and an adult child had a close relationship and that the younger person often assisted the parent with tasks is not enough to show undue influence by the child.

CC. Exercise of Powers of Appointment

In Cessac v. Stevens, 2013 WL 6097315 (Fla. 1st DCA 2013), the Court held that a residuary disposition in a will that did not make specific reference to the testator’s powers of appointment under certain trusts, as required by such trusts, did not operate to exercise such powers of appointment.

DD. Foreign Wills

In Lee v. Estate of Payne, 2013 WL 5225200 (Fla. 2d DCA 2013), the Court held that a foreign will that devises Florida real property may be admitted to probate in Florida if the will is valid in the state in which it was executed, unless it is a holographic will that was not signed and witnessed in accordance with FS Section 732.502.

EE. Doctrine of Renunciation

In Fintak v. Fintak, 120 So. 3rd 177 (Fla. 2d DCA 2013), the Court held that the common law rule, that one who contests a will or trust must renounce his or her beneficial interest in that document, is not applicable where the settlor of a trust seeks to invalidate such trust on the grounds of the lack of necessary capacity to create the trust and undue influence, as the settlor was legally entitled to receive the benefits of the assets in the trust even if the trust had never existed.

FF. Attorneys’ Fees

Proposed legislation would provide a broad, non-exclusive list of factors that the courts may consider in directing that attorneys’ fees and costs may be assessed against a particular beneficiary’s share of an estate or trust.

GG. Comity Principles

In Perelman v. Estate of Perelman, 124 So. 3d 983 (Fla. 4th DCA 2013), where the decedent’s son had commenced a proceeding to probate a 2010 will of the decedent in Pennsylvania, and the decedent’s husband thereafter commenced a proceeding to probate a 1991 will of the decedent in Florida, contending that the decedent was domiciled in Florida and that her 2010 will was invalid, the Florida court stayed the Florida proceeding, holding that the

847 Florida court should adhere to the principles of priority and comity when a court of another state was the first to exercise jurisdiction over a matter.

HH. Disposition of Decedent’s Remains

In Wilson v. Wilson, 2014 WL 2101226 (Fla. 4th DCA May 21, 2014) the Court held that the decedent’s ashes were not property of the decedent’s estate and, therefore, were not subject to partition.

II. Anti-Lapse Statute

Florida amended its anti-lapse statute in the Florida trust code to provide that an outright devise to a deceased beneficiary in a revocable trust or a testamentary trust lapses unless the beneficiary was a grandparent or the lineal descendant of a grandparent of the trust’s settlor, unless the trust otherwise provides.

JJ. Family Trust Companies

Florida enacted a comprehensive Florida Family Trust Company Act, effective October 1, 2015 (Ch. 622, Fla. Stat.), to establish requirements for licensing a family trust company, to provide regulation of those persons who provide fiduciary services as a family trust company to family members of no more than two families and their related interests, and to establish the degree of regulatory oversight of family trust companies required by the Florida Office of Financial Regulation.

X. SIGNIFICANT NEW JERSEY LEGISLATION, REGULATIONS AND CASE LAW DEVELOPMENTS

A. Domestic Partnership Act

The Domestic Partnership Act was signed into law on January 12, 2004 and became effective on July 10, 2004. The Act establishes domestic partnerships for same sex and opposite sex (age 62 and older) nonrelated partners.

Under the Act, a domestic partnership is established when both persons have a common residence and are jointly responsible for each other’s common welfare as evidenced by joint financial arrangements or joint ownership of real or personal property. Both persons must not be related by blood or affinity up to and including the fourth degree of consanguinity, be at least 18 years of age and of the same sex or of the opposite sex age 62 years or older. Both persons must agree to be jointly responsible for each other’s basic living expenses during the domestic partnership. Neither person can be in a marriage recognized by New Jersey law or can be a member of another domestic partnership.

The State of New Jersey recognizes domestic partnerships if both persons jointly file an Affidavit of Domestic Partnership with their local registrar. An Affidavit of Domestic Partnership is an affidavit that sets forth each party’s name and age, the parties’ common mailing address, and a statement that, at the time the affidavit is signed, both parties meet the requirements of the Act and wish to enter into a domestic partnership with each other. In order

848 to file such affidavit, neither person can have been a partner in a domestic partnership that was terminated less than 180 days prior to the filing of the current Affidavit of Domestic Partnership, except that this prohibition does not apply if one of the partners died.

On January 11, 2006 New Jersey amended its probate law to give a domestic partner the same rights with respect to the estate of a deceased partner as a surviving spouse has with respect to the estate of a deceased spouse. Thus, a domestic partner can inherit as an intestate taker of a deceased partner, has a right of election with respect to the estate of a deceased partner, has priority to be appointed as the deceased partner’s personal representative, and has priority to make funeral arrangements for a deceased partner. The statute provides that these amendments are effective immediately.

For New Jersey Gross Income tax purposes, the Domestic Partnership Act applies to the 2004 income tax year and provides that the meaning of “Dependent” includes a qualified domestic partner. Consequently, taxpayers are able to claim an additional $1,000 personal exemption for a qualified domestic partner that does not file a separate income tax return.

For New Jersey Transfer Inheritance Tax purposes, the Domestic Partnership Act applies to decedents dying on or after July 10, 2004. It exempts all transfers made by will, survivorship or contract to a surviving domestic partner. This includes a membership certificate or stock in a cooperative housing corporation and the value of any pension, annuity, retirement allowance or return of contributions.

B. Same-Sex Marriage and Civil Unions

Same-sex marriages became legal in New Jersey on October 21, 2013.

A Bill allowing civil unions was signed into law on December 21, 2006.

To enter into a civil union, the persons must not be a party to another civil union, domestic partnership or marriage in New Jersey, must be of the same sex, and must be at least 18 years of age, unless they obtained the consent of their parents or guardian or, if under the age of 16, they obtain a consent of a family court judge. Since New Jersey does not have a residency requirement for marriage, a nonresident same-sex couple can enter into a civil union in New Jersey.

This legislation provides that no new domestic partnerships will be registered in New Jersey, except for same-sex and opposite-sex couples in which both partners are at least 62 years of age. Currently registered domestic partnerships will continue to be recognized with at least the rights, benefits and obligations provided under the Domestic Partnership Act.

Under the new legislation, the inheritance treatment, including intestacy rights, of a surviving spouse in a civil union are now equal to those of a similarly situated married couple under New Jersey law. In addition, for parties to a civil union, as in a marriage, the default form of joint property ownership is tenancy by the entirety. Moreover, a surviving partner of a civil union will be considered as a Class A beneficiary for New Jersey inheritance tax purposes and, therefore, can inherit from his or her partner free from New Jersey inheritance taxes.

849 NJSA Section 37:2-38 and NJSA Section 37:2-32 have been amended, effective June 27, 2013, to remove provisions that invalidate a pre-civil union agreement if it is unconscionable at that time its enforcement is sought. As a result, whether or not such an agreement is unconscionable is to be determined at the time of its execution.

C. Uniform Prudent Management of Institutional Funds Act

Effective on June 10, 2009, New Jersey adopted the Uniform Prudent Management of Institutional Funds Act ("UPMIFA") (NJ P.L. 2009, c. 64), replacing the 1975 Uniform Management of Institutional Funds Act ("UMIFA"). The UMIFA contained a general obligation to invest prudently using ordinary business care, and the UPMIFA updates that prudence standard to adopt more modern investment practices and provide greater guidance to boards by imposing the duty to:

1. Give primary consideration to the donor's intent as expressed in a gift instrument;

2. Act in good faith, with the care an ordinary prudent person would exercise;

3. Incur only reasonable costs in investing and managing institutional funds;

4. Make a reasonable effort to verify relevant facts;

5. Make decisions about each asset in the context of the portfolio of investments as part of an overall investment strategy;

6. Diversify investments, unless due to special circumstances, the purposes of the fund are better served without diversification;

7. Dispose of unsuitable assets; and

8. In general, develop an investment strategy appropriate for the fund and the institution.

The UPMIFA also contains provisions permitting the release and modification of donor restrictions on funds held by a charitable institution. Under both the UPMIFA and the UMIFA, a donor can release a restriction. Under the UPMIFA, if a board cannot obtain the donor's consent (e.g., the donor is deceased), an institution can petition a court to modify or release a restriction that has become impracticable, wasteful, impairs the management or investment of the fund, or, if because of circumstances unanticipated by the donor, the modification will further the purposes of the fund. The UPMIFA also applies cy pres and allows a change in a restriction if consistent with the charitable purpose of the institution or charitable intent of the donor.

850 The UPMIFA adds a new provision which enables an institution to modify restrictions without judicial approval on funds that are under $250,000 and have been established for at least 20 years, provided that the institution must continue to use the property in a manner consistent with the donor's charitable purpose expressed in the gift instrument. In such case, the institution must give 60 days' notice of the proposed modification to the New Jersey Attorney General.

D. New Jersey Estate Tax and Inheritance Tax

On June 24, 2013 legislation was introduced to exempt bequests to all lineal relatives from the inheritance tax. This proposed legislation is still pending.

On May 9, 2013 legislation was enacted providing that a trustee’s discretion to reimburse the trust’s grantor for income taxes that the grantor pays with respect to the trust’s income is not a right that would subject the trust’s assets to the claims of the grantor’s creditors.

In Estate of Stevenson v. Director, 008300-07 (N.J. Tax February 19, 2008), the New Jersey Tax Court held that when calculating the New Jersey estate tax where a marital disposition was burdened with estate taxes, creating an interrelated computation, the marital deduction must be reduced not only by the actual New Jersey estate tax, but also by the hypothetical federal estate tax that would have been payable if the decedent had died in 2001.

The New Jersey Division of Taxation adopted new regulations (NJAC Section 18:26-3A.8), effective for decedents dying after April 5, 2008, providing that if an estate makes a QTIP election for federal estate tax purposes, the estate must make a QTIP election for New Jersey estate tax purposes, but if a federal QTIP election would not reduce the federal estate tax liability, such election would not be given effect for New Jersey estate tax purposes.

E. New Jersey Gross Income Tax

On June 17, 2013 legislation (S. 2532) was enacted that bars the New Jersey Division of Taxation from considering a person’s charitable contributions when determining whether or not the donor is a New Jersey resident for New Jersey gross income tax purposes.

On June 7, 2005 the New Jersey Division of Taxation issued a notice setting forth its policies for determining residency and changes in domicile for purposes of the New Jersey gross income tax. NJS §54A:1-2(m) defines a New Jersey resident as any individual domiciled in New Jersey, unless the individual does all of the following for entire year: maintains no permanent place of abode in New Jersey; maintains a permanent place of abode elsewhere; and spends no more than 30 days of the taxable year in New Jersey. The notice stated that domicile is regarded as “any place an individual regards as his or her permanent home” and that an individual’s domicile continues until he or she moves with the intent to establish a permanent home elsewhere. The notice also stated that it is the taxpayer’s burden to prove a change of domicile and that the Division of Taxation will no longer consider charitable contributions in determining an individual’s domicile.

851 F. New Jersey Resident Trusts

In Residuary Trust Under the Will of Fred E. Kassner v. Division of Taxation, State of New Jersey, N.J. Super. Ct., App. Div., No. A-3636-12T1 (May 28, 2015), a New Jersey resident created a testamentary trust that had a New York resident as its trustee. The trust owned no assets in New Jersey, but the trust’s assets included S corporation stock, and the trust paid New Jersey income tax on the portion of the S corporations’ income that was allocated to New Jersey. The state sought to impose its tax on all of the trusts’ retained income, since in 2011 the state changed its prior position, which had been that it would not assert income tax on trust income if the trustees and the trust’s assets were outside of New Jersey, by issuing new guidance stating that if a trust had any New Jersey income, all of its retained income would be subject to New Jersey taxes. The court, without addressing the constitutional issues, determined that it was not fair to retroactively apply the 2011 changed position to income tax returns of the trust for years prior to 2011, and held that the state could not do so.

G. Perelman v. Cohen: Alleged Incompetence; Alleged Fraudulent Transfers and Undue Influence; Oral Promise to Make a Will; Gifts vs. Loans; and Sanctions for Frivolous Litigation

In Perelman v. Cohen, the Superior Court of New Jersey, Chancery Division, Bergen County (Docket No. C-134-08), in an action commenced by Ronald O. Perelman, the ex- husband and Executor of the Estate of his deceased former wife, Claudia Cohen, and by their daughter, Samantha Perelman, against Claudia’s father, Robert Cohen, and Robert Cohen’s son, James Cohen, the Court held in a series of decisions from 2008 through 2010 that:

1. Robert Cohen was competent and did not require a guardian ad litem to represent him in the action.

2. The plaintiffs failed to demonstrate an enforceable pre-1978 oral promise by Robert Cohen to bequeath a certain share of his Estate to his daughter, Claudia Cohen (after 1978, any such promise had to be in writing to be enforceable).

3. Plaintiffs’ claim that Robert Cohen’s Last Will and Testament was the product of undue influence is not cognizable by the Court where Robert Cohen is living and competent.

4. Various transfers by Robert Cohen to his son, James Cohen, were not fraudulent.

5. Transfers by Robert Cohen in the aggregate amount of $10,000,000 to his daughter, Claudia Cohen, were loans, rather than gifts, where Claudia had signed a loan document, but no interest was paid on the loans and Robert did not ask for the return of the funds when the loans came due, but only sought repayment after Claudia died.

6. The law firms representing the plaintiffs in the action were ordered to pay the defendants $1,960,000 as a sanction for filing frivolous litigation.

852 H. Support Trusts and Alimony

In Tannen v. Tannen, 416 N.J. Super. 248 (App. Div. 2010), aff’d per curiam, 208 N.J. 409 (2011), a divorce proceeding in which the wife was a beneficiary of a discretionary support trust created by her parents for her benefit, of which the wife and her parents were the trustees, the Court held that the trust was not an asset of the wife for purposes of the alimony statute and, therefore, that trust income should not be imputed to the wife for purposes of determining the amount of alimony payable by the husband to the wife, even though the Restatement (Third) of Trusts provides that the wife has an enforceable interest in the trust’s income, since no reported New Jersey appellate or New Jersey Supreme Court opinion has adopted such statement of the law as is contained the Restatement.

I. Revised Uniform Limited Liability Company Act

On September 19, 2012 New Jersey enacted the “Revised Uniform Limited Liability Company Act” effective March 19, 2013 for all new LLCs and March 19, 2014 for all existing LLCs. The pertinent provisions of the Act are as follows:

• An LLC may have one or more members. A member may not be classified as an LLC’s agent solely by reason of being a member. However, an LLC may file a “statement of authority” indicating all persons authorized (1) to execute an instrument transferring real property held in the LLC’s name or (2) enter into other transactions on the LLC’s behalf. • An LLC’s debts, obligations or other liabilities, whether arising in contract, tort or otherwise, are solely the LLC’s debts and do not become the debts of a member or manager solely by reason of the member acting as a member or manager acting as a manager. • An LLC is member managed unless expressly provided otherwise in the operating agreement. • Managers and members now have expressly stated fiduciary duties of care and loyalty as well as obligations of good faith and fair dealing. • A purchaser of a transferable interest at a foreclosure sale does not thereby become a member. J. Prenuptial Agreements

NJSA Section 37:2-38 and NJSA Section 37:2-32 have been amended, effective June 27, 2013, to remove provisions that invalidate a prenuptial agreement if it is unconscionable at that time its enforcement is sought. As a result, whether or not such an agreement is unconscionable is to be determined at the time of its execution.

K. Digital Assets

In 2012 identical bills were introduced in the Senate and Assembly authorizing a personal representative to take control of or terminate a decedent’s social network, microblogging and email accounts. This proposed legislation is still pending.

853 XI. NEW YORK STATUTORY, CASE LAW AND ADMINISTRATIVE DEVELOPMENTS

A. Powers of Attorney

On January 27, 2009 Chapter 644 of the New York General Obligations Law, which changes the rules regarding the statutory short form power of attorney, was enacted. The legislation provides a new statutory short form power of attorney, which includes new optional provisions for the designation of a monitor and compensation of the agent. Both the principal and the agent must sign the power of attorney. In addition, the legislation provides that if a principal wants to authorize the agent to make gifts on the principal’s behalf, a new “Statutory Major Gifts Rider” must be completed, signed, acknowledged and witnessed. The legislation is effective September 1, 2009, and powers of attorney executed before that date will continue to be valid.

On August 13, 2010 New York State enacted technical corrections legislation to its powers of attorney statute. The technical corrections legislation is effective on September 12, 2010, applicable retroactively to powers of attorney executed on or after September 1, 2009. Pursuant to the legislation, (a) a revocation of a power of attorney will be valid, even if it is delivered only to the attorney-in-fact but not to a third party, (b) a power of attorney will not automatically revoke previously executed powers of attorney, unless the new power of attorney expressly so provides, (c) an attorney-in-fact having authority to make gifts customarily made by the principal cannot make aggregate gifts of more than $500 per year, unless the power of attorney authorizes more substantial gifts, and (d) forms of powers of attorney other than the statutorily prescribed form may be used.

In Matter of IMRE B. R., N.Y.L.J. September 17, 2013 (Sup. Ct.), the Court compelled a brokerage firm to accept a power of attorney executed on December 18, 2010, where documentation indicated that on January 19, 2011 the principal suffered from moderate to severe dementia, but where there was no medical evidence as to the principal’s state of mind when she signed the power of attorney.

In Perosi v. LiGreci, 98 A.D.3d 230 (2d Dep’t. 2012), where the grantor of a trust executed a statutory short-form power of attorney naming his daughter as his agent and granting her the authority to designate the trustee of any trust, and executed a statutory gift rider giving his daughter the authority to act as grantor and trustee, the Court held that the agent could amend such trust to remove the original trustee and appoint a successor trustee, even though the power of attorney did not specifically authorize the agent to amend the trust, since the agent had the authority to do so as the “alter ego” of the principal.

In In the Matter of the Estate of George J. Ferrara, 7 N.Y. 3d 244 (2006), the New York Court of Appeals held that attorneys-in-fact acting pursuant to a New York statutory short form power of attorney, which had been modified to provide that the attorneys-in-fact could make gifts to themselves without limitation in amount, were nonetheless bound by the requirement in New York General Obligations Law Section 5-1502M that a gift made pursuant to a short form power of attorney must be made only for purposes which an attorney-in-fact ". . . reasonably deems to be in the best interest of the principal . . .", since any additional language

854 inserted in the power of attorney must be consistent with this constructional section of the statute.

In Matter of Mueller, 19 Misc.3d 536, 853 N.Y.S.2d 245 (Surr. Ct. Westchester County 2008), the Westchester County Surrogate rendered a decision regarding whether an exoneration clause in a power of attorney is enforceable. The decedent died intestate in 2002 at the age of 100. She was survived by her nephew as her sole distributee. Seventeen months before her death, the decedent, who was then 98 and living with an aide, executed a power of attorney prepared by her tenant. The power of attorney, given to the tenant, gave broad powers to him, including additional powers which allowed him to make gifts of the decedent's property to himself or to any of his family members, allowed him to transfer the decedent's bank accounts to other accounts in his name or to the name of any member of his family, exonerated him from accounting for his actions and exonerated him from liability to the decedent and/or her heirs. Using the power of attorney, the tenant transferred all of the decedent's bank accounts to himself and/or his mother and used the funds to pay off his credit card bills, buy a computer and, generally, to fund his lifestyle. Additionally, the tenant prepared a life tenancy agreement for himself and his mother, which he executed on behalf of the decedent, whereby he and his mother were granted the right to reside in the decedent's house for the remainder of their lives with the decedent paying all of the bills. On a motion for summary judgment, the Court held that the exoneration clause could not serve as a basis for exculpating the respondent from liability for his conduct. Applying the principles of the New York Estates, Powers & Trusts Law (“EPTL”) Section 11-1.7, and relying on Matter of Ferrara, the Court found that a clause in a power of attorney that seeks to exonerate an attorney-in-fact from any and all liability is void as against New York's public policy. The Court further ruled that fundamental to the fiduciary relationship is a duty to account and that such duty extends to an attorney-in-fact. The Court stated that "[a]bsent enforceability of the duty to account, neither a principal nor the beneficiaries of her estate would be able to protect their interests leaving an abusive attorney-in-fact in a position to act without fear of any adverse consequence."

In Matter of Francis, 2008 WL 586210 (Surr. Ct. Westchester County 2008), Surrogate Scarpino held that an exculpation clause in a power of attorney did not exonerate an attorney-in-fact from the duty to account, noting that the fundamental duty of every fiduciary to act in good faith and with undivided loyalty also applies to an attorney-in-fact.

B. Same Sex Couples

1. General

On June 24, 2011 New York State enacted the Marriage Equality Act, effective on July 24, 2011, legalizing same-sex marriage.

The New York State Bar Association has proposed amendments to Articles 4 and 6 of the EPTL and Articles 10, 13 and 17 of the SCPA to include gender-neutral language that is consistent with the terms of the Marriage Equality Act.

In Matter of Ranftle, N.Y.L.J., February 25, 2011 (App. Div. 1st Dept., February 24, 2011), the Court held that the State of New York would recognize a same-sex marriage that

855 was performed in Canada for New York probate law purposes, as such marriages do not violate the public policy of the State of New York.

In B.S. v. F.B., 25 Misc.3d 520 (Sup. Ct., Westchester Co. 2009), the New York Supreme Court held that it lacks jurisdiction over a proceeding to “divorce” the same-sex parties to a Vermont civil union, since a civil union is not a marriage, and the Court dismissed the action without prejudice to the plaintiff’s right to file a complaint for the dissolution of the Vermont civil union addressed to the Court’s general equitable jurisdiction.

In Godfrey v. DiNapoli, 22 Misc. 3d 249, 866 NYS 2d 844 (2008), the New York Supreme Court held that the New York State Comptroller acted legally in October 2004 when that office, applying the doctrine of comity, indicated that the State Retirement System would recognize the same sex marriage of a state employee entered into in Canada.

In Will of Alan Zwerling, N.Y.L.J. Sept. 9, 2008 (Queens Co. Surr. Nahman) the Court stated that although the decedent had been legally married in Canada, the “validity of same-sex marriage had not been definitely determined”, and the Court therefore required that the decedent’s parents be cited with notice of the probate proceeding. However, in Matter of the Estate of H. Kenneth Ranftle, N.Y.L.J. Feb. 2, 2009 (N.Y. Co. Surr. Glen), where the decedent similarly had been validly married in Canada in a same-sex marriage, the Court held that the man married to the decedent is the decedent’s surviving spouse and sole distributee and, therefore, that no citation in the probate proceeding need be issued to any other person as a distributee, thereby precluding family members of the decedent from objecting to the validity of the same- sex marriage.

In Beth R. v. Donna M., 19 Misc.3d 724, Sup. Ct., New York Co. 2008, the Supreme Court, New York County held that a marriage in Canada by a lesbian couple which is valid under Canadian law is valid under New York law and the New York courts therefore can hear an action brought by one of the spouses for divorce.

2. New York Taxes

On November 17, 2011 a representative of the Department of Taxation and Finance informally stated that same-sex marriages performed in jurisdictions other than New York would be recognized in New York for New York tax purposes, but that domestic partnerships would not qualify for recognition unless they take a form legally recognized as a marriage.

3. New York Estate Tax

On July 18, 2013 the New York State Department of Taxation and Finance issued Technical Memorandum TSB-M-13(9)M advising that, in view of the United States Supreme Court decision in United States v. Windsor, same-sex spouses may amend previously filed estate tax returns for spouses who die prior to July 24, 2011, if the statute of limitations to apply for a refund remains open.

On July 29, 2011 the New York State Department of Taxation and Finance issued Technical Memorandum TSB-M-11(8)M advising that, as a result of the legalization of same-sex

856 marriage in the State of New York, the term “spouse” for New York State estate tax and gift tax purposes includes same-sex spouses and different-sex spouses, for the estates of persons dying on or after July 24, 2011. Thus, the estate of a same–sex spouse may claim a marital deduction for New York State estate tax purposes and may also make a QTIP election for New York State estate tax purposes. To do so, the decedent’s estate must file with the New York estate tax return a pro forma federal estate tax return showing the computation of the federal estate tax as though the marital deduction had been allowed for federal estate tax purposes, and a copy of the actual federal estate tax return filed with the Service, if such return is required to be filed. Similar rules apply with respect to the qualified joint interests owned by same-sex spouses and gift splitting between same-sex spouses.

4. New York Income Tax

On July 29, 2011 the New York State Department of Taxation and Finance issued Technical Memorandum TSB-M-11(8)C, (8)I, (7)M, (1)MCTMT, (1)R and (12)S providing guidance regarding New York State income taxes of same-sex married couples. The Memorandum provides that same-sex married couples must file New York personal income tax returns using a married filing status (e.g., married filing jointly, or married filing separately), even though they do not use a married filing status for federal income tax purposes. In order to compute their New York income tax, such persons must recompute their federal income tax as if they were married for federal tax purposes. As the legalization of same-sex marriages in the State of New York was effectively on July 24, 2011, same-sex married couples who are married as of December 31, 2011 will be considered as married for the entire year and must file their New York income tax returns using a married filing status starting in tax year 2011. Since the legalization of same-sex marriage is not retroactive, a same-sex married couple who were legally married in another state prior to July 24, 2011 is not treated as married for New York tax purposes until July 24, 2011, and may not use a married filing status prior to tax year 2011.

The Department reiterated this guidance in technical memoranda TSB-M-13(5)I, (10)M (2013), stating that taxpayers amending their returns must report and/or compute any federal information required to be shown on the state return by applying the federal rules in effect for married taxpayers for the same tax year, regardless of whether an amended federal tax return is filed.

C. Other New York Estate Tax and GST Tax Changes

On March 31, 2014 New York enacted a major revision of its transfer tax system. Under the new law, the New York estate tax exclusion amount, which formerly was $1,000,000, is increased incrementally until the New York basic exclusion amount is equal to the federal estate tax exemption, as follows:

For decedents dying And before: The basic exclusion amount will be: on or after:

April 1, 2014 April 1, 2015 $2,062,500

April 1, 2015 April 1, 2016 $3,125,000

857 For decedents dying And before: The basic exclusion amount will be: on or after:

April 1, 2016 April 1, 2017 $4,187,500

April 1, 2017 Jan. 1, 2019 $5,250,000

Jan. 1, 2019 Scheduled to equal the federal estate tax exemption as indexed for inflation (and expected to be approximately $5,900,000 to $6,000,000 in 2019)

The tax benefit of this new New York basic exclusion amount is phased out for taxable estates between 100% and 105% of the New York basic exclusion amount. Thus, taxable estates that exceed 105% of the New York exclusion amount, as shown in the following chart, will lose the benefit of the exclusion completely, so the entire taxable estate will be subject to the New York estate tax.

Period Basic Exclusion Amount Full Phase-Out Amount

4/1/14 – 3/31/15 $2,062,500 $2,165,625

4/1/15 – 3/31/16 $3,125,000 $3,281,250

4/1/16 – 3/31/17 $4,187,500 $4,396,875

4/1/17 – 12/31/18 $5,250,000 $5,512,500

After 12/31/18 Equal to the federal 105% of the federal exemption amount exemption amount (currently $5,430,000 and indexed for inflation)

The New York estate tax is imposed at graduated rates, with a minimum tax rate of 3.06% and a maximum tax rate of 16%, which is applicable to taxable estates of more than $10,100,000.

Attached hereto as Exhibit “F” is a chart showing the amount of New York State estate tax that is payable on various amounts of a taxable estate during the phase-in period of the new tax law.

New York does not have a gift tax, but under the new New York estate tax law, the New York taxable estate includes gifts made within three years of death. However, gifts made when the decedent was not a New York resident, gifts made by a New York resident before April 1, 2014, gifts made by a New York resident on or after January 1, 2019, and gifts

858 that are otherwise includable in the decedent’s gross estate under another provision of the Federal estate tax law, are excluded from the operation of this rule.

The new law also repeals the New York GST tax, which prior to its repeal applied to taxable distributions and taxable terminations but not to direct skips. Prior to the enactment of the new law, the New York GST tax was equal to the maximum federal credit against the federal GST tax for state GST taxes paid. The federal GST tax rate is equal to the maximum federal estate tax rate, and for this purpose New York assumed that the maximum federal estate tax rate was the maximum rate which was in effect in 2001. Thus, since that maximum credit was 5%, and the assumed maximum federal estate tax rate was 55%, the effective New York GST tax rate was 2.75%. Furthermore, for New York purposes, the maximum GST tax exemption was $1,000,000, adjusted for inflation. For 2013, the inflation adjusted New York GST tax exemption was $1,430,000. As a result, a trust’s inclusion ratio could have been different for New York GST tax purposes than for federal GST tax purposes.

The New York State final Executive Budget for 2015-2016 included the following technical amendments to the new New York estate tax that was enacted in 2014:

• A drafting error in the 2014 legislation that would have caused the New York estate tax to disappear after March 31, 2015 was eliminated.

• The add-back of taxable gifts made within three years of death was clarified to provide that the gift add-back does not apply to estates of individuals dying on or after January 1, 2019.

• Since intangible personal property of a non-resident is not included in computing the non-resident’s New York taxable estate, deductions associated with such properties are expressly disallowed.

• Out-of-state real property and tangible personal property is expressly excluded from the three year gift add-back.

• As to the apportionment of a non-resident’s estate tax liability by reference to the percentage of New York situs property in the gross estate, there will be no New York estate tax if the value of the New York situs property does not exceed the applicable New York estate tax exclusion amount.

In addition, the 2015-2016 Executive Budget legislation did not change the New York estate tax cliff, did not include a state-only portability provision, did not include a provision for a separate New York State QTIP election when a federal estate tax return is filed, did not change the New York estate tax rates, and did not change the look-back period for gifts made within three years of death.

On August 25, 2014 the New York State Department of Taxation and Finance issued TSB-M-14(6)M regarding the new New York State estate tax law. The Technical Memorandum clarifies that a resident decedent’s New York gross estate does not include gifts

859 made by the decedent within three years of death to the extent that the gifts consisted of real property or tangible property having a location outside of the State of New York, or if the gift was made (a) when the individual was a non-resident of New York State, or (b) before April 1, 2014, or (c) on or after January 1, 2019. The Technical Memorandum also states that the New York taxable estate for the estate of an individual who was a non-resident of the State of New York at the date of the decedent’s death does not include the value of any intangible personal property otherwise includable in the decedent’s New York gross estate, or the amount of any gift that is otherwise includable in the New York gross estate of a resident decedent, unless the gift was made while the non-resident decedent was a resident of the State of New York and the gift consisted of real property or tangible personal property having a location in New York State or intangible personal property employed in a business, trade or profession carried on in New York State. Importantly, the Technical Memorandum further states that elections made or waived on a federal estate tax return will be binding on the estate’s New York estate tax return, and that a federal estate tax return is considered “required to be filed” not only when the decedent’s gross estate exceeds the federal estate tax filing threshold, but also when the federal estate tax return is filed solely to make the federal portability election.

New York amended Section 951 of the Tax Law by eliminating the requirement to create a qualified domestic trust (“QDOT”) if no federal estate tax return is required to be filed. The amendment applies to the estates of decedents dying on or after January 1, 2010, and the amendment expires on July 1, 2016.

On September 26, 2012 the New York State Department of Taxation and Finance issued a Technical Memorandum (TSB-M-12(4)M) advising that where a federal estate tax return is filed solely to elect portability, the decedent’s estate must file with the New York estate tax return both a copy of the federal estate tax return, as filed with the Service, and a completed pro forma Part 5-Recapitulation (form 706) and all applicable schedules that report the actual date of death value of all property the value of which was only estimated for federal estate tax purposes.

On July 29, 2011 the New York State Department of Taxation and Finance issued TSB-M-11(9)M stating that if a federal estate tax return is filed solely to elect portability, any QTIP election that is made on such tax return must also be made for New York estate tax purposes. If a QTIP election is not made on such federal return, it may not be made for New York estate tax purposes.

On October 12, 2011 the Department of Taxation and Finance issued Advisory Opinion TSB-A-11(1)M, stating that a non-resident’s revocable trust that owns an interest in a multiple member limited liability company or a partnership that owns an interest in New York real property, is an interest in an intangible asset that is not subject to New York estate tax.

On April 8, 2010 the New York State Department of Taxation and Finance, in Advisory Opinion (TSB-A-10(1)(M)), considered whether a non-resident decedent’s interest in a revocable trust, which owned interests in several multi-member New York limited liability companies that had elected to be treated as partnerships for federal income tax purposes, which in turn owned New York residential and commercial rental real property, is subject to New York

860 estate tax. The Department concluded that the decedent’s interest in the trust was an intangible asset that was not subject to New York State estate tax.

On January 14, 2009 the Office of Counsel of the New York State Department of Taxation and Finance issued an informational statement (NYT-G-09(1)M) stating that an executor may elect to use alternate valuation for purposes of calculating the New York gross estate when no federal estate tax return is required to be filed, provided that the requirements for electing alternate valuation under Code Section 2032 (i.e., reduction of the gross estate and reduction of the estate tax and the GST tax liability) are met applying the provisions of the Code as it existed on July 22, 1998 and applying the limitations on the unified credit in Section 951(a) of the New York Tax Law. Presumably, this election will continue to apply after March 31, 2014 with respect to the new New York basic exclusion amount.

On October 24, 2008 the New York State Department of Taxation and Finance published an advisory opinion (TSB-A-08(1))M), which considered whether an interest owned by a non-New York resident in an S corporation or in a single member limited liability company that owns real property located in New York constitutes intangible personal property, rather than real property, and therefore will not be included in the non-resident decedent’s New York gross estate. The advisory opinion concluded that an interest in an S corporation owning New York real property is considered an intangible and is not included in a non-resident decedent’s New York gross estate, unless the S corporation is not entitled to recognition under the Moline Properties test (Moline Props. v. Commissioner of Internal Revenue, 319 U.S. 436 (1943)). Under the Moline Properties test, a corporation’s separate existence would be recognized for tax purposes if its purpose is the equivalent of business activity or is followed by the carrying on of business by the corporation. The advisory opinion also concluded that an interest in a single member limited liability company owning New York real property is considered an intangible and is not included in the non-resident decedent’s New York gross estate if the limited liability company elects to be treated as a corporation under the Service’s “check-the-box” regulations (Treas. Reg. Sections 301.7701-1 through 301.7701-3). Although the advisory opinion only referenced the Moline Properties test in its discussion regarding an S corporation, it is likely that New York would also apply such test with respect to a single member limited liability company for purposes of the advisory opinion.

D. Other New York Income Tax Changes

1. Modified Carryover Basis

On July 29, 2011 the New York State Department of Taxation and Finance issued TSB-M-11(9)M stating that the New York state personal income tax is based upon information reported on the taxpayer’s federal income tax return. Therefore, if the estate of a 2010 decedent elected the modified carryover basis regime, such modified carryover basis must be used to report for New York income tax purposes any gain or loss realized on the sale of the decedent’s assets after his or her death, with the result that both New York estate taxes and New York income taxes may be payable with respect to any appreciation in value with respect to such property that occurred prior to the decedent’s death.

861 2. New York Source Income

In Burton v. New York State Department of Taxation and Finance, N.Y., No. 115 (July 1, 2015), and Caprio v. New York State Department of Taxation and Finance, N.Y., No. 116 (July 1, 2015), the New York Court of Appeals held that non-resident shareholders in S corporations that are doing business in the State of New York owed New York state income tax on their gain from the sale of the businesses in transactions where the stock purchaser elected to treat the acquisition as a deemed asset sale for federal income tax purposes.

Retroactive to tax years beginning on or after January 1, 2007, when a nonresident sells stock in an S corporation doing business in New York State and makes a Code Section 338(h)(10) election, the sale will be treated as an asset sale, and the gain that passes through to the nonresident shareholder is subject to New York State income tax.

The statutory definition of New York source income from the sale of real property located in the state has been expanded to include gain or loss on the sale or exchange of an interest in an entity that owns real property in New York. The legislation applies to the sale or exchange of an interest in partnerships, limited liability companies, S corporations and non publicly traded C corporations with 100 or fewer shareholders, if the entity owns real property in New York with a fair market value of at least 50% of the fair market value of all the entity’s assets owned for at least two years. The amount of New York source income from the sale or exchange is determined by multiplying the amount of the federal gain or loss by a fraction, the numerator of which is the fair market value of the entity’s New York real property, and the denominator of which is the fair market value of all the entity’s assets. The legislation does not affect the treatment of gain or losses passed through to the taxpayer when the entity when the entity itself sells real property located in New York, or from the sale of an interest in an entity where the interest is employed in another business carried on in New York. The legislation applies to sales of an interest in an entity that occur on or after May 7, 2009.

3. Income Tax Rates

On March 20, 2013 Governor Cuomo and legislative leaders announced a bipartisan agreement to extend for three years the state’s highest income tax rate of 8.82%, which is applicable to income of more than $1,000,000 for individuals and more than $2,000,000 for married couples (commonly called the “millionaire’s tax”), which is scheduled to expire in 2014.

On December 6, 2011 Governor Cuomo and New York’s legislative leaders announced a bi-partisan agreement to lower personal income tax rates on middle-income taxpayers and raise income tax rates on wealthy taxpayers, by lowering the maximum income tax rate from 6.85% to 6.45% for taxpayers earning between $40,000 and $150,000, by lowering the maximum income tax rate to 6.65% for taxpayers earning between $150,000 and $300,000, and by raising the maximum income tax rate to 8.82% for taxpayers earning more than $2,000,000. The proposal would also index the income tax brackets for inflation.

862 Effective January 1, 2011, New York City has a new maximum income tax rate of 3.876% on New York City income in excess of $500,000. The prior maximum rate of 3.648% continues in effect on income of more than $90,000 up to $500,000.

Effective for taxable years 2010 through 2012, the New York State itemized deduction for charitable donations is reduced from 50% to 25% for taxpayers with New York adjusted gross income in excess of $10,000,000.

On April 7, 2009, legislation was enacted, retroactive to January 1, 2009, increasing New York State income tax rates. The legislation increases the maximum tax rate to 8.97% on New York adjusted gross income in excess of $500,000, and increases the second highest rate to 7.85% for taxpayers filing jointly with New York adjusted gross income above $300,000, for heads of households with New York adjusted gross income above $250,000 and for single taxpayers with New York adjusted gross income above $200,000. In addition, the legislation eliminates all itemized deductions, other than 50% of charitable contributions, for taxpayers having New York adjusted gross income in excess of $1,000,000. Furthermore, in order to satisfy the “safe harbor” provision regarding the payment of estimated income taxes by paying 110% of the taxpayer’s prior year’s taxes, the taxpayer must pay estimated income taxes for 2009 based upon the taxpayer’s 2008 tax liability recalculated by applying these 2009 tax law changes to the taxpayer’s 2008 income.

4. Income Tax Return Extensions

New York Department of Taxation and Finance Regulation Section 157.2 provides that the automatic extension for a New York State partnership or fiduciary income tax return is now five months, although large partnerships which are allowed an automatic six-month extension for federal purposes also will be allowed an automatic six-month extension for New York partnership returns. The new rule is effective September 30, 2009 and applies to New York income tax returns for taxable years ending on or after December 31, 2009.

5. New York Residency

20 New York Codes, Rules and Regulations Section 105.20(e)(1), which applies to tax years ending on or after December 31, 2008, provides that an individual who is not domiciled in New York is considered a New York resident if he or she maintains a “permanent place of abode” in New York and spends more than 183 days of the tax year in New York, even if the person maintains the place of abode in New York only during “a temporary stay” or for a “fixed and limited period” for the accomplishment of a “particular purpose”.

20 New York Codes, Rules and Regulations Section 105.20(c) provides that “in counting the number of days spent within and without New York State, presence within New York State for any part of a calendar day constitutes a day spent within New York State, except that such presence within New York State may be disregarded if such presence is solely for the purpose of boarding a plane, ship, train or bus for travel to a destination outside New York State, or while traveling through New York State to a destination outside New York State . . . .”

In Matter of Zanetti, DTA No. 824337 (N.Y. Div. Tax App. 2003), affirmed, DTA No. 824337 (N.Y. Tax App. Trib. 2014), the administrative law Judge determined, and the

863 Tribunal affirmed, that a taxpayer was a statutory resident of New York even though 26 of the 184 days required for residency were days when the taxpayer spent only part of the day in New York, regardless of the total number of hours spent out of New York on those 26 days.

In Matter of Ingle v. NYS Department of Taxation, N.Y.L.J. November 8, 2013 (App. Div., 3rd Dep’t, October 31, 2013), where the taxpayer claimed that she was a part-year New York State resident from January 1, 2004 to March 31, 2004, and sold stock on April 30, 2004, the Court upheld the tax tribunal’s determination that the taxpayer was a New York domiciliary until July 9, 2004, as the taxpayer did not show an absolute fixed intent to abandon her New York domicile prior to such date, since she extended her New York apartment lease until June 2004, vacated that apartment in July 2004, maintained duplicate household items in both her Tennessee and New York apartments, and did not alter her lifestyle or related business interests until July 2004.

In In Re Cooke, N.Y. Div. of Tax Appeals, Administrative Law Judge Unit, DTA No. 823591 (2012), where the taxpayers had residences in New York City and in Bridgehampton, New York, and divided their time approximately equally between the two residences, the tribunal determined that the taxpayers had changed their domicile from New York City to Bridgehampton, New York by the fact that the overwhelming amount of family activities and general habit of life took place in Bridgehampton, rather than in New York City.

On September 11, 2012 the New York State Department of Taxation and Finance released TSB-A-12(4)I regarding a non-New York State resident who owned a one-eighth tenancy in common interest in one of the apartments in a private, member-owned residential club in New York City. Since the club awarded the use of such residence on a first-come, first-served basis, and since the taxpayer had a priority right to use the residence for only 45 days per year, the opinion stated that the taxpayer did not have free and continuous access to the apartment and, therefore, did not maintain a permanent place of abode in New York for New York State income tax purposes solely by reason of his ownership interest in the club.

In Matter of Michaels, DTA No. 823370, N.Y.S. Div. of Tax App., ALJ Unit, April 12, 2012, where the taxpayer contracted to sell her Connecticut residence on September 14, 2004, purchased a New York City condominium on November 9, 2004 and immediately began residing in such condominium, and closed on the sale of her Connecticut residence on November 29, 2004, the Administrative Law Judge of the Division of Tax Appeals found that the decedent’s sale of her Connecticut residence occurred on November 29, 2004, at which time the taxpayer was a New York resident, and held that the gain realized on the sale was subject to New York income tax.

On November 28, 2011 the Department of Taxation and Finance issued an advisory opinion regarding taxpayers who changed their domicile during 2010 from New York to Connecticut and had restricted access to their New York City residence prior to its sale. The opinion stated that the taxpayers should not be taxed as “resident” taxpayers for 2010, as they did not maintain a permanent place of abode in New York for substantially all of 2010, even though they spent more than 183 days in New York during 2010.

864 In Matter of Gaied, DTA No. 821727, State of New York-Tax Tribunal, 2011 N.Y. Tax LEXIS 136 (June 16, 2011), the New York State Tax Appeals Tribunal held that a New Jersey resident who worked in Staten Island and who purchased a residence in New York State for use by his parents was a New York State resident for New York State income tax purposes, even though the taxpayer stayed at the New York residence only when he visited his parents, as the taxpayer had not established that the property was maintained exclusively for his parents and had not established that the New York residence was solely an investment property, since the taxpayer did not collect rent from his parents. In Gaied v. New York, NY Slip Op. 09108 (App. Div., 3d Dept., 2012), the Appellate Division upheld the decision of the Tax Tribunal. The Court of Appeals (No. 26, February 18, 2014) reversed the Appellate Division decision, and held that in order for a non-New York domiciliary to be a “statutory resident” of New York for New York income tax purposes, the person not only has to have a permanent place of abode in New York, but the person must actually utilize such abode as his or her residence. In June 2014 the New York State Department of Taxation and Finance issued new non-resident audit guidelines which, contrary to the Court’s holding in Gaied, states that a residence that is owned and maintained by a taxpayer with unfettered access will generally be deemed to be a permanent place of abode regardless of how often the taxpayer actually uses it, and that a taxpayer who moves out of state and lists her apartment for sale and no longer resides in it, will still be treated as having a permanent place of abode in New York if the taxpayer continues to have unfettered access to the apartment and no one else is using it.

In In re Robertson, No. 822004 (September 23, 2010), the New York Tax Appeals Tribunal held that during 2000 the taxpayer was not physically present in New York City for more than 183 days, the number necessary for finding him a city resident, and that the taxpayer therefore did not owe New York City income taxes for such year, even though the taxpayer owned an apartment in New York City during such year.

In In re David Leiman, the New York Division of Tax Appeals, Nos. 822385, 822386 and 822387 (Feb. 4, 2010), held that the taxpayer’s ownership of a life estate in New York property that was owned by his daughter constitutes a permanent place of abode in New York for purposes of residency and, since the taxpayer failed to present any evidence as to his whereabouts during the tax year, the taxpayer was liable for New York personal income tax on his income from all sources.

6. New York Resident Trusts

A New York “resident trust” had been defined as a testamentary trust under the will of a decedent who is domiciled in the State of New York at his or her death, a trust (whether revocable or irrevocable) established by a person who is domiciled in New York at the time of the trust’s creation, or a revocable trust that later became irrevocable while the settlor was domiciled in New York. Although a New York resident trust would not be subject to any New York income taxes if all of the trustees are domiciled in a state other than New York, the entire corpus of the trust is located outside of New York, and the trust has no New York source income, legislation was enacted on March 31, 2014 that would subject the income of such a trust to New York income tax at the beneficiary or grantor level, in the circumstances noted below.

865 Such March 31, 2014 legislation would impose New York income tax on the accumulated income of such a resident trust (other than ING trusts, discussed below) once that income is distributed to New York resident beneficiaries, but only to the extent that such income was earned on or after January 1, 2014 and distributed on or after June 1, 2014. This new tax does not apply to grantor trusts or to non-resident trusts.

Such March 31, 2014 also would tax incomplete gift non-grantor (“ING”) resident trusts as if they were grantor trusts on all income earned after January 1, 2014. As a result, all of the income of such trusts would be subject to income tax in New York on the personal tax return of the New York resident grantor.

On May 16, 2014 the New York Department of Taxation and Finance issued memorandum TSB-M-14(3)I, which stated that:

• Accumulation distributions made to New York resident beneficiaries by exempt resident trusts (other than ING Trusts) will not be required to be included in the beneficiaries’ New York adjusted gross income, if the distributions are made before June 1, 2014. • The income of an ING Trust will not be required to be included in the grantor’s or beneficiaries’ New York adjusted gross income if the trust is terminated and all assets are distributed before June 1, 2014. Although a North Carolina court decision involving a North Carolina trust, in The Kimberley Rice Kaestner 1992 Family Trust v. North Carolina Department of Revenue, 2015 WL 1880607 (April 23, 2015), the court held that a North Carolina statute taxing the income of a trust where the trust’s beneficiaries were North Carolina residents, but where there were no other connections to North Carolina, was unconstitutional under both the federal and state constitutions, as the beneficiaries’ residency, alone, was not sufficient to subject the trust to taxation.

Although a Pennsylvania court decision involving Pennsylvania trusts, the Court in McNeil Trust v. Commonwealth, Nos. 651 F.R. 2010 and 173 F.R. 2011 (Pa. Commw. Ct. May 24, 2013), held that the imposition of the Pennsylvania personal income tax on two inter vivos trusts that were located in, administered in and governed by the laws of Delaware violated the commerce clause of the United States Constitution, even though discretionary trust beneficiaries were Pennsylvania residents and the settlor was a Pennsylvania resident when the trusts were established.

On June 8, 2010, the New York Department of Taxation and Finance issued Advisory Opinion No. TSB-10(4)I, which clarified that a New York resident trust will become non-taxable for New York income tax purposes immediately upon satisfying the three conditions described above. Thus, in the year in which the trust changes its taxable status for New York income tax purposes, New York will only tax the trust income that accrued prior to the trust becoming non-taxable by New York State.

On July 23, 2010 the New York Technical Service Bureau issued memorandum TSB-M-10(5)I, requiring a New York resident trust that is exempt from paying New York

866 fiduciary income tax because the Trust has no New York trustee and no New York source income, and all of its assets are located outside of New York, to nonetheless file both a New York fiduciary income tax return, but not pay New York income tax, and a Declaration confirming why the Trust is exempt from paying New York income tax. The policy stated in the Memorandum is effective for tax years beginning on or after January 1, 2010.

In 2010, New York released Form IT-205-C, the New York State Resident Trust Nontaxable Certification, which must be filed every year by a New York resident trust that meets the requirements described above so as not to be subject to New York State income tax.

In Matter of William Rockefeller, N.Y.L.J., January 5, 2004, the New York County Surrogate’s Court considered an application to change the situs of a testamentary trust from New York to Delaware, where the New York corporate trustee was resigning in favor of a Delaware corporate trustee affiliated with a financial institution having its principal place of business in New York to enable the trust to avoid the application to it of New York income taxes. The trust was created under the will of a New York domiciliary which was probated in New York. The Court noted that the New York corporate trustee’s resignation would result in the trust no longer being taxable for New York income tax purposes, but denied the application to change the trust’s situs, noting that the change in the trust’s New York tax status was not inconsistent with the continuing supervision of the trust by the New York courts.

E. Statute of Limitations for Tax Collections

On September 9, 2011 the New York State Department of Taxation and Finance released guidance memorandum TSB-M-11(10)(C), explaining a new state law that took effect on August 17, 2011 limiting the 20-year statute of limitations for the collection of tax liabilities, by stating that such statute of limitations runs from the first date on which a warrant could be filed by the Department and that a payment by a taxpayer or an acknowledgment by the taxpayer of indebtedness in writing no longer extends such 20-year limit. The new statute of limitations applies to all taxes, fees, penalties, interest and special assessments administered by the Department. However, a taxpayer and the Department can agree in writing to extend the time period to collect a warrant.

F. Principal and Income Act

Principal and Income Act (Chapter 243, signed 9/4/01, S. 5531, A. 9050-A) which enacted a new Principal and Income Act, added a power of adjustment to the Prudent Investor Act (EPTL Section 11-2.3(b)(5)) and defines “net income” for a trust as a 4% unitrust amount if a trust elects to be treated as a unitrust unless the terms of the trust provide otherwise. This new form of trust has been approved by the Service in final regulations. It has been stated that this legislation would permit investing for the highest total return as payments to beneficiaries would come from a combination of growth in the trust’s equity as well as the income produced by the assets.

A new EPTL Section 11-2.3(b)(5) is enacted granting trustees the power to make adjustments between principal and income, and to change the amount which may be distributed to a beneficiary under a trust instrument referring to “income,” in order to balance the interests of

867 trust income beneficiaries and remainder beneficiaries for all trusts covered by the new Principal and Income Act after January 1, 2002.

The trustee is authorized to make adjustments between income and principal under the prudent investor standard “to the extent, the trustee considers advisable to enable the trustee to make appropriate present and future distributions in accordance with clause (b)(3)(A)” (that is, the trustee’s pursuit of an overall investment strategy for total return). The trustee must determine that such adjustments “would be fair and reasonable to all of the beneficiaries, so that current beneficiaries may be given such use of the trust property as is consistent with preservation of its value.”

The rules in EPTL Section 11-A really refer to the rules in EPTL Section 11-A- 1.3, which are virtually identical to the Uniform Act and state:

Section 11-A-1.3. Fiduciary Duties: General Principles

In allocating receipts and disbursements to or between principal and income, and with respect to any matter within the scope of (the act), a fiduciary:

• shall administer a trust or estate in accordance with the terms of the trust or the will, even if there is a different provision in this Article; • may administer a trust or estate by the exercise of a discretionary power of administration given to the fiduciary by the terms of the trust or the will, even if the exercise of the power produces a result different from a result required or permitted by this Article; • shall administer a trust or estate in accordance with this Article if the terms of the trust or the will do not contain a different provision or do not give the fiduciary a discretionary power of administration; and • shall add a receipt or charge a disbursement to principal to the extent that the terms of the trust or the will and this Article do not provide a rule for allocating the receipt or disbursement to or between principal and income. In exercising a discretionary power of administration regarding a matter within the scope of this Article, whether granted by the terms of the trust, a will, or this Article, a fiduciary shall administer a trust or estate impartially, based on what is fair and reasonable to all of the beneficiaries, except to the extent that the terms of the trust or the will clearly manifest an intention that the fiduciary shall or may favor one or more of the beneficiaries. A determination in accordance with the Article is presumed to be fair and reasonable to all the beneficiaries.

In deciding whether to exercise the power, the trustee is referred back to the original standards of the N.Y. Prudent Investor Act for the investment of trust assets, found in EPTL Sections 11-2.3(b)(3)(B) and (4)(B).

The trustee may, as well, consider the following factors, (taken from the Uniform Act) to the extent relevant:

868 • the intent of the settlor, as expressed in the governing instrument; the assets held in the trust; the extent to which they consist of financial assets, interests in closely held enterprises, tangible and intangible personal property, or real property; the extent to which an asset is used by a beneficiary; and whether an asset was purchased by the trustee or received from the settlor. • the net amount allocated to income under Article 11-A and the increase or decrease in the value of the principal assets, which the trustee may estimate as to assets for which market values are not readily available; and • whether and to what extent the terms of the trust give the trustee power to invade principal or accumulate income or prohibit the trustee from invading principal or accumulating income, and the extent to which the trustee has exercised a power from time to time to invade principal or accumulate income.

EPTL Section 11-2.3(b)(5)(c) prohibits trustees from, among other things, making an adjustment where doing so would result in adverse income or transfer tax consequences or would involve acts of self-dealing if the trustee is a beneficiary. Trustees are also prohibited from making adjustments that would increase or decrease the amount of a fixed annuity payment, jeopardize the marital deduction for a gift to a surviving spouse, or from any amount that is permanently set aside for charitable purposes unless the income therefrom is also permanently devoted to charitable purposes. The law also provides that a trustee may not make an adjustment if the trust is an irrevocable lifetime trust which provides income to be paid for life to the grantor, and possessing or exercising the power to make an adjustment would cause any public benefit program to consider the adjusted principal or income to be an available resource or available income and the principal or income or both would in each case not be considered as an available resource or income if the trustee did not possess the power to make an adjustment.

The Act provides: “A court shall not change a fiduciary’s decision to exercise or not to exercise an adjustment power . . . unless it determines that the decision was an abuse of the fiduciary’s discretion. A court shall not determine that a fiduciary abused his, her, or its discretion merely because the court would have exercised the discretion in a different manner or would not have exercised the discretion.” The trustee may petition the court for guidance as to whether a proposed exercise of discretion is appropriate.

As stated above, EPTL Section 11-2.4 provides for an optional unitrust provision, whereby the net income of any trust to which this section applies will mean a unitrust amount equal to 4% of the fair market value of the assets held in the trust on the first business day in the current valuation year, or, if the trust has been in existence for four or more years, 4% of the average such fair market value for the current year and the prior two years. This section applies (I) if the governing instrument so provides; (ii) if, with respect to a trust in existence prior to January 1, 2002, the trustee, with consent on behalf of all persons interested in the trust or in the trustee’s discretion, elects to have this section apply on or before December 31, 2005; or (iii) if, with respect to a trust not in existence before January 1, 2002, the trustee so elects on or before the last day of the second full year of the trust beginning after assets first become subject to the trust. This change took effect January 1, 2002.

869 Pursuant to EPTL Section 11-2.4(b)(2), a “smoothing” rule applies to trusts in existence more than three years. The Statute provides that: “the ‘unitrust amount’ for a current valuation year of the trust shall mean an amount equal to four percent multiplied by a fraction, the numerator of which shall be the sum of (A) the net fair market values of the assets held in the trust on the first business day of the current valuation year and (B) the net fair market values of the assets held in the trust on the first business day of each prior valuation year, and the denominator of which shall be three.” The effect of the smoothing rule is to even out the unitrust amounts, notwithstanding possible wide fluctuations in the value of the assets of the trust over a moving three year period.

Inasmuch as the unitrust amount is meant to reflect an appropriate return on the assets comprising the trust, if additional assets are transferred to a trust or distributions are made from the trust, the unitrust amount needs to be adjusted to reflect the increase or decrease in the value of the trust corpus. Accordingly, EPTL Section 11-2.4(b)(3) provides for the unitrust amount to be proportionately reduced in the case of any distributions (other than distributions of the unitrust amount) during the valuation year mandated by the terms of the trust. Similarly, the unitrust amount will be increased proportionately for the receipt of any additional property into the trust during the current valuation year, not including however any receipt that represents a return on investment. The net fair market value for each prior valuation year also must be adjusted to reflect the distributions from or additions to the trust in the prior valuation year.

Significant amendments to the power to adjust and to the unitrust provisions of the EPTL were enacted on August 5, 2008 and became effective immediately. Among its revisions, the law amended Section 1, Clauses (A), (C) and (D) of subparagraph (b) of Section 11-2.3 of the EPTL to add language regarding factors a trustee should consider in determining whether to make an adjustment, expressly including a trustee's investment decisions and the accounting income expected to be produced. The prohibitions on exercising the power to adjust remain if the trustee is a current beneficiary or a presumptive remainder person or the adjustment would benefit the trustee directly or indirectly. The amendments clarify that the adjustment's possible effect on a trustee's commission are not included in the determination of whether the adjustment would benefit the trustee directly or indirectly. In addition, the revisions provide that an adjustment otherwise prohibited by the terms of the statute may be made if the trust agreement expressly provides otherwise. EPTL Section 11-A-2.2(e) has been added to provide that a beneficiary’s share of estate income is subject to the fiduciary power to adjust.

The law also made significant revisions to Section 2, Paragraph (b) of Section 11- 2.4 of the EPTL. Specifically, the "smoothing rule" to reduce market volatility which began in the fourth year of the trust now begins in the second year of the trust by averaging the first two years valuations for setting the second year payout. The full three year rolling average smoothing begins in the unitrust's third year. The new law differentiates between "material" and "non-material" incorrect payouts. Non-material adjustments must be made within eighteen months and material corrections require court approval. The law now provides that an election to opt into the unitrust regime can be made without court approval only for trusts created after January 1, 2002, if made within two years. All other trusts require court approval. As a result of the changes, the election date specified by a trustee (without court approval) must be within the year in which the election is made or the first day of the following year. The court can specify an election date, but the default effective date for a court decision is no longer the first year of

870 the trust in which assets became subject to the trust. The law left unchanged a trustee's ability to opt into the unitrust regime if he is a beneficiary or would benefit from the election directly or indirectly. The revisions specify trusts to which the unitrust statute will not apply.

EPTL Section 11-2.4(c) has been amended to provide that the fair market value of an asset may be determined by any appropriate technique that is consistently applied, including by valuing the asset as of the close of business of the previous business day, even if that day was in a prior year. The amendment clarifies that income distributed to the trust from a decedent’s estate or other source shall not be included in determining the fair market value of the assets, unless a determination has been made to accumulate and add such income to principal.

EPTL Section 11-2.4(d) has been amended to provide that when the interests of the current income beneficiaries terminate in favor of new beneficiaries, the trustee has the same two-year period to opt into unitrust treatment as existed at the beginning of the trust.

A new Section 11-2.4(f) of EPTL has been added to provide that the unitrust election shall not be available to a trust if the governing instrument so provides, if the trust is a pooled income fund, if the trust is a charitable remainder trust, or if the trust is an irrevocable lifetime trust providing for income to be paid for the life of the grantor, and such power would cause any public benefit program to consider the additional amounts of principal or income to be an available resource.

In 2013 the Trust and Estate Law Section of the New York State Bar Association has proposed amending EPTL Section 11-2.3(b)(5), regarding the power to adjust, to clarify that any adjustment constitutes a re-characterization of the transferred assets for purposes of calculating trustee commissions.

EPTL Section 11-A-4.11 has been entirely repealed and replaced with a new Section 11-A-4.11, effective August 5, 2008, which generally allocates receipts from minerals, water and other natural resources at 15% to principal and 85% to income.

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In a case of first impression involving the newly effective New York unitrust legislation, the Court was asked to permit the conversion to a unitrust under EPTL Section 11- 2.4(e)(2) of a testamentary trust for the benefit of the testator’s widow. Considering the factors enumerated in EPTL Section 11-2.4(e)(5)(A) for unitrust conversion, the Court found that the original trust, which provided a power of invasion for the petitioner’s support and maintenance, had been intended by the testator to benefit his wife. The Court further determined that EPTL Section 11-2.4(b)(2)’s “smoothing” rule did not apply to trusts established prior to its January 1, 2002 effective date. Therefore, the Court treated the trust as a new trust opting into unitrust as of January 1, 2002 and applied a three-year average to the smoothing rule with the average to be determined from the net fair market values of the trust assets on the first business days of 2002, 2003 and 2004, to apply in 2004. In Re Estate of Edward J. Ives, N.Y.L.J. July 29, 2002, p. 28, col. 3, Broome County, Surrogate Peckham.

871 In In re Estate of Jacob Heller, N.Y.L.J., January 23, 2004, the Westchester County Surrogate's Court held that whether a trustee abuses his discretion by electing unitrust status pursuant to Section 11-2.4 of the EPTL is an issue of fact, rather than an issue of law, to be decided based on the factors enumerated in that statute, and that a trustee could only elect unitrust status prospectively, no retroactively. On May 4, 2006 the Court of Appeals issued its opinion in Heller, (2006 WL 1193191, 2006 N.Y. Slip Op. 03469), holding that a trustee’s status as a remainder beneficiary by itself does not invalidate a unitrust election made by that trustee, and that a trustee may elect unitrust status retroactive to January 1, 2002, which was the effective date of EPTL Section 11-2.4.

In In Re Smithers, N.Y.L.J., September 23, 2013 at p. 32 (Sur. Ct. Nassau County), the Court approved an unopposed application by the income beneficiary of a testamentary trust to retroactively convert the trust to a unitrust pursuant to Section 11-2.4 of the EPTL, as income distributions from the trust had decreased steadily over the years, and in view of the petitioners advanced age, the increase in the cost of her health care and her living expenses made it difficult for her to maintain herself. The Court directed that the effective date of the conversion was January 1, 2013.

In Matter of Moore, 41 Misc.3d 687 (Sur. Ct., Nassau County 2013), the Court granted the unopposed petition of the trust’s income beneficiary to convert the trust to a unitrust regime, as the trust was created to provide the petitioner with the trust’s income, which had become insufficient to meet her needs, and in view of the petitioner’s advanced age, payment of the unitrust amount to her would not exhaust the trust prior to her death.

In Matter of Kruszewski, 116 A.D.3d 1288 (3d Dept., 2014), where the income beneficiary of a testamentary trust commenced a proceeding in December 2011 seeking to apply New York’s unitrust provisions retroactively to January 1, 2002, and where the Surrogate’s Court found that the income beneficiary was barred by the doctrine of res judicata from seeking unitrust payments prior to the date of a final decree settling a former trustee’s accounting, and that a January 1, 2012 effective date was appropriate, the Appellate Division affirmed the January 1, 2012 effective date, regardless of whether the Surrogate properly invoked the doctrine of res judicata.

G. Attorney Engagement Letters

The New York Appellate Divisions of the Supreme Court adopted a new rule entitled “Written Letters of Engagement,” which appears in Part 1215 to Title 22 of the Official Compilations of Codes, Rules and Regulations, effective on March 4, 2002.

The rule (§1215.1) requires an attorney who undertakes to represent a client and enters an arrangement for, charges or collects any fee from a client, to provide to the client a written letter of engagement before commencing the representation, or within a reasonable time thereafter if otherwise impracticable, or if the scope of services cannot be determined at the time of the commencement of the representation. The letter of engagement must address the following matters: (1) the scope of the legal services to be provided; (2) an explanation of the attorney’s fees to be charged, as well as expenses and billing practices of counsel; and (3) where applicable, notice of the client’s rights to arbitration of fee disputes pursuant to Part 137 of the

872 Rules of the Chief Administrator. In lieu of a written letter of engagement, a signed written retainer agreement addressing the matters to be contained in the written letter of engagement may be utilized.

Part 137 of the Rules of the Chief Administrator was issued in 2002 and mandates fee-dispute arbitration initiated by the client where the fees in issue are between $1,000 and $50,000. Arbitration is not mandated, but permitted at the attorney’s request, if the client agrees. If an attorney refuses to participate in mandatory arbitration, a referral will be made to the grievance committee.

Excluded from the rule are (1) representation of a client where the fee to be charged is expected to be less than $3,000; (2) representation where the attorney’s services are of the same general kind as previously rendered to and paid for by the client; or (3) representation in domestic relations matters subject to Part 1400 of the Joint Rules of the Appellate Division (22 NYCRR).

In Feder, Goldstein, Tanenbaum & D’Errico v. Ronan, N.Y.L.J. May 6, 2003, p. 21, col. 5 (Nassau Co. Dist. Ct. J. Pardes), a law firm’s failure to provide an engagement letter or retainer agreement precluded the recovery of attorney fees.

In Matter of Feroleto, 6 Misc. 3d 680, 2004 N.Y. Slip Op. 24495, Bronx County Surrogate Holzman allowed compensation to an attorney determined on a quantum meruit basis where the client had not signed a letter of engagement, but where the Court determined that the failure to comply with Rule §1215.1 was not willful and that the client knew that counsel was to be compensated for service rendered.

Similarly, in Seth Rubinstein, P.C. v. Ganea, 2007 NY Slip Op. 02923 (2d Dept. April 3, 2007), the Appellate Division allowed compensation to an attorney determined on a quantum meruit basis even though the lawyer failed the furnish the client with a written engagement letter, where the client had conceded that he did not believe that the legal services would be rendered without charge and where the lawyer’s failure to comply with Rule §1215.1 was found to be unintentional.

Amendments to CPLR Section 4503 (Ch. 430, Laws of 2002) providing that for the purposes of the attorney-client privilege, if the client is a “personal representative”, as defined therein, and the attorney represents the personal representative in that capacity, then in the absence of an agreement to the contrary, no beneficiary of the estate shall be treated as a client of the attorney solely by reason of status as beneficiary, and the existence of a fiduciary relationship between the personal representative and a beneficiary of the estate does not constitute a waiver of the privilege. A technical corrections bill has been submitted to include SCPA Article 17 and 17-A guardians and lifetime trustees in the definition of personal representative.

In Lawrence v. Graubard Miller, 11 N.Y.3d 588 (2008), the law firm that represented the decedent's widow in a decades-long legal proceeding regarding the accounting of the administration of the decedent’s estate had been billing the widow on a straight time basis for legal services rendered, but changed the billing arrangement to a contingency fee shortly before

873 the accounting proceeding was settled by the payment of the executor of the decedent’s estate of approximately $100,000,000 to the decedent’s widow and her children. In addition, the widow made gifts of approximately $5,000,000 to three members of the law firm which represented her in that accounting proceeding and paid approximately $2,700,000 in gift taxes with respect to such gifts. The Court held that more information was required to determine whether the contingency fee arrangement was unconscionable. On August 27, 2010, Hon. Howard A. Levine, a former New York Court of Appeals judge who had served as the referee in the contested accounting proceeding, issued a report to the New York County Surrogate’s Court recommending that the claimed fees of approximately $44,000,000 should be reduced to $15,840,000, which he determined by applying 40% to the first $10,000,000 of recovery, 30% to the next $10,000,000 of recovery and 10% to the remainder of the recovery. As to the gifts by the widow to her lawyers, Judge Levine found that the widow understood the implications of making the gifts, including her awareness that taxes would result from large gifts, and that she was not under any undue influence regarding the gifts, although he also found that the attorneys to whom the widow had made gifts had violated an ethical consideration contained in New York’s Disciplinary Rules which was in place at the time of the gifts by failing to advise the widow to seek independent counsel about making the gifts to her attorneys. In Estate of Sylvan Lawrence, N.Y.L.J. (Surr. Ct., N.Y. Co., September 8, 2010), the Court ordered counsel to return such gifts to their client and approved the portion of the referee’s report that preserved the contingent nature of the modified fee arrangement but resulted in a modified fee of approximately $16,000,000, rather than the $44,000,000 contingent fee sought by such counsel.

In Matter of Talbot, 84 A.D.3d 967 (2d Dep’t 2011), where a party executed an attorney retainer agreement under which the attorney would receive a $5,000 retainer and a contingent fee of $585,000 regarding a contested probate proceeding, the Court held that the Surrogate must consider not only whether a contingency fee retainer agreement was wrongfully procured, but also the reasonableness of the fee and the agreement itself.

In Matter of Benware, 86 A.D.3d 687 (3d Dep’t 2011), the Court held that , although the Surrogate was not bound by the attorney retainer agreement in setting the attorney’s fee, the Surrogate could not award fees in excess of the amount agreed to in a valid retainer agreement.

H. Disclosure Requirements of Attorney-Fiduciaries

The Surrogate of Bronx County held that an SCPA Section 2307-a disclosure statement contained in the will, itself, rather than in a separate writing, was still valid and the designated executor, who also was the attorney who drafted the will, was entitled to a full executor’s commission. The testatrix designated her executor in the following language: “I hereby appoint Philip L. McGrory to be the executor of this my Last Will and Testament; I realize he is my attorney and would be entitled to a fee both as the executor and as the attorney for the estate but I wish him to serve as the executor because my sister has refused.” Surrogate Holzman declined to follow Surrogate Roth’s holdings in In re Pacanofsky and In re Hinkson, 186 Misc.2d 15, 714 N.Y.S.2d 433 (N.Y. County 2000). Those cases held that a disclosure statement, consisting of the general language of the statutory model and contained in the will, failed the requirements for a disclosure statement under SCPA Section 2307-a. Surrogate Holzman reasoned that even though the statute envisions the disclosure statement set forth as a

874 separate writing, the statute does not contain an absolute prohibition against the disclosure being set forth in the will, itself. Addressing the language of the testatrix’s will, Surrogate Holzman thought the disclosure set forth in the will reflected a more meaningful discussion between the decedent and her attorney than could have been presumed to have occurred from the general language of a statutory model. Finally, the Court distinguished In re Pacanofsky and In re Hinkson on the grounds that in those cases, the disclosure statement contained within the will was the boilerplate language of the statutory model. In contrast, the language of the testatrix’s will reflected a meaningful conversation between the testatrix and her attorney. Estate of Winston, 186 Misc.2d 332, 714 N.Y.S.2d 879 (Bronx County Surr. Holzman, December 5, 2000).

Surrogate Riordan of Nassau County decided that an attorney/fiduciary was entitled to only one-half a statutory commission because a disclosure statement contained in a will did not meet the requirements of SCPA Section 2307-a. After reviewing the legislative history of SCPA Section 2307-a, Surrogate Riordan held that an acknowledgment in a Will stating that “I hereby appoint my friend and attorney . . . to be Executor of this, my Will. . . . I direct that my Executor shall receive a full commission in addition to a legal fee notwithstanding any rules or laws which prohibit a full commission” was not sufficient to comply with Section 2307-a and the fiduciary/attorney was only entitled to one-half a statutory commission. See In re Estate of Bruder, N.Y. L.J. Mar. 15, 2001, p. 25, col. 3 (Nassau County Surr. Riordan). Accord In Re Estate of Katz, N.Y.L.J. March 26, 2001, p. 30, col. 2 (Kings Co. Surr. Feinberg); In Re Estate of McGarry, N.Y.L.J. June 10, 2002, p. 31 (Suffolk Co. Surr. Czygier).

Surrogate Radigan decided that a waiver of the SCPA 2307-a disclosure requirement was proper where a woman acknowledged her understanding that her attorney/fiduciary was entitled to both commissions and attorney’s fees and reaffirmed her will without signing a disclosure statement. The attorney/fiduciary named in the 1981 will had retired. In 1999, the attorney for the attorney/fiduciary visited the testatrix in the hospital to review her estate plan. At that time, the attorney for the attorney/fiduciary informed the testatrix that her attorney/fiduciary was entitled to both attorney’s fees and commissions which she acknowledged. There appearing to be no immediate threat to the testatrix’s health, the disclosure statement was not obtained at that time. The testatrix suddenly died five days later without having signed a disclosure statement. Surrogate Radigan decided on these facts that waiver of the SCPA 2307-a disclosure requirements was proper. See In re Smith, N.Y. L.J., Nov. 28, 2000 p. 29, col. 3 (Nassau County Surr. Radigan).

Surrogate Czygier found good cause existed for waiver of the SCPA 2307-a disclosure provisions and allowed full statutory commissions. A Connecticut attorney drafted a Will in 1981 while the testator was domiciled in Connecticut where there was no comparable statute with such requirements and the attorney was not admitted to practice in New York. At the time of the preparation of the Will there was no anticipation that the decedent would reside in New York. The Court held that the requirements of SCPA 2307-a must be adhered to only if, at the time the Will was prepared, it was foreseeable that the Will would be probated in New York State. Matter of Newell, N.Y.L.J. June 6, 2002, p. 27, col. 4 (Suffolk Co. Surr. Czygier).

In Matter of Lustig, N.Y.L.J., February 7, 2005, p. 32 (App. Div. 1st Dept.), the Appellate Division confirmed the Order of Surrogate Roth, New York County Surrogate’s Court,

875 directing that the executor’s commissions payable to the attorney-executor be limited to one-half of the statutory commissions to which he otherwise would have been entitled, since the testator failed to acknowledge in a writing separate from his will that the disclosure required by SCPA § 2307-a had been provided.

In Matter of Wagoner, 7 Misc. 3d 445 (Surr. Ct., Albany Co., Surr. Doyle, January 10, 2005), the Court considered a statutory disclosure statement under SCPA 2307-a, which was witnessed only by the testator’s attorney, where the testator designated the attorney’s paralegal as the testator’s executor. The paralegal informed the Court by affidavit that she was not a close friend of the decedent and that she became acquainted with the decedent as a result of her employment with the decedent’s attorney. The Court determined that the paralegal’s relationship with the attorney, combined with her lack of an independent relationship with the decedent, was such that a statutory disclosure statement was required, and held that the statement in question should not be treated as having been signed in the presence of "one witness other than the executor-designee." As a result, the Court held that the statement was null and void and limited the executor’s commissions to one-half of the statutory commissions. However, the Appellate Division (30 A.D. 3d 805, 3rd Dept., June 2006), reversed the Surrogate’s Court decision, holding that the statute is inapplicable to the instant case, since it only applies to attorneys who are named as executors and the nominated executrix is not an attorney.

In Matter of Karlan, N.Y.L.J., April 11, 2006, p. 19 (Surr. Ct., Nassau Co., Surr. Riordan), the Court held that the attorney who prepared the decedent’s will and who was named in the will as one of the decedent’s three executors could not receive more than one-half of one full executor’s commission, since the decedent did not execute a written acknowledgment of disclosure in the form set forth in SCPA 2307-a, even though the same attorney had prepared numerous prior wills for the decedent who had executed such disclosure statements in connection with those prior wills.

In In re Estate of Brokken, N.Y.L.J., March 28, 2006, p. 24 (New York Co., Surr. Roth), the Court held that the attorney-fiduciary could receive a full commission, even though the testator did not execute the disclosure statement required by SCPA Section 2307-a, where the estate’s beneficiaries were fully informed of the statutory disclosure requirement and waived it.

In In re Estate of Tackley, N.Y.L.J., October 10, 2006, p. 33, (Surr. Ct., New York Co., Surr. Roth), the Court held that the disclosure statement in question failed to comply with the statutory requirements, since it did not state that the testator acknowledges that, absent disclosure, an attorney who serves as an executor shall be entitled to one-half the commissions which the executor otherwise would be entitled to receive.

In In re Estate of Wrobleski, N.Y.L.J., June 4, 2008, p. 41, an uncontested probate proceeding, the Kings County Surrogate's Court was presented with the issue of whether the acknowledgment of disclosure submitted by the nominated attorney-fiduciary was in compliance with the dictates of SCPA Section 2307-a. The petitioner submitted an acknowledgment executed by the decedent that did not comply with the current requirements of SCPA Section 2307-a but appeared to comply with those required by the statute at the time the acknowledgment was executed. However, the Court noted that the acknowledgment was missing the signature of the witness to the instrument. In an effort to cure this defect, the

876 petitioner submitted an affidavit of the attorney who supervised the execution of the will and an affidavit of one of the attesting witnesses, both of which alleged that they witnessed the execution of the acknowledgment of disclosure with the other two attesting witnesses. The Court found that while substantial compliance with the model disclosure provided by the statute will entitle an attorney to full commissions, omission of any of the material requirements of the acknowledgment will deprive the attorney-fiduciary of the full statutory commission. The Court found further that the signature of a witness on the acknowledgment was a substantial component of the statutory requirement that could not be overlooked and could not be cured post-mortem by the affidavits of witnesses. Accordingly, the attorney-fiduciary's commissions would be reduced to one-half of the statutory rate.

IMPORTANT:

SCPA Section 2307-a was amended, effective November 16, 2004, to provide that the disclosure must be acknowledged in a document separate from the will, but which may be attached to the will, and to provide that the disclosure must state that the testator acknowledges or was informed that, absent the execution of the disclosure, an attorney who serves as an executor shall be entitled to one-half of the commissions which the attorney otherwise would be entitled to receive. The amendment did not address the issue of whether a disclosure statement executed before November 16, 2004, containing all the elements of disclosure required by the statute in effect at the time the statement was executed, but not containing the new disclosure provision describing the effect of the failure to execute a disclosure statement, will satisfy the new statutory requirement. However, In Matter of Griffen, 16 Misc. 3d 295 (Surr. Ct., Nassau Co., Surr. Radigan 5/2/07), the Court ruled that a disclosure statement executed prior to the effective date of an amendment (which added an additional requirement to the form of disclosure) but which conformed to the statute in effect on the date the disclosure statement was executed was in compliance with the statute and the attorney-executor was entitled to full statutory commissions.

In Matter of Gurnee, 16 Misc.3d 1113(A), 2007 N.Y. Slip. Op. 51408(U), (Surr. Ct. So. June 28, 2007), Surrogate Czygier of Suffolk County held that the attorney-executors were limited to one-half commissions pursuant to SCPA Section 2307-a, where the disclosure form failed to contain additional language required by the 2004 amendment to the statute. In addition, the Court stated that a valid disclosure form executed in connection with an earlier will of a testator cannot be utilized as proof of compliance with the statute with respect to a later will which does not contain the necessary disclosure statement.

In Matter of Moss, N.Y.L.J. Sept. 24, 2008, p. 40, col. 3 (Surr. Ct. New York Co. Surr. Roth), the Court held that where the testatrix signed a disclosure statement which complied with the then applicable requirements, her subsequent execution of a codicil after the 2004 amendment to SCPA Section 2307-a did not require the execution of a new disclosure statement, where the codicil did not involve a fiduciary appointment.

SCPA Section 2307-a was further amended, effective on August 31, 2007 and applicable to all wills executed on or after that date, to extend the disclosure provisions to include a nominated executor who is an employee of the attorney draftsperson or of a then affiliated attorney. In addition, the amendment provides that the testator must be informed that

877 any person, including “the testator’s spouse, child, friend or associate, or an attorney” is eligible to serve as an executor. Furthermore, the amendment provides that in the absence of an executed disclosure acknowledgment by the testator, the attorney draftsperson, a then affiliated attorney, or an employee of the draftsperson or of a then affiliated attorney, who serves as an executor will be entitled to one-half of the commissions he or she otherwise would be entitled to receive. The amendment also modifies the statutory model disclosure forms to incorporate these changes.

In Matter of Hess, N.Y.L.J. Sept. 24, 2008, p. 40, col. 3 (Surr. Ct. New York Co. Surr. Roth), the Court held that a partner of the attorney-drafter is “affiliated” with the attorney- drafter within the meaning of the statute and, therefore, is ineligible to act as a witness to the disclosure statement.

In In Re Estate of Deener, 2008 N.Y. Slip. Op. 28470 (Surr. Ct. New York Co. Surr. Roth), the Court held that SCPA Section 2307-a applies even to an out-of-state attorney named as an executor in the will of a New York domiciliary.

In Matter of Winters, 25 Misc.3d 631 (Surr. Ct., Broome Co. 2009), the Court held that the 2007 amendment to SCPA Section 2307-a, to the effect that the disclosure provisions also apply to the employees of the attorney draftsperson, should not be applied retroactively to a will which was executed in 1994 and in which the decedent nominated as the executrix a legal secretary in the office of the attorney who prepared the will.

In Matter of Riley, 29 Misc.3d 1059 (Surr. Ct., Oneida Co., September 17, 2010), the Court held that the an attorney-executor was entitled to full commissions because the SCPA §2307-a disclosure statement executed by the decedent at the time the will was executed complied with the mandatory provisions then in effect even though it did not comply with the model disclosure statement.

In Estate of Carl Beybom, N.Y.L.J. (Surr. Ct., Suffolk Co., September 28, 2011), the Court held that the attorney disclosure form in question satisfied the statutory requirements, even though it did not bear the signature of a “witness” but instead bore signature and stamp of a notary who in effect acted as an attesting witness, and where the notary was an attorney affiliated with the draftsperson designated in the Will as the nominated executor.

In In re Estate of Mayer, N.Y.L.J., August 11, 2011, p. 27 (Surr. Ct., Bronx Co.), where the testator executed a disclosure statement containing only three of the four statutorily required disclosures but omitting the disclosure that absent execution of such statement the attorney-executor shall be entitled to only one-half of the commissions that he or she would otherwise be entitled to receive, the Court held that the disclosure statement failed to comply with the required statutory language and that the commissions of the attorney-executor were limited to one-half of the statutory commissions.

In Matter of Rafailovich, 2012 N.Y. Slip Op. 50522(U) (Surr. Ct., Bronx Co., March 23, 2012), where the decedent executed her will and an attorney disclosure statement in 2002, and such statement complied with the then existing requirements for such statements, but did not include the additional requirements that were added by the 2004 and 2007 amendments to SCPA Section 2307-a, the Court held that such additional requirements would not be applied

878 retroactively and, therefore, that the attorney co-executor would be entitled to full statutory commissions.

In Matter of Restuccio, NY Slip Op. 22390 (Surr. Ct., Richmond Co., December 31, 2012) the Court held that disclosure requirements in SCPA 2307-a are not applicable to a will that was prepared for a non-New York domiciliary by a non-New York attorney who is named in the will as the executor, where the decedent died a New York domiciliary.

In Estate of King, N.Y.L.J. January 27, 2014, p. 28 (Surr. Ct. Bronx Co., 2013), where the decedent executed a will and a statutory notice of disclosure on June 5, 2007, which was after the 2004 amendment to the models of acknowledgement of disclosure, but before the 2007 statutory amendment to SCPA 2307-(a)(1), and where the acknowledgement of disclosure contained only three of the four disclosures required by the model of disclosure, the Court held that the attorney-executor is limited to one-half of the statutory commissions to which he otherwise would be entitled.

In Estate of Goodman, N.Y.L.J., 1202727785614, at 1, June 1, 2015, where the written disclosure signed by the decedent contained only three of the four statements required pursuant to SCPA Section 2307-a, and where the charitable beneficiaries and the New York State Attorney General were not given notice and an opportunity to be heard on the issue of executor’s commissions in the probate proceeding, the New York County Surrogate’s Court held that they properly raised their objections to the commissions in the executor’s accounting proceeding, that the disclosure did not “substantially conform” to the requirements of such statute, and therefore that the attorney-executor was limited to one-half of the statutory commissions.

I. Relaxation of Strict Privity Doctrine

In Estate of Saul Schneider v. Finmann, No. 104 (June 17, 2010), the New York Court of Appeals relaxed the application of the strict privity doctrine to estate planning malpractice suits commenced by the personal representative of the decedent’s estate against the decedent’s attorney and held that “privity, or a relationship sufficiently approaching privity, exists between the personal representative of an estate and the estate planning attorney”, thereby allowing the personal representative to maintain the malpractice claim. However, the Court also stated that strict privity remains a bar against estate planning malpractice claims of beneficiaries of the estate or of third-party individuals against the estate planning attorney, in the absence of fraud or other circumstances.

In Leff v. Fulbright & Jaworski, L.L.P., 2010 NY Slip Op 08443 (App. Div. 1st Dep’t., November 18, 2010), the Court held that the decedent’s wife was not in privity with the attorneys who represented her deceased husband in connection with his estate planning and, therefore, that she could not maintain a legal malpractice proceeding against such attorneys, as the surviving spouse was never involved in the planning of the decedent’s estate and did not rely on any advice relating to that planning, notwithstanding that such attorneys also represented the surviving spouse in connection with her estate planning.

879 In Will of Seymour Schuman (April 12, 2011) the New York County Surrogate’s Court, in a contested accounting proceeding regarding the accounting of the decedent’s surviving spouse as the executor of the decedent’s estate, where the objectants also asserted a legal malpractice claim against the attorneys who performed legal services for the executor, the Court held that there was no privity between such attorneys and such beneficiaries, and the Court therefore dismissed such claim.

On May 10, 2011 the New York State Bar Association Committee on Professional Ethics issued Opinion 865, stating that a lawyer who prepared an estate plan for a client can agree to act as counsel to the executor of the client’s estate if, before or during the representation of the executor, the lawyer does not perceive a “colorable claim” for legal malpractice arising out of the lawyer’s representation of the client in relation to doing the estate planning; and that if the lawyer does perceive such a claim, then the conflict is not consentable and the lawyer must decline or withdraw from the representation and must inform the executor of the facts giving rise to the claim.

In Allmen v. Fox Rothschild LLP, 2012 NY Slip Op. 30244(U) (NY Co. Sup. Ct., January 31, 2012), in which the executor of a decedent’s estate sued the law firm that drafted the decedent’s will for legal malpractice, the Court held that the “continuous representation” doctrine does not apply after the decedent’s death to toll the applicable statute of limitations.

J. No Fault Divorce

On August 15, 2010 New York enacted no-fault divorce (Domestic Relations Law Section 170.7), permitting a divorce where either spouse states under oath that the marital relationship has irretrievably broken down for at least six months, and all financial, child custody and visitation issues have been resolved. The statute is effective on October 14, 2010.

In A.C. v. D.R., No. 10-202115, and D.R.C. v. A.C., No. 10-203033 (April 2011), the New York State Supreme Court held that a spouse’s self-serving declaration about his or her state of mind, even though not based on any objective fact, is sufficient to meet the requirements of the no-fault divorce law that the relationship has irretrievably broken for the period of at least six months.

K. Decanting

On August 7, 2011 EPTL Section 10-6.6 was amended, effective immediately and applicable to all trusts created before and after the statute’s effective date, to broaden New York’s “decanting” statute. Under the new statute, if a trustee has unlimited discretion to distribute principal, the current and remainder beneficiaries of the new trust to which the appointed trust is decanted may be any one or more of the beneficiaries of the invaded trust, to the exclusion of other beneficiaries. In addition, a trustee may grant a discretionary power of appointment to any one or more of the beneficiaries of the appointed trust if such beneficiary could receive principal distributions outright from the invaded trust. If a trustee’s discretion is not unlimited, the trustee may appoint the principal of the invaded trust to a new trust only if the current and remainder beneficiaries of the appointed trust are the same as in the invaded trust. However, a trustee’s power to distribute cannot be used to limit, reduce or modify any

880 beneficiary’s current right to receive mandatory distributions of income or principal, unless the newly created trust is a supplemental needs trust. Further, a trustee is not entitled to receive paying commissions for exercising the “decanting” power, and the “decanting” power cannot be exercised in a manner that violates the Rule Against Perpetuities.

On October 23, 2013, and on November 13, 2013, legislation was enacted to amend Section 10-6.6 of the EPTL to provide that:

• A trustee with unlimited discretion to invade trust principal can exercise the decanting power to exclude all successor and remainder beneficiaries.

• Whether or not the exercise of the decanting power begins the running of the statute of limitations on an action to compel a trustee to account shall be based on all of the facts and circumstances of the situation.

• The decanting instrument shall state that in certain circumstances the appointment will begin the running of the statute of limitations.

• If a decanting converts a non-grantor trust to a grantor trust, the grantor will not be considered to be a “beneficiary” of either trust by reason of the trustee’s authority to distribute trust principal to the grantor to reimburse the grantor for income taxes on trust income.

• If a trust has multiple trustees, the exercise of the decanting power requires only a majority decision of the trustees.

EPTL Section 10-6.6 was amended in relation to a trustee’s powers to invade the principal of a trust in further trust so as not to trigger the GST tax.

L. In Terrorem Clauses

In Matter of Egerer, 30 Misc.3d 1229A (2006), the Suffolk County Surrogate’s Court held that an in terrorem clause, to the extent that it could be interpreted as preventing the estate’s beneficiaries from objecting to the fiduciaries’ conduct, is void as against public policy.

In Hallman v. Bosswick, N.Y.L.J. March 11, 2009, p. 32, col. 5, the New York County Surrogate's Court construed a broadly worded in terrorem clause and held that a proceeding to set aside the fiduciary nominations in the decedent's Will of certain of the co- executors and co-trustees, based upon their alleged actions and inactions prior to the decedent's death, would trigger the in terrorem clause, but that neither a petition to reduce the executor's commissions of one of the co-executors by one-half for his alleged failure to comply with the SCPA 2307-a, nor a petition to revoke the letters testamentary and the letters of trusteeship issued to two of the co-executors, based on their alleged actions and omissions after the decedent's death, would trigger that clause. The New York Supreme Court, Appellate Division, First Department, 72 A.D.3d 616 (2010), affirmed the Surrogate Court's determination that a proceeding to set aside the fiduciary nominations based upon alleged actions and inactions prior to the decedent's death would trigger the in terrorem clause.

881 In Matter of Baugher, N.Y.L.J. July 2, 2010, p. 25, c. 1 (Surr. Ct., Nassau Co.), where the decedent's will had not yet been admitted to probate, the Court granted a motion permitting the decedent's children, and the children of a predeceased child of the decedent, to depose the person nominated as the successor executor in the propounded will, and to depose the attorney draftsman of a prior instrument, prior to filing objections, the Court further held that it could not determine prior to the admission of the will to probate whether conducting those depositions violated the in terrorem clause in the will, and the Court warned such children and grandchildren that conducting such depositions might trigger the in terrorem clause.

EPTL Section 3-3.5(b)(3)(D), which provides that preliminary examination under SCPA Section 1404 of the witnesses to a Will, the person who prepared the Will, the nominated executors and the proponents in a probate proceeding, will not trigger an in terrorem clause in a Will, has been amended, effective as of August 3, 2011, to expand such classes of persons to include, upon the application to the Court based upon special circumstances, any person whose examination the Court determines may provide information with respect to the validity of the Will that is of substantial importance or relevance to a decision to file objections to the Will.

In In re Estate of Spiegel, N.Y.L.J. Oct. 31, 2011, p. 30 (Surr. Ct., Nassau Co.), where the Court allowed the pre-action deposition of the attorney-draftsman of the decedents’ wills for use in a construction proceeding regarding the instruments, the Court held that the deposition would not trigger the in terrorem clause in the wills, due to the safe harbor provisions of EPTL Section 3-3.5, as the deposition was relevant discovery for the construction proceeding.

In Estate of Weintraub, N.Y.L.J., July 19, 2013 (Surr. Ct., Nassau Co.), the Court held that an in terrorem clause would not be violated by a deposition of an associate of the attorney who drafted and supervised the execution of the decedent’s will as part of a SCPA Section 1404 examination, as special circumstances permitting such deposition without triggering the in terrorem clause existed where the decedent was diagnosed with Alzheimer’s disease before the execution of the will, and the hospital records indicated that the decedent was “confused” and “disoriented”.

M. Other Significant Legislation

1. Significant 2008 Legislation

(a) Small Estates

SCPA Section 1301 has been amended, effective January 1, 2009, to increase from $20,000 to $30,000 the maximum value of a small estate which can be settled without the formality of court administration.

(b) Revocation of Incompetent’s Will

Mental Hygiene Law Section 81.29(d) has been amended, effective July 7, 2008, to provide that an Article 81 proceeding for the appointment of a guardian for an incapacitated person shall not invalidate or revoke a will or codicil of that person during his or her lifetime.

882 (c) Revocatory Effect of Divorce

EPTL Section 5-1.4 dealing with the revocatory effect of a divorce was repealed and a new EPTL Section 5-1.4 was enacted in its place. Pursuant to the new statute, except as provided as by the express terms of a governing instrument, a divorce (including a judicial separation), or an annulment of a marriage, revokes any revocable disposition or appointment of property made by a divorced individual to or for the benefit of the former spouse, including a disposition or appointment by will, by a transfer on death security registration, by a beneficiary designation in a life insurance policy or in a pension or retirement benefits plan, or by a revocable trust, including a bank account in trust form. The new statute also provides that a divorce revokes a provision conferring a power of appointment or a power of disposition on the former spouse and the nomination of the former spouse to serve in any fiduciary or representative capacity, including as a personal representative, executor, trustee, conservator, guardian, agent or attorney-in-fact. This new statute is effective July 7, 2008 and applies if the divorce or death occurs after that date.

In Matter of Lewis, 114 A.D.3d 203 (4th Dept., 2014), the Court held that Section 5-1.4 of the EPTL, which provides that a divorce revokes dispositions to and fiduciary nominations of former spouses, does not extend to the relatives of a former spouse.

2. Significant 2009 Legislation

(a) Loss of Health Insurance Coverage in Divorce

Sections 236(B)(5) and 236(B)(6) of the Domestic Relations Law have been amended, effective September 21, 2009, to include the loss of health insurance coverage and the cost of obtaining such coverage as a factor to be considered by the New York Courts in divorce proceedings when determining the equitable distribution of marital property and the award of maintenance.

(b) Simultaneous Deaths

EPTL Section 2-1.6 has been repealed and replaced by a new Section 2-1.6, which provides that an individual who does not survive a decedent or an event by 120 hours is deemed to have predeceased the decedent, or died before the event, unless the governing instrument expressly provides otherwise.

On November 19, 2009 New York enacted the Life Settlements Act establishing a comprehensive statutory framework to regulate the sale of life insurance policies by their owners. The Act requires the licensing of life settlement brokers, contains privacy protections for individual policyholders, requires disclosure to a policyholder of a full and complete description to all offers, counter-offers, acceptances and rejections related to a proposed life settlement, establishes standards of conduct which impose a fiduciary duty on a life settlement broker to the policyholder, and contains criminal provisions regarding fraudulent acts in violation of the insurance law. The Act also prohibits life settlement providers and life settlement brokers from facilitating the issuance of a policy for the intended benefit of a person

883 who has no insurable interest in the insured’s life. The legislative history of the Act makes clear that, in the case of a sale of a life insurance policy, where there was a prior plan or arrangement for the individual to purchase the policy for the purpose of selling it to a third party, it may be determined that there was no insurable interest at the inception of the policy. In addition, the Act prohibits a person from entering into a valid life settlement contract for two years after the issuance of a policy, with certain exceptions.

3. Significant 2010 Legislation

(a) Formula Bequests

On August 13, 2010 New York amended the EPTL by adding a new Section 2- 1.13 to provide that a formula in a dispositive instrument executed prior to January 1, 2010 containing a bequest of the maximum amount that can pass free of federal estate taxes shall be construed under the Code as in effect for decedents dying on December 31, 2009, if the decedent dies after December 31, 2009, the decedent dies at a time when there is no federal estate tax in effect, and the decedent is survived by a spouse. The Section also provides that the federal estate tax is deemed to be in effect if it is legally restored retroactively to the date of the decedent’s death. In addition, the Section provides that a formula in a dispositive instrument executed prior to January 1, 2010 providing for a bequest of the decedent’s unused GST tax exemption shall be construed under the Code as in effect on December 31, 2009, if the decedent dies after that date and at a time when there is no federal GST tax in effect. The Section states that the federal GST tax is deemed to be in effect if it is legally restored to the date of the decedent’s death.

(b) Life Sustaining Measures

On March 16, 2010 New York enacted the Family Health Care Decisions Act ("FHCDA"), which expands the authority of family members and others close to a patient to withdraw or withhold life-sustaining measures in the absence of a health care proxy or living will. If there is no health care proxy, the FHCDA sets a priority list of individuals who can make such decisions for an incapacitated patient, as follows: a guardian authorized to make health care decisions pursuant to Article 81 of the Mental Hygiene Law, the spouse (if not legally separated) or the domestic partner, a child 18 years of age or older, a parent, a sibling 18 years of age or older or a close friend. Under the FHCDA, the patient is presumed capable to make health care decisions unless determined otherwise by procedures established in the FHCDA. The Act is effective June 1, 2010.

On March 30, 2010 EPTL Section 2-1.11 was amended to provide that certain renunciations shall not necessarily constitute a qualified disclaimer for federal estate tax and gift tax purpose, unless the renunciation also satisfies the federal gift tax and estate tax requirements for a qualified disclaimer. The law also allows a beneficiary to renounce his or her survivorship interest in joint property or property held as a tenancy by the entirety to the extent that he or she could make a "qualified disclaimer" under Code Section 2518. The law is effective on January 1, 2011.

884 (d) Proof of Paternity

On April 28, 2010 EPTL Section 4-1.2(a)(2)(D) was repealed and EPTL Section 4-1.2(a)(2)(C) was amended, to add that proof of paternity by clear and convincing evidence may include evidence derived from a genetic marker test, or evidence that the father openly and notoriously acknowledged the child as his own. The amendment is effective on April 28, 2010, applying to the estates of decedents dying on or after that date.

(e) Pet Trusts

EPTL Section 7-8.1 was amended to eliminate the 21 year limitation on the length of trusts for the benefit of pets. The amendment is effective on May 5, 2010.

In Matter of Rosenthal, File No. 2007/2968/A (Surr. Ct. N.Y. Cty., April 15, 2011), the New York County Surrogate's Court denied a motion filed by a number of animal welfare groups to intervene in a terminated proceeding involving the interpretation of a charitable trust established under a lifetime trust by Leona Helmsley. The movants sought a ruling that the trust be required to give “special emphasis” to dog welfare charities and claimed standing as potential beneficiaries with a “special interest” in the trust funds. The Court rejected the groups' theory of standing noting that “in more than 25 years since the Alco (referring to Alco Gravure Inc. v. Knapp Foundation, 64 N.Y.2d 458) decision, no New York court has found standing under the 'special interest' exception.”

(f) Uniform Prudent Management of Institutional Funds Act

On September 17, 2010 New York enacted its version of the Uniform Prudent Management of Institutional Funds Act. In general, the Act imposes standards regarding the investment of institutional funds, standards regarding the appropriation of endowment funds and standards for modifying restrictions imposed by the donor on the investment and use of institutional funds. Specifically, the Act, among other things, authorizes a donor of a restricted charitable transfer to designate an individual or an entity in the document making the transfer who or which will have the authority to enforce the terms of the transfer. Thus, absent such a designation, the transferor’s executors, heirs, successors, assigns, transferees or distributees will not have any such authority. The Act also requires that directors and officers make “a reasonable effort to verify facts relevant to the management and investment” of a fund in which the institutional fund invests its assets and creates a rebuttable presumption of imprudence for appropriations made from an endowment that is greater than 7% of the endowment’s market value, calculated over a five year period. In addition the Act creates a good faith prudent person care standard for the delegation of management or investment functions to an independent investment advisor or manager. Moreover, the Act provides that an investment delegee submits to the jurisdiction of the State of New York and that its contract can be terminated at any time without penalty on 60 days’ notice.

(g) Family Exemption

On August 30, 2010 EPTL Section 5-3.1 was amended, effective as of January 1, 2011, to modify the statute that enumerates certain items of a decedent’s property that vest in a surviving spouse (or in children under the age of 21 years, if there is no surviving spouse) and

885 that are exempt from the claims of creditors. The amendment increases the monetary value of such property from $56,000 to $92,500; increases the amount of cash that the spouse or children are entitled to retain from $15,000 to $25,000; increases the exempt value of the automobile that the spouse or children are entitled to retain from $15,000 to $25,000; increases the value of furniture, clothing, computers and other household items that the spouse or children are entitled to retain from $10,000 to $20,000; increases the value of books, family pictures, DVDs, CDs, discs and software that the spouse or children are entitled to retain from $1,000 to $2,500; increases the value of farm animals and tractors that the spouse or children are entitled to retain from $15,000 to $20,000; and includes jewelry (unless specifically bequeathed in the decedent’s will) as household items.

4. Significant 2011 Legislation

(a) Formula Bequests

On September 23, 2011 New York amended EPTL Section 2-1.13 to provide that a formula bequest in a testamentary instrument of a person who died in 2010 is deemed to refer to the federal estate tax law as it applied with respect to persons dying in 2010, regardless of whether the decedent’s estate is subject to the federal estate tax regime or elects out of the federal estate tax regime and into the modified carryover basis regime; that its formula construction provisions also apply to all generation-skipping formula transfers; that its formula construction provisions apply to wills, trusts and beneficiary designations; and that the time to bring a construction proceeding regarding such matters is extended until the later of 24 months after the decedent’s death or six months after the date of enactment of such legislation.

5. Proposed Significant 2012 Legislation

(a) Uniform Trust Code

The New York Advisory Committee to the Legislature on the EPTL and the SCPA is issuing its Sixth Report, recommending that the Legislature consider enactment of a New York Uniform Trust Code, which would be incorporated within Article 7 of the EPTL as a new Article 7A. The new Article, which would be a default statute, would address jurisdictional and venue issues; virtual representation, trust validity, modification, reformation, termination, cy pres, decanting and combining trusts; under what circumstances lifetime trusts are irrevocable; the statute of limitations regarding a claim concerning the validity of an irrevocable trust; duties and powers of trustees, including the duty to maintain adequate records and keep trust property separate; trustees’ liability and computation of damages; and issues of exoneration of a trustee from liability.

(b) Trust Advisors and Protectors

On May 1, 2012 a bill (S7183-2011) was introduced in the New York legislature providing that if the governing instrument states that a fiduciary is to follow the direction of an advisor, and the fiduciary acts in accordance with the direction, then except in the case of willful misconduct, the fiduciary shall not be liable for any resulting loss. The bill further provides that if a fiduciary is required to follow to the directions of an advisor with respect to investment decisions, distribution decisions, or other decisions, the fiduciary has no duty to monitor the

886 conduct of the advisor, to provide advice to the advisor or to communicate with or warn any beneficiary or third party if the fiduciary would have exercised the fiduciary’s own discretion in a different manner. Persons given authority to direct fiduciaries are considered to be advisors and fiduciaries, unless the governing instrument otherwise provides. For this purpose, advisors are defined to include “protectors” whose powers may include the power to remove and appoint trustees, amend the governing instrument and modify a beneficiary’s power of appointment.

6. Significant 2013 Legislation

(a) Not-For-Profit Corporations

The Non-Profit Revitalization Act of 2013 was enacted on December 18, 2013.

• The Act divides all not-for-profit corporations between charitable corporations and non-charitable corporations, rather than dividing not-for-profit corporations into four categories as existed under prior law.

• The Act permits a charitable corporation to change, eliminate or add a purpose or power by a certificate of amendment to its certificate of incorporation with the approval of either the New York State Supreme Court or the New York State Attorney General, rather than only with the approval of such court as existed under prior law.

• The Act raises the gross revenue thresholds that trigger certain filing requirements from $100,000 to $250,000 for an independent accountant's review, and from $250,000 to $500,000 (increasing to $750,000 on July 1, 2017 and $1,000,000 on July 1, 2021) for an independent accountant's audit.

• The Act creates new audit oversight responsibilities for the boards of charitable corporations.

• The Act permits non-substantial real estate transactions by a majority vote of the board or of a committee of the board, instead of by a vote of two-thirds of the entire board, as was required under prior law. In addition, a charitable corporation can sell all or substantially all of its assets with the approval of the New York State Attorney General, rather than with the approval of the New York State Supreme Court as was required under prior law.

• The Act prohibits a member, director or officer from participating in any decision as to such person's compensation.

• The Act replaces prior provisions regarding transactions between a not- for-profit corporation and interested directors and officers with new provisions regarding "related party transactions".

• The Act requires every not-for-profit corporation to adopt a conflict of interest policy.

887 • The Act requires every not-for-profit corporation that has 20 or more employees and that had annual revenue in the prior fiscal year in excess of $1,000,000 to adopt a whistleblower policy.

• The Act adds a new Section 8-1.9 to the EPTL that causes such oversight responsibilities, such related party transaction provisions, such conflict of interest policy provisions and such whistleblower policy provisions to apply to trusts created solely for charitable purposes, and to trusts that continue solely for charitable purposes after all noncharitable interests have terminated.

• In general, the Act is effective on July 1, 2014.

On June 30, 2014 the Act was amended to extend from January 1, 2015 to January 1, 2016 the effective date of the provision in the Act prohibiting an employee of a corporation from serving as chair of the board or holding any other title with similar responsibilities, and to extend from July 1, 2014 to January 1, 2015 the effective date of the enhanced audit process requirements for any corporation or charitable trust with annual revenues below $10,000,000.

On July 31, 2015 the office of the New York State Attorney General released Guidance Document 2015-4, V. 1.0, providing guidance regarding the Act’s requirement that not-for-profit corporations must maintain a conflict of interest policy. Notably, the guidance appears to exempt compensation arrangements with officers and executive employees from the “related party transactions” provisions of the Act, and appears to exempt de minimis transactions, transactions that are activities undertaken in the ordinary course of business by the organization’s staff, benefits provided to a related party solely as a member of a class that the corporation intends to benefit as part of the accomplishment of its mission, and transactions related to compensation of employees or directors, or reimbursement of reasonable expenses incurred by a related party on behalf of the corporation, from the record-keeping requirements of the conflict of interest provisions of the Act, at least where such transactions do not require board action or approval.

Also on April 13, 2015, the office of the New York State Attorney General issued Guidance Document 2015-5, V. 1.0, providing guidance regarding the Act’s requirement that certain non-for-profit corporations maintain whistleblower policies. The guidance provides that the policies as to which a not-for-profit corporation must provide whistleblower protection include, without limitation, policies that are formally adopted by the corporation’s governing body and that are designed to prevent financial wrongdoing, conflict of interest policies, policies addressing unethical conduct, and harassment and discrimination policies. The guidance also notes that a report made in “good faith” is one which the whistleblower reasonably believes to be true, and reasonably believes to constitute illegal conduct, fraud or a violation of an organization’s policy.

888 (b) Anti-Lapse Statute

On September 27, 2013 amendments to Section 3-3.3 of the EPTL were enacted that clarify the application of the anti-lapse statute in relation to multi-generational gifts and the issue of a testator’s siblings, and clarifying that the anti-lapse statute also applies to bequests of future interests.

On December 18, 2013 Section 951 of the Tax Law was enacted, that provides that it is not necessary for a disposition to a non-United States citizen’s spouse to pass in a QDOT if no federal estate tax return is required to be filed and the disposition would otherwise qualify for the federal estate tax marital deduction.

(d) Real Estate Tax Abatements

On July 3, 2013 Section 467-a of the Real Property Tax Law (the “RPTL”)was amended to permit a partial tax abatements for certain residential real property held in trust.

The Association of the Bar of the City of New York has recommended further amending the RPTL to clarify that such abatement should be allowed where such property is held in trust solely for the benefit of the current beneficiary of the trust, regardless of the identity of the remainder beneficiaries of the trust, and to also allow such abatement for such property owned as a legal life estate, in a single member limited liability company, or a multiple member limited liability company the ownership of which is held solely by spouses.

(e) Informal Settlement of Fiduciary Accounts

On November 13, 2013 Section 715 of the SCPA was amended to allow the court to approve an informal settlement of a resigning fiduciary’s account.

(f) Interest on After-Discovered Assets

On July 31, 2013 new Section 991 of the Tax Law, was enacted, providing for a reduced rate of interest applicable to certain additions to tax resulting from the discovery after the filing of an estate tax return of certain assets belonging to the decedent and held by the State Comptroller as abandoned property.

(g) Adult Guardianships

New York amended the Mental Hygiene Law (Section 83.01 et seq.) in 2013 addressing the issue of jurisdiction over adult guardianships and other protective proceedings. The Act becomes effective on April 21, 2014.

889 7. Proposed Significant 2013 Legislation

(a) “Small Estates”

The Trust and Estate Law Section of the New York State Bar Association has proposed amending the SCPA Section 1301(1) definition of a “small estate” to read “an estate worth $30,000 or less, exclusive of property required to be set off under EPTL 5-3.1(a)” which provides that a surviving spouse, or if there is none, minor children, are entitled to set off from the estate certain “exempt” property (which includes an automobile, domestic and farm animals, a computer, and household furnishings).

(b) Digital Assets

In 2013 bills were introduced covering an executor’s ability to access a decedent’s social networking and email accounts. However, all of these bills “died” in the legislature.

The Estate and Trust Administration Committee of the Trusts and Estates Law Section of New York State Bar Association, and the Digital Assets Subcommittee of the Trusts, Estates and Surrogate’s Court Committee of the New York City Bar Association, have formed a Joint Subcommittee to recommend the best course of action for the access to and the administration of digital assets by fiduciaries, and the Joint Subcommittee has developed comprehensive proposed legislation to be added as a new Article 13-A of the EPTL entitled “Administration of Digital Assets”.

8. Significant 2014 Legislation and Court Rules

(a) Posthumous Renunciations

On August 11, 2014 Section 2-1.11 of the EPTL was amended to permit a personal representative of a decedent, without prior court approval, to renounce an interest to which the decedent became entitled but did not receive prior to death.

(b) Availability of Sensitive Documents

An Administrative Order dated February 19, 2014 adopted a new Surrogate’s Court rule (22 NYCRR Section 207.64) under which only persons interested in the decedent’s estate or their counsel, the Public Administrator or its counsel, counsel for any federal, state or local governmental agency, or court personnel, can view guardianship proceeding filings pursuant to Articles 17 and 17A of the SCPA, death certificates, tax returns, documents containing social security numbers, inventories of firearms and inventories of assets.

Section 11-A-2.1 of the EPTL was amended to provide that interest on legacies would be mandatory and would be payable from the residuary estate, accruing from seven months after preliminary or permanent letters are issued, that such interest paid in any calendar year would be set on the first business day of the year at the federal funds rate less 1%, but no

890 lower than 0.5%, and that such interest would be treated as accounting income so the estate could deduct it for income tax purposes.

(d) Posthumous Reproduction

On November 21, 2014 a new section 4-1.3 of the EPTL was enacted, and Section 11-1.5 of the EPTL was amended, to provide that a child will be treated as a distributee of the genetic parent and as a child of the genetic parent for purposes of class gifts in dispositive instruments, if (a) in a written instrument signed not more than seven years before death, the genetic parent expressly consents to the use of his or her genetic material for posthumous reproduction, and authorizes a person to make decisions about the use of the genetic material after the genetic parent’s death, (b) within seven months after the issuance of letters, the authorized person gives notice about the existence of the stored genetic material to the personal representative of the genetic parent’s estate, (c) within seven months after the issuance of letters, the authorized person records the writing in the Surrogate’s Court, and (d) the genetic child is in utero within 24 months, or born within 33 months, of the genetic parent’s death. This statute applies (a) to all instruments created by the genetic parent, regardless of date, and (b) to dispositive instruments in which the genetic parent is not the creator, for wills of individuals dying after September 1, 2014 and for lifetime trusts executed after that date.

9. Significant Proposed 2014 Legislation

(a) Exculpatory Clauses

The New York State Bar Association has proposed amendments to Section 11-1.7 of the EPTL, which provides that exculpatory clauses in testamentary instruments seeking to absolve executors and testamentary trustees from liability for the failure to exercise reasonable care are void as against public policy, to provide that such exculpatory clauses in both testamentary instruments and lifetime trusts violate public policy.

(b) Surviving Spouse’s Elective Share

The New York State Bar Association has proposed amendments to Section 5-1.2 of the EPTL, which enumerates the grounds upon which a surviving spouse may be disqualified from receiving an elective share of a decedent’s estate, to provide that a surviving spouse would be so disqualified on the basis of a posthumous annulment of the surviving spouse’s marriage to the decedent.

Amendments to Section 13-2.3 of the EPTL have been introduced in the legislature to end the practice of permitting a finder’s agreement signed by a potential claimant to unclaimed funds to be filed with the Surrogate’s Court, where there is no estate pending or fiduciary who has been appointed.

891 10. Significant Proposed 2015 Legislation

(a) Temporary Maintenance Guidelines

On June 24, 2015 the New York State Senate passed a bill that would amend Section 236B(5-a) of the New York Domestic Relations Law, regarding temporary maintenance guidelines, to address the potential in the existing temporary maintenance guidelines of shifting income and transforming the monied spouse into the less monied spouse.

N. Other Case Law Developments

1. Fiduciary Investments-Diversification and Self-Dealing

In Matter of JPMorgan Chase Bank, N.A., 2013 N.Y. Slip Op. 32305(U) (Sur. Ct. Monroe County, September 30, 2013), where trust beneficiaries objected to the trustee investing in its own managed funds, the Court held that the beneficiaries are barred by laches from now raising such objection, as the objected conduct began in 2000 and continued for a period of 12 years, with the objectant’s knowledge, and without the objectant’s commencing any legal action against the trustee until 2012.

In Matter of the Accounting of Tydings, N.Y.L.J., July 7, 2011, p. 26 (Surr. Ct., Bronx Co.), where the grantor of an inter vivos trust transferred to the trust an interest-free loan previously made to the person who would be the trustee of the trust, where the trust authorized the trustee to retain an original investment for any length of time without liability, and where the trust authorized the trustee to act on behalf of the trust with regard to any transaction in which the trustee had an interest and exonerated the trustee from liability for any loss to the trust absent bad faith or fraud, the Court held that the trustee would not be liable for retaining such interest- free loan, but that the trustee would be liable for interest-free loans subsequently made by the trust to the trustee. The Court surcharged the trustee at the rate of 5% per year for the lost income on such loans made by the trust to the trustee. The Court also held that the exoneration clause in the trust did not bar the objectant from recovering lost profits attributable to the trustee’s use of trust funds, without consideration, to benefit an entity in which the trustee was personally interested. Further, the Court concluded that the trustee had exhibited indifference to the trustee’s duties and, therefore, sufficient malfeasance to warrant a denial of trustee’s commissions. Moreover, the Court held that the trustee and the objectant beneficiary should each, individually, pay such person’s own legal fees and expenses.

Although not a New York case, in In re Wachovia Corp. ERISA Litigation, W.D.N.C., No. 3:09-cv-00262-MR (October 24, 2011), the Court approved a settlement of $12,350,000, plus attorney’s fees, in an action by Code Section 401(k) plan participants against Wachovia Corp., where Wachovia allegedly breached its fiduciary duties by permitting substantial investment of the plan assets in Wachovia’s common stock when it was not prudent to do so.

In Matter of Knox, 2010 N.Y. Misc. LEXIS 6110 (Surr. Ct., Erie Co.), where the trust was initially funded with stock of Woolworth and Marine Midland Bank, N.A., the Court held that the trustee was liable for its failure to diversify the trust’s investments and that the proper method of calculating damages for the negligent retention of trust assets is the value of

892 the lost capital to the trust, which is the value of the stock on the date on which it should have been sold, less the actually sale proceeds of the stock or, if the stock is still retained, less the value of the stock at the time of the accounting. However, the Appellate Division sub nom, Matter of HSBC Bank, USA, N.A., 98 A.D.3d 300 (4th Dept., 2012), reversed the Surrogate’s Court, holding that the trustee erred only in retaining the Woolworth stock beyond the date of the company’s final dividend payment, that the trustee had not negligently failed to diversify, that the lower court wrongly applied at 9% interest rate to damages prior to June 1981 when the statutory rate was 6%, and that there was no basis to award fees and expenses to the guardian and the attorney for the adult objectants, and the Court remanded the case for a re-accounting and a calculation of damages.

Although not a New York case, Merrill Lynch Trust Company, FSB v. Mary C. Campbell, et al., (Del Ch. Case # C.A. 1803-VCN 9/2/2009), the Delaware Chancery Court ruled that where a trust instrument placed sole discretion for investment decisions on the trustee, the trustee’s exercise of discretion is not subject to the control of the court except where necessary to prevent an abuse of discretion.

In In re Carpenter, File No. 159626 (Surr. Ct. Nassau Co. 2009), the corporate co- trustee of a testamentary trust requested the Court’s advice and direction as to the need to diversify the trust’s assets. The trust directed the trustees to distribute the trust’s income to the individual co-trustee/income beneficiary for his life, required that the trustees act unanimously and contained no provisions authorizing the retention of specific assets. The Court directed that the trust assets be diversified, unless all the interested parties to the trust agree in writing to waive the co-trustees’ obligation to diversify, assent in writing and ratify the past and future retention of trust assets until the trustees agree to their disposition, and indemnify and absolve the corporate co-trustee from any and all liability for retaining the trust assets.

In Matter of the Final Accounting of Michael Duffy, 25 Misc.3d 901 (2009), the Monroe County Surrogate’s Court held that the executor’s failure to convert the estate’s stock portfolio to cash immediately after the September 11, 2001 terrorist attacks was not negligent and therefore did not violate EPTL Section 11-2.3, even though the stocks lost 40% in value between the time the executor was appointed and the date when the stock was transferred to the estate’s beneficiary, where the executor demonstrated that the decedent wanted to protect the long-term financial needs of the beneficiary by maintaining a diversified investment portfolio.

In Matter of Bloomingdale, 48 A.D.3d 559, 853 N.Y.S.2d 92 (2d Dept. 2008), the Appellate Division modified a decision of the Surrogate's Court, Westchester County, which denied the petitioner's motion for summary judgment dismissing certain objections again him insofar as they related to the failure to diversify investments. The record revealed that the act complained of, in part, occurred during a period in time when the petitioner served as co-trustee with the two remaindermen (the objectants) of the trust. The Court held that "[w]here a fiduciary has the means to know of a cofiduciary's act, and has assented or acquiesced in them, the fiduciary is bound by those acts and jointly liable for them." Accordingly, as to the period of time during which the remaindermen were co-trustees with the petitioner, their objection was dismissed.

893 In Matter of Manufacturers and Traders Trust Co., N.Y.L.J. June 10, 2008, p. 25 (Onondaga Co. Surr. Wells), the Court held that the objectants failed to satisfy their burden of proof that any purchase or sale of any of the trust’s investments was unreasonable or outside the scope of the powers granted by the trust instrument to the trustee, where the trust instrument gave the trustee broad investment powers.

Although not a New York case, in Nelson v. First National Bank and Trust Co. of Williston, 543 F.3d 432 (October 1, 2008), the Court of Appeals for the 8th Circuit held that the trustee did not breach its fiduciary duty by failing to liquidate the trust’s stock within two months after the settlor’s death, where 90% of the trust’s marketable assets consisted of the stock of a single company and the terms of the trust expressly provided for retention of that stock despite any resulting lack of diversification.

In the case of In re Hyde, 845 N.Y.S. 2d 833 (N.Y. App. Div. 2007), the Court affirmed the dismissal of the beneficiaries objections to the trustee’s account that the trustee’s lack of diversification violated the prudent investor rule. The Court found that the trustee’s retention of the common stock of a closely held business did not violate New York’s version of the prudent investor rule because the stock was particularly unmarketable given the capital structure of the corporation, the high dividend payout served the beneficiaries’ needs, the settlors used the trust as a device for insuring that ownership of the corporation remained in the family and the corporate co-trustee regularly explored selling the stock and kept well informed of the corporation’s financial situation.

In Estate of Charles Dumont, (Surrogate’s Court of Monroe County, New York, July 13, 2004), the Court held that the trustee of a testamentary trust violated its fiduciary duty to the trust and was liable to the trust, where the trust consisted overwhelmingly of the stock of one company, where the will expressly exonerated the trustee from losses caused by failure to diversify the trust’s assets and in fact barred the trustee from selling trust assets solely for the purpose of diversification, but where the trustee was authorized to sell the stock for a “compelling reason”, and where the trustee did not sell the stock, which declined significantly in value. In addition, the Court ruled that the trustee must return to the trust its commissions received since the stock declined in value. However, on February 3, 2006 the Appellate Division, Fourth Department (809 N.Y.S. 2d 360), reversed the Monroe County Surrogate’s Court judgment, holding that the Surrogate’s decision was impermissibly based on nothing more than hindsight and that there was no evidence that the trustee acted imprudently in failing to sell the stock in question. On April 28, 2006 the New York Court of Appeals denied a petition for appeal of the Appellate Division’s decision.

In two cases, the Appellate Division, Third Department decided matters relating to trustee’s investments. See N.Y.L.J. August 11, 2000. In In re Estate of Saxton, 274 A.D.2d 110 (2000) aff’g 179 Misc. 2d 681 (Broome Co. Surr. Thomas 1998), the Court held that the bank - trustee was liable for its failure to diversify investments held in the trust. The testamentary trust was established in 1958 and funded entirely with IBM stock worth $569,853. In 1959, the beneficiaries signed an “Investment Direction Agreement” which attempted to immunize the bank from liability. In 1986, the stock was valued at more than $7 million. The beneficiaries urged diversification but the trust officer resisted it. When the trust ended in 1993, the stock was worth only $2.9 million. The critical issue in the case was whether the trustee was

894 shielded by the fact that the beneficiaries signed the “Investment Direction Agreement” stating that the investment would consist almost entirely of IBM stock, and that the bank would be held harmless in the event of a decrease in value. The Court unanimously held that the bank could not rely on the waiver to insulate it from liability where the waiver was not the result of an informed consent by the beneficiaries. The Court also held that in assessing damages the capital gains taxes that would have been paid had the stock been sold at the appropriate time must be deducted from the award and interest must be frontloaded and awarded based on the value of the trust had the stock been sold when it should have been sold. Surrogate Thomas had assessed a surcharge of $6,681,038 plus interest and return of all commissions; the surcharge being based on the difference between the amount that would have been in the trust if 90% of the IBM stock had been sold on September 10, 1987 (the date the market crashed) and the amount that was in the trust when the stock was actually distributed in July, 1993, minus dividends and other income. The Appellate Court ordered a recalculation of damages, holding that the damages should be reduced by the federal tax that the beneficiary would have had to pay if the stock had been sold and that interest should have been based on the full value of the stock at the time when it should have been sold less the value at the time of distribution and dividends based on the methodology established in In re Janes, 90 N.Y. 2d 41 (1997). Finally, the Court held that absent a showing of self-dealing or fraud, there was no basis for a denial of commissions since the beneficiary was simply entitled to be put in the position she would have occupied if no breach of duty occurred.

In a second case, In re Estate of Rowe, 274 A.D.2d 87 (3d Dep’t Aug. 10, 2000) aff’g N.Y. L.J. Mar. 16, 1998 at 25 (Otsego Co. Surr. Ct. Judicial Hearing Officer Farley), the Third Department upheld the removal of a bank trustee for its negligent conduct in failing to diversify a charitable trust funded solely by 30,000 shares of IBM stock. The trust was funded with 30,000 shares of IBM, which was trading at about $117 per share when the trust was funded in September 1989. The charitable lead interest of the trust was payable for 15 years. Although the trustee/bank had sold approximately 8,000 shares of stock during the period of account, the record revealed that by the close of the accounting period it held 19,398 shares of stock valued at $74 per share. The market value of the trust assets over the course of the accounting period had dropped by $1.7 million. The Surrogate determined that from September 1989 to the end date of the accounting period, the trustee/bank was negligent, that it had violated its own policy manual and that, in January 1990, it should have diversified most of the trust’s holdings in IBM. The Third Department affirmed the removal, denial of commissions and surcharge, finding that the Surrogate’s Court properly followed the methodology established in In re Janes, 90 N.Y. 2d 41 (1997), and did not erroneously compute damages by adding compound interest to the value of the stock at the time it was sold or, if unsold, at the time of the accounting, rather than computing interest on the difference between the two values. Among the factors which the Appellate Division relied upon was the failure of the trustee/bank to adhere to its own internal protocol or to conduct more than routine reviews of the IBM stock.

The Southern District of New York, applying New York law, in Williams v. J.P.Morgan & Co., Inc., 199 F.2d 189 (S.D.N.Y. 2002), was faced with a situation where the remainderman of the trust and the trustee-bank respectively moved for summary judgment on the issue of the calculation of damages. The Bank had liquidated the trust’s stock portfolio in 1971 and reinvested the proceeds in cash and tax-exempt bonds, with the ratification of the income beneficiary and not the remaindermen, nor did it alter the 1970 trust investments at any time

895 thereafter. Plaintiff did not claim that the trustee engaged in any fraud or self-dealing or misconduct apart from the negligent and imprudent failure to invest and/or diversify the trust assets. The Court held that under New York law as construed by the state Court of Appeals, the measure of damages for negligent and imprudent failure to invest and diversify is the value of the capital lost. See, Matter of Janes, 90 NYS2d 41. The methodology established by the Court of Appeals for establishing lost capital requires a determination of the value of the asset on the date on which it should have been sold and, then, subtracting either (a) the value of the asset at the time of the accounting or (b) the value of the asset at the time of the Court’s decision. The Court has the discretion to award interest, but must subtract therefrom any dividends or income attributable to the asset during the time the asset was retained. Finding that it was bound to apply the rule of law as enunciated by the highest court of the state, the Court concluded that the methodology established by Janes governed the calculation of damages should plaintiff prevail on liability. The Court rejected plaintiff’s arguments that a distinction should be drawn between investments in securities, as in Janes, as compared to investments in tax-exempt bonds, holding that it was a distinction without a difference, because both claims concerned inattentiveness and inaction on the part of the trustee. Further, the Court rejected plaintiff’s application for lost profits, concluding that, an award of appreciation damages or lost profits was inapplicable unless the fiduciary’s conduct consisted of deliberate self-dealing and faithless transfers of trust property.

In a non-New York case, the Court of Appeals for the First Appellate District of Ohio in Fifth Third Bank v. Firstar Bank, N.A., No. C-050518 (2006), issued its opinion reviewing the Trial Court’s decision in an action seeking to surcharge the trustee of a charitable remainder unitrust for failing to properly diYHUVLI\WKHWUXVWǥVDVVHWVZKHUHWKHWUXVWZDVIXQGHG entirely with the stock of one company and the trust lost one-half of its value during its first year. The Court of Appeals affirmed the Trial Court’s determination that the Ohio Attorney General was a necessary party to the action, that authority in the trust document to retain assets transferred by the grantor to the trust did not abrogate the trustee’s duty to diversify the trust assets and that the trustee should be surcharged for the loss sustained by the trust.

2. Qualification and Removal of Fiduciaries

In In re Mercer, 119 A.D.3d 990 (2d Dept., 2014), the court affirmed the Surrogate’s decision, which had denied an application by the objectants in a contested probate and accounting proceeding to immediately suspend the petitioners’ letters testamentary and letters of trusteeship pending the conclusion of the trial in the accounting proceeding.

In the recent case of In re Huntington, 16 Misc. 3d 914, 839 N.Y.S.2d 909 (Sur. Ct., Onondaga Co. 2007), a testator nominated a professional corporation as executor. The sole shareholder of the corporation argued that it could be defined as a natural person and therefore was eligible under SCPA 707. The Surrogate rejected the argument stating that the shareholder “has elected to shield himself from individual liability by operating as a professional corporation rather than as an individual” and was bound by that choice. Letters were ordered issued to the successor nominated executor.

In Matter of Stewart, N.Y.L.J. December 23, 2011 (Surr. Ct. N.Y. Co.), the Court accepted the Referee’s findings that the trustee of a trust was unfit to continue to serve, due to

896 her documented hostility to her co-trustee and to the trust’s beneficiaries which was of such severity that it interfered with the administration of the trust, and the Court confirmed the Referee’s report that the trustee should be removed.

In In re Marsloe, 88 A.D.3d 1003 (2d Dept. 2011), where the nominated executor of the decedent’s will was one of two witnesses to the will, the Court determined that the executorial appointment was not a beneficial disposition or an appointment of property for purposes of EPTL Section 3-3.2, which voids a disposition to a beneficiary who serves as a witness if there are not two other available witnesses who are not beneficiaries, and the Court held that the nominated executor therefore could serve as such executor.

3. Right of Election

In In Re Berk, 20 Misc. 3d 691, 864 NYS 2d 710 (Surr. Ct., Kings Co. 2008), the Court held that a decedent’s surviving spouse could claim her elective share of the decedent’s estate under EPTL Section 5-1.1-A, even if the marriage had been voidable due to the decedent’s alleged lack of competency to marry, or due to the marriage resulting from fraud, duress or force.

In In Re Oestrich, 21 Misc. 3d 499, 863 NYS 2d 531 (Surr. Ct., Broome Co. 2008), where the decedent’s surviving spouse had filed her right of election and then petitioned to withdraw it, and where the decedent’s executor had distributed the residue of the estate to the residuary beneficiaries, including the surviving spouse, the Court denied the surviving spouse’s petition to withdraw her election, since allowing the withdrawal of the election would prejudice the residuary beneficiaries, other than the surviving spouse, who would have to refund a portion of their distributions if the election was withdrawn. In addition, the Court held that the executor improperly distributed a portion of the residuary estate to the surviving spouse before the Court ruled on her request to revoke her election and surcharged the executor in the amount of the improper distribution, less any repayment by the surviving spouse.

In Campbell v. Thomas, NY Slip Op 02082 (2d Dept. 2010), the Appellate Division held that a right of election could not be exercised by the decedent’s surviving spouse, where the surviving spouse married the decedent shortly before his death when the decedent suffered from severe dementia and the marriage has been declared null and void, as such exercise would enable that spouse to profit from her own wrongdoing.

4. Jurisdiction and Charitable Trusts

In In re Fleet National Bank, 20 Misc. 3d 879, 864 NYS 2d 706 (Sup. Ct., Albany Co. 2008), the Court held that the Surrogate’s Court has jurisdiction over charitable inter vivos trusts, notwithstanding EPTL Section 8-1.1(c)(1), which appears to provide that only the Supreme Court has jurisdiction over such trusts.

5. Presumption Against Suicide

In Matter of Green v. William Penn Life Insurance Co. of N.Y., 2009 NY Slip Op. 3586 (May 9, 2009), the Court of Appeals held that the question of whether a person has committed suicide is a factual issue to be decided by a fact finder and that the Appellate Division

897 had erred when it found, as a matter of law, that the insurer failed to rebut the presumption against suicide.

In Matter of Infante v. Dignan, 2009 NY Slip Op. 3587 (May 5, 2009), the Court of Appeals refused to allow the presumption against suicide to overrule a medical examiner’s determination that the decedent had committed suicide.

6. Forced Heirship and New York Property

In Matter of Meyer, 876 NYS 2d 7, N.Y. App. Div. (1st Dept. 2009), the Court considered whether forced heirship under French law applied to inter vivos gifts of New York property made by a person who was a French citizen, domiciled in Bermuda, who died in her New York residence and who had executed a New York will and two codicils directing that New York law should govern the testamentary disposition of her New York situs property. The Court held that inter vivos transfers of property are governed by the law of the state where the property was situated at the time of the transfer, regardless of the transferor’s domicile, even though neither the decedent’s New York will and codicils nor the EPTL governs inter vivos transfers, thereby denying the claim of the decedent’s son to such property based on forced heirship.

7. Executor’s Commissions and Trustee's Commissions

In In re Ostrer, 23 Misc. 3d 246, 869 NYS 2d 894 (Surr. Ct., Nassau Co. 2008), the Court held that the executor of the estate was entitled to receive commissions, even though the testator’s will directed that no executor shall receive commissions, where all the beneficiaries consented to the payment of the commissions.

In Matter of Ralph P. Manny, 1992-1319/B, (Surr. Ct. Westchester Co., May 20, 2010), the Court held that the trustees of an inter vivos trust who received annual commissions from the trust, but who did not provide annual statements to the trust’s beneficiaries required by SCPA Sections 2309(4) and 2312(6), could retain the commissions they received, but would be required to pay the trust statutory interest at the rate of 9% per annum on such commissions, as they were improperly taken by the trustees.

8. Prenuptial and Postnuptial Agreements

In Freed v. Kapla, 313336/13, N.Y.L.J. July 1, 2015, the Appellate Division, First Department held that a prenuptial agreement requiring the husband to vacate the wife’s apartment, if the marriage terminated, was valid, notwithstanding an alleged oral promise by the wife to take care of the husband, and notwithstanding the husband’s claim that he did not understand the agreement when he signed it, because Hebrew is his first language and he had a poor command of English.

In Karg v. Kern, 309367/12, N.Y.L.J. July 1, 2015, the Appellate Division, First Department affirmed the nullification of a prenuptial agreement that was written in German on the grounds that the wife was duped into signing the document because she did not understand German.

898 In Galetta v. Galetta, 2013 NY Slip Op 03871, No. 94, the Court of Appeals held that the parties’ prenuptial agreement was invalid because the notarial acknowledgement failed to include the phrase “to me known and known to me” as required by the applicable statute, and because the notary’s affidavit intended to cure the error failed to describe a specific protocol that the notary repeatedly and invariably used to identify the signers of the document.

In Petracca v. Petracca, 101 AD3d 695 (2d Dept. 2012), the Court set aside a post nuptial agreement, in which the wife waived any rights to her husband’s business interests, the marital residence and her rights of inheritance. on the grounds that the husband’s assets as stated in the agreement were undervalued by at least $11,000,000 and that the terms of the agreement were manifestly unfair to the wife when the agreement was executed.

In Cioffi Petrakis v. Petrakis, 103 AD3d 766 (2d Dept. 2013), the Court sustained the wife’s claim that she was fraudulently induced to sign a prenuptial agreement and set aside the agreement, noting that the wife’s claim rested largely on the creditability of the parties and that the lower Court resolved the credibility issues in the wife’s favor, even though the agreement expressly stated that there were no oral representatives other than those set forth in the agreement, that the agreement set forth the “entire understanding” of the parties, and that neither party was relying on any promises that were not set forth in the agreement.

9. Payment of Fiduciary's and Beneficiary’s Attorney's Fees

In Matter of Hyde, 15 NY3d 179 (June 29, 2010), the New York Court of Appeals held that Surrogates have the discretion to order the payment of a fiduciary’s attorney’s fees from shares of individual estate beneficiaries, and not just from the estate as a whole. The Court stated that the factors which Surrogates may consider in exercising such discretion, none of which is determinative, include whether the beneficiaries who are objecting to the disposition of an estate are acting solely on their own behalf, or on behalf of the common interest of the estate; the possible benefits to individual beneficiaries from the outcome of the proceeding; the extent of an individual beneficiary’s participation in the proceeding; the good faith or bad faith of the objecting beneficiary; whether or not there was justifiable doubt regarding the fiduciary’s conduct; the portions of interest in the estate held by the non-objecting beneficiaries relative to those of the objecting beneficiaries; and the future interests that could be affected by charging the counsel fees against the shares of individual beneficiaries rather than against the estate as a whole. On remand, the Court, 32 Misc.3d 661 (Surr. Ct., Warren Co. 2011), applied the Court of Appeals’ decision to the intermediate accountings of two trusts, each of which was for the benefit two families, both of whom had objected to both accountings. One of the families withdrew their objections to the accountings after discovery was completed and before trial. After trial, the Surrogate’s Court dismissed all of the objections. As to one of the two trusts, the Surrogate’s Court held that all litigation expenses that were incurred prior to the withdrawal by one of the families of its objections to the accounting should be paid from the trust, as until that point in time, both families were participating in the objections to the accounting of such trust.

899 However, as to the litigation expenses that were incurred after the withdrawal of such objections by one of the families, the Surrogate’s Court held that one-half of such litigation expenses should be paid from the share of the trust attributable to the family that continued the litigation after discovery, and that the other half of such litigation expenses should be paid from the trust corpus. As to the other trust, the Surrogate’s Court assessed all of the litigation expenses relating to the objections to the accounting of such trust against that trust’s corpus, as only one member of one of the two families, who was the income beneficiary of the trust, had filed objections to such accounting.

In Matter of Lasdon, No. 703/93 (Surr. Ct. New York Co., November 19, 2010), where the trustee delayed the final distribution of trusts that had formally terminated, the Court held that the trustee should not be barred from having the trusts pay his attorneys’ fees and that the trustee should not be required to pay the legal expenses incurred by the objectants, even though the trustee was surcharged for losses occurring after the formal termination of the trusts. This portion of the holding in Lasdon was affirmed by the Appellate Division, First Department, 2013 NY Slip Op 02467 (2013).

In Matter of Benware, 86 A.D.3d 687 (3d Dep’t 2011), the Court held that the Surrogate properly assessed a portion of the fees paid by the estate to the executor’s attorney against the share of the residue of the estate distributable to one of the co-executors, as beneficiary, finding that such person’s behavior was responsible for some of the acrimony that characterized the administration of the estate, and the Court further held that, although the Surrogate was not bound by the retainer agreement in setting the fee, the Surrogate could not award fees in excess of the amount agreed to in a valid retainer agreement.

In In Re Frey, N.Y.L.J., July 25, 2013, p. 25, col. 5, (Sur. Ct., N.Y. Co.), the Court, relying on Matter of Hyde, held that the counsel fees incurred by an estate’s beneficiary should be charged against such beneficiary’s share of the estate, as the Court determined that the beneficiary was not seeking to benefit or to enlarge the estate, but only to secure her own bequest.

In In re Heimo, N.Y.L.J. January 28, 2014 (Surr. Ct., Kings Co.), involving a contested accounting proceeding and the legal fees incurred by three fiduciaries, the court recognized that an exception to the “single fee” rule has been made when the adversarial position taken by the co-fiduciaries requires separate counsel and additional fees, and the court awarded reduced counsel fees aggregating 31% of the gross estate.

10. Loans vs. Gifts

In Bosswick v. Hallman, N.Y.L.J. May 6, 2009, p. 36, col. 2, a turnover proceeding seeking collection of promissory notes given by the decedent's daughter to the decedent, the New York County Surrogate’s Court granted petitioners' motion for summary judgment and denied respondent's motion for summary judgment, holding that the cash transfers from the decedent to his daughter which were evidenced by those promissory notes were loans, rather than gifts, where the decedent's daughter, as a co-executor of the decedent's estate, included such transfers as assets of the estate on the estate's inventory filed with the Surrogate's Court, and on the federal estate tax return and the amended federal estate tax return filed by the

900 estate with the Service, and did not include such transfers as gifts on gift tax returns of the decedent which the executors filed with the Internal Revenue Service. The New York Supreme Court, Appellate Division, First Department, 72 A.D.3d 617 (2010), affirmed the Surrogate Court's decision.

11. Health Care Proxies

In Stein v. County of Nassau, 642 F.Supp.2d 135 (E.D.N.Y. July 23, 2009), the Court held that a health care proxy signed pursuant to New York Public Health Law Section 2980 is valid in all locations, not merely in hospital-like settings, and that the health care agent must consult with one of the professionals specified in the proxy prior to being able to make a medical decision on behalf of the principal.

12. Statute of Limitations

In Williamson v. PricewaterhouseCoopers LLP, 9 N.Y.3d 1 (2007), the Court held that the “continuous representation” doctrine, which if applicable would toll the statute of limitations for accounting malpractice claims until the accountant-client relationship terminated, does not apply where an audit client entered into annual engagements with the accounting firm to provide separate and discrete audit services for each audit year.

13. Rule Against Perpetuities

In Bleecker Street Tenants Corp. v. Bleecker Jones LLC, 16 N.Y.3d 272 (2011), the Court held that the Rule against Perpetuities in EPTL Section 9-1.1(b) does not apply to options to renew a lease.

In TDNI Properties LLC v. Saratoga Glen Builders, LLC, 80 A.D.3d 852 (3d Dept. 2011), the Court held that options granted by a landowner to a builder to purchase lots in a subdivision are subject to the Rule against Perpetuities.

14. Surcharge Computations

In Matter of Lasdon, 2011 N.Y. Misc. LEXIS 4433 (Surr. Ct., N.Y. Co., August 22, 2011), where a trustee failed to timely distribute the trust assets to the remainder beneficiaries and the value of the trust declined between the time when such assets should have been distributed and when they were actually distributed, the Court, in computing the amount of the surcharge against the trustee, declined to impute a gains tax as a factor in the surcharge and declined to award 9% interest on the surcharge, instead awarding 6% interest, compounded annually, on the surcharge. In a subsequent opinion, N.Y.L.J. June 18, 2012, the Court held that interest should be imposed not on the lost capital, but instead should be imposed on the full value of the assets at that time they should have been sold, and then deducted the value of such assets when they were distributed to the beneficiaries, as well as the dividends and other income attributable to the improper retention by the trustee of such assets. In addition, the Court held that interest should be imposed to the date of the Court’s decision, on August 22, 2011, rather than to the earlier date on which the trustee distributed the assets to the beneficiaries. The Appellate Division, First Department, 2013 NY Slip Op 02467 (2013), reversed the Surrogate Court’s imposition of a surcharge, stating that the petitioners did not demonstrate that the

901 measure of damages is the difference in the value of the stock on the date such stock should have been distributed and the date such stock was actually distributed.

15. Exoneration of Fiduciaries

In JPMorgan Chase Bank v. Loutit, N.Y.L.J. February 21, 2013, involving trusts containing a choice of law provision requiring the application of Massachusetts law, the Supreme Court, Nassau County, held that Massachusetts law would apply, rather than New York law, that the exculpatory provisions in the trusts were valid under Massachusetts law, even though they would be invalid under New York law, and that the language of the guidelines for the trusts exonerate the trustee from any claim that the trustee violated such guideline terms by failing to sell a large concentration of stock sufficiently early in time.

In Matter of HSBC Bank, USA, N.A., 2012 NY Slip Op 4954 (App. Div. 4th Dept., June 19, 2012), where an inter vivos trust authorized the trustee to seek and rely without liability on the advice of “counsel”, the Court held that such provision was not the type of absolute exoneration from liability that is prohibited by Section 11-1.7 of the EPTL, which voids as contrary to public policy any attempt at exoneration from liability of an executor or a testamentary trustee for the failure to exercise reasonable care, diligence and prudence.

16. Slayer Inheritance

In Matter of Gleason, 36 Misc.3d 486 (Sur. Ct., Suffolk Co. 2012), where a husband had pleaded guilty to first-degree manslaughter for causing the death of his mother-in- law, the slayer’s wife was the sole beneficiary of her mother’s will, the slayer’s wife committed suicide 13 months after her mother’s death, and the slayer was the sole distributee of his wife’s estate, the Court held the slayer was disqualified from inheriting his wife’s estate, as her assets have been inherited by her from the victim.

17. Delaware Trusts

In In Re Ethel F. Peierls Charitable Lead Unitrust, C.M. No. 16811-N-VCL (2012), In Re The Peierls Family Inter Vivos Trusts, consolidated C.M. No. 16812-N-VCL (2012) and In Re the Peierls Family Testamentary Trusts, consolidated C.M. No. 16810-N-VCL (2012), the Delaware Court of Chancery refused to approve the resignations of individual trustees and the confirmation of the appointment of a Delaware trust company as successor corporate trustee, on the grounds that such resignations and appointment can be accomplished pursuant to the terms of the trust agreements, refused to hold that Delaware law would govern the administration of the trusts upon the appointment of a Delaware trustee, as such an order would be contrary to the choice of law provisions in the trust agreements, declined to confirm that Delaware was the situs of the trusts, as New York or New Jersey law applied to the administration of the trusts and must be followed in order to change the trust situs, denied a requested reformation of the trusts, since the question of whether or not the trusts could be reformed was a matter of New York law or New Jersey law which the parties had not briefed, and denied the request that the Court accept jurisdiction over the trusts.

902 18. Equitable Deviation

In Matter of Muir, N.Y.L.J. June 6, 2013, the New York County Surrogate’s Court held that the doctrine of equitable deviation should apply to modify a requirement in the testator’s will that the assets of a testamentary trust should be invested solely in United States obligations, where the income from such obligations decreased to the point where it was no longer in the best interests of the trust’s beneficiaries to follow that investment restriction, and the court reformed the terms of the trust to permit the trustees to invest in a manner consistent with the Prudent Investor Act as set forth in EPTL Section 11-2.3.

19. Discretionary Trust Distributions

In Matter of Gleason Jr., N.Y.L.J. November 25, 2013 (Surr. Ct. N.Y. Co.), where the decedent’s granddaughter objected to an accounting of the trustee of a testamentary trust created under the decedent’s will on the grounds that the trustee wrongfully exercised its power to make discretionary distributions of trust principal, the Court refused to grant cross-motions for summary judgment, stating that a trustee’s decision regarding discretionary distributions of trust principal will not be interferred with by a court except in cases of abuse of discretion, bad faith or fraud.

20. Incorporation By Reference

In Matter of D’Elia, 40 Misc.3d 355 (Surr. Ct., Nassau Co. 2013), where the decedent’s will bequeathed the residue of his estate to a so-called “pour-over trust”, and where the will further provided that if such trust was inoperative or invalid for any reason, the terms of the trust were incorporated by reference into the will, and where such trust was invalid as it was not executed prior to contemporaneously with the execution of the will, the Court held that the residuary bequest failed, resulting in intestacy.

21. Bequests of Tangibles

In In re Rothchild, N.Y.L.J. October 28, 2014 (Surr. Ct., Bronx County), the court held that the decedent’s stamps and coin collections passed pursuant to the residuary clause of the decedent’s will, rather than as part of a bequest of tangible personal property.

22. Charitable Pledges

In Estate of Kramer, N.Y.L.J. April 21, 2014 (Surrogate’s Court, Kings Co.), the court refused to enforce a decedent’s charitable pledge and promissory note, where the charity had not taken any meaningful and substantive actions in reliance on the pledge and note.

23. Inference of Due Execution

In In re Sanger, N.Y.L.J. July 21, 2014 (Surr. Ct., Nassau Co.), involving a contested probate proceeding, where the execution of the propounded will was supervised by an attorney, an attestation clause preceded the signatures of the witnesses, and a self-proving affidavit was attached at the end of the will, the court held that the petitioner was entitled to an

903 inference of due execution, even though the attorney who supervised the execution of the propounded will was not admitted to practice law in New York at the time the will was signed.

O. Other Administrative Developments

1. Bitcoins

On July 17, 2014 the New York State Department of Financial Services proposed establishing rules for firms involved in receiving, transmitting and storing virtual currency, as well as retail conversions. The proposed rules would establish a so-called “BitLicense”, and merchants who buy and sell virtual currency as a business would require such a license. However, merchants and consumers who use virtual currency solely to buy and sell goods and services would not need such a license.

XII. CONNECTICUT GIFT TAX, ESTATE TAX AND OTHER PERTINENT LEGISLATION

The Connecticut estate tax laws have been amended, effective for the estates of decedents dying on or after January 1, 2015, to modify the definition of “Connecticut taxable estate” to exclude Connecticut taxable gifts that are otherwise included in the gross estate for federal estate tax purposes, and to provide a Connecticut estate tax credit for the Connecticut gift tax paid by the taxpayer or the taxpayer’s spouse for Connecticut taxable gifts when such gift tax is otherwise included in the decedent’s gross estate.

On October 1, 2013 legislation was enacted that provides certain inheritance rights to a child conceived or born after the date of the death of one of the child’s married parents, if both parents sign and date a written document specifically authorizing the surviving spouse to use the genetic material of the deceased spouse to posthumously conceive a child, who must be in utero within one year of death.

In 2012 Connecticut enacted legislation (Conn. Gen. Stat. Section 45a-334a) requiring an electronic mail service provider to provide to the personal representative of a decedent’s estate who was domiciled in Connecticut at the time of his or her death access to or copies of the contents of the electronic mail account of the decedent.

On May 4, 2011, as part of the budget legislation (CGA Bill No. 1239), Connecticut lowered the Connecticut estate tax and gift tax thresholds from $3,500,000 to $2,000,000 applicable retroactively to estates of decedents dying on or after January 1, 2011 and gifts made on or after January 1, 2011. The tax for estates and gifts of more than $2,000,000 will be based on graduated rates, starting at a rate of 7.2%, and the maximum tax rate will be 12% (on the excess over $10,100,000). The Connecticut budget legislation also increased the marginal income tax rates for taxpayers by increasing the number of tax brackets from three to six and by increasing the maximum income tax rate from 6.5 % to 6.7%.

On April 23, 2009 legislation was enacted in Connecticut approving same-sex marriage.

904 The Connecticut estate tax and gift tax statute was amended to treat parties to a same sex marriage in the same manner as parties to a heterosexual marriage for estate tax and gift tax purposes, effective April 23, 2009.

Connecticut enacted legislation (Conn. Legis. Serv. 09-169), effective October 1, 2009, which authorizes, either by a will or by an inter vivos trust, the creation of a trust which provides for the care of one or more specified animals which is or are alive during the testator’s or settlor’s life. Any such trust must terminate at the death of the last surviving animal or animals designated in the trust.

On June 24, 2005 Connecticut enacted legislation (Public Act No. 05-136) requiring an electronic mail service provider to provide the fiduciary of a decedent’s estate who is domiciled in Connecticut at the date of death access to or copies of the contents of the decedent’s electronic mail account upon written request for same or an Order of the probate court having jurisdiction over the decedent’s estate.

XIII. UNIFORM LAW COMMISSION PROJECTS

A. Digital Assets

On July 16, 2014 the Uniform Law Commission approved the Uniform Fiduciary Access to Digital Assets Act, that would address the access rights of all types of fiduciaries to a person’s digital assets.

B. Decanting

In 2013 the Uniform Law Commission began work on a uniform trust decanting act.

C. Trust Protectors

In 2013 the Uniform Law Commission formed a committee to determine whether a uniform act on trust protectors is feasible and desirable.

905 EXHIBIT “A”

FINAL REGULATIONS REGARDING PORTABILITY

By Sanford J. Schlesinger, Esq. and Martin R. Goodman, Esq.

Mr. Schlesinger is a Founding Partner and Mr. Goodman is a Partner at Schlesinger Gannon & Lazetera LLP, New York, New York. Mr. Schlesinger is a member of the CCH Financial and Estate Planning Advisory Board.

On June 12, 2015, the Internal Revenue Service (the IRS) released final regulations (T.D. 9725) (the final regulations) regarding the portability provisions in the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (P.L. 111-312)(the 2010 Act), which provisions were amended and made permanent by the American Taxpayer Relief Act of 2012 (P.L. 112-240)(the 2012 Act). The final regulations also removed the proposed temporary regulations (the proposed regulations) regarding portability that were issued on June 15, 2012 (after the enactment of the 2010 Act, but before the enactment of the 2012 Act), and that would have expired on June 15, 2015. This analysis will review and discuss the final regulations and the IRS’s supplementary information (the supplementary information) provided in the preamble that accompanied the final regulations, and, where applicable, will compare the final regulations to the proposed regulations.

Preliminarily, it is important to note that portability applies for estate and gift tax purposes, but it does not apply for generation-skipping transfer tax purposes.

The final regulations consist of estate tax regulations and gift tax regulations, which are largely the same as the proposed regulations, with certain important differences that are discussed below. The estate tax regulations are contained in Reg. §20.2001-2, which states that the final regulations provide additional rules regarding the IRS’s authority to examine tax returns, even if the time in which the tax may be assessed has expired, for the purpose of determining the deceased spousal unused exclusion (DSUE, described below) amount, Reg. §20.2010-1, which sets forth definitions and general rules regarding the unified credit against the estate tax, Reg. §20.2010-2, which contains portability provisions that are applicable to the estate of a decedent who is survived by a spouse, and Reg. §20.2010-3, which contains portability provisions that are applicable to the estate of the surviving spouse. The gift tax regulations consist of Reg. §25.2505-1, which sets forth general rules regarding the unified credit against the gift tax, and Reg. §25.2505-2, which contains provisions regarding lifetime gifts made by a surviving spouse who has a DSUE amount available.

In general, the final regulations are effective on June 12, 2015.

906 Estate Tax Regulations

Reg. §20.2001-2 states that Reg. §§20.2001-1(b), 20.2010-2(d) and 20.2010-3(d), all of which are discussed below, provide additional rules regarding the IRS’s authority to examine any gift tax return or other tax returns, even if the statute of limitations for assessments has expired, for the purpose of determining the DSUE amount that is available to the surviving spouse.

Reg. §20.2010-1 defines certain relevant terms and sets forth general rules regarding the unified credit against the estate tax.

This regulation begins by stating that the estate of every decedent is allowed a credit under Code Sec. 2010(a) of the Internal Revenue Code of 1986, as amended (the Code), of the “applicable credit amount” (which sometimes is referred to as the “unified credit”). The applicable credit amount is the amount of the tentative tax that would be determined under Code Sec. 2001(c) if the amount on which the tentative tax is computed were equal to the “applicable exclusion amount” (which credit is determined by applying the tax rate schedule to the applicable exclusion amount). The regulation then defines the term applicable exclusion amount to be equal to the sum of the “basic exclusion amount” (defined below) and, with respect to the estate of a surviving spouse, the DSUE amount (also defined below). The basic exclusion amount (which is commonly referred to as the estate tax exemption) is defined as $5,000,000 for the estate of a decedent dying in 2011, and $5,000,000, adjusted for inflation from 2010, for the estate of a decedent dying after 2011. The inflation adjusted basic exclusion amount is $5,430,000 for the estate of a person who dies in 2015. Thus, the amount of this credit for the estate of a decedent who dies in 2015 without any DSUE amount is $2,117,800, as determined from a basic exclusion amount of $5,430,000. The amount of this credit for the estate of a decedent who dies after 2015 is determined based on the applicable exclusion amount, consisting of the sum of the decedent’s basic exclusion amount of $5,000,000, as adjusted for inflation from 2010, and the decedent’s DSUE amount, if any. This credit is reduced by 20 percent of the portion of the gift tax exemption of $30,000 that was allowable prior to 1977 and that the decedent used with respect to gifts made after September 8, 1976, and before January 1, 1977, but in any case the amount of this credit is not more than the amount of the tentative estate tax determined under Code Sec. 2001(c).

The regulation states that the DSUE amount generally is the unused portion of a decedent’s applicable exclusion amount to the extent that such amount does not exceed the basic exclusion amount in effect in the year of the decedent’s death.

Finally, the regulation defines the term “last deceased spouse” as the most recently deceased individual who, at that individual’s death after December 31, 2010, was married to the surviving spouse.

Portability Election Requirements

Reg. §20.2010-2(a) sets forth the requirements for a valid portability election.

The regulation states that the executor of a decedent’s estate must elect portability of the DSUE amount on a timely filed federal estate tax return (Form 706) to allow the decedent’s

907 surviving spouse to take into account the decedent’s DSUE amount. The regulation provides that an estate that elects portability will be treated as an estate that is required to file an estate tax return under Code Sec. 6018(a), even if the estate otherwise would not be required to do so. Therefore, the due date of an estate tax return that is filed to elect portability is nine months after the date of the decedent’s (not the surviving spouse’s) death, subject to any allowed extension of time to file such tax return, even if an estate tax return is not otherwise required to be filed for the estate.

Importantly, this regulation (unlike the temporary regulations) clarifies circumstances under which an extension of time to elect portability will or will not be granted under Reg. §301.9100-3. The regulation states that such an extension to elect portability is not available to estates that are required to file an estate tax return based on the applicable exclusion amount, since in such case the due date for the portability election is prescribed by statute and Reg. §301.9100-3 applies only to an election whose due date is prescribed by regulation. However, an extension of time under Reg. §301.9100-3 to elect portability may be available to an estate that is under the value threshold for being required to file an estate tax return, as in such case the due date for the portability election is prescribed by regulation, rather than by statute.

In this regard, note that Rev. Proc. 2014-18, IRB 2014-7, 513, provided that if a United States citizen or resident died after December 31, 2010, and on or before December 31, 2013, and had a surviving spouse, and if the decedent’s estate was below the threshold for filing an estate tax return, and if such estate did not timely file an estate tax return, then such estate will be deemed to meet the requirements for relief under Reg. §301.9100-3, and is granted relief under such regulation to extend the time to elect portability, if such estate files a complete and properly prepared estate tax return on or before December 31, 2014. It is important to note that the IRS’s supplementary information stated that the IRS is continuing to consider permanently extending the type of relief granted in such revenue procedure, although such relief is not included in the final regulations.

The regulation further states that if an estate tax return is complete and properly prepared (as discussed below) and is timely filed, the executor of the estate of a decedent who is survived by a spouse will be treated as having elected portability of the decedent’s DSUE amount, unless the executor affirmatively chooses not to elect portability. An executor will not be considered to have elected portability if the executor states on a timely filed estate tax return, or in an attachment to that return, that the executor is not electing portability under Code Sec. 2010(c)(5), or if the executor does not timely file an estate tax return. The regulation states that the manner in which the executor may make the above-described affirmative statement on the estate tax return is as set forth in the instructions issued for that tax return.

The regulation then states that the portability election, once made, becomes irrevocable after the due date of the estate tax return, including extensions actually granted. However, before a portability election, or an election to not have portability apply, becomes irrevocable, an executor may make a portability election or may supersede a portability election previously made by timely filing another estate tax return making a portability election or reporting the decision not to make a previously made portability election. The regulation provides that an executor of the estate of a decedent who is survived by a spouse may elect portability on behalf of the estate if the decedent dies on or after January 1, 2011. However, the regulation also

908 provides that the executor of the estate of a nonresident decedent who was not a citizen of the United States at the time of his or her death may not elect portability on behalf of that decedent, and that the timely filing of an estate tax return for such decedent will not be deemed to make the portability election.

The regulation states that a duly appointed executor or administrator of the estate of a decedent, who is appointed, qualified and acting within the United States, can file the estate tax return for the decedent’s estate and elect portability, or elect not to have portability apply. Such regulation also provides that if no executor or administrator has been appointed for a decedent’s estate, then any person in actual or constructive possession of any property of the decedent (a non-appointed executor) can file the estate tax return for the decedent’s estate and elect portability, or can elect not to have portability apply. Such regulation further provides that an election to allow portability made by a non-appointed executor cannot be superseded by a contrary election to have portability not apply made by another non-appointed executor of that estate, unless such other non-appointed executor is the successor of the non-appointed executor who made the portability election. However, the regulation also states that a portability election made by a non-appointed executor when there is no appointed executor for that decedent’s estate can be superseded by a subsequent contrary election made by an appointed executor of such estate on an estate tax return that is timely filed.

In this regard, it is noted that circumstances may exist which cause the executor to be unwilling to elect portability. For example, the executor may be a child of the decedent from a former marriage who, due to animus, may not want to confer a tax benefit on the decedent’s surviving spouse by electing portability. However, the state in which the decedent’s Will is probated may authorize the appointment of an executor for a limited purpose. For example, the State of New York provides such pursuant to the Section 702 of the New York Surrogate’s Court Procedure Act. In such a case, it may be possible for the surviving spouse to be appointed as the executor of the estate for the limited purpose of filing the estate tax return and making the portability election.

The IRS, in the supplementary information, stated that several persons who submitted comments with regard to the proposed regulations requested that the final regulations allow a surviving spouse who is not an executor of the deceased spouse’s estate to file an estate tax return and make the portability election in various circumstances, including where the surviving spouse is given the right to file the estate tax return in a premarital agreement, or the surviving spouse has petitioned the appropriate local court for his or her appointment as an executor solely for the limited purpose of filing the estate tax return in order to make the portability election. However, the IRS concluded that any consideration of what, if any, state law action might bring the surviving spouse within the definition of executor under Code Sec. 2203 is outside of the scope of these regulations, and the final regulations do not include any of such changes requested by those commentators.

The regulation then sets forth the requirements for a complete and properly prepared estate tax return pursuant to which the executor may elect portability. The regulation provides that, in general, an estate tax return will be considered complete and properly prepared if it is prepared in accordance with the instructions issued by the IRS for the preparation of an estate tax return and if the requirements of Reg. §20.6018-2 (which, in general, contains additional

909 provisions as to the person or persons required to file an estate tax return), Reg. §20.6018-3 (which sets forth the requirements for the contents of an estate tax return) and Reg. §20.6018-4 (which sets forth certain requirements as to documents that must be filed with an estate tax return) are satisfied.

The IRS in its supplementary information stated that a person who submitted comments after the publication of the proposed regulations suggested that the final regulations elaborate on the circumstances under which a timely filed estate tax return may be considered insufficient as to render the estate tax return incomplete for purposes of electing portability. However, the IRS considered the issue of whether or not an estate tax return is complete and properly prepared to be an issue that must be determined on a case-by-case basis by applying standards as prescribed in current law. Therefore, the final regulations did not adopt this suggestion.

The regulation also sets forth a special rule regarding the reporting of the value of certain property of estates as to which the executor is not required to file an estate tax return other than for the purpose of making the portability election (i.e., an estate of a decedent whose gross estate and adjusted taxable gifts do not exceed the filing requirement threshold for the year of the decedent’s death). Pursuant to this special rule, an executor is not required to report a value for property that is includible in the decedent’s gross estate and that qualifies for either the estate tax marital deduction or the estate tax charitable deduction. Instead, the executor will only be required to report the description, ownership and/or beneficiary of such property, and all other information necessary to establish the right of the estate to the estate tax marital deduction or the estate tax charitable deduction for such property.

However, this special rule does not apply if:

(a) the value of such property relates to, affects or is needed to determine the value passing from the decedent to another recipient;

(b) the value of such property is needed to determine the estate’s eligibility for the provisions of Code Sec. 2032 (regarding the alternate valuation date election), Code Sec. 2032A (regarding the valuation of qualified real property), or another estate tax or generation-skipping transfer tax provision of the Code for which the value of such property or the value of the gross estate or the adjusted gross estate must be known (not including Code Sec. 1014, which sets forth the rules for determining the income tax cost basis of property acquired from a decedent), such as Code Sec. 6166 (regarding the election to pay the portion of the estate tax that is attributable to an interest in a closely held business in installments);

(c) less than the entire value of an interest in property that is includible in the decedent’s gross estate qualifies for the estate tax marital deduction or the estate tax charitable deduction; or

(d) a partial disclaimer or a partial qualified terminable interest property (QTIP) election is made with respect to property that is includible in the decedent’s gross estate, part of which qualifies for the estate tax marital deduction or the estate tax charitable deduction. Thus, in any of these instances, an estate tax return that is filed solely to make the portability election, and that would not otherwise be required to be filed, will require all of the information and related documentation that would be required for an estate tax return for the estate of a decedent whose

910 gross estate and adjusted taxable gifts exceeds the filing threshold, in order to be considered a complete and properly prepared estate tax return.

This special rule reducing the requirements for reporting the value of certain property that is includible in the decedent’s gross estate will apply only if the executor exercises due diligence to estimate the fair market value of the decedent’s gross estate, including the property that is includible in the decedent’s gross estate and that qualifies for the estate tax marital deduction or the estate tax charitable deduction. The regulation states that the executor, using his, her or its best estimate of the value of the properties that qualify for the estate tax marital deduction or the estate tax charitable deduction must report on the estate tax return, under penalties of perjury, the amount corresponding to the particular range within which the executor’s best estimate of the total gross estate falls, in accordance with the instructions for Form 706. In this regard, it is noted that such instructions contain a Table of Estimated Values for such assets, in increments of $250,000, and state that the amount reported on Form 706 for such assets should correspond to the applicable range of dollar values for such assets.

This regulation contains examples illustrating the operation of this special rule.

In Example 1, the gross estate of the first spouse to die consisted solely of assets owned jointly with the decedent’s surviving spouse, with right of survivorship, a life insurance policy payable to the surviving spouse, and a survivor annuity payable to the surviving spouse for her life. The decedent made no taxable gifts during his lifetime. The example states that an estate tax return that identifies these assets on the proper schedules, but provides no information with regard to the date of death value of such assets, that includes evidence verifying the title of each jointly held asset, confirming that the surviving spouse is the sole beneficiary of both the life insurance policy and the survivor annuity, and verifying that the annuity is exclusively for the surviving spouse’s life, and that reports the executor’s best estimate, determined by exercising due diligence, of the fair market value of the decedent’s gross estate, is considered a complete and properly prepared estate tax return in which the executor has elected portability.

In Example 2, the decedent died testate, leaving a will in which he bequeaths his entire estate to his surviving wife, outright and free of trust. The decedent also had non-probate assets that are includible in his gross estate, consisting of a life insurance policy payable to his children and an individual retirement account (IRA) payable to his wife. The decedent made no taxable gifts during his lifetime. The executor of the decedent’s estate filed an estate tax return in which all of the assets that are includible in the decedent’s gross estate are identified on the proper schedule. As to the decedent’s probate assets and the IRA, no information is provided regarding the date of death value of such assets. The executor attaches a copy of the decedent’s will, and describes each such asset and its ownership to establish the estate’s entitlement to the estate tax marital deduction for such assets. With respect to the life insurance policy payable to the decedent’s children, all of the regular estate tax return requirements apply, including reporting and establishing the fair market value of such asset. The executor also reports the executor’s best estimate, determined by exercising due diligence, of the fair market value of the decedent’s gross estate. This example states that the estate tax return is considered to be complete and properly prepared, and that the executor has elected portability.

911 In Example 3, the decedent died testate, and his will bequeathed 50 percent of his probate assets to a marital trust for the benefit of the decedent’s wife and the other 50 percent thereof to a trust for the benefit of the decedent’s wife and their descendants. This example states that, as the amount passing to the non-marital trust cannot be verified without knowledge of the full value of the property passing under the decedent’s will, the value of the property of the marital trust relates to or affects the value of the property passing to the non-marital trust, so that the general return requirements apply to all of the property includible in the decedent’s gross estate. Thus, in this example, the special rule described above waiving such requirements does not apply.

The IRS in its supplementary information stated that a person who submitted comments after the proposed regulations were issued suggested that the IRS prepare a shorter version of the estate tax return to be used by estates that are not otherwise required to file an estate tax return, but do so only to elect portability. The IRS concluded that a timely filed, complete and properly prepared estate tax return affords the most efficient and administrable method of obtaining the information necessary to compute and verify the DSUE amount, and that the alleged benefits to taxpayers from an abbreviated form is far outweighed by the anticipated administrative difficulties in administering the estate tax that would occur from the use of a short version of such tax return. Thus, the IRS did not adopt this suggestion.

In this regard, it should be noted that Rev. Proc. 2001-38, IRB 2001-24, 1335, states that the IRS will disregard for federal estate tax, gift tax, and generation-skipping transfer tax purposes, a QTIP election that is made under Code Sec. 2056(b)(7) where the election was not necessary to reduce the estate tax liability to zero. The IRS, in the supplementary information, stated that multiple commentators have requested guidance on the application of such revenue procedure when an estate that is below the filing threshold files an estate tax return and makes the portability election and a QTIP election on such tax return. The commentators have noted that, with the introduction of portability, an executor may purposefully file an estate tax return in such a case in order to elect both portability and QTIP treatment, and that the rationale for the rule voiding the QTIP election (that such election was of no benefit to the taxpayer) is no longer applicable. However, the IRS declined to provide such guidance in the final regulations, and stated that it intends to provide such guidance by publication in the Internal Revenue Bulletin to clarify whether a QTIP election that is made for estate tax purposes may be disregarded when the executor has elected portability.

It also is noted that the IRS recently announced on its website that it will not automatically issue closing letters for estate tax returns filed on or after June 1, 2015, and that a taxpayer who wants a closing letter should request it in a separate letter submitted to the IRS at least four months after the estate tax return is filed. This departure from the IRS’s long-standing practice of issuing estate tax closing letters may be due to the IRS’s belief that if it issues an estate tax closing letter for an estate that elects portability, then the IRS could be “prejudiced” in any effort that it may make to subsequently review such estate tax return in order to determine the amount of the decedent’s DSUE amount, even though Code Sec. 2010(c)(5)(B) grants the IRS such examination authority whether or not the statute of limitation for assessments has expired with respect to such tax return. In addition, it is possible that with the advent of portability, the number of estate tax returns that are being filed and will be filed may far exceed the number of estate tax returns that were filed before portability was enacted, and the IRS may believe that it would be overly burdensome to issue estate tax closing letters as a matter of course

912 for each such tax return. However, if the IRS’s new policy regarding the issuance of estate tax closing letters is based on this administrative concern, the IRS could simply limit the application of this new policy to the estates of decedents that are below the filing threshold. Regardless of the rationale for this change in policy, it may be desirable for executors to routinely request estate tax closing letters approximately four months after filing estate tax returns, especially with respect to estates that have a low risk or no risk of adjustments on audit.

DSUE Computation

Reg. §20.2010-2(b) provides that the executor of a decedent’s estate must include a computation of the DSUE amount on the decedent’s estate tax return to elect portability, and that this requirement is satisfied by the timely filing of a complete and properly prepared estate tax return, as long as the executor has not elected out of portability.

Reg. §20.2010-2(c) contains provisions regarding the computation of the DSUE amount. This regulation provides that such amount generally is the lesser of the basic exclusion amount in effect for the year of the decedent’s death (i.e., $5,000,000, adjusted for inflation, as noted above), or the excess of the decedent’s applicable exclusion amount over the sum of the decedent’s taxable estate and the amount of the decedent’s adjusted taxable gifts as to which gift taxes were not paid.

In this regard, it is noted that the 2010 Act defined the DSUE amount as the lesser of (a) the basic exclusion amount, or (b) the excess of the basic exclusion amount (rather than the applicable exclusion amount) of the last deceased spouse of the surviving spouse over the amount with respect to which the tentative tax is determined under Code Sec. 2001(b)(1) on the estate of such deceased spouse. However, the proposed regulations, which as noted above, were issued after the enactment of the 2010 Act but before the enactment of the 2012 Act, defined the DSUE amount as the lesser of (a) the basic exclusion amount, or (b) the excess of the applicable exclusion amount (rather than the basic exclusion amount) of the last deceased spouse of the surviving spouse over the amount with respect to which the tentative tax on the estate of such deceased spouse is so determined.

The effect of such statutory formulation in the 2010 Act, and the effect of the regulatory interpretation of it in the proposed regulations, can be illustrated by the following example:

Assume that H-1 dies in 2011, having made taxable gifts during his life of $3,000,000 and having no taxable estate, that the executor of H-1’s estate files an estate tax return electing portability, that H-1’s surviving spouse, W, makes no taxable gifts during her life, and that W remarries H-2 and W predeceases H-2. Pursuant to the statutory formulation in the 2010 Act, after H-1’s death, W’s applicable exclusion amount is $7,000,000 (i.e., her $5,000,000 basic exclusion amount, plus the DSUE amount of $2,000,000 from H-1). W has a taxable estate of $3,000,000 at her death, and the executor of W’s estate files an estate tax return electing portability. Pursuant to the statutory formulation, W’s DSUE amount is the lesser of (a) W’s basic exclusion amount of $5,000,000, or (b) the excess of W’s basic exclusion amount of $5,000,000, over her taxable estate of $3,000,000, or $2,000,000. Thus, W’s DSUE amount is $2,000,000. Therefore, H- 2’s applicable exclusion amount would be the sum of his own basic exclusion amount of $5,000,000, plus W’s DSUE amount of $2,000,000, or $7,000,000.

913 However, pursuant to the proposed regulation, W’s DSUE amount is the lesser of (a) W’s basic exclusion amount (i.e., $5,000,000), or the (b) excess of W’s applicable exclusion amount, which is $7,000,000 (i.e., W’s $5,000,000 basic exclusion amount, plus the $2,000,000 DSUE amount from H-1), over the amount of W’s taxable estate of $3,000,000, for an excess amount of $4,000,000. Thus, pursuant to the proposed regulations, W’s DSUE amount is $4,000,000, and the applicable exclusion amount of H-2 is $9,000,000 (i.e., H-2’s basic exclusion amount of $5,000,000, plus W’s DSUE amount of $4,000,000).

Consequently, such regulatory interpretation of the statute increased the applicable exclusion amount of H-2 by $2,000,000.

Interestingly, the technical explanation of the 2010 Act prepared by the Joint Congressional Committee on Taxation (JCX-55-10, December 10, 2010, Footnote 57), in its discussion regarding the portability provisions of the 2010 Act, included an example (Example 3), which in effect adopted the view regarding the computation of the DSUE amount that is set forth in the proposed regulations. In addition, on March 23, 2011, the same Committee issued an errata to its general explanation of the 2010 Act (JCX-20-11) stating that the intent of the 2010 Act was to compute the DSUE amount of the wife in the above example in the same manner as it is computed pursuant to the proposed regulations, and further stating that a technical correction of the 2010 Act may be necessary to replace the statutory reference to the “basic exclusion amount of the last such deceased spouse of such surviving spouse” with a statutory reference to the “applicable exclusion amount of the last such deceased spouse of such surviving spouse” to reflect this intent. In fact, the 2012 Act included such technical correction of the 2010 Act. As a result, there was no need for a reference to this issue in the final regulations, and there was none.

The regulation also states that the amount of the adjusted taxable gifts of a decedent is reduced by the amount on which gift taxes were paid, in order to compute the decedent’s DSUE amount.

It should be noted that the temporary regulations did not provide guidance, and reserved a section thereof for future provision, on the impact of the estate tax credits under Code Secs. 2012 through 2015 (the credit for gift taxes, the credit for tax on prior transfers, the credit for foreign death taxes, and the credit for death taxes on remainders, respectively). The IRS, in the supplementary information, stated that it concluded that the amount of such allowable credits can be determined only after subtracting the applicable credit amount determined under Code Sec. 2010 from the tax imposed by Code Sec. 2001. Thus, to the extent that the applicable credit amount is applied to reduce the tax imposed by Code Sec. 2001 to zero, the credits allowable in Code Secs. 2012 through 2015 are not available. In addition, the IRS stated that the computation of the DSUE amount does not take into account any unused credits arising under Code Secs. 2012 through 2015. For these reasons, the IRS concluded that no adjustment to the computation of the DSUE amount to account for any such unused credits is warranted, and the final regulations so state.

The regulation also sets forth a special rule regarding portability in the case of property passing to a qualified domestic trust (QDOT). Pursuant to Code Sec. 2056(d), the estate of a decedent is not allowed an estate tax marital deduction for property passing from the decedent to a surviving spouse who is not a United States citizen, unless the property passes to a QDOT.

914 Pursuant to Code Sec. 2056A, in general, a QDOT is a trust that requires that at least one trustee shall be an individual who is a United States citizen or a domestic corporation, who or which will pay the estate tax with respect to such trust from any principal distribution of the trust before the death of the surviving spouse, and from the value of the trust that is remaining on the death of the surviving spouse. The regulation provides that in such case the DSUE amount of the decedent is computed on the decedent’s estate tax return for the purpose of electing portability in the same manner as such amount would otherwise be computed, but the decedent’s DSUE amount is subject to subsequent adjustments. The regulation states that the DSUE amount of the decedent must be redetermined upon the occurrence of the final distribution or other event (generally, the death of the surviving spouse or the earlier termination of all QDOTs for that surviving spouse) on which the estate tax is imposed. Thus, a surviving spouse generally cannot use any of the DSUE amount received from the deceased spouse while a QDOT for the benefit of the surviving spouse remains in effect. As a result of this rule, a non-citizen surviving spouse will generally not be able to use the deceased spouse’s DSUE amount to make lifetime gifts.

In this regard, it is noted that the proposed regulations provided that in the case of a decedent’s estate claiming a marital deduction for property received through a QDOT, the earliest date on which a decedent’s DSUE amount could be included in determining the applicable exclusion amount available to the surviving spouse or the surviving spouse’s estate is the date of the event that triggers the final estate tax liability of the first spouse to die under Code Sec. 2056A. However, the IRS stated in the supplementary information that a person who submitted comments regarding such regulations challenged this delay in the surviving spouse’s ability to use the decedent’s DSUE amount if the surviving spouse becomes a United States citizen after the decedent’s estate tax return is filed and after the property passes to a QDOT for the benefit of such surviving spouse. The IRS stated that it concluded that in such a case the tax imposed by Code Sec. 2056A(b)(1) would no longer apply, and the decedent’s DSUE amount would no longer be subject to adjustment and would become available for transfers by the surviving spouse as of the day the surviving spouse becomes a United States citizen. Accordingly, the final regulations included this change, by providing that if the surviving spouse becomes a United States citizen after the death of the first spouse to die, in general no estate tax will be imposed under Code Sec. 2056(a) either on subsequent QDOT distributions or on the property remaining in the QDOT on the surviving spouse’s death, and the decedent’s DSUE amount is no longer subject to adjustment.

The regulation contains four examples illustrating its application:

In Example 1, H and W are United States citizens. H makes a taxable gift of $1,000,000 in 2002, pays no gift tax due to the applicable exclusion amount available to H of $1,000,000 in 2002, and dies in 2015 survived by W. H’s taxable estate is $1,000,000, and the executor of H’s estate timely files an estate tax return electing portability. The example states that H’s DSUE amount is $3,430,000 (the lesser of (a) the $5,430,000 basic exclusion amount in 2015, or (b) the excess of H’s $5,430,000 applicable exclusion amount over the sum of H’s $1,000,000 taxable estate and the $1,000,000 amount of adjusted taxable gifts that H made).

In Example 2, the facts are the same as in Example 1, except that the value of H’s taxable gift in 2002 is $2,000,000, as to which H paid a gift tax on $1,000,000. This example states that H’s DSUE amount is $3,430,000 (the lesser of (a) the $5,430,000 basic exclusion amount in

915 2015, or (b) the excess of H’s $5,430,000 applicable exclusion amount over the sum of the $1,000,000 taxable estate of H and the $1,000,000 of adjusted taxable gift made by H as to which gift taxes were not paid).

In Example 3, H, a United States citizen, made a taxable gift of $1,000,000 in 2002 as to which no gift taxes were due. H dies in 2015 with a gross estate of $2,000,000 survived by W, who is a United States resident but not a United States citizen. H bequeathed the sum of $1,500,000 to a QDOT for the benefit of W. H’s executor timely filed an estate tax return making the QDOT election and electing portability. H’s taxable estate, after the marital deduction of $1,500,000, is $500,000. The preliminary DSUE amount of H is $3,930,000 (the lesser of (a) the $5,430,000 basic exclusion amount in 2015, or (b) the excess of H’s $5,430,000 applicable exclusion amount over the sum of H’s $500,000 taxable estate and the $1,000,000 adjusted taxable gift made by H). At W’s death in 2017, the value of the assets of the QDOT is $1,800,000. The example states that the DSUE amount is redetermined to be $2,130,000 (the lesser of (a) the $5,430,000 basic exclusion amount in 2015, or (b) the excess of H’s $5,430,000 applicable exclusion amount over $3,300,000 (the sum of the $500,000 taxable estate of H augmented by the $1,800,000 of QDOT assets and the $1,000,000 of adjusted taxable gifts)).

In Example 4, the facts are the same as in Example 3, except that W becomes a United States citizen in 2016 and dies in 2018. The example states that pursuant to Code Sec. 2056A(b)(12), the estate tax under Code Sec. 2056A no longer applies to the QDOT property. The example further states that because H’s DSUE amount is no longer subject to adjustment once W becomes a United States citizen, H’s DSUE amount is $3,930,000, as it was preliminarily determined as of H’s death, and that on W’s death in 2018, the value of the QDOT property is includible in W’s gross estate.

The regulation also states that the IRS may examine the tax returns of a decedent to determine the decedent’s DSUE amount, regardless of whether or not the period of limitations on the assessment of additional taxes has expired for such tax return. However, as noted below regarding the gift tax regulations, the IRS cannot assess any additional taxes with respect to any such tax return after the expiration of the statute of limitations for such assessment.

In this regard, the IRS in the supplementary information stated that a person who submitted comments concerning the proposed regulations requested that such examination authority of the IRS be limited to issues of the reporting and valuation of assets, and not extend to other legal issues that may impact on the availability of the DSUE amount to the surviving spouse. The IRS stated that such limited authority would be inconsistent with the statute, which grants broad authority to the IRS to examine the correctness of any return, without regard to the statute of limitations on assessments, to make determinations with respect to the allowable DSUE amount. In addition, another commentator requested confirmation that, in the examination of a tax return for the purpose of determining the allowable DSUE amount that takes place after the expiration of the statute of limitations, the valuation of assets may be increased or decreased, with a possible result that the allowable DSUE amount may decrease or increase. The IRS stated that no clarification or change in the regulations was required for this purpose. Further, another commentator suggested that the final regulations consider whether, in the case of such an examination, an adjustment to the value of an asset reported on the estate tax return affects the income tax cost basis of such asset under Code Sec. 1014. The IRS stated that

916 the basis of property acquired from a decedent is determined in accordance with the existing principles of Code Sec. 1014, and that the scope of such examination authority is sufficiently clear and therefore no change need be made in this regard in the final regulations. Moreover, another commentator suggested that the final regulations clarify the deductibility of administration expenses associated with such an examination. The IRS stated that any such expenses should be treated as any other expense associated with preparation of the surviving spouse’s tax returns, that the standards for deducting such expenses for estate tax and gift tax purposes are sufficiently clear, and that no change to the temporary regulation in this regard is necessary. Finally, another commentator suggested clarifying who may participate in such an examination. The IRS stated that each taxpayer has the authority to participate in the resolution of issues raised in the audit of his or her tax return, and that addressing this issue is outside the scope of the final regulations.

Portability Provisions Applicable to the Surviving Spouse’s Estate

Reg. §20.2010-3 provides that the DSUE amount of a decedent is included in determining the applicable exclusion amount of the decedent’s surviving spouse for estate tax purposes only if such decedent is the last deceased spouse of such surviving spouse on the date of the death of such surviving spouse, and only if the executor of the estate of such last deceased spouse elected portability. This regulation further states that the surviving spouse’s estate has no DSUE amount available if the last deceased spouse of such surviving spouse had no DSUE amount, or if the executor of the last deceased spouse’s estate did not make a portability election, even if the surviving spouse previously had a DSUE amount available from another decedent who, prior to the death of the last deceased spouse, was the last deceased spouse of such surviving spouse. For example, if H-1 and W are married, and if H-1 dies having a DSUE amount and the executor of his estate makes the portability election, but thereafter W marries H- 2 who then dies having no DSUE amount, then on W’s death the DSUE amount from H-1 would not be available to the estate of W.

In addition, this regulation states that a decedent is the last deceased spouse of a surviving spouse even if, on the date of the death of such surviving spouse, the surviving spouse is married to another then living individual. Further, the regulation states that if a surviving spouse remarries and that marriage ends in a divorce or an annulment, the subsequent death of the divorced spouse does not end the status of the prior deceased spouse as the last deceased spouse of the surviving spouse. Since the divorced spouse, at his or her death, is not married to the surviving spouse, such divorced spouse is not the last deceased spouse of the surviving spouse.

The regulation provides a special rule to compute the DSUE amount of a surviving spouse for estate tax purposes where the surviving spouse previously applied the DSUE amount of one or more deceased spouses to lifetime taxable gifts. This rule states that if a surviving spouse has applied the DSUE amount of one or more last deceased spouses to the surviving spouse’s lifetime gifts, and if any of those last deceased spouses is not the surviving spouse’s last deceased spouse at the death of the surviving spouse, then the DSUE amount to be included in determining the applicable exclusion amount of the surviving spouse at the time of the surviving spouse’s death is the sum of the DSUE amount of the surviving spouse’s last deceased spouse, and the DSUE amount of each other deceased spouse of the surviving spouse, to the extent that such DSUE amount was applied to one or more taxable gifts of the surviving spouse.

917 This regulation contains the following example to illustrate the operation of this provision:

H-1 dies in 2011, survived by W, and neither of them has made any taxable gifts during H-1’s life. H-1’s executor elects portability of H-1’s DSUE amount, which is $5,000,000. In 2012 W makes taxable gifts of $2,000,000, and W is considered to have applied $2,000,000 of H-1’s DSUE amount to the taxable gifts. Thereafter, W has a remaining applicable exclusion amount of $8,120,000, consisting of H-1’s $3,000,000 remaining DSUE amount, plus W’s own $5,120,000 basic exclusion amount. After H-1’s death, W marries H-2 in 2013. H-2 dies in 2014. H-2’s executor elects portability of H-2’s DSUE amount, which is $2,000,000. W dies in 2015. The example states that the DSUE amount to be included in determining the applicable exclusion amount available to W’s estate is $4,000,000, which is determined by adding the $2,000,000 DSUE amount of H-2 and the $2,000,000 DSUE amount of H-1 that was applied by W to W’s 2012 taxable gifts. Thus, W’s applicable exclusion amount is the sum of her own basic exclusion amount of $5,430,000, plus such DSUE amount of $4,000,000, for a total of $9,430,000.

Therefore, this special rule effectively permits a wealthy person to make a very large aggregate amount of lifetime gifts on a tax-free basis, as long as portability remains in effect, by having serial marriages to individuals, each of whom predeceases such person and has a DSUE amount, and whose executors elect portability, and by such person making a lifetime gift equal to such DSUE amount of each such deceased individual before such person remarries.

The regulation provides rules regarding the date as of which a decedent’s DSUE amount is to be taken into consideration by the surviving spouse. This regulation states that in general a portability election applies as of the date of the death of the person with respect to whom such election is made. Therefore, a decedent’s DSUE amount is included in the applicable exclusion amount of the decedent’s surviving spouse and will be applicable to transfers made by the surviving spouse after the death of the decedent. However, this regulation also states that even if the surviving spouse made a transfer in reliance on the availability or computation of the decedent’s DSUE amount, such DSUE amount will not be included in the applicable exclusion amount of the surviving spouse (a) if the executor of the decedent’s estate supersedes the portability election by timely filing a subsequent estate tax return in which no such election is made, or (b) to the extent that the DSUE amount is subsequently reduced by a valuation adjustment or a correction of an error in the computation of such amount, or (c) to the extent that the surviving spouse cannot substantiate the DSUE amount that is claimed on the surviving spouse’s tax return.

This regulation also provides a special rule when property passes from a decedent for the benefit of a surviving spouse in one or more QDOTs and the decedent’s executor elects portability. The regulation states that in such case the DSUE amount that is available to be included in the applicable exclusion amount of the surviving spouse is the DSUE amount of the decedent as redetermined (see earlier description). Thus, the earliest date on which the decedent’s DSUE amount can be included in the applicable exclusion amount of the surviving spouse is the date of the occurrence of the final QDOT distribution or other final event (generally, the death of the surviving spouse or the earlier termination of all QDOTs for that

918 surviving spouse) on which the estate tax is imposed. Thereafter, however, the decedent’s DSUE amount as so redetermined may be applied to taxable gifts of the surviving spouse.

The regulation provides that for the purpose of determining the DSUE amount that is included in the applicable exclusion amount of the surviving spouse, the IRS may examine the tax returns of each of the surviving spouse’s deceased spouses whose DSUE amount is claimed to be included in the surviving spouse’s applicable exclusion amount, whether or not the statute of limitations for the assessment of additional taxes has expired for any such tax return. In this regard, the regulation also states that IRS’s authority to examine returns of a deceased spouse applies with respect to each transfer by the surviving spouse to which a DSUE amount is or has been applied. This regulation further states that the IRS, upon such examination, may adjust or even eliminate the DSUE amount reported on such a return, but that the IRS can assess additional taxes on that return only if that tax is assessed within the applicable period of limitations regarding assessments.

The regulation provides that the estate of a nonresident surviving spouse who is not a United States citizen at the time of his or her death cannot take into account the DSUE amount of any deceased spouse of such surviving spouse, except to the extent allowed under any applicable treaty obligation of the United States.

Gift Tax Regulations

Reg. §25.2505-1 provides general rules regarding the application of the unified credit against the gift tax. First, these provisions refer to the general rules and definitions in the estate tax regulations described above regarding such rules and definitions concerning the application of the unified credit against the estate tax. Second, as in the estate tax regulations, this regulation also provides that the applicable credit must be reduced by 20 percent of the amount allowed as a specific exemption for gifts made by the decedent after September 8, 1976 and before January 1, 1977. Third, similar to the estate tax regulations, this regulation provides that the applicable credit shall not exceed the amount of the gift tax that is otherwise imposed.

Reg. §25.2505-2 sets forth rules regarding lifetime gifts made by a surviving spouse who has a DSUE amount available.

This regulation provides that a DSUE amount of a decedent is included in determining the surviving spouse’s applicable exclusion amount if (a) such decedent is the last deceased spouse of the surviving spouse at the time of the surviving spouse’s taxable gift, and (b) the executor of the decedent’s estate elected portability. In addition, this regulation provides that if, on the date that the surviving spouse makes a taxable gift, the last deceased spouse of the surviving spouse had no DSUE amount, or if the executor of the estate of such last deceased spouse did not elect portability, then the surviving spouse has no DSUE amount available to determine his or her applicable exclusion amount, even if the surviving spouse previously had a DSUE amount available from another decedent who, prior to the death of the last deceased spouse, was the last deceased spouse of such surviving spouse (except as provided below).

Further, this regulation provides that a decedent is the last deceased spouse of a surviving spouse even if, on the date of the surviving spouse’s taxable gift, the surviving spouse is married

919 to another individual who is then living. Moreover, if a surviving spouse remarries and that marriage ends in divorce or an annulment, the subsequent death of the divorced spouse does not end the status of the prior deceased spouse as the last deceased spouse of the surviving spouse, as the divorced spouse, at his or her death, was not married to the surviving spouse.

As in the proposed regulations, this regulation contains a much needed ordering rule that provides that if a surviving spouse makes a taxable gift and has a DSUE amount that is included in determining the surviving spouse’s applicable exclusion amount, then the surviving spouse will be treated as applying such DSUE amount to the taxable gift before applying the surviving spouse’s own basic exclusion amount to such gift.

Very importantly, also as provided in the proposed regulations, this regulation contains a special rule regarding multiple deceased spouses and a previously used DSUE amount that is available to a surviving spouse. This rule states, in general, that if a surviving spouse applied the DSUE amount of one or more last deceased spouses to the surviving spouse’s prior lifetime gifts, and, if any of those last deceased spouses is different from the surviving spouse’s last deceased spouse at the time of the surviving spouse’s current taxable gift, then the DSUE amount to be included in determining the applicable exclusion amount of the surviving spouse that will apply at the time of the current taxable gift is the sum of (a) the DSUE amount of the surviving spouse’s last deceased spouse, and (b) the DSUE amount of each of the other deceased spouses of the surviving spouse to the extent that such amount was applied to one or more previous taxable gifts of the surviving spouse.

This regulation contains the following example to illustrate the operation of this special rule: H-1 dies in 2011, survived by W, and neither of them made any taxable gifts during H-1’s life. H-1’s executor elects portability, and the DSUE amount of H-1 is $5,000,000. In 2012 W makes taxable gifts of $2,000,000. W is treated as having applied $2,000,000 of H-1’s DSUE amount to such gifts. Thereafter, W is considered to have a remaining applicable exclusion amount of $8,120,000, consisting of H-1’s $3,000,000 remaining DSUE amount, plus W’s own $5,120,000 basic exclusion amount. In 2013 W marries H-2, and H-2 dies on June 30, 2015. H-2’s executor elects portability, and H-2’s DSUE amount is $2,000,000. The DSUE amount to be included in determining the applicable exclusion amount available to W for gifts that she makes from July 1, 2015 through December 31, 2015 is $4,000,000, determined by adding the $2,000,000 DSUE amount of H-2 and the $2,000,000 DSUE amount of H-1 that was applied by W to W’s 2012 taxable gifts. Thus, W’s applicable exclusion amount for the second half of 2015 is $9,430,000, consisting of the sum of the two $2,000,000 DSUE amounts described above, plus W’s own basic exclusion amount of $5,430,000 for 2015. Since the gift tax on any gifts that W makes during the second half of 2015 will be computed on both the amount of such gifts and the $2,000,000 of taxable gifts that W made in 2015, W in effect can make additional gifts of $7,430,000 during the second half of 2015 without having to pay any gift tax on account of such gifts.

As in the estate tax regulations, this regulation also provides that a portability election that is made by an executor of a decedent’s estate generally applies as of the date of such decedent’s death. Thus, a decedent’s DSUE amount will be included in the applicable exclusion amount of the decedent’s surviving spouse and will be applicable to transfers made by the surviving spouse after the decedent’s death. However, this regulation also provides that such

920 decedent’s DSUE amount will not be included in the applicable exclusion amount of the surviving spouse, even if the surviving spouse has made a taxable gift in reliance on the availability or computation of the decedent’s DSUE amount, (a) if the executor of the decedent’s estate supersedes the portability election by timely filing a subsequent estate tax return negating such election, (b) to the extent that the DSUE amount is subsequently reduced by a valuation adjustment or the correction of an error in calculation, or (c) to the extent that the DSUE amount claimed on the decedent’s return cannot be determined.

As in the estate tax regulations, this regulation also states that if a surviving spouse for whom property has passed from a decedent to a QDOT becomes a United States citizen, then the date on which such decedent’s DSUE amount will be included in the surviving spouse’s applicable exclusion amount is the date on which the surviving spouse becomes a United States citizen.

This regulation contains a special rule regarding the computation and redetermination of the DSUE amount for property passing to a QDOT for the benefit of a surviving spouse where the decedent’s executor elects portability that is similar to the comparable rule in the estate tax regulations discussed above. However, this regulation further states that the decedent’s DSUE amount as so redetermined may be applied to the surviving spouse’s taxable gifts that are made in the year of the surviving spouse’s death, or if the terminating event occurs prior to the surviving spouse’s death, then in the year of that terminating event and/or in any subsequent year of the surviving spouse’s life.

This regulation also contains provisions regarding the authority of the IRS to examine the tax returns of each of the surviving spouse’s deceased spouses whose DSUE amount is claimed to be included in the surviving spouse’s applicable exclusion amount, that are similar to the comparable rules in the estate tax regulations discussed above.

Finally, this regulation also contains rules that are similar to the comparable rules in the estate tax regulations discussed above regarding the inability of a non-resident surviving spouse who was not a citizen of the United States at the time he or she makes a gift that is subject to gift taxes to take into account the DSUE amount of any deceased spouse.

Conclusion

These final regulations provide comprehensive guidance regarding the complex portability provisions set forth in the 2010 Act and that were made permanent by the 2012 Act. As noted above, in certain important respects these regulations are very favorable to the taxpayer and clarify areas of uncertainty that were in the proposed regulations, but there still remain areas that need clarification.

921 EXHIBIT “B” STATE ESTATE TAX AFTER EGTRRA, THE 2010 TAX ACT AND THE 2012 TAX ACT ON A TAXABLE ESTATE EQUAL TO THE FEDERAL BASIC EXCLUSION AMOUNT

Taxable Federal/State New York New Jersey* Florida Connecticut** Year of Death Estate Death Tax Credit Estate Tax Estate Tax Estate Tax Estate Tax

2002-2003 $1,000,000 0 0 $ 33,200 0 0

2004 $1,500,000 0 $ 64,400 $ 64,400 0 0

2005 $1,500,000 0 $ 64,400 $ 64,400 0 0

2006-2008 $2,000,000 0 $ 99,600 $ 99,600 0 0

2009 $3,500,000 0 $229,200 $229,200 0 $229,200

2010 $5,000,000 0 $391,600 $391,600 0 $121,800

2011 $5,000,000 0 $391,600 $391,600 0 $229,800

2012 $5,120,000 0 $405,200 $405,200 0 $240,000

2013 $5,250,000 0 $420,800 $420,800 0 $251,700

2014 $5,340,000 0 $431,600 $431,600 0 $259,800

2015 $5,430,000 0 $442,400 $442,400 0 $267,900

* New Jersey also imposes an inheritance tax. Transfers to surviving spouses, fathers, mothers, grandparents, children (both natural and adopted) and issue of children are exempt from tax. ** Prior to January 1, 2005, Connecticut also imposed an inheritance tax on property passing to beneficiaries other than spouse or descendants.

922 EXHIBIT “C”

STATE DEATH TAX LEGISLATION

AS OF JANUARY 26, 2015

Reprinted with the permission of The American College of Trust and Estate Counsel

State Type of Tax Effect of EGTRRA on Pick-up Tax and Size of Legislation Affecting State 2015 State Gross Estate Death Tax Death Tax Threshold Alabama None Tax is tied to federal state death tax credit.

AL ST § 40-15-2. Alaska None Tax is tied to federal state death tax credit.

AK ST § 43.31.011. Arizona None Tax was tied to federal state death tax credit.

AZ ST §§ 42-4051; 42-4001(2), (12).

On May 8, 2006, Governor Napolitano signed SB 1170 which permanently repeals Arizona’s state estate tax. Arkansas None Tax is tied to federal state death tax credit.

AR ST § 26-59-103; 26-59-106; 26-59-109, as amended March, 2003. California None Tax is tied to federal state death tax credit. CA REV & TAX §§ 13302; 13411.

Colorado None Tax is tied to federal state death tax credit. CO ST §§ 39-23.5-103; 39-23.5-102. Connecticut Separate As part of the two year budget which became law $2,000,000 Estate Tax on September 8, 2009, the exemption for the

923 State Type of Tax Effect of EGTRRA on Pick-up Tax and Size of Legislation Affecting State 2015 State Gross Estate Death Tax Death Tax Threshold separate estate and gift taxes was increased to $3.5 million, effective January 1, 2010, the tax rates were reduced to a spread of 7.2% to 12%, and effective for decedents dying on or after January 1, 2010, the Connecticut tax is due six months after the date of death. CT ST § 12-391. In May 2011, the threshold was lowered to $2 million retroactive to January 1, 2011 Delaware Pick-up Only For decedents dying after June 30, 2009. On March 28, 2013, the $5,430,000 Governor signed HB 51 to (indexed for The federal deduction for state death taxes is not eliminate the four year sunset inflation) taken into account in calculating the state tax. provision that originally DE ST TI 30 §§ 1502(c)(2) applied to the tax as enacted in June 2009. District of Pick-up Only Tax frozen at federal state death tax credit in On June 24, 2015, the D.C. $1,000,000 Columbia effect on January 1, 2001. Council approved changes to the D.C. Estate Tax. The In 2003, tax imposed only on estates exceeding changes include possible EGTRRA applicable exclusion amount. increases in the D.C. estate tax Thereafter, tax imposed on estates exceeding $1 threshold to $2 million in 2016 million. and to the federal threshold of $5 million indexed for DC CODE §§ 47-3702; 47-3701; approved by inflation in 2018 or later. Both Mayor on June 20, 2003; effective retroactively increases are subject to the to death occurring on and after January 1, 2003. District meeting or exceeding No separate state QTIP election. certain revenue targets which may or may not happen. Florida None Tax is tied to federal state death tax credit.

FL ST § 198.02; FL CONST. Art. VII, Sec. 5 Georgia None Tax is tied to federal state death tax credit.

GA ST § 48-12-2.

924 State Type of Tax Effect of EGTRRA on Pick-up Tax and Size of Legislation Affecting State 2015 State Gross Estate Death Tax Death Tax Threshold Hawaii Modified Tax was tied to federal state death tax credit. On May 2, 2012, the Hawaii $5,430,000 Pick-up Tax HI ST §§ 236D-3; 236D-2; 236D-B. legislature passed HB 2328 (indexed for which conforms the Hawaii inflation for The Hawaii Legislature on April 30, 2010 estate tax exemption to the deaths overrode the Governor’s veto of HB 2866 to federal estate tax exemption occurring impose a Hawaii estate tax on residents and also for decedents dying after after January on the Hawaii assets of a non-resident, non US January 25, 2012. 25, 2012) citizen. Idaho None Tax is tied to federal state death tax credit.

ID ST §§ 14-403; 14-402; 63-3004 (as amended Mar. 2002). Illinois Modified On January 13, 2011, Governor Quinn signed $4,000,000 Pick-up Public Act 096-1496 which increased Illinois’ Only individual and corporate income tax rates. Included in the Act was the reinstatement of Illinois’ estate tax as of January 1, 2011 with a $2 million exemption.

Senate Bill 397 passed both the Illinois House and Senate as part of the tax package for Sears and CME on December 13, 2011. It increases the exemption to $3.5 million for 2012 and $4 million for 2013 and beyond. Governor Quinn signed the legislation on December 16, 2011.

Illinois permits a separate state QTIP election, effective September 8, 2009. 35 ILCS 405/2(b-1). Indiana None Pick-up tax is tied to federal state death tax credit. On May 11, 2013, Governor Pence signed HB 1001 which IN ST §§ 6-4.1-11-2; 6-4.1-1-4. repealed Indiana’s inheritance tax retroactively to January 1, Indiana has not decoupled but has a separate 2013. This replaced Indiana’s inheritance tax (IN ST § 6-4.1-2-1) and prior law enacted in 2012

925 State Type of Tax Effect of EGTRRA on Pick-up Tax and Size of Legislation Affecting State 2015 State Gross Estate Death Tax Death Tax Threshold recognizes by administrative pronouncement a which phased out Indiana’s separate state QTIP election. inheritance tax over nine years beginning in 2013 and ending on December 31, 2021 and increased the inheritance tax exemption amounts retroactive to January 1, 2012. Iowa Inheritance Pick-up tax tied to federal state death tax credit. Tax IA ST § 451.2; 451.13.

Effective July 1, 2010, Iowa specifically reenacted it pick-up estate tax for decedents dying after December 31, 2010. Iowa Senate File 2380, reenacting IA ST §451.2.

Iowa has separate inheritance tax on transfers to remote relatives and third parties.

Kansas None. For decedents dying on or after January 1, 2007 and through December 31, 2009, Kansas had enacted a separate stand alone estate tax. KS ST § 79-15, 203 Kentucky Inheritance Pick-up tax is tied to federal state death tax credit. Tax KT ST § 140.130.

Kentucky has not decoupled but has a separate inheritance tax and recognizes by administrative pronouncement a separate state QTIP election. Louisiana None Pick-up tax is tied to federal state death tax credit.

LA R.S. §§ 47:2431; 47:2432; 47:2434. Maine Pick-up Only For decedents dying after December 31, 2002, $2,000,000 pick-up tax is frozen at pre-EGTRRA federal

926 State Type of Tax Effect of EGTRRA on Pick-up Tax and Size of Legislation Affecting State 2015 State Gross Estate Death Tax Death Tax Threshold state death tax credit, and imposed on estates exceeding applicable exclusion amount in effect on December 31, 2000 (including scheduled increases under pre-EGTRRA law) (L.D. 1319; March 27, 2003).

On June 20, 2011, Maine’s governor signed Public Law Chapter 380 into law, which will increase the Maine estate tax exemption to $2 million in 2013 and beyond. The rates are also changed, effective January 1, 2013, to 0% for Maine estates up to $2 million, 8% for Maine estates between $2 million and $5 million, 10% between $5 million and $8 million and 12% for the excess over $8 million. For estates of decedents dying after December 31, 2002, Sec. 2058 deduction is ignored in computing Maine tax and a separate state QTIP election is permitted. M.R.S. Title 36, Sec. 4062.

A 2010 Tax Alert issued by the Maine Revenue Services department limits the amount of the state QTIP to $2,500,000 (the difference between Maine’s $1,000,000 threshold and the $3,500,000 federal exemption Maine recognizes in 2010).

Maine also subjects real or tangible property located in Maine that is transferred to a trust, limited liability company or other pass-through entity to tax in a non resident’s estate. M.R.S. Title 36, Sec. 4064. Maryland Pick-up Tax On May 15, 2014, Governor O’Malley signed HB $1,500,000 739 which repealed and reenacted MD TAX Inheritance GENERAL §§ 7-305, 7-309(a), and 7-309(b) to

927 State Type of Tax Effect of EGTRRA on Pick-up Tax and Size of Legislation Affecting State 2015 State Gross Estate Death Tax Death Tax Threshold Tax do the following.

1. Increase the threshold for the Maryland estate tax to $1.5 million in 2015, $2 million in 2016, $3 million in 2017, and $4 million in 2018. For 2019 and beyond, the Maryland threshold will equal the federal applicable exclusion amount.

2. Continues to limit the amount of the federal credit used to calculate the Maryland estate tax to 16% of the amount by which the decedent’s taxable estate exceeds the Maryland threshold unless the Section 2011 federal state tax credit is then in effect.

3. Continues to ignore the federal deduction for state death taxes under Sec. 2058 in computing Maryland estate tax, thus eliminating a circular computation.

4. Permits a state QTIP election. Massachusetts Pick-up Only For decedents dying in 2002, pick-up tax is tied $1,000,000 to federal state death tax credit. MA ST 65C §§ 2A.

For decedents dying on or after January 1, 2003, pick-up tax is frozen at federal state death tax credit in effect on December 31, 2000. MA ST 65C §§ 2A(a), as amended July 2002.

Tax imposed on estates exceeding applicable exclusion amount in effect on December 31, 2000 (including scheduled increases under pre-

928 State Type of Tax Effect of EGTRRA on Pick-up Tax and Size of Legislation Affecting State 2015 State Gross Estate Death Tax Death Tax Threshold EGTRRA law), even if that amount is below EGTRRA applicable exclusion amount.

See, Taxpayer Advisory Bulletin (Dec. 2002), DOR Directive 03-02, Mass. Guide to Estate Taxes (2003) and TIR 02-18 published by Mass. Dept. of Rev. Massachusetts Department of Revenue has issued directive, pursuant to which separate Massachusetts QTIP election can be made when applying state’s new estate tax based upon pre- EGTRRA federal state death tax credit. Michigan None Tax was tied to federal state death tax credit.

MI ST §§ 205.232; 205.256 Minnesota Pick-up Only Tax frozen at federal state death tax credit in On March 21, 2014, the $1,400,000 effect on December 31, 2000, clarifying statute Minnesota Governor signed passed May 2002. HF 1777, which retroactively repealed Minnesota’s gift tax Tax imposed on estates exceeding federal (which was enacted in 2013). applicable exclusion amount in effect on December 31, 2000 (including scheduled With respect to the estate tax, increases under pre-EGTRRA law), even if that the new law increases the amount is below EGTRRA applicable exclusion exemption to $1,200,000 for amount. 2014 and thereafter in annual $200,000 increments until it MN ST §§ 291.005; 291.03; instructions for MN reaches $2,000,000 in 2018. It Estate Tax Return; MN Revenue Notice 02-16. also modifies the computation of the estate tax so that the first Separate state QTIP election permitted. dollars are taxed at a 9% rate which increases to 16%.

The new law permits a separate state QTIP election.

929 State Type of Tax Effect of EGTRRA on Pick-up Tax and Size of Legislation Affecting State 2015 State Gross Estate Death Tax Death Tax Threshold

The provision enacted in 2013 to impose an estate tax on nonresidents who own an interest in a pass-through entity which in turn owned real or personal property in Minnesota has been amended to exclude certain publicly traded entities. It still applies to entities taxed as partnerships or S Corporations that own closely held businesses, farms, and cabins. Mississippi None Tax is tied to federal state death tax credit. MS ST § 27-9-5.

Missouri None Tax is tied to federal state death tax credit.

MO ST §§ 145.011; 145.091. Montana None Tax is tied to federal state death tax credit.

MT St § 72-16-904; 72-16-905. Nebraska County Nebraska through 2006 imposed a pick-up tax at Inheritance the state level. Counties impose and collect a Tax separate inheritance tax.

NEB REV ST. § 77-2101.01(1). Nevada None Tax is tied to federal state death tax credit.

NV ST §§ 375A.025; 375A.100.

930 State Type of Tax Effect of EGTRRA on Pick-up Tax and Size of Legislation Affecting State 2015 State Gross Estate Death Tax Death Tax Threshold New None Tax is tied to federal state death tax credit. Hampshire NH ST §§ 87:1; 87:7. New Jersey Pick-up Tax For decedents dying after December 31, 2002, $675,000 pick-up tax frozen at federal state death tax credit Inheritance in effect on December 31, 2001. Tax NJ ST §§ 54:38-1

Pick-up tax imposed on estates exceeding federal applicable exclusion amount in effect December 31, 2001 ($675,000), not including scheduled increases under pre-EGTRRA law, even though that amount is below the lowest EGTRRA applicable exclusion amount.

The executor has the option of paying the above pick-up tax or a similar tax prescribed by the NJ Dir. Of Div. of Taxn. NJ St §§ 54:38-1; approved on July 1, 2002.

In Oberhand v. Director, Div. of Tax, 193 N.J. 558 (2008), the retroactive application of New Jersey's decoupled estate tax to the estate of a decedent dying prior to the enactment of the tax was declared "manifestly unjust", where the will included marital formula provisions.

In Estate of Stevenson v. Director, 008300-07 (N.J.Tax 2-19-2008) the NJ Tax Court held that in calculating the New Jersey estate tax where a marital disposition was burdened with estate tax, creating an interrelated computation, the marital deduction must be reduced not only by the actual NJ estate tax, but also by the hypothetical federal

931 State Type of Tax Effect of EGTRRA on Pick-up Tax and Size of Legislation Affecting State 2015 State Gross Estate Death Tax Death Tax Threshold estate tax that would have been payable if the decedent had died in 2001.

New Jersey allows a separate state QTIP election when a federal estate tax return is not filed and is not required to be filed.

The New Jersey Administration Code also requires that if the federal and state QTIP election is made, they must be consistent. NJAC 18:26-3A.8(d) New Mexico None Tax is tied to federal state death tax credit.

NM ST §§ 7-7-2; 7-7-3. New York Pick-up Only Tax frozen at federal state death tax credit in The Executive Budget of $2,062,500 effect on July 22, 1998. NY TAX § 951. 2014-2015 which was signed (as of April by Governor Cuomo on March 1, 2014 and Governor signed S. 6060 in 2004 which applies 31, 2014 made substantial through New York Estate Tax on a pro rata basis to non- changes to New York’s estate March 31, resident decedents with property subject to New tax. 2015). York Estate Tax. The New York estate tax On March 16, 2010, the New York Office of Tax exemption which was Policy Analysis, Taxpayer Guidance Division $1,000,000 through March 31, issued a notice permitting a separate state QTIP 2014 has been increased as election when no federal estate tax return is follows: required to be filed such as in 2010 when there is no estate tax or when the value of the gross estate April 1, 2014 to March 31, is too low to require the filing of a federal return. 2015 -- $2,062,500 See TSB-M-10(1)M. April 1, 2015 to March 31, Advisory Opinion (TSB-A-08(1)M (October 24, 2016 -- $3,125,000 2008) provides that an interest in an S

932 State Type of Tax Effect of EGTRRA on Pick-up Tax and Size of Legislation Affecting State 2015 State Gross Estate Death Tax Death Tax Threshold Corporation owned by a non-resident and April 1, 2016 to March 31, containing a condominium in New York is an 2017 -- $4,187,500 intangible asset as long as the S Corporation has a real business purpose. If the S Corporation has no April 1, 2017 to December 31, business purpose, it appears that New York 2018 -- $5,250,000 would look through the S Corporation and subject the condominium to New York estate tax in the As of January 1, 2019 the New estate of the non-resident. There would likely be York estate tax exemption no business purpose if the sole reason for forming amount will be the same as the the S Corporation was to own assets. federal estate tax applicable exclusion amount.

The maximum rate of tax will continue to be 16%.

Taxable gifts within three years of death between April 1, 2014 and December 31, 2018 will be added back to a decedent’s estate for purposes of calculating the New York tax.

The New York estate tax will be a cliff tax. If the value of the estate is more than 105% of the then current exemption, the exemption will not be available.

North Carolina None On July 23, 2013, the Governor signed HB 998 which repealed the North Caroline estate tax

933 State Type of Tax Effect of EGTRRA on Pick-up Tax and Size of Legislation Affecting State 2015 State Gross Estate Death Tax Death Tax Threshold retroactively to January 1, 2013 North Dakota None Tax is tied to federal state death tax credit.

ND ST § 57-37.1-04 Ohio None Governor Taft signed the budget bill, 2005 HB 66, repealing the Ohio estate (sponge) tax prospectively and granting credit for it retroactively. This was effective June 30, 2005 and killed the sponge tax.

On June 30, 2011, Governor Kasich signed HB 153, the biannual budget bill, which contains a repeal of the Ohio state estate tax effective January 1, 2013.

Oklahoma None Tax is tied to federal state death tax credit. OK ST Title 68 § 804

The separate estate tax was phased out as of January 1, 2010. Oregon Separate On June 28, 2011, Oregon’s governor signed HB $1,000,000 Estate Tax 2541 which replaces Oregon’s pick-up tax with a stand-alone estate tax effective January 1, 2012. The new tax has a $1 million threshold with rates increasing from ten percent to sixteen percent between $1 million and $9.5 million. Determination of the estate for Oregon estate tax purposes is based upon the federal taxable estate with adjustments. Pennsylvania Inheritance Tax is tied to the federal state death tax credit to Tax the extent that the available federal state death tax credit exceeds the state inheritance tax.

934 State Type of Tax Effect of EGTRRA on Pick-up Tax and Size of Legislation Affecting State 2015 State Gross Estate Death Tax Death Tax Threshold Pennsylvania had decoupled its pick-up tax in 2002, but has now recoupled retroactively. The recoupling does not affect the Pennsylvania inheritance tax which is independent of the federal state death tax credit.

Pennsylvania recognizes a state QTIP election. Rhode Island Pick-up Only Tax frozen at federal state death tax credit in On June 19, 2014, the Rhode $1,500,000 effect on January 1, 2001, with certain Island Governor approved adjustments (see below). changes to the Rhode Island RI ST § 44-22-1. Estate Tax by increasing the exemption to $1,500,000 Rhode Island recognized a separate state QTIP indexed for inflation in 2015 election in the State’s Tax Division Ruling and eliminating the cliff tax. Request No. 2003-03.

Rhode Island’s Governor signed in to law on June 30, 2009, effective for deaths occurring on or after January 1, 2010, an increase in the amount exempt from Rhode Island estate tax from $675,000, to $850,000, with annual adjustments beginning for deaths occurring on or after January 1, 2011 based on “the percentage of increase in the Consumer Price Index for all Urban Consumers (CPI-U)…. rounded up to the nearest five dollar ($5.00) increment.”

RI ST § 44-22-1.1. South Carolina None Tax is tied to federal state death tax credit.

SC ST §§ 12-16-510; 12-16-20 and 12-6-40, amended in 2002. South Dakota None Tax is tied to federal state death tax credit.

935 State Type of Tax Effect of EGTRRA on Pick-up Tax and Size of Legislation Affecting State 2015 State Gross Estate Death Tax Death Tax Threshold SD ST §§ 10-40A-3; 10-40A-1 (as amended Feb. 2002). Tennessee Inheritance Pick-up tax is tied to federal state death tax credit. On May 2, 2012, the $5,000,000 Tax TN ST §§ 67-8-202; 67-8-203. Tennessee legislature passed HB 3760/SB 3762 which Tennessee has not decoupled, but has a separate phases out the Tennessee inheritance tax and recognizes by administrative inheritance Tax as of January pronouncement a separate state QTIP election. 1, 2016. The Tennessee inheritance Tax Exemption is increased to $1.25 million in 2013, $2 million in 2014, and $5 million in 2015.

On May 2, 2012, the Tennessee legislature also passed HB 2840/SB 2777 which repeals the Tennessee state gift tax retroactive to January 1, 2012. Texas None Tax is tied to federal state death tax credit. TX TAX §§ 211.001; 211.003; 211.051 Utah None Tax is tied to federal state death tax credit.

UT ST § 59-11-102; 59-11-103. Vermont Modified In 2010, Vermont increased the estate tax $2,750,000 Pick-up exemption threshold from $2,000,000 to $2,750,000 for decedents dying January 1, 2011. As of January 1, 2012 the exclusion is scheduled to equal the federal estate tax applicable exclusion, so long as the FET exclusion is not less than $2,000,000 and not more than $3,500,000. VT ST T. 32 § 7442a.

Previously the estate tax was frozen at federal

936 State Type of Tax Effect of EGTRRA on Pick-up Tax and Size of Legislation Affecting State 2015 State Gross Estate Death Tax Death Tax Threshold state death tax credit in effect on January 1, 2001. VT ST T. 32 §§ 7402(8), 7442a, 7475, amended on June 21, 2002.

Threshold was limited to $2,000,000 in 2009 when the legislature overrode the Governor’s veto of H. 442.

No separate state QTIP election permitted Virginia None Tax is tied to federal state death tax credit. VA ST §§ 58.1-901; 58.1-902.

The Virginia tax was temporarily repealed effective July 1, 2007. Previously, the tax was frozen at federal state death tax credit in effect on January 1, 1978. Tax was imposed only on estates exceeding EGTRRA federal applicable exclusion amount. VA ST §§ 58.1-901; 58.1-902. Washington Separate On February 3, 2005, Washington State Supreme On June 14, 2013, Governor $2,054,000 Estate Tax Court unanimously held that Washington’s state Inslee signed HB 2075 which death tax was unconstitutional. The tax was tied closed an exemption for to the current federal state death tax credit, thus marital trusts retroactive reducing the tax for the years 2002 - 2004 and immediately prior to when the eliminating it for the years 2005 - 2010. Department of Revenue was Hemphill v. State Department of Revenue 2005 about to start issuing refund WL 240940 (Wash. 2005). checks, created a deduction for up to $2.5 million for certain In response to Hemphill, the Washington State family owned businesses and Senate on April 19 and the Washington House on indexes the $2 million April 22, 2005, by narrow majorities, passed a Washington state death tax stand-alone state estate tax with rates ranging threshold for inflation. from 10% to 19%, a $1.5 million exemption in 2005 and $2 million thereafter, and a deduction

937 State Type of Tax Effect of EGTRRA on Pick-up Tax and Size of Legislation Affecting State 2015 State Gross Estate Death Tax Death Tax Threshold for farms for which a Sec. 2032A election could have been taken (regardless of whether the election is made). The Governor signed the legislation.

Washington voters defeated a referendum to repeal the Washington estate tax in the November 2006 elections.

Washington permits a separate state QTIP election. WA ST §83.100.047. West Virginia None Tax is tied to federal state death tax credit. WV § 11-11-3. Wisconsin None Tax is tied to federal state death tax credit. WI ST § 72.01(11m).

For deaths occurring after September 30, 2002, and before January 1, 2008, tax was frozen at federal state death tax credit in effect on December 31, 2000 and was imposed on estates exceeding federal applicable exclusion amount in effect on December 31, 2000 ($675,000), not including scheduled increases under pre- EGTRRA law, even though that amount is below the lowest EGTRRA applicable exclusion amount. Thereafter, tax imposed only on estates exceeding EGTRRA federal applicable exclusion amount. WI ST §§ 72.01; 72.02, amended in 2001; WI Dept. of Revenue website.

On April 15, 2004, the Wisconsin governor signed 2003 Wis. Act 258, which provides that Wisconsin will not impose an estate tax with

938 State Type of Tax Effect of EGTRRA on Pick-up Tax and Size of Legislation Affecting State 2015 State Gross Estate Death Tax Death Tax Threshold respect to the intangible personal property of a non-resident decedent that has a taxable situs in Wisconsin even if the non-resident’s state of domicile does not impose a death tax. Previously, Wisconsin would impose an estate tax with respect to the intangible personal property of a non-resident decedent that had a taxable situs in Wisconsin if the state of domicile of the nonresident had no state death tax. Wyoming None Tax is tied to federal state death tax credit.

WY ST §§ 39-19-103; 39-19-104.

939 EXHIBIT “D”

Bases of State Income Taxation of Nongrantor Trusts (Revised 3/31/15) State Citations Top 2014 Trust Inter Vivos Trust Resident Resident Tax Dept. Website Rate Created by Trust Created Administered Trustee Beneficiary Will of by Resident in State Resident

Alabama Ala. Code §§ 40-18-1(33), 40- 5.00% on 91 91 www.revenue.alabama.gov 18-5(l)(c); instructions to inc. over 2014 Ala. Form 41 at 2. $3,000

Alaska No income tax imposed on trusts. dor.alaska.gov

Arizona Ariz. Rev. Stat. 4.54% on 9 www.azdor.gov §§ 43-1011(5)(a), 43-1301(5), inc. over 43-1311(B); instructions to $150,000 2014 Ariz. Form 141AZ at 1, 16.

Arkansas Ark. Code Ann. 7.00% on 92 92 www.dfa.arkansas.gov §§ 26-51-201(a)(6)(A), (b), inc. on or (d), 26-51-203(a); instructions over to 2014 Ark. AR1002 at 1; $34,000 2014 Ark. Regular Tax Tables at 4.

California Cal. Rev. & Tax. Code 13.30% on 9 9 www.ftb.ca.gov §§ 17041(a)(1), 17043(a), inc. over $1 17742(a); Cal. Const. Art. million XIII, § 36(f)(2); instructions to 2014 Cal. Form 541 at 4, 9, 10.

Colorado Colo. Rev. Stat. 4.63% 9 www.taxcolorado.com §§ 39-22-103(10), 39-22- 104(1.7); instructions to 2014 Colo. Form 105 at 3, 4; 2014 Colo. Form 105 at 1.

Reprinted with permission from Wilmington Trust Company and Richard W. Nenno, Esq., Administrative Vice President and Trust Counsel of Wilmington Trust Company.

940 State Citations Top 2014 Trust Inter Vivos Trust Resident Resident Tax Dept. Website Rate Created by Trust Created Administered Trustee Beneficiary Will of by Resident in State Resident

3 Connecticut Conn. Gen. Stat. 6.70% 9 9 www.ct.gov/drs §§ 12-700(a)(8)(E), (a)(9),

12-701(a)(4)(C)–(D); Conn. Agencies Regs. § 12- 701(a)(4)-1; instructions to 2014 Form CT-1041 at 5; 2014 Form CT-1041 at 1.

Delaware 30 Del. C. §§ 1102(a)(14), 6.60% on 94 94 94 www.revenue.delaware.gov 1601(8); 2014 Del. Form inc. over 400- I at 1, 2; 2014 Del. $60,000 Form 400 at 2.

District of D.C. Code §§ 47- 8.95% on 9 9 otr.cfo.dc.gov Columbia 1806.03(a)(8), 47-1809.01, inc. over 47-1809.02; instructions to $350,000 2014 D.C. Form D-41 at 6, 7.

Florida No income tax imposed on trusts; Florida intangible personal property tax repealed for 2007 and later years. dor.myflorida.com/dor

Georgia O.C.G.A. 6.00% on 95 dor.georgia.gov §§ 48-7-20(b)(1), (d), 48-7- inc. over 22; Ga. Comp. R. & Regs. r. $7,000 560-7-3-.07(1); instructions to 2014 Ga. Form 501 at 4.

941 State Citations Top 2014 Trust Inter Vivos Trust Resident Resident Tax Dept. Website Rate Created by Trust Created Administered Trustee Beneficiary Will of by Resident in State Resident

Hawaii Haw. Rev. Stat. 8.25% on 94 94 tax.hawaii.gov §§ 235-1, 235-4.5, 235-51(d); inc. over Haw. Admin. Rules § 18-235- $40,000 1.17; instructions to 2014 Haw. Form N-40 at 1, 12.

6 6 6 6 Idaho Idaho Code §§ 63-3015(2), 7.40% on 9 9 9 9 www.tax.idaho.gov (7), 63-3024(a); Idaho Admin. inc. over Code Regs. 35.01.01.035.01, $10,718 35.01.01.075.03(e); instructions to 2014 Idaho Form 66 at 1, 2, 10.

Illinois 35 Ill. Comp. Stat. 6.50% 9 9 www.tax.illinois.gov 5/201(a), (b)(5), (c), (d),

5/1501(a)(20)(C)–(D); Ill. Admin. Code tit. 86,

§ 100.3020(a)(3)–(4); instructions to 2014 Form IL- 1041 at 4; 2014 Form IL-1041 at 2, 3.

Indiana Ind. Code 3.40% 9 www.in.gov/dor §§ 6-3-1-12(d), 6-3-1-14, 6-3- 2-1(a)(1); Ind. Admin. Code tit. 45, r. 3.1-1-21(d); instructions to 2014 Ind. Form IT-41 at 1, 4; Ind. Form IT-41 at 1.

942 State Citations Top 2014 Trust Inter Vivos Trust Resident Resident Tax Dept. Website Rate Created by Trust Created Administered Trustee Beneficiary Will of by Resident in State Resident Iowa Iowa Code § 422.5(1)(i), (6); 8.98% on 96 96 96 96 tax.iowa.gov Iowa Admin. Code r. 701- inc. over

89.3(1)–(2); instructions to $68,175 2014 Iowa Form IA 1041 at 1; 2014 Iowa Form IA 1041 at 2.

Kan. Stat. Ann. Kansas 4.80% on 9 www.ksrevenue.org §§ 79-32,109(d), 79- inc. over 32,110(a)(2)(C), (d); $15,000 instructions to 2014 Kan. Form K-41 at 2; 2014 Kan. Form K-41 at 4.

Kentucky Ky. Rev. Stat. Ann. 6.00% on 9 revenue.ky.gov §§ 141.020(2)(b)(6), inc. over 141.030(1); 103 Ky. Admin. $75,000

Regs. 19:010(1)–(2); instructions to 2014 Ky. Form 741 at 1, 2.

La. Rev. Stat. Ann. 7 Louisiana 6.00% on 9 9 www.revenue.louisiana.gov §§ 47:300.1(3), 47:300.10(3); inc. over instructions to 2014 La. Form $50,000 IT-541 at 1.

Maine Me. Rev. Stat. Ann. tit. 36, §§ 7.95% on 9 9 www.maine.gov/revenue 5102(4)(B)–(C), 5111(1-D), inc. over 5403; instructions to 2014 $20,900 Form 1041ME at 1, 2.

943 State Citations Top 2014 Trust Inter Vivos Trust Resident Resident Tax Dept. Website Rate Created by Trust Created Administered Trustee Beneficiary Will of by Resident in State Resident

Maryland Md. Code Ann., Tax–Gen. §§ 5.75% (plus 9 9 9 www.marylandtaxes.com 10-101(k)(1)(iii), 10- county tax 105(a)(1), 10-106(a)(1)(iii); between instructions to 2014 Md. Form 1.25% and 504 at 1, 5, 6. 3.20%) on inc. over $250,000 Massachusetts Mass. Gen. Laws ch. 62, 5.2% 94 94, 8 www.mass.gov/dor §§ 4, 10(c); Mass Regs. Code (12.00% for tit. 830, § 62.10.1(1); short-term instructions to 2014 Mass. gains and Form 2 at 3௅4, 21; 2014 Mass. gains on Form 2 at 2. sales of collectibles) 9 Michigan Mich. Comp. Laws 4.25% 9 9 www.michigan.gov/taxes §§ 206.16, 206.18(1)(c), 206.51(1)(h); instructions to 2014 MI-1041 at 2; 2014 MI- 1041 at 1.

Minnesota Minn. Stat. §§ 290.01 Subd. 9.85% on 910 910 911 www.revenue.state.mn.us 7b, 290.06 Subd. 2c, Subd. inc. over 2d; instructions to 2014 Minn. $127,120 Form M2 at 1, 14.

Mississippi Miss. Code Ann. § 27-7-5(1); 5.00% on 9 www.dor.ms.gov instructions to 2014 Miss. inc. over Form 81-110 at 3, 10. $10,000

944 State Citations Top 2014 Trust Inter Vivos Trust Resident Resident Tax Dept. Website Rate Created by Trust Created Administered Trustee Beneficiary Will of by Resident in State Resident

Missouri RSMo §§ 143.011, 143.061; 6.00% on 912 912 dor.mo.gov

143.331(2)–(3); instructions inc. over to 2014 Form MO-1041 at 2, $9,000 8. Montana Mont. Code Ann. § 72-38- 6.90% on 9 revenue.mt.gov 103(14); instructions to 2014 inc. over Mont. Form FID-3 at 2, 12, $17,100 15; 2014 Mont. Form FID-3 at 2.

Nebraska Neb. Rev. Stat. 6.84% on 9 9 www.revenue.nebraska.gov §§ 77-2714.01(6)(b)–(c), 77- inc. over 2715, 77-2715.02, 77- $15,150 2715.03(1), 77-2717(1)(a); Neb. Admin. Code tit. 316, Ch. 23, REG-23-001; instructions to 2014 Neb. Form 1041N at 7, 8.

Nevada No income tax imposed on trusts. tax.nv.gov

New No income tax imposed on trusts. www.revenue.nh.gov Hampshire New Jersey NJSA §§ 54A:1-2(o)(2)–(3), 8.97% on 913 913 www.state.nj.us/treasury/ (p), 54A:2-1(b)(5); inc. over taxation instructions to 2014 Form NJ- $500,000 1041 at 1, 23.

945 State Citations Top 2014 Trust Inter Vivos Trust Resident Resident Tax Dept. Website Rate Created by Trust Created Administered Trustee Beneficiary Will of by Resident in State Resident

New Mexico N.M. Stat. Ann. §§ 7-2-2(I), 4.90% on 9 9 www.tax.newmexico.gov (S), 7-2-7(C); instructions to inc. over 2014 N.M. Form F1D-1 at 2, $16,000 6.

New York N.Y. Tax Law 8.82% on 913 913 www.tax.ny.gov

State §§ 601(c)(1)(A), 605(b)(3)– inc. over (4); N.Y. Comp. Codes R. & $1,046,350 Regs. tit. 20, § 105.23; instructions to 2014 N.Y. Form IT-205 at 2, 10.

13 13 New York City N.Y. Tax Law §§ 1304(a)(3), 3.876% on 9 9 www.tax.ny.gov 1304-B, 1305; Admin. Code inc. over City of N.Y. §§ 11-1704.1, $500,000 11-1705; instructions to 2014 N.Y. Form IT-205 at 14, 16.

North Carolina N.C. Gen. Stat. §§ 105- 5.8% 9 www.dor.state.nc.us 153.7(a), 105-160.2; N.C. Admin. Code tit. 17, r. 6B.3718(a); instructions to 2014 N.C. Form D-407 at 1; 2014 N.C. Form D-407 at 1.

946 State Citations Top 2014 Trust Inter Vivos Trust Resident Resident Tax Dept. Website Rate Created by Trust Created Administered Trustee Beneficiary Will of by Resident in State Resident

North Dakota N.D. Cent. Code §§ 57-38-07, 3.22% on 9 9 9 www.nd.gov/tax 57-38-30.3(1)(e), (g); N.D. inc. over Admin. Code § 81-03-02.1- $12,150 04(2); instructions to 2014 N.D. Form 38 at 2; 2014 N.D. Form 38 at 2.

4 Ohio Ohio Rev. Code Ann. §§ 5.333% on 9 9 www.tax.ohio.gov 5747.01(I)(3), 5747.02(A)(8), inc. over (D); instructions to 2014 Ohio $208,500 Form IT 1041 at 4, 13.

Oklahoma Okla. Stat. tit. 68, §§ 2353(6) 5.25% on 9 9 www.tax.ok.gov 2355(B)(1)(h), (F); Okla. inc. over Admin. Code § 710:50-23- $8,700 1(c); instructions to 2014 Okla. Form 513 at 2, 14.

Oregon Or. Rev. Stat. §§ 316.037, 9.90% on 9 9 www.oregon.gov/dor 316.282(1)(d); Or. Admin. R. inc. over 150-316.282(3); instructions $125,000 to 2014 Or. Form 41 at 2; 2014 Or. Form 41 at 2.

14 14 Pennsylvania 72 P.S. §§ 7301(s), 7302; 61 3.07% 9 9 www.revenue.pa.gov Pa. Code § 101.1; instructions to 2014 Form PA-41 at 3, 4; 2014 Form PA-41 at 1.

947 State Citations Top 2014 Trust Inter Vivos Trust Resident Resident Tax Dept. Website Rate Created by Trust Created Administered Trustee Beneficiary Will of by Resident in State Resident

4 4 Rhode Island R.I. Gen. Laws §§ 44-30- 5.99% on 9 9 www.tax.ri.gov 2.6(c)(3)(A)(II), (E), 44-30- inc. over

5(c)(2)–(4); R.I. Code R. PIT $7,600 90-13(I); instructions to 2014 Form RI-1041 at 1-1; 2014 RI-1041 Tax Rate Schedules at 1.

South Carolina S.C. Code Ann. §§ 12-6- 7.00% on 9 www.sctax.org 30(5), 12-6-510(A), 12-6-520; inc. over instructions to 2014 Form $14,400 SC1041 at 1, 3.

South Dakota No income tax imposed on trusts. dor.sd.gov

Tennessee Tenn. Code Ann. §§ 67-2- 6.00% 9 www.tn.gov/revenue 102, 67-2-110(a); instructions (interest to 2014 Tenn. Form INC. 250 and at 1, 3, 4. dividends only) Texas No income tax imposed on trusts. www.window.state.tx.us/taxes

15 15, 16 Utah Utah Code Ann. §§ 59-10- 5.00% 9 9 www.tax.utah.gov 104(2)(b), 59-10-201(1), 75-

7-103(1)(i)(ii)–(iii); instructions to 2014 UT Form TC-41 at 3, 6; 2014 UT Form TC-41 at 1.

948 State Citations Top 2014 Trust Inter Vivos Trust Resident Resident Tax Dept. Website Rate Created by Trust Created Administered Trustee Beneficiary Will of by Resident in State Resident

Vermont 32 V.S.A. §§ 5811(11)(B), 8.95% on 9 9 www.state.vt.us/tax 5822(a)(5), (b)(2); inc. over instructions to 2014 Vt. Form $120,300 FI-161 at 2, 5.

Virginia Va. Code Ann. §§ 58.1-302, 5.75% on 9 9 9 9 www.tax.virginia.gov. 58.1-320, 58.1-360; 23 Va. inc. over Admin. Code § 10-115-10; $17,000 instructions to 2014 Va. Form 770 at 1, 8.

Washington No income tax imposed on trusts. dor.wa.gov

West Virginia W. Va. Code §§ 11-21-4e(a), 6.50% on 9 9 www.wva.state.wv.us/wvtax 11-21-7(c); W. Va. Code St. inc. over Rs. § 110-21-4, 110-21-7.3; $60,000 instructions to 2014 W. Va. Form IT-141 at 2, 7, 10.

17 18 Wisconsin Wis. Stat. §§ 71.06(1q), 7.65% on 9 9 9 www.revenue.wi.gov (2e)(b), 71.125(1), 71.14(2), inc. over (3), (3m); instructions to 2014 $240,190 Wis. Form 2 at 1, 19.

949 State Citations Top 2014 Trust Inter Vivos Trust Resident Resident Tax Dept. Website Rate Created by Trust Created Administered Trustee Beneficiary Will of by Resident in State Resident

Wyoming No income tax imposed on trusts. revenue.wyo.gov

1 Provided that trust has resident fiduciary or current beneficiary. 2.Provided that trust has resident trustee. 3 Provided that trust has resident noncontingent beneficiary. 4 Provided that trust has resident beneficiary. 5 Tax also applies if trustee receives income from business done in state or manages funds or property located in state. 6 Provided that other requirements are met. 7 Unless trust designates governing law other than Louisiana. 8 Provided that trust has Massachusetts trustee. 9 Unless trustees, beneficiaries, and administration are outside Michigan. 10 Post-1995 trust only. 11 Pre-1996 trust only. 12 Provided that trust has resident income beneficiary on last day of year. 13 Unless trustees and trust assets are outside state and no source income; trustee should file informational return. 14 Unless settlor is no longer resident or is deceased and trust lacks sufficient contact with Pennsylvania to establish nexus. 15 Post-2003 irrevocable resident nongrantor trust having Utah corporate trustee may deduct all nonsource income but must file Utah return if must file federal return. 16 Testamentary trust created by non-Utah resident; inter vivos trust created by Utah or non-Utah resident. 17 Trust created or first administered in Wisconsin after October 28, 1999, only. 18 Irrevocable inter vivos trust administered in Wisconsin before October 29, 1999, only.

950 EXHIBIT “E”

DIGITAL PROPERTY

A. WILL CLAUSES

1) Tangible Personal Property and Definition of Digital Property

I give and bequeath all of my jewelry, clothing, books, silverware, glassware, works of art, antiques, all other personal and household effects, furniture, furnishings, automobiles, digital devices of every nature and kind, including, but not limited to, computers, laptops, notebooks, and smartphones and similar devices that now exist or may exist in the future, and "digital assets", hereinafter defined, of every nature and kind (except for any digital financial accounts or digital business accounts such as on-line banking or brokerage accounts, which digital financial accounts and digital business accounts shall be disposed of as a part of my "Residuary Estate", as hereinafter defined, to the extent that such accounts are testamentary assets) to my wife, ______, if she shall survive me. For all purposes of this my Last Will and Testament, the term "digital assets" shall include, but not be limited to, all of my files stored on my digital devices and backup systems, including but not limited to, files stored on desktops, laptops, tablets, peripherals, storage devices, mobile telephones, smartphones, and any similar digital device which currently exists or may exist as technology develops, and all emails received by me, my email accounts such as any and all Gmail, Yahoo, America on Line (AOL) accounts, my digital music, digital photographs, digital videos, and digital games, my software licenses, my social network accounts such as any Facebook, Twitter, LinkedIn, Flickr, Shutterfly and YouTube accounts, my file sharing accounts, my domain registrations and domain name system (DNS) service accounts, my web hosting accounts, my tax preparation service accounts, and my online stores, affiliate programs, other online accounts and similar digital items which currently exist or may exist as technology develops or such comparable items as technology develops regardless of the ownership of the physical device upon which the digital item is stored.

2) Digital Executor - (A) I hereby nominate, constitute and appoint ______as the Digital Executor of this my Last Will and Testament in connection with the administration of all of my "digital assets", as hereinbefore defined. If ______shall die or shall be or become unwilling or unable to qualify and/or act or continue to act as Digital Executor, I hereby nominate, constitute and appoint ______to be Digital Executor in his/her place and stead.

(B) I hereby nominate, constitute and appoint ______as the Executor of this my Last Will and Testament in connection with the administration of all of my assets, except for my "digital assets". If ______shall die or shall be or become unwilling or unable to qualify and/or act or continue to act as Executor, I hereby nominate, constitute and appoint ______to be Executor in his/her place and stead.

3) Powers Clause re Digital Assets - My Executors (or my Digital Executors) shall have full authority granted to them under applicable law to administer all of my "digital assets", as

951 hereinbefore defined, including, but not limited to: (i) the power to access, use, control, transfer and dispose of my digital devices, including but not limited to, desktops, laptops, tablets, peripherals, storage devices, mobile telephones, smartphones, and any similar digital device which currently exists or may exist as technology develops or such comparable items as technology develops for the purpose of accessing, using, modifying, deleting, controlling, transferring or disposing of my "digital assets", as hereinbefore defined, and (ii) the power to access, use, modify, delete, control, transfer and dispose of all of my "digital assets", as hereinbefore defined.

B. POWER OF ATTORNEY

My agent, to the extent permissible under applicable law, shall have the same powers and rights that I possess over all of my "digital assets", as hereinafter defined, including, but not limited to: (i) the power to access, use, control, transfer and dispose of my digital devices, including but not limited to, desktops, laptops, tablets, peripherals, storage devices, mobile telephones, smartphones, and any similar digital device which currently exists or may exist as technology develops or such comparable items as technology develops for the purpose of accessing, using, modifying, deleting, controlling, transferring or disposing of my digital assets, as hereafter defined, and (ii) the power to access, use, modify, delete, control, transfer and dispose of my "digital assets" as hereafter defined. For all purposes of this Power of Attorney, the term "digital assets" shall include, but not be limited to, all of my files stored on my digital devices and backup systems, including but not limited to, desktops, laptops, tablets, peripherals, storage devices, mobile telephones, smartphones, and any similar digital device which currently exists or may exist as technology develops, and all emails received by me, my email accounts such as any and all Gmail, Yahoo, America on Line (AOL) accounts, my digital music, digital photographs, digital videos, and digital games, my software licenses, my social network accounts such as any Facebook, Twitter, LinkedIn, Flickr, Shutterfly and YouTube accounts, my file sharing accounts, my domain registrations and domain name system (DNS) service accounts, my web hosting accounts, my tax preparation service accounts, and my online stores, affiliate programs, other online accounts and similar digital items which currently exist or may exist as technology develops or such comparable items as technology develops regardless of the ownership of the physical device upon which the digital item is stored.

952 EXHIBIT “F”

Computation of New York State Estate Tax (on various amounts of Taxable Estate)

Taxable Estate of: 4/1 to 12/31/14 1/1 to 3/31/15 4/1 to 12/31/15 1/1 to 3/31/16 4/1 to 12/31/16 1/1 to 3/31/17 4/1 to 12/31/17 2018

NYS Basic Exclusion Amount 2,062,500.00 2,062,500.00 3,125,000.00 3,125,000.00 4,187,500.00 4,187,500.00 5,250,000.00 5,250,000.00

------Resulting NYS Estate Tax

102.5% of Basic Exclusion Amount 2,114,062.50 2,114,062.50 3,203,125.00 3,203,125.00 4,292,187.50 4,292,187.50 5,381,250.00 5,381,250.00

Resulting NYS Estate Tax* 65,906.25 65,906.25 128,837.50 128,837.50 205,931.25 205,931.25 287,550.00 287,550.00

105% of Basic Exclusion Amount 2,165,625.00 2,165,625.00 3,281,250.00 3,281,250.00 4,396,875.00 4,396,875.00 5,512,500.00 5,512,500.00

112,050.00 112,050.00 208,200.00 208,200.00 324,050.00 324,050.00 452,300.00 452,300.00 Resulting NYS Estate Tax*

121,793.00 121,793.00 230,310.00 230,310.00 364,921.00 364,921.00 513,977.00 513,977.00 Resulting NYS Estate Tax**

Federal Basic Exclusion Amount 5,340,000.00 5,430,000.00 5,430,000.00 Unknown Unknown Unknown Unknown Unknown

Resulting NYS Estate Tax* 431,600.00 442,400.00 442,400.00

Resulting NYS Estate Tax ** 490,454.00 502,727.00 502,727.00

* These calculations apply either (a) in the case of an unmarried decedent, or (b) in the case of a married decedent (whose will divides such decedent's residuary estate into a credit shelter trust and a QTIP trust) assuming that the NYS Estate Tax is paid out of the credit shelter trust.

** These calculations assume that the NYS Estate Tax is paid out of the QTIP trust (in order to maximize the amount of the credit shelter trust). Payment of the NYS Estate Tax out of the QTIP trust will cause an interrelated calculation for NYS Estate Tax purposes because it reduces the marital deduction.

953 954 CHAPTER THREE

NEW YORK ESTATE AND GIFT TAXES

Michael E. O’Connor, Esq.

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955 956 NEW YORK ESTATE AND GIFT TAXES § 3.0

[3.0] I. HISTORICAL OVERVIEW

Historically, New York State has imposed estate and gift taxes on the transfer of wealth by New York residents; it also has taxed the passage of real estate and tangible personal property located in New York and owned by nonresidents. Until 2000, the New York estate tax was based on the federal estate tax but typically was calculated at a rate substantially higher than both the rate used by most other states and the state death tax credit allowed on the federal return. The extra cost of the New York estate tax was perceived as yet another reason for clients to establish their domicile in Florida or other states.

New York repealed both the New York estate tax and gift tax by legislation in 1997.1 The gift tax was permanently repealed for all gifts made on or after January 1, 2000. The separate estate tax was repealed for deaths occurring on or after February 1, 2000, and replaced with a state estate tax limited to the amount allowed as a credit against the federal estate tax.2 This sop tax, so-called because the tax imposed was only as much as was needed to “sop up” the federal credit, was essentially a federal subsidy of New York and the 35 other states, including Florida, that had such a tax. If any of these states failed to actually tax this amount, the credit was not available and the revenue passed to the federal government instead of the state.

In adopting the sop tax, the legislature expected that, because New York law then mirrored Florida law, fewer citizens seemingly would need or want to change their domicile to Florida. If more people remained domiciled in New York, more estates would pay the sop tax upon the decedent’s death. Therefore, New York would reap a greater number of federal credits, and, because the credit was substantial, the consequent revenues to the state were expected to offset the loss of revenue resulting from elimination of the higher New York estate tax.

Had the federal estate tax remained unchanged, New York would have continued to collect an amount equal to the state death tax credit as computed on the federal estate tax return. There would have been little need for estate tax administration, because the amount due to New York was

1 1997 N.Y. Laws ch. 389, § 7. The repeal resulted in large part because of the tireless efforts of Joshua Rubenstein, former chair of the New York State Bar Association’s Trusts and Estates Law Section, and the many section members who worked with him. See also N.Y. Tax Law § 952.

2 Internal Revenue Code § 2011 (I.R.C.); Tax Law § 952.

3-3

957 § 3.0 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION computed on the federal return and, presumably, the enforcement of that tax and the valuations used were issues for the Internal Revenue Service.

However, the smooth operation of New York’s estate tax scheme was short-lived. The U.S. Economic Growth and Tax Relief Reconciliation Act of 20013 gradually eliminated the state death tax credit. The credit was reduced over four years and then completely eliminated for deaths occurring after 2004. Now, any estate tax due to a state is simply a deduction on the federal return, not a credit. The federal subsidy of the states by the credit has disappeared.

Even without the elimination of the state death tax credit, the impact of EGTRRA’s changes on the federal estate tax (i.e., incrementally increasing the amount of assets exempted from the federal estate tax until completely repealing the tax in 2010) would have dramatically affected those states that had limited their estate tax revenue to the amount sheltered by the federal state death tax credit. With each increase in the applicable federal exclusion amount, the state death tax credit would have applied only to bigger estates, thus reducing the revenue the state previously could have recouped from the multiple smaller estates.

The reaction of the states to the elimination of the state death tax credit was immediate and diverse. Some states, like Florida, have constitutional provisions that prevent them from instituting a separate estate tax strictly by legislation. Of those states that could institute a new estate tax, most did. New York’s solution to the federal changes was simpler. When it repealed its estate tax, New York did not automatically conform to any changes that might be made in federal law in the future, as such conformity is prohibited by the New York State Constitution.4 New York’s estate tax repeal was tied to the workings of I.R.C. § 2011 (the state death tax credit) as it existed on July 22, 1998.5 In other words, New York’s estate tax equaled the state death tax credit as it would have been computed for an estate on July 22, 1998. The state repeal disregarded both the federal repeal of the state death tax credit and the increase in the applicable exclusion amount

3 Pub. L. No. 107-16, 115 Stat. 38 (codified in scattered sections of U.S.C. tit. 26) (EGTRRA).

4 N.Y. Const. art. 3, § 22.

5 Tax Law § 951(a).

3-4

958 NEW YORK ESTATE AND GIFT TAXES § 3.1

created by the federal legislation. The New York tax is now decoupled from the federal law, as has been done in most states.

[3.1] II. NEW YORK ESTATE TAX—2014 ACT

Chapter 59 of the Laws of 2014 made significant amendments to the New York estate tax. The changes are effective for those dying on or after April 1, 2014. One of the basic objectives of the new law was to cause New York residents not to change domicile to Florida and other low tax retirement states in order to avoid the New York estate tax. To accomplish this purpose the basic exclusion amount for an individual was increased from the $1,000,000 level which applied to deaths prior to April 1, 2014. The increase in the basic exclusion amount is to occur over five years, and the adjustments are as follows:

Death On or After: And Before: Basic Exclusion Amt: April 1, 2014 April 1, 2015 $2,062,500 April 1, 2015 April 1, 2016 $3,125,000 April 1, 2016 April 1, 2017 $4,187,500 April 1, 2017 January 1, 2019 $5,250,000

For deaths on or after January 1, 2019 the New York basic exclusion amount will be tied to the federal estate tax exclusion. That is currently $5,430,000, but is indexed for inflation. By 2019 the number will be larger and New York and federal exemptions will be the same.

If the New York changes simply were to increase the exemption amount, then it would have represented a change which would have taken a great part of the burden off all estates. That is not what the legislation does, however. The apparent objective of the law is to protect those estates which do not exceed the basic exclusion amount. If an estate is larger than that, then the benefits of the legislation begin, very quickly, to deteriorate. This deterioration is often referred to as the “CLIFF.” The nickname comes from the fact that as an estate rises above the basic exclusion amount the benefits of the statute quickly deteriorate.

The benefits of the new law phase out as the taxable estate rises above the basic exclusion. If an estate is no more than 5% greater than the basic exclusion amount, then the estate tax calculated rises in stages. The stages do not give the estate the benefit of the protection of the basic exclusion amount. That exclusion amount begins to deteriorate as the estate grows. For example, in the year 2015, an estate equal to $3,281,250 would be exactly 5% more than the basic exclusion amount of $3,125,000. This is a difference of $156,250 in estate value above the basic exclusion. What

3-5

959 § 3.2 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION would the New York estate tax be on this estate? The answer is that it would be $208,200. The tax caused by the extra $156,250 exceeds the amount of the offending property. The tax represents approximately 133% of the extra property added. Hence we see a Cliff.

To add to the questions (and danger) the New York gross estate for a New York resident would include the amount of any gift that would be taxable under I.R.C. § 2503 made during the three-year period ending on the individual’s date of death, that was not otherwise included in the federal gross estate of the individual. Such gifts would not include real property or tangible personal property located outside the state of New York. It also would not include any gift made while the decedent was a non-resident of New York, or before April 1, 2014, or on or after January 1, 2019. The increase in the gross estate as a result of gifts is a transitional rule for the period before the basic exclusion amount partners with the federal exclusion. It is not a new gift tax for New Yorkers.

[3.2] III. ESTATE TAX PLANNING GUIDELINES

The New York estate tax is still computed based on federal guidelines, but it relies only on those provisions of the Internal Revenue Code that relate to the state death tax credit and applicable credit amount enacted or amended on or before July 22, 1998. Thus, New York estate planners must always be conscious of the basic exclusion amount, as that figure will largely dictate the type of planning necessary for different estates. In addition to determining whether an estate tax is due and, if so, how much, the practitioner must address several state-specific legal issues in preparing estate-planning documents. The most important are the client’s residency, the tax-apportionment language in the planning documents and the potential spousal elective share. Each of these issues is discussed below.

[3.3] A. Residency

Is the client a New York resident or a resident of another state? The answer to that question determines what estate tax will be due to New York. This section addresses, first, the way in which residency is determined and, second, how such determination affects the New York State estate tax a client will pay.

[3.4] 1. Domicile

When a client maintains homes in more than one state, where is the client a resident? The determination is important because the nature of the

3-6

960 NEW YORK ESTATE AND GIFT TAXES § 3.4

property will affect the extent to which the property can be taxed in New York. Once the attorney has advised the client of his or her potential tax liability in New York, as part of the planning process, a client with an estate worth more than $1 million may want to consider establishing residency in another, less onerous, taxing jurisdiction.

Although the New York statute refers to resident and nonresident estates, “domicile is the controlling factor in determining residency.”6 Although domicile is not defined in the Tax Law, it is defined in the N.Y. Surrogate’s Court Procedure Act as “[a] fixed, permanent and principal home to which a person wherever temporarily located always intends to return.”7 This definition turns on subjective intent. Domicile has been termed in the case law as a question of fact rather than one of law.8 Ultimately, one’s domicile is a combination of intent to regard a particular place as the principal abode, coupled with conduct that evidences such intent.

The best way to determine whether a person is domiciled in New York for estate tax purposes is to review and complete the aptly named Estate Tax Domicile Affidavit (Form ET-141).9 This affidavit, used when filing a New York estate tax return to establish that a decedent is not a New York resident, contains a series of questions about the decedent. It calls for information about the decedent’s past residences, work history, declarations and other patterns of conduct bearing on domicile. When completed, it provides a profile of the decedent’s actions (facts) against which declarations (expressions of intent) can be compared.

For planning purposes, the form is useful as a checklist to determine where the client is currently domiciled and what actions the client should take if a change of domicile is desired. Upon reviewing the completed ET-141 form, the planner can counsel the client about what further (or other) steps to take in order to resolve any domicile ambiguities.

Appropriate and consistent actions to support a desired domicile determination, or to change a current domicile, are critical. Because New York State presumes a continuance of domicile, the taxpayer (or party alleging

6 See Instructions to New York Estate Tax Return, Form ET-90-P, at 3. A sample copy of this form is set forth in Appendix A. For the most current forms, visit www.tax.ny.gov.

7 N.Y. Surrogate’s Court Procedure Act 103(15).

8 See In re Chivatsky, N.Y.L.J., Aug. 15, 1977, p. 12, col. 6 (Surr. Ct., Nassau Co.).

9 See N.Y. State Dep’t of Taxation and Finance, www.tax.ny.gov. A copy of this form is set forth in Appendix B.

3-7

961 § 3.5 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION the change) bears the burden of proving a change in domicile.10 Factual ambiguity may lead to a negative domicile determination or, at the least, the need to argue the domicile issue.

Worse yet for clients with more than one residence is the possibility of multiple jurisdictions seeking to impose estate taxes on the client’s assets. The result in In re Dorrance’s Estate,11 in which Pennsylvania and New Jersey both found that the decedent was domiciled in their state, can be avoided with appropriate attention to the domicile issue.

[3.5] 2. Taxability

If the client is a resident of New York, then all the client’s property, except real property and tangibles located outside the state, is subject to New York estate taxation.12 Thus, a New York resident’s intangibles (e.g., bank accounts, stocks and other investments), wherever they are located, will be taxed in accordance with New York law. The house, furniture and car owned by a New York decedent in Florida would not be taxable in New York.

The reverse is true for the non-New York domiciliary. If the client is a nonresident, only the client’s “real [property] and tangible personal property” located in New York are subject to the New York estate tax.13 The New York State Constitution bars the state from subjecting a nonresident’s intangible personal property to estate tax, unless such property was used in carrying on a business in the state.14

Intangible personal property is statutorily defined in terms of what tangible personal property does not include—that is, “deposits in banks, mortgages, debts, receivables, shares of stock, bonds, notes, credits, evidences of an interest in property, evidences of debt, or choses in action generally.”15 Thus, bank accounts and investments, even if located in New

10 See In re Newcomb’s Estate, 192 N.Y. 238 (1908).

11 309 Pa. 151, 163 A. 303, cert. denied, 287 U.S. 660 (1932); In re Dorrance’s Estate, 115 N.J. Eq. 268, 170 A. 601 (1934), cert. denied sub nom. Dorrance v. Martin, 298 U.S. 678, reh’g denied, 298 U.S. 692 (1936).

12 Tax Law § 954.

13 Tax Law § 960.

14 N.Y. Const. art. 16, § 3.

15 Tax Law § 951-a(c).

3-8

962 NEW YORK ESTATE AND GIFT TAXES § 3.6

York State and held by New York advisers or institutions, will not be taxable if the client is not a resident of New York.

Understanding the taxability difference is critical for properly advising clients. If the client is or becomes a nonresident, his or her New York estate tax exposure likely will substantially decrease as a result. But such is not always the case. When the total property in all states of a nonresident exceeds $1 million, the nonresident may owe estate tax in New York, even if the amount of real property or tangible personal property located in New York is small. This is because the New York estate tax is based on what the tax would be on the entire estate if the decedent were a New York resident and what proportion of the entire estate is New York real property or tangibles. This calculation effectively precludes the nonresident’s estate from receiving the benefit of the entire $1 million credit equivalent, since a major portion of that amount may be allocated to property outside New York.

In order to reduce or avoid New York estate taxation of a non-New York domiciliary’s estate, the nonresident may wish to restructure his or her real property or tangible personal property to make it intangible. For example, if a Florida domiciliary transfers his New York real property into a corporation, the shares of that corporation would be an intangible asset taxable only in Florida. A similar result might be obtained by transferring ownership of the New York real property into a multi-member limited liability company (LLC).16

[3.6] B. Tax Apportionment

The burden of paying the estate tax by default falls on the estate’s beneficiaries. The statute calls for an equitable apportionment of the estate taxes (federal and state) among those who receive taxable property from the distribution of the estate, unless the instrument governing the distribution expressly directs otherwise.17 In other words, a provision in a will or trust instrument providing for payment of the estate taxes from a particular source, most often the residuary estate, will override the statute. For the will provision to control, such provision must be clear and unambiguous.

16 The planner should be cautious about creating a single-member LLC to effect such a change because such entities are deemed nullities for all federal tax purposes. Thus, New York likely would agree that such an entity is equally ineffective in changing the nature of the assets held within it for New York tax purposes.

17 N.Y. Estates, Powers & Trusts Law 2-1.8.

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963 § 3.6 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

Thus, the planner must discuss with the client which beneficiaries should bear the burden of the estate taxes, and prepare planning documents that clearly provide for appropriate apportionment of the tax liability.

Tax allocation may become particularly challenging if the client has several documents that control the disposition of taxable assets. Further, any property interests that pass by operation of law will create their own tax burdens for the estate. Should these assets bear their own tax liabilities, or should they be exonerated from contributing to the tax payment by a specific provision in the will or revocable trust? The answer depends on the client’s intent.

Thoughtful tax allocation during drafting is necessary to ensure that marital and charitable gifts are preserved in full. For example, a poorly drafted tax clause can require, albeit unintentionally, that an otherwise qualified marital or charitable share be used for estate tax payment (i.e., if the clause provides that estate taxes are to be paid from the residuary and the residuary is the marital or charitable share). In that instance, because some of the funds that would have gone to a spouse or a charity are instead going to pay taxes, and because estate tax payments are not deductible expenses, those funds no longer qualify for the marital or charitable deduction and become taxable.

This creates a spiraling cause-and-effect relationship: By not qualifying for the deduction, these amounts increase the taxable estate, which further increases the taxes, which increases the amounts to be taken from the marital or charitable share, which further increases the taxable estate, which further increases the taxes, and so on, thereby requiring the application of a complex, algebraic formula, commonly called the interrelated tax calculation, to determine the tax liability and appropriate charitable or marital deduction.

The interrelated tax computation became even more complex with regard to deaths occurring on or after January 1, 2005. That date is when the New York estate tax became a deduction, rather than a credit, on the federal return. Consequently, the state estate tax deduction increases as the charitable or marital deduction decreases because the estate tax is paid from the otherwise deductible share. That was not previously the case when the state death tax credit was the only adjustment for state estate tax.

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964 NEW YORK ESTATE AND GIFT TAXES § 3.7

In other words, a bad tax allocation provision can result in more money being paid in taxes and less passing to the spouse or charity, and, except in unusual cases, this should not happen. If it does, absent a well-documented, client-approved reason, the drafter of the tax-clause provision has erred.18

[3.7] C. Spouse’s Elective Share

If the total assets of both spouses together are valued at $1 million or less, the estate is exempt from paying an estate tax at both the federal and state level. For estates valued above $1 million, however, practitioners must be diligent in determining the actual amounts of federal and New York estate tax due and keep in mind that an estate exempt from federal estate taxes may not be exempt from New York estate taxes.

Some of the traditional drafting techniques for dealing with a potential federal estate tax may now result in a substantial and possibly unnecessary New York estate tax. In reviewing existing plans or structuring new plans, the planner must carefully consider the effect of the New York tax, particularly upon the death of the first spouse.

EXAMPLE

Consider a client couple that has a will or trust agreement that provides for the creation of a credit shelter trust upon the first spouse’s death, which will contain the greatest amount that can pass free of federal estate tax in the first estate. Further assume that the credit trust is structured so that it would not qualify for the estate tax marital deduction under any circumstance (e.g., a trust that provides that income or principal be sprinkled among descendants could not qualify for the marital deduction). Next, assume the first spouse to die has individually owned assets with a total value of $2 million, and the date of the first death is in 2013. Lastly, assume the surviving spouse has only nominal assets independently or through joint ownership or beneficiary designation.

The death of the first spouse will result in no federal estate tax being due and, in fact, no return will be required

18 For a detailed analysis and discussion of drafting tax-apportionment clauses, see Jonathan G. Blattmachr and Dan T. Hastings, The Tax Apportionment Clause—Often the Most Important Provision in the Will, The Chase Rev. (1987), revised and reprinted, Part I, N.Y. St. B.J. (Apr. 1988) p. 26; Part II, N.Y. St. B.J. (May 1988) p. 42.

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965 § 3.8 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

because the applicable credit would completely eliminate the federal tax. New York, however, would apply its tax based upon a taxable estate of $2 million (everything passing into the credit trust). Because of the reduced New York exclusion, the resulting tax would be $99,600. Had the taxable estate of the first decedent spouse been reduced to $1 million, the New York estate tax would have been eliminated. Further, at the second spouse’s death, assuming no change in asset values, there would also be no federal or New York estate tax with the lower taxable amount.

This example illustrates one of the problems that improper drafting can cause when all tax otherwise could be eliminated fairly easily.

In some cases, a federal estate tax may be due, but the client must carefully consider whether any tax should be paid on the first estate. Some- times, the payment of even a relatively small-percentage tax years in advance of when it might otherwise have been paid is not good planning. The time use of money illustrates that even a larger tax paid years later could be preferable to the early tax payment.

Regarding the New York estate tax, the client must also consider whether the surviving spouse will even be subject to taxation in New York. If the survivor moves to Florida, for example, he or she may avoid all state estate tax.

For all these reasons, the client must carefully consider the wisdom of paying any estate tax on the first estate. Perhaps the most important term to remember when planning the taxable estate is flexibility. Some possible approaches are discussed below.

[3.8] 1. Disclaimer

Wills of married clients with large estates now commonly incorporate a disclaimer to allow a surviving spouse to choose (1) whether to create a credit trust to protect the applicable estate tax exclusion amount, and (2) if such a trust is elected, how large that trust should be. The ongoing uncertainty surrounding the imposition of the estate tax and the applicable exclusion amounts virtually mandates that well-heeled married clients consider including such a disclaimer in their wills.

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966 NEW YORK ESTATE AND GIFT TAXES § 3.9

[3.9] 2. Limited Size of Credit Trust

If a client’s will or trust agreement provides for the creation of a traditional credit trust, the client should consider limiting the amount that can pass into such a trust. Although credit shelter trusts traditionally have been funded with “the greatest amount that can pass free of federal estate tax” or something similar, such a trust could be limited to the greatest amount that can pass free of New York estate tax. As New York progresses to the federal exemption amount in 2019 and after, perhaps the credit trust should be limited to a smaller dollar amount, taking into account the expected size of the surviving spouse’s estate. Such an approach would eliminate a New York estate tax while providing the advantages of a sprinkling trust or an accumulation trust during the survivor’s life.

In addition, a limited credit trust would not involve the spouse in creating the trust by disclaimer or selecting its size, which could be advantageous when a second marriage is involved or when the surviving spouse is incapable of making appropriate decisions or managing his or her finances.

[3.10] 3. QTIP Trust

If a trust created for the benefit of a surviving spouse qualifies as qualified terminable interest property (QTIP), the executor can elect for the trust, or a portion of it, to qualify for the estate tax marital deduction. Such election defers estate taxation on the elected trust property until the death of the second spouse. Because the QTIP election can be partial, a client could elect to qualify for the marital deduction all but $1 million of the trust. Doing so would eliminate any New York estate tax and, of course, avoid federal tax if the client has made no taxable gifts during his or her life.

Some states that have decoupled their estate tax from the federal tax have authorized a separate QTIP election for state tax purposes. Thus, a client could take the greatest exemption possible for federal tax purposes and claim a smaller exemption for state tax purposes to avoid state estate taxation in the first estate. Necessarily with such a two-part election, more of the surviving spouse’s estate would be subject to state estate taxation at the second death than would be the case absent such election.

Although the New York State Bar Association’s Trusts and Estates Sec- tion has supported a separate New York QTIP election, New York has failed to enact such legislation. Consequently, an executor who currently makes a QTIP election to avoid imposition of the New York estate tax in the first

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967 § 3.11 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION estate will elicit a higher federal estate tax in the second estate, if the second estate is large enough to warrant such higher tax.

[3.11] 4. Clayton QTIP

The traditional QTIP trust is structured to qualify for the estate tax marital deduction, which means that all income must be paid to the surviving spouse at least annually and that no income or principal can be paid to anyone other than the spouse during his or her lifetime. The executor’s election to qualify part of the trust for the marital deduction would not change the terms of the trust. As a result, the portion of the QTIP trust that did not qualify for the marital deduction (call it the credit trust) would continue to pay its income to the surviving spouse for life. This flow of income to the spouse would cause the second estate to become larger. It would also prevent passage of the property to the decedent’s children or grandchildren during the surviving spouse’s life, thereby eliminating a convenient way to reduce the size of the estate. This disadvantage is addressed by the so- called Clayton QTIP.

With a Clayton QTIP, two trusts would be created under the will or trust agreement. One trust would be ineligible for the marital deduction and might sprinkle income and principal among family members. The second trust would provide all income to the spouse and would be qualified for the marital deduction. The allocation of assets between the two trusts is controlled by the share of the residual estate that the executor elects to qualify for QTIP treatment. The entire portion that is qualified for the marital deduction would pass into the trust that pays all its income to the spouse. The portion that is not qualified for the marital deduction would pour into the sprinkling trust. The IRS has approved this approach.19

The advantage of the Clayton approach is that the nonqualified trust can be designed in any way the client wishes, thereby increasing flexibility. Because the QTIP election need not be made until the extended due date of the return, the executor has potentially 15 months to decide, compared to the nine months a surviving spouse has to elect to exercise a disclaimer.

One disadvantage of the Clayton election is that the fiduciary is making disposition decisions over the client’s property. The inherent conflict of interest that the spouse or any other beneficiary would have as executor

19 Treas. Reg. § 20.2056(b)-7(d)(3), (h) ex. 6.

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suggests that an independent party should make that election. Many clients are hesitant to give dispositional control of their estates to someone other than a spouse or, occasionally, a child. In the case of a second marriage, the surviving spouse might have to elect against the will, or risk the executor electing a QTIP in such a way that the spouse has little or no benefit because substantially all the property is allocated to the credit trust. The executor would be able to wait until the time to elect against the will had expired and then allocate the property by the QTIP election.

[3.12] 5. Relocation to Florida

When New York repealed its estate tax, it created an even playing field with states such as Florida that had previously repealed their estate taxes. Current law, however, again makes dying a resident of New York more costly. Because Florida is prohibited constitutionally from either reinsti- tuting an estate tax or decoupling, it very likely will not establish an independent estate tax. A complete repeal of the federal estate tax in the future would create a substantial difference in the tax cost of dying domiciled in New York versus Florida.

Few people choose where they will live in their later years based on estate tax, no matter how large it is. Nonetheless, the estate planner must help the client assess the risks and advise carefully on such questions. At this point, the topic is not especially ripe for consideration—at least until such time as the federal estate tax is completely repealed.

[3.13] IV. GIFT TAX

Effective January 1, 2000, New York’s gift tax was repealed,20 and no gifts made since that date, including lifetime transfers, have been taxed. Consequently, planning can now be based entirely on the federal transfer tax system.21 The annual gift tax exclusion amount under that system is based on a rate of $14,000 per donee, increased at regular intervals by a cost-of-living adjustment.22 This means a donor could make an unlimited number of gifts, as long as none individually exceeded $14,000. Such a scenario ensures no tax consequences for all parties involved.

20 See 1997 N.Y. Laws ch. 389, § 7 (repealing in its entirety N.Y. Tax Law art. 26-A).

21 Myron Kove & James M. Kosakow, Handling Federal Estate and Gift Taxes § 17:6 (6th ed. 2005).

22 I.R.C. § 2503.

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Even though New York is imposing a gift element in the calculation of the estate tax up until 2019, it is not reimposing its own gift tax (at least not yet).

Planning such gifts carefully is an effective way to reduce the size of an estate without reducing the unified credit, which currently is $5.43 million. For example, a donor could make gifts of $14,000 to 12 different individuals, thereby reducing his estate by $168,000 and avoiding, for himself and his donees, any adverse tax consequences and avoiding any reduction in the unified credit.

Whenever a taxpayer makes gifts above the allowable maximum in a given year, “a gift tax return is required, even if no gift tax is due because the applicable credit amount is available.”23 The gift tax applies to transfers of property by gift, “whether the transfer is in trust or otherwise, whether the gift is direct or indirect, and whether the property is real or personal, tangible or intangible.”24

Numerous other aspects of the federal gift tax must be considered when counseling a client on the planning process, which are beyond the scope of this chapter.25

23 The only state that has an independent gift tax as of 2015 is Connecticut.

24 I.R.C. § 2511(a).

25 See Chapter 2, “Federal Estate and Gift Taxation: An Overview.”

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970 APPENDIX A

APPENDIX A New York State Department of Taxation and Finance ET-706-I Instructions for Form ET-706 (4/14) New York State Estate Tax Return For an estate of an individual who died on or after April 1, 2014, and on or before March 31, 2015

Paid preparers can be subject to a penalty for failure to conform Recent changes to certain requirements. See TSB-M-09(10)M, Tax Preparer Significant changes to the New York State Registration Program, and TSB-M-10(8)M, Enrolled Agents Excluded from the Definition of Tax Return Preparer for the Tax estate tax Preparer Registration Program, for more information. Chapter 59 of the Laws of 2014 (Part X) made significant amendments to the New York State estate tax effective for estates of Conformity with the federal Internal Revenue individuals with dates of death on or after April 1, 2014. Code (IRC) Accordingly, Form ET-706, New York State Estate Tax Return, and New York State (NYS) Estate Tax Law Article 26 generally conforms its instructions have been significantly revised to incorporate the to the IRC of 1986, with all amendments enacted on or before following changes: January 1, 2014 (NYS Tax Law section 951). • the definitions of New York gross estate and New York taxable estate for both resident and nonresident estates have been Which estates must file Form ET-706 for New amended to include certain gifts (see Schedule D instructions); York State • the filing threshold has been increased effective April 1, 2014 (with gradual increases each year thereafter); and New York State residents • an applicable credit may be claimed by certain estates (see line 3 The estate of an individual who was a NYS resident at the time of instructions on page 4). death must file a NYS estate tax return if the total of the federal gross estate plus any taxable gifts made while the individual was For more information on the changes, refer to TSB-M-14(6)M, New a resident of New York State exceeds the New York State basic York State Estate Tax Reformed. exclusion amount ($2,062,500) applicable for dates of death on or after April 1, 2014, and on or before March 31, 2015. Taxable Discovery of abandoned property held by the gifts are any gifts taxable under IRC section 2503 made on or after Office of the State Comptroller (OSC) April 1, 2014, that are not otherwise included in the federal gross estate of the individual. Gifts of real or tangible personal property For dates of death on or after June 1, 1944, a reduced interest having a location outside of NYS should not be included. Also, gifts rate will be applied to any late paid estate tax due on an original made during any period the individual was a nonresident of NYS or amended return that was required to be filed because of the should not be included. discovery of certain abandoned property held by OSC. The reduced interest rate will apply to the period of time the property was held by OSC. New York State nonresidents The estate of an individual who was not a resident of New York State at the time of death must file a NYS estate tax return if the Marital deduction for surviving spouses who estate includes real or tangible personal property having an actual are not United States citizens location in NYS and the federal gross estate plus any taxable gifts For dates of death on or after January 1, 2010, an estate that is made while the individual was a resident of NYS exceeds the New not required to file a federal estate tax return may take the marital York State basic exclusion amount ($2,062,500) applicable for dates deduction for a surviving spouse who is not a United States citizen of death on or after April 1, 2014, and on or before March 31, 2015. without setting up a Qualified Domestic Trust (QDOT). Taxable gifts are any gifts taxable under IRC section 2503 made on or after April 1, 2014, that are not otherwise included in the federal For further information on abandoned property and this marital gross estate of the individual. Gifts should only be included if the gift deduction, refer to TSB-M-14(5)M, 2013 Legislation Amending the is of real or tangible personal property located in NYS or intangible New York State Estate Tax. personal property employed in a business, trade, or profession carried on in NYS. Gifts of real or tangible personal property having General information a location outside NYS should not be included. Also, gifts made during any period the individual was a nonresident of NYS should New York State Marriage Equality Act not be included. For New York estate tax purposes, equal treatment has been given The estate must also submit a completed Form ET-141, New York to estates of individuals legally married to different-sex spouses and State Estate Tax Domicile Affidavit. same-sex spouses since the enactment of the Marriage Equality Act, applicable to estates of individuals dying on or after July 24, 2011. As a result of the Supreme Court’s decision in the matter of General requirements for filing a federal estate the United States v. Windsor, this treatment now also applies to tax return estates of individuals legally married to same-sex spouses who died prior to July 24, 2011. For more information, see TSB-M-13(9)M, U.S. citizens and residents New York Estate Tax Information for Estates of Individuals Married The executor must file federal Form 706 for the estate of every U.S. to Same-Sex Spouses, and TSB-M-13(10)M, Information for citizen or resident: Same-Sex Married Couples. • whose executor elects to transfer the deceased spousal unused exclusion (DSUE) amount to the surviving spouse, regardless of Preparer information the size of the estate, or If you prepared Form ET-706 for the estate and you are not the • whose gross estate, plus adjusted taxable gifts and specific executor, fill in the information requested in the preparer section exemption is more than the federal basic exclusion amount on page 1 of the return and sign where indicated. Include your applicable to the decedent’s date of death. federal preparer tax identification number (PTIN) or your social security number (SSN), and your New York tax preparer registration identification number (NYTPRIN) if you are required to have one.

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971 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

Page 2 of 5 ET-706-I (4/14) Nonresidents of the United States who were not U.S. sections 990 and 685(a)(1)). For information on requesting an citizens extension of time to file your return, see When to file Form ET-706 The executor must file federal Form 706-NA if the date of death for New York State above. value of the decedent’s gross estate located in the United States Late payment penalty – If you do not pay the tax when due, you (under federal IRC situs rules) exceeds the filing limit of $60,000, will be charged a penalty of ½% of the unpaid portion of the total reduced by the sum of the gift tax specific exemption applicable to tax shown on the return for each month or part of a month the tax certain gifts made in 1976, and the total taxable gifts made after remains unpaid. It will be computed from the due date to the date of 1976 that are not included in the gross estate. payment, up to a maximum of 25% (NYS Tax Law sections 990 and 685(a)(2)). This penalty is in addition to the interest charged for late When to file Form ET-706 for New York State payments. You must file Form ET-706 within nine months after the decedent’s This penalty may be waived if you attach an explanation to your date of death, unless you receive an extension of time to file the return showing reasonable cause for paying late. return. Note: When late filing and late payment penalties are imposed at An extension of time to file the estate tax return may not exceed six the same time, the amount of the late filing penalty computed for months, unless the executor is out of the country. each month is reduced by the amount of the late payment penalty The Tax Department may grant an extension of time to pay computed for the same monthly periods. the estate tax for up to four years from the date of death, if it is If you compute your tax incorrectly – You may have to pay a established that payment of any part of the tax within nine months penalty if the tax you report on your return is less than your correct from the date of death would result in undue hardship to the estate. tax. If you reported an amount that is off by more than 10% of the Annual installments may be required (NYS Tax Law section 976(a)). tax required to be shown on the return, or by $2,000, whichever is If you need an extension of time to file the estate tax return, pay the more, you may have to pay this penalty. The penalty is 10% of the estate tax, or both, file Form ET-133, Application for Extension of difference between the tax you reported and the tax you actually Time to File and/or Pay Estate Tax, For an estate of an individual owe (NYS Tax Law sections 990 and 685(p)). who died on or after April 1, 2014. Negligence penalty – If you do not show all of the tax imposed on Also see Election of installment payments of tax for closely held your return (under the NYS Tax Law, its rules or regulations) due to business on page 3 for information on an extension of time to pay negligence or intentional disregard (but not with intent to defraud), the tax when a large part of the estate consists of an interest in a you will be charged a penalty of 5% of any deficient amount. closely held business. In addition, 50% of the interest due on any underpayment resulting from negligence will be added to your tax (NYS Tax Law Where to file sections 990 and 685(b)). Mail Form ET-706 to: Fraudulent returns – If any part of a deficiency is due to fraud, NYS ESTATE TAX you will be charged a penalty of 50% of the deficiency. In general, PROCESSING CENTER a deficiency is the difference between the correct tax and the tax PO BOX 15167 shown on your return. If you file your return late, the deficiency is ALBANY NY 12212-5167 the entire tax. In addition, 50% of the interest due on any deficiency resulting from a fraudulent act will be added to your tax (NYS Tax Private delivery services – See Publication 55, Designated Private Law sections 990 and 685(e)). Delivery Services, if not using U.S. Mail. Frivolous returns – The Tax Department will impose a penalty of Interest and penalties up to $500 on any person who files a frivolous tax return. A return is considered frivolous when it does not contain information needed to Interest judge the correctness of the tax return or reports information that is Underpayment of tax – To avoid the assessment of interest, you obviously and substantially incorrect, intended to delay or impede must pay the total tax as finally determined within nine months of the administration of Article 26 of the Tax Law or the processing of the date of death, even if you received an extension of time to file the return (NYS Tax Law sections 990 and 685(q)). the return. Interest is compounded daily, and the rate is adjusted quarterly. Supplemental documents Overpayment of tax – If the estate is due a refund, you may also A completed copy of either federal Form 706 or 706-NA (also be entitled to receive interest on your overpayment. Interest is see Which estates must file Form ET-706 for New York State, on compounded daily, and the rate is adjusted quarterly. If the refund is page 1), with all schedules and supporting documents, must be made within 45 days after the due date of the return, the extended submitted with your NYS estate tax return. When applicable, you due date, or the date the return is filed, whichever is later, no interest must submit the following documents with the estate tax return (if will be paid. If the refund is not made within this 45-day period, they were not previously submitted): interest will be paid from the due date of the return or the date the • a copy of the death certificate return is filed, whichever is later. • a copy of the decedent’s last will (if one exists) • letters of appointment (if obtained from the surrogate’s court) Penalties • a power of attorney (see Attorney/representative information on Late filing penalty – If you file late, you will be charged a penalty page 3) of 5% on the amount of tax required to be shown on the return (reduced by any tax paid by the prescribed due date of the return For the estate of an individual who was not a resident of NYS at the and by any allowable credits) for each month or part of a month the time of his or her death, complete Form ET-141, and attach it to the return is late, up to a maximum of 25%, unless you extend the time return. to file and file within the extended period, or attach to your return an explanation showing reasonable cause for the delay. If your return is more than 60 days late, this penalty will not be less than the Amended returns lesser of $100 or 100% of the tax required to be shown (reduced To amend your NYS estate tax return, mark an X in the box at the by any tax paid timely and by any allowable credit) (NYS Tax Law top of the front page of Form ET-706, complete the return, and mail it to the NYS Estate Tax Processing Center address. Include your remittance for additional tax, if applicable. If you also amended

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972 APPENDIX A

ET-706-I (4/14) Page 3 of 5 the federal estate tax return, attach a copy of the amended federal administrator, administratrix, or personal representative of estate tax return, Form 706 or Form 706-NA. the decedent’s estate; if no executor, executrix, administrator, administratrix, or personal representative is appointed, qualified, and Federal audit changes acting within the United States, executor means any person in actual If you are amending Form ET-706 as a result of a federal audit or constructive possession of any property of the decedent. change, mark an X in the box at the top of the front page of If an executor has not been appointed, this form may be signed Form ET-706. Attach to the estate’s amended Form ET-706, a and filed by a person having knowledge of all the assets in the complete copy of the federal audit changes, including adjustments decedent’s estate. This person must also enter his or her name, and supporting schedules. If you fail to attach all necessary forms address, and social security number in the area provided for the and schedules, the estate’s amended Form ET-706 will be returned executor on the front page of the return. to you, delaying processing. If the estate has more than one executor, mark an X in the box, Completing the return enter the name and other information for the primary executor (preferably a person residing in NYS) in the area provided, and Note: If the decedent was: attach a list of each of the other executors with their mailing address • a victim of the September 11, 2001, terrorist attack(s) who died as and social security number. Submit Letters Testamentary or Letters a result of wounds or injuries incurred as a result of the attacks; or of Administration with the return if not previously submitted. It is • a United States astronaut who died in the line of duty sufficient to have one of the coexecutors sign the return. the estate is exempt from New York State estate tax. However, the estate is required to file a New York State estate tax return if a Election of installment payments of tax for federal estate tax return is required. closely held business The preparer should write either KITA-9/11 or U.S. astronaut, as In the area provided on the front page of the return, indicate if the applicable, at the top of the front page of Form ET-706. The estate estate is electing to pay the estate tax in installments as provided is not required to complete Schedules A, B, C, D, or E. However, under NYS Tax Law section 997. When a large part of an estate the preparer should enter 0 on lines 2 and 4 of Form ET-706. consists of an interest in a closely held business, the estate representative may elect, under NYS Tax Law section 997, to apply for deferred payment of estate tax. This extension is based upon Federal return required IRC section 6166, as incorporated in NYS Tax Law. A copy of the federal return must be submitted – The starting point for the NYS estate tax return is the federal estate tax return. An estate will not be allowed to defer payment of the NYS estate A completed federal estate tax return must be submitted with the tax under NYS Tax Law section 997 if the estate is required to file a NYS estate tax return, even if the estate is below the federal filing federal estate tax return and either does not elect or is not allowed threshold. to pay the federal estate tax in installments under IRC section 6166. The time limit for making this election for NYS estate tax is nine Decedent information months from the date of death (15 months if an extension of time Enter the name of the decedent (last name first), home address to file is granted). Form ET-415, Application for Deferred Payment at the time of death, social security number, date of death (month, of Estate Tax, For the estate of a decedent whose date of death date, and year), and county of residence. is on or after April 1, 2014, must be completed and attached to Form ET-706. If you have not previously submitted a copy of the death certificate, mark an X in the box and attach a copy to the return being filed. Note: If you are electing to pay the NYS estate tax in installments, you must file Form ET-415 in the time allowed or it will be denied, Indicate if the decedent was a nonresident of NYS at the time of even when the federal election is made on time. death. If the decedent was not a resident of NYS at the time of death, complete and attach Form ET-141 if one was not submitted If you need an extension of time to file the return or to pay the previously. non-deferred tax, refer to Form ET-133, Application for Extension of Time to File and/or Pay Estate Tax, For an estate of an individual In the area provided, enter the federal employer identification who died on or after April 1, 2014. number (EIN), if any, for the estate. The EIN, also known as a federal tax identification number, can be obtained by contacting Releases of lien the IRS. Also enter the name(s) and EIN for any trusts created. If additional room is needed, attach a sheet listing the names and In the area provided on the front page of the return, enter the identification numbers of the trusts. number of counties for which you are requesting releases of lien, and submit a completed Form ET-117, Release of Lien of Estate Tax, for each county in which real property is located. After Form Attorney/representative information ET-117 has been validated and returned to you, file the validated If you, as the executor of the estate, have authorized a person Form ET-117 with the county clerk or commissioner of deeds for the to represent you regarding the estate, and you would like the county in which the real property is located. department to contact him or her regarding the estate, enter the name (last name first) of the attorney, accountant, or enrolled agent If a release of lien is needed for one or more cooperative who is representing you. Also enter the firm’s name, address, apartments, complete a separate Form ET-117 for each cooperative and telephone number in the areas provided, and have the corporation and purchaser. After Form ET-117 has been validated representative sign the return in the area provided on the front page and returned to you, give the validated Form ET-117 to the of the return. purchaser of the cooperative apartment(s) as proof that the lien has been released. Note: If you are giving a person power of attorney to represent you, attach a completed Form ET-14, Estate Tax Power of Attorney, Do not submit real property and cooperative apartments on the if one was not submitted previously. Refer to the instructions on same Form ET-117, even when they are located in the same county. Form ET-14 for additional information. A release of lien is not required if the property was held jointly by the decedent and the surviving spouse as the only joint tenants with the Executor information right of survivorship (tenants by the entirety). Enter the name (last name first) and other information for the Note: To obtain a release of lien when the estate is not required to executor of the estate. The term executor includes executrix, file a NYS estate tax return, complete Form ET-30, Application for

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973 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

Page 4 of 5 ET-706-I (4/14) Release(s) of Estate Tax Lien, if an executor has been appointed Worksheet and it is less than nine months from the date of death. Attach the (see example below) completed Form(s) ET-117 to Form ET-30. Otherwise, complete 1. New York Taxable estate ...... 1. Form ET-85, New York State Estate Tax Certification, and attach the completed Form(s) ET-117. 2. New York Basic exclusion ...... 2. 2,062,500 3. Subtract line 2 from line 1 ...... 3. Line instructions 4. 5% of basic exclusion ...... 4. 103,125 Note: Federal form line references are to Form 706, August 2013, 5. Divide line 3 by line 4 (carry to four decimals) ..... 5. and Form 706-NA, August 2013, unless otherwise noted. 6. Subtract line 5 from 1.0 ...... 6. Item a 7. Multiply line 2 by line 6 ...... 7. Is a federal estate tax return required to be filed with the IRS? – In the area provided above line 1 on the front page of NYS 8. Applicable credit (tax amount for line 7 from tax Form ET-706, indicate if the estate is required to file a federal table on Form ET-706, page 4). Enter here and estate tax return, either federal Form 706 or 706-NA (see General on Form ET-706, line 3...... 8. requirements for filing a federal estate tax return on the front page of these instructions). Since the federal estate tax return is the starting point for the NYS estate tax return, a completed copy of the federal Example for Worksheet return must be submitted, even when the estate is below the federal

filing threshold. 1. Taxable estate ...... 1. 2,100,000 Alternate valuation – When the estate is not required to file a 2. Basic exclusion ...... 2. 2,062,500 federal estate tax return with the IRS, the estate may elect, if otherwise eligible, to use the alternate valuation on the pro forma 3. Subtract line 2 from line 1 ...... 3. 37,500 federal estate tax return filed with Form ET-706. This may result in a 4. 5% of basic exclusion ...... 4. 103,125 reduced estate tax liability. 5. Divide line 3 by line 4 (carry to four decimals) ..... 5. .3636 The election must decrease both the value of the gross estate and the amount of New York estate taxes due after application of all 6. Subtract line 5 from 1.0 ...... 6. .6364 allowable credits. The calculation on the pro forma federal return 7. Multiply line 2 by line 6 ...... 7. 1,312,575 must use the tax rates and other provisions for the IRC, with all amendments through January 1, 2014. 8. Applicable credit (tax amount for line 7 from tax table on Form ET-706, page 4). Enter here and To elect alternative valuation, check Yes on page 2, Part 3, line 1, of on Form ET-706, line 3...... 8. 57,492 federal Form 706, or page 2, Schedule A, of federal Form 706-NA, filed with NYS Form ET-706. If the estate elects to use the alternate valuation, the election may not be revoked. However, the estate Line 6 may elect to use the alternate valuation after Form ET-706 is filed, provided the return was not filed later than one year after the due If an amount is due, make check or money order payable in U.S. date (including extensions). Refer to the federal instructions and funds to the Commissioner of Taxation and Finance. regulations for information on the date that property is to be valued, Fee for payments returned by banks – The law allows the Tax determining if the estate qualifies, making an election after the return Department to charge a $50 fee when a check, money order, or is filed, and how to make a protective election. electronic payment is returned by a bank for nonpayment. However, if an electronic payment is returned as a result of an error by the Item b bank or the department, the department will not charge the fee. If there was any qualified terminable interest property (QTIP) listed If your payment is returned, we will send a separate bill for $50 for on federal Form 706, Schedule M, section A1, mark an X in the Yes each return or other tax document associated with the returned box and provide the social security number of the surviving spouse. payment.

Line 3 – Applicable credit Schedule A Compute the amount of the applicable credit on Form ET-706, line 3 as follows: Unless exempt, all estates are required to complete either Part 1 or Part 2 of Schedule A. Part 1 is required if the decedent was a NYS • If the taxable estate is not more than $2,062,500, enter the resident at the time of death. Part 2 is required if the decedent was a amount from Form ET-706, line 2 on Form ET-706, line 3. nonresident of NYS at the time of death. • If the taxable estate is more than $2,062,500 but not more than $2,165,625, complete the worksheet below. Lines 11 and 23 • If the taxable estate is more than $2,165,625, enter 0 on Limited power of appointment created prior to September 1, Form ET-706, line 3. 1930 – This particular power and the property covered by the power applies to property conveyed before September 1, 1930, that was subject to NYS estate or death taxes in the estate of the grantor of such power, by virtue of the law then in effect, with the expectation that a deferred tax would be paid by the grantee (donee) of the power upon the exercise of the power. The value of the property passing under such limited power of appointment must be added to the federal gross estate of a deceased resident, if the limited power of appointment is exercised by the decedent by will or by a disposition, such that if it were a transfer of property owned by the decedent, such property would be includable in the NYS gross estate as a transfer under IRC section 2035, 2036, 2037, or 2038.

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974 APPENDIX A

ET-706-I (4/14) Page 5 of 5 Lines 15 and 27 Enter the amount of any allowable federal deduction related to real Need help? or tangible personal property located outside New York State that is Visit our Web site at listed on line 9 or 19. This would include the amount of any property www.tax.ny.gov located outside New York that is included as part of the marital • get information and manage your taxes online deduction computed on federal Schedule M. • check for new online services and features

Line 30 Telephone assistance If at the time of death, the decedent’s federal gross estate included any works of art loaned to a public gallery or museum located in Estate Tax Information Center: (518) 457-5387 New York State solely for exhibition purposes (including any that are To order forms and publications: (518) 457-5431 in transit to or from a public gallery or museum in New York State), and no part of the gallery’s or museum’s net earnings benefit any Text Telephone (TTY) Hotline (for persons with private stockholders or individuals, enter the value of the works of hearing and speech disabilities using a TTY): (518) 485-5082 art on this line. Persons with disabilities: In compliance with the Americans with Disabilities Act, we will ensure that our Schedule B lobbies, offices, meeting rooms, and other facilities are Property located outside New York State – Complete this accessible to persons with disabilities. If you have questions about schedule, if there is real and tangible personal property located special accommodations for persons with disabilities, call the outside NYS that is included in the federal gross estate. If additional information center. space is needed, attach a separate piece of paper; include the taxpayer name and identification number, and label it Schedule B. Privacy notification New York State Law requires all government agencies that maintain Schedule C a system of records to provide notification of the legal authority Nonresident estates (property located within New York State) – for any request, the principal purpose(s) for which the information List all property located in New York State. If additional space is is to be collected, and where it will be maintained. To view this needed, attach a separate piece of paper; include the taxpayer information, visit our Web site, or, if you do not have Internet name and identification number, and label it Schedule C. access, call and request Publication 54, Privacy Notification. See Need help? for the Web address and telephone number. Schedule D Taxable gifts Residents – Include any gifts taxable under IRC section 2503 made on or after April 1, 2014, that are not otherwise included in the federal gross estate of the individual. Gifts of real or tangible personal property having a location outside of NYS should not be included. Also, gifts made during any period the individual was a nonresident of NYS should not be included. Nonresidents – Include any gifts taxable under IRC section 2503 made on or after April 1, 2014, during any period the decedent was a resident of NYS, that are not otherwise included in the federal gross estate of the individual. Gifts should only be included if the gift is of real or tangible personal property located in NYS or intangible personal property employed in a business, trade, or profession carried on in NYS. Gifts of real or tangible personal property having a location outside NYS should not be included. Do not include any gifts made during any period the individual was a nonresident of NYS. Include a copy of any federal Form 709 on which the taxable gift was reported. If additional space is needed, attach a separate piece of paper; include the taxpayer name and identification number, and label it Schedule D.

Schedule E Litigation information – If the decedent was a plaintiff in any litigation at the time of his or her death, or the estate has undertaken or is considering any litigation related to the decedent’s death, and any recovery from the cause of action (litigation) will bring into the estate an asset not otherwise in the estate, such as a recovery for the decedent’s pain and suffering in a wrongful death action, mark an X in the box and, in the area provided in Schedule E, describe the litigation. Include the fair market value of the decedent’s interest in the cause of action as of the date of death. The department will waive the penalty and interest that applies to the estate tax attributable to the value of a cause of action that is includable in the taxable estate of the decedent. Penalty and interest on this amount will be waived from the date an estate tax return is ﬁled that discloses the cause of action, to the date of payment, but not more than one year after the date of settlement or ﬁnal judgment. Damages for wrongful death are not includable in the gross estate, but damages for personal injury and pain and suffering are.

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975 976 APPENDIX B APPENDIX B

New York State Department of Taxation and Finance ET-706 (4/14) For ofﬁce use only New York State Estate Tax Return For an estate of an individual who died on or after April 1, 2014, and on or before March 31, 2015 Amended return Federal audit changes Decedent’s last name First name Middle initial Social security number (SSN)

If copy of death Address of decedent at time of death (number and street) Date of death certiﬁcate is attached, mark an X in the box City State ZIP code County of residence

If the decedent was a nonresident of New York State (NYS) on the date of death, mark an X in the box and attach a completed Form ET-141, New York State Estate Tax Domicile Afﬁdavit. Employer identiﬁcation Name and EIN of any trusts created or funded by the will number (EIN) of the estate Executor – If you are submitting Letters Testamentary or Letters of Administration with this form, indicate in the box the type of letters. Enter L if regular, LL if limited letters. If you are not submitting letters with this form, enter N. Surrogate’s court – If a proceeding for probate or administration has commenced in a surrogate’s court in NYS, enter county. Attorney’s or authorized representative’s last name First name MI Executor’s last name First name MI

In care of (ﬁrm’s name) If POA is If more than one executor, mark E-mail address of executor attached, mark an X an X in the box (see instr.) in the box Address of attorney or authorized representative Address of executor

City State ZIP code City State ZIP code

PTIN or SSN of attorney or authorized rep. Telephone number Social security number of executor Telephone number ( ) ( ) If the decedent possessed a cause of action or was a plaintiff in any litigation at the time of death, mark an X in the box and complete Schedule E (see Form ET-706-I, Instructions for Form ET-706)...... Installment payments of tax for closely held business – Do you elect to pay the tax in installments as described in IRC section 6166 (NYS Tax Law section 997)? If Yes, attach Form ET-415 (see Form ET-706-I) ...... Yes No If releases of lien are needed, attach Form(s) ET-117 (see Form ET-706-I) and enter the number of counties here .... a Is a federal estate tax return (either federal Form 706 or 706-NA) required to be ﬁled with the IRS (see Form ET-706-I)? ..... Yes No Note: You must submit a completed federal estate tax return with this return, even when you are not required to ﬁle with the federal Internal Revenue Service. b Is there any QTIP property listed on federal Form 706, Schedule M, section A1? ...... Yes No If Yes, provide the social security number of the surviving spouse

1 Taxable estate for New York State (from Schedule A, Part 1, line 17, or Part 2, line 31) ...... 1. 2 New York State estate tax (from tax table on page 4) ...... 2. 3 Applicable credit (see instructions) ...... 3. 4 Tax after credit (subtract line 3 from line 2) ...... 4. 5 Prior tax payments to New York State, if any (attach a Schedule of dates and amounts) ...... 5. 6 If line 5 is less than line 4, subtract line 5 from line 4. This is the amount you owe ...... 6. Tax computation Tax 7 If line 5 is greater than line 4, subtract line 4 from line 5. This is the amount to be refunded to you 7. If an attorney or authorized representative is listed above, he or she must complete the following declaration. I declare that I have agreed to represent the executor(s) for the above estate, that I am authorized to receive tax information regarding the estate, and I am (mark an X in all that apply): an attorney a certiﬁed public accountant an enrolled agent a public accountant enrolled with the NYS Education Department Signature of attorney or authorized representative Date E-mail address of attorney

Under penalties of perjury, I declare that I have examined this return, including accompanying schedules and statements, and to the best of my knowledge and belief, it is true, correct, and complete. Furthermore, I/we, as executor(s) for this estate, authorize the person, if any, named as my/our representative on this return to receive conﬁdential tax information regarding this estate.

Signature of executor Date Signature of co-executor Date

Print name of preparer other than executor Signature of preparer other than executor Preparer’s PTIN or SSN Preparer’s NYTPRIN

Address of preparer City State ZIP code Date E-mail address of preparer

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977 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

Page 2 of 4 ET-706 (4/14)

Schedule A – Computation of New York State taxable estate Part 1 – Resident 8 Amount from federal Form 706, page 3, part 5, line 13 ...... 8. 9 Property with a location outside of New York State (from Schedule B) ...... 9. 10 Subtotal (subtract line 9 from line 8) ...... 10. 11 Amount determined under section 957 (relating to Powers of Appointment prior to 1930) ...... 11. 12 Taxable gifts (from Schedule D) ...... 12. 13 Total gross estate for New York State (add lines 10, 11, and 12) ...... 13. 14 Total allowable federal deductions (from federal Form 706, page 3, part 5, line 24) ...... 14. 15 Total allowable federal deductions included on line 14 that relate to the property on line 9 ...... 15. 16 Allowable federal deductions for NYS purposes (subtract line 15 from line 14) ...... 16. 17 Taxable estate for New York State (subtract line 16 from 13) ...... 17.

Part 2 – Nonresident 18 Amount from federal Form 706, page 3, part 5, line 13; or Form 706-NA, page 2, Schedule B, line 1 18. 19 Property with a location outside of New York State (from Schedule B) 19. 20 Intangible property included in line 18 amount ...... 20. 21 Non-taxable estate for New York purposes (add lines 19 and 20) ...... 21. 22 Amount of federal gross estate subject to New York State estate taxes (subtract line 21 from line 18) .. 22. 23 Amount determined under section 957 (relating to Powers of Appointment prior to 1930) ...... 23. 24 Taxable gifts (from Schedule D) ...... 24. 25 Total gross estate for New York State (add lines 22, 23, and 24) ...... 25. 26 Total allowable federal deductions (from federal Form 706, page 3, part 5, line 24; or Form 706-NA, page 2, Schedule B, line 8) ...... 26. 27 Total allowable federal deductions included on line 26 that relate to the property on line 19 ...... 27. 28 Allowable federal deductions for NYS purposes (subtract line 27 from line 26) ...... 28. 29 Tentative New York State taxable estate (subtract line 28 from line 25) ...... 29. 30 Works of art on loan in New York State ...... 30. 31 Taxable estate for New York State (subtract line 30 from line 29) ...... 31.

Schedule B – Property located outside of New York State List below each item of real and tangible personal property located outside of New York State that is included in the federal gross estate. Include the item number, the schedule of federal Form 706 or 706-NA on which it was reported, and the reported value of the property. (Submit additional sheets if necessary; see instructions) Item number Description Value

Total amounts from all additional sheets ...... Total value of property located outside of New York State (include totals from all additional sheets). Enter here and on Schedule A, line 9 or 19......

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978 APPENDIX B

ET-706 (4/14) Page 3 of 4

Schedule C – New York property of a nonresident individual

List below each item of real and tangible personal property located within New York State. Include the item number, the schedule of federal Form 706 or 706-NA on which it was reported, and the reported value of the property. (Submit additional sheets if necessary; see instructions)

Item number Description Value

Total amounts from all additional sheets ......

Total value of New York property of nonresident individual (include totals from all additional sheets) ......

Schedule D – Taxable gifts List below all taxable gifts under section 2503 of the Internal Revenue Code made during the three-year period ending on the individual’s date of death that were not otherwise included in the federal gross estate. Taxable gifts would not include any gift of real or tangible personal property located outside of New York State, any gift made when the individual was not a resident of New York State, or any gift made prior to April 1, 2014. (Submit additional sheets if necessary; see instructions)

Date gift made Description of property gifted (including location) Taxable amount of gift

Total amounts from all additional sheets ......

Total taxable amount of gifts (include totals from all additional sheets) . Enter here and on Schedule A, line 12 or 24......

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979 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

Page 4 of 4 ET-706 (4/14)

Schedule E – Description of litigation or cause of action In the area provided below, describe any litigation in which the decedent was a plaintiff or litigation that is pending or contemplated on behalf of the decedent. Include the actual or estimated values of such litigation (see Litigation information in instructions).

Tax table If the New York taxable estate is:

over but not over The tax is: $ 0 $ 500,000 3.06% of taxable estate 500,000 1,000,000 $ 15,300 plus 5.0% of the excess over $ 500,000 1,000,000 1,500,000 40,300 plus 5.5% " " " " 1,000,000 1,500,000 2,100,000 67,800 plus 6.5% " " " " 1,500,000 2,100,000 2,600,000 106,800 plus 8.0% " " " " 2,100,000 2,600,000 3,100,000 146,800 plus 8.8% " " " " 2,600,000 3,100,000 3,600,000 190,800 plus 9.6% " " " " 3,100,000 3,600,000 4,100,000 238,800 plus 10.4% " " " " 3,600,000 4,100,000 5,100,000 290,800 plus 11.2% " " " " 4,100,000 5,100,000 6,100,000 402,800 plus 12.0% " " " " 5,100,000 6,100,000 7,100,000 522,800 plus 12.8% " " " " 6,100,000 7,100,000 8,100,000 650,800 plus 13.6% " " " " 7,100,000 8,100,000 9,100,000 786,800 plus 14.4% " " " " 8,100,000 9,100,000 10,100,000 930,800 plus 15.2% " " " " 9,100,000 10,100,000 ...... 1,082,800 plus 16.0% " " " " 10,100,000

This return must be ﬁled within nine months after the date of death unless an extension of time to ﬁle the return has been granted. Mail your return and payment (if any) to: NYS ESTATE TAX PROCESSING CENTER PO BOX 15167 ALBANY NY 12212-5167 If you use a private delivery service, see Private delivery services in the instructions. Reminders: Sign the front page of this return. If there is an amount due on line 6, make check payable in U.S. funds to Commissioner of Taxation and Finance. Attach a completed copy of the federal estate tax return along with any accompanying schedules and supplementary information.

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980 APPENDIX C

APPENDIX C

Estate Tax ET-14 Power of Attorney (6/13) Read all the instructions on the back. These instructions explain how the Department will interpret certain information entered on this power of attorney. 1. Executor’s information Print or type your name, social security number (SSN), and mailing address in the space provided Executor’s name Executor’s SSN

Mailing address

City, village, town, or post ofﬁce State ZIP code

The executor named above appoints the person(s) named below as his/her attorney(s)-in fact: 2. Representative information (Representative must sign and date this form on back.) Representative’s name Mailing address (include ﬁrm name, if any) Telephone/fax number

to represent the executor before the Department of Taxation and Finance in connection with the following estate: 3. Estate information Decedent’s name SSN County of residence Date of death

with full power to receive confidential information and to perform any and all acts that the executor can perform with respect to tax matters, including executing waivers of restriction on assessments of deficiencies, and consent to extension of any statutory or regulatory time limit. If you do not want any of the above representative(s) to have full power as described above, check this box and see instructions...... 4. Retention/revocation of prior Power(s) of Attorney The filing of this power of attorney automatically revokes all earlier power(s) of attorney on file with the New York State Department of Taxation and Finance for the above estate. If you do not want to revoke a prior power of attorney, check this box. Attach a copy of any power of attorney you want to remain fully in effect ...... 5. Notices and decisions Copies of statutory notices addressed to the executor involving the above estate will be sent to the first representative named above. If you do not want notices sent to the first representative named above, enter the name of the representative designated above (or on the attached power of attorney previously filed) that you want to receive notices 6. Executor signature Signature Date

7. Acknowledgment or witnessing the Power of Attorney This Power of Attorney must be acknowledged before a notary public or witnessed by two disinterested individuals, unless the appointed representative is licensed to practice in New York State as an attorney-at-law, certiﬁed public accountant, or public accountant, or is a New York State resident enrolled as an agent to practice before the Internal Revenue Service. The person signing as the above executor appeared before us and certiﬁed that he or she had the authority to execute this power of attorney. Name of witness (print and sign) Date Name of witness (print and sign) Date

Title/Relationship of witness (please type or print) Title/Relationship of witness (please type or print)

Acknowledgment State of New York ss: County of On this day of , , before me personally came, to me known to be the person described in the foregoing Power of Attorney; and he/she acknowledged that he/she executed the same. Signature of Notary Public Date

Notary public: afﬁx stamp (or other indication of notary’s authority)

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981 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

ET-14 (6/13) (back)

8. Declaration of representative(s) (to be completed by each representative) I agree to represent the above-named executor in accordance with this power of attorney. I affirm that my representation will not violate the provisions of the Ethics in Government Act restricting appearances by former Tax Department employees. I have read a summary of these restrictions reproduced in the instructions to this form. I am (indicate all that apply): 1 an attorney-at-law licensed to practice in New York State 2 a certified public accountant duly qualified to practice in New York State 3 a public accountant enrolled with the New York State Education Department 4 an agent enrolled to practice before the Internal Revenue Service 5 Other Representative’s preparer tax Designation identification number (PTIN), Signature Date (insert appropriate number employer identification number from above list) (EIN), or SSN

Instructions General instructions 5. Notices and decisions Purpose of form. Use Form ET-14, Estate Tax Power of Attorney, as evidence Only one representative may receive copies of statutory notices. Notices will that the individual(s) named as representative(s) have the authority to obligate, automatically be sent to the first representative listed. However, if you want bind, or appear on your behalf before the New York State Department of Taxation copies of notices to be sent to a different representative named in section 2, or and Finance’s Division of Taxation (the Department). The individual(s) named a representative on a previously filed power of attorney, enter the name of the as representative(s) may receive confidential information concerning your estate representative you want to receive copies of notices. If you do not want copies of tax matters. Unless you indicate otherwise, he or she may also perform any and notices to go to any of your representatives, write none. all acts you can perform, such as consenting to extending the time to assess tax or executing consents agreeing to a tax adjustment. However, authorizing 6. Executor signature someone to represent you by a power of attorney does not relieve you of your tax Form ET-14 must be signed and dated by the executor. The Department obligations. A photocopy is acceptable. requires the executor, or his or her representative, to attach a copy of the Letters Testamentary or the Letters of Administration as evidence of the executor’s Note: Unless a change is being made, Form ET-14 should only be sent in once. authority to execute this power of attorney. You do not have to send in this form with every estate tax filing. The term executor includes executrix, administrator, administratix, or personal 2. Representative information representative of the decedent’s estate; if no executor, executrix, administrator, Enter your representative’s name, mailing address (including firm name if administratix, or personal representative is appointed, qualified, and acting applicable), and telephone number. Also include an e-mail address and fax within the United States, executor means any person in actual or constructive number, if applicable. Only individuals may be named as representatives. You possession of any property of the decedent. may not appoint a firm to represent you. 8. Declaration of representative(s) All representatives appointed will be deemed to be acting severally, unless Your representative(s) must sign and date this declaration. The representative(s) Form ET-14 clearly indicates that all representatives are required to act must also insert the appropriate number designation in the box to indicate his or jointly. her profession or capacity to represent you before the Department. 3. Estate information Representation for former government employees Limitations. This power of attorney authorizes the representative(s) you The Ethics in Government Act bars a government employee from appearing appointed to act for you without any restrictions for the estate indicated. If you or practicing before his or her former agency for two years after leaving public intend to limit the authority, check the box. Attach a complete explanation (signed service, and prohibits for life his or her participation in any matter that he or she and dated), stating the specific restrictions. was directly and personally involved with while a government employee. 4. Retention/revocation of prior Power(s) of Attorney The filing of this power of attorney automatically revokes all earlier power(s) of Need help? attorney on file with the Tax Department for the estate covered by this form. If there is an existing power(s) of attorney that you do not want to revoke, check the Visit our Web site at www.tax.ny.gov box on this line and attach a signed and dated copy of the power(s) of attorney you want to remain in effect. (for information, forms, and online services) You may not partially revoke a previously filed power of attorney. If a previously filed power of attorney has more than one representative and you do not want Estate Tax Information Center: (518) 457-5387 to retain all the representatives on that previously filed power of attorney, you must indicate on the new power of attorney the representative(s) that you want To order forms and publications: (518) 457-5431 to retain. Text Telephone (TTY) Hotline If you want to revoke an existing power of attorney and do not want to name a (for persons with hearing and new representative, send a copy of the previously executed power of attorney to the Department. Write revoke across the copy of the power of attorney, and speech disabilities using a TTY): (518) 485-5082 sign and date the form. If you do not have a copy of the power of attorney you want to revoke, send a statement to the Department office where you filed the Privacy notification — The Commissioner of Taxation and Finance may collect and maintain personal power of attorney. The statement of revocation must indicate that the authority of information pursuant to the New York State Tax Law, including but not limited to, sections 5-a, 171, 171-a, the power of attorney is revoked, and must be signed and dated by the taxpayer. 287, 308, 429, 475, 505, 697, 1096, 1142, and 1415 of that Law; and may require disclosure of social security numbers pursuant to 42 USC 405(c)(2)(C)(i). Also, the name and address of each recognized representative whose authority This information will be used to determine and administer tax liabilities and, when authorized by law, for certain is revoked must be listed. tax offset and exchange of tax information programs as well as for any other lawful purpose. A representative can withdraw from representation by filing a statement with the Information concerning quarterly wages paid to employees is provided to certain state agencies for purposes Department. The statement must be signed and dated by the representative and of fraud prevention, support enforcement, evaluation of the effectiveness of certain employment and training programs and other purposes authorized by law. must identify the name and address of the executor and estate from which the Failure to provide the required information may subject you to civil or criminal penalties, or both, under the Tax representative is withdrawing. Law. This information is maintained by the Manager of Document Management, NYS Tax Department, W A Harriman Campus, Albany NY 12227; telephone (518) 457-5181.

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982 APPENDIX D APPENDIX D

New York State Department of Taxation and Finance ET-117 Release of Lien of Estate Tax (1/12) Real property or cooperative apartment

A completed Form ET-117 must be mailed with one of the following forms to the address shown on that form: Form ET-706, Form ET-90, Form ET-85, Form ET-30, Form TT-385, or Form TT-102. There is no fee for a release of lien.

Name Type or print the name Address and mailing address of the person to whom this City, state, ZIP code form should be returned.

Estate of

Date of death County of residence at time of death*

* If the decedent was not a resident of New York State at the time of death, enter nonresident.

Complete this section for real property. You may list up to two parcels in the same county; use a separate Form ET-117 for each county. File the validated release of lien with the county clerk or commissioner of deeds. The book of deeds or liber number, page number, and map number are shown on the recorded deed. The section, block, and lot numbers are shown on the property tax bills. Book of deeds or liber number At page number Map number

Section number Block number Lot number

Property address Street or road City, town, or village County

Book of deeds or liber number At page number Map number

Section number Block number Lot number

Property address Street or road City, town, or village County

Complete this section for cooperative apartments. If you entered real property above, do not complete this section; use a separate Form ET-117. Also, you must use a separate Form ET-117 for each cooperative corporation and purchaser. Give the validated release of lien to the purchaser. Name of cooperative corporation

Address of cooperative apartment Apartment number(s) Street or road

City, town, or village State County ZIP code

Number of shares associated with proprietary lease for apartment(s) listed above

Pursuant to the provisions of section 249-bb or section 982(c) of the Tax Law, the lien (if any) of the estate tax imposed by Article 10-C or Article 26 of the Tax Law is hereby released with respect to the property described above.

Date Deputy commissioner

This release is not valid unless the state seal is afﬁxed by the Tax Department to the right of the property description. Each completed description requires a separate seal. Note: The executor may be held personally liable for unpaid estate tax up to the value of the assets that were distributed before the NYS estate tax was paid in full. The surviving spouse, all beneﬁciaries, and any other person in possession of property included in the NY gross estate may be held personally liable for unpaid estate tax up to the value of property received from the estate (NYS Tax Law section 975).

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983 984 APPENDIX E APPENDIX E

New York State Department of Taxation and Finance

For ofﬁce use only Application for Extension of Time ET-133 To File and/or Pay Estate Tax (4/14) For an estate of an individual who died on or after April 1, 2014 Decedent’s last name First name Middle initial Social security number

Address of decedent at time of death (number and street) Date of death Mark an X if copy of death certiﬁcate is attached (see inst.) City State ZIP code County of residence

If the decedent was a nonresident of New York State on the date of death, mark an X in the box and attach completed Form ET-141, New York State Estate Tax Domicile Afﬁdavit ...... Executor: If you are submitting Letters Testamentary or Letters of Administration with this form, indicate in this box the type of letters. Enter L if regular, LL if limited letters. If you are not submitting letters with this form, enter N...... Attorney’s or authorized representative’s last name First name MI Mark an X Executor’s last name First name Middle initial if POA is attached In care of (ﬁrm’s name) If more than one executor, mark an X in the box (see instructions) ...... Address of attorney or authorized representative Address of executor

City State ZIP code City State ZIP code

SSN or PTIN of attorney or authorized rep. Telephone number Social security number of executor Telephone number ( ) ( ) E-mail address of attorney or authorized representative E-mail address of executor

Automatic extension of time to ﬁle (Tax Law, section 976(a)(1)) Extension date requested Mark an X in this box (see instructions on back). month day year

Extension of time to pay (Tax Law, section 976(a)) Extension date requested Mark an X in this box and, in the space provided below, explain in detail why payment of the estate tax by the due date (that is, within nine months of the date of death) will cause undue hardship to the estate. Include documentation of any effort the estate has made to convert assets to pay the tax. If the tax cannot be determined because the size of the estate is month day year unascertainable, mark an X here and attach an explanation (see instructions on back).

State in detail why you need an extension of time to pay. (Attach additional sheets if necessary.)

Computation

1 Estimated value of federal gross estate (see instructions) ...... 1. 2 Estimated value of property with a location outside of New York State ...... 2. Attach 3 Subtotal (subtract line 2 from line 1) ...... 3. check or 4 Taxable gifts (see instructions) ...... 4. money order 5 Amount determined under section 957 relating to Powers of here. Appointment prior to 1930 (see instructions) ...... 5. 6 Add lines 4 and 5 ...... 6. 7 New York estimated gross estate (add lines 3 and 6) ...... 7. 8 Allowable federal deductions (see instructions) ...... 8. 9 Estimated New York taxable estate (subtract line 8 from line 7) ...... 9. 10 Tax on taxable estimate, net of any applicable credit (see instructions) ...... 10. 11 Amount previously remitted, if any ...... 11. 12 Amount remitted with this form (make check or money order payable in U.S. funds to Commissioner of Taxation and Finance) ...... 12.

Certification: Under penalties of perjury, I declare that I am either the duly appointed executor or administrator for the above-named estate or, if no executor or administrator has been appointed, a person in actual or constructive possession of any property of the decedent with sufficient knowledge to file an accurate return, the attorney or accountant representing such individual, or a person with a power of attorney to act on behalf of the executor, and that, to the best of my knowledge and belief, the information contained on this application is true and correct.

Signature Date

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985 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

ET-133 (4/14) (back) Instructions Who may file Form ET-133 (nine months after the date of death). You must document any effort the The executor who is required to file the estate tax return for the decedent’s estate has made to convert assets to pay the tax. Include information on estate may file Form ET-133 to request an automatic extension of time the listing of real estate, loans, marketability of securities, and so forth. to file or to apply for an extension of time to pay the estate tax, or both, In general, an extension of time to pay will be granted only for the amount under section 976 of the Tax Law. Enter the name (last name first) and of the cash shortage. You must show the amount of the estate tax (attach other information for the executor of the estate. The term executor includes a copy of the return if it has already been filed; otherwise estimate the executrix, administrator, administratrix, or personal representative of the tax), the amount of the cash shortage (including a statement of the current decedent’s estate; if no executor is appointed, qualified, and acting within assets in the estate and the assets already distributed), a plan for partial the United States, executor means any person in actual or constructive payments during the extension period, and the balance due. You must possession of any property of the decedent. Also, an authorized attorney, attach a check or money order payable in U.S. funds to the Commissioner certified public accountant, or other person holding power of attorney (POA) of Taxation and Finance for the balance due. Write the decedent’s social may use this form to apply for an extension of time on behalf of the executor. security number and Estate tax on the check or money order. Note: If you are giving a person power of attorney to represent you, attach a You must pay the part of the estate tax, including the accrued interest, completed Form ET-14, Estate Tax Power of Attorney, if one was not submitted for which the extension of time is granted by the extended due date. If previously. Refer to the instructions on Form ET-14 for additional information. you pay within this period, interest is computed from the date that is nine months after the date of death to the date of payment. If you have not previously submitted a copy of the death certificate, mark an X in the box and attach a copy to this form. Specific instructions If Letters Testamentary or Letters of Administration have been obtained from Line 1 — Refer to federal Form 706, page 3, part 5, line 11; or Form 706-NA, surrogate’s court but not submitted, attach a copy of them to this form and page 2, Schedule B, line 1. indicate in the space provided the type of letters you are submitting. Line 4 — Estimated value of all gifts that would be taxable under If the estate has more than one executor, mark an X in the box, enter the section 2503 of the Internal Revenue Code made during the three-year name and other information for the primary executor (preferably a person period ending on the individual’s date of death that were not otherwise residing in New York State) in the area provided, and attach a list of each of included in the federal gross estate. Taxable gifts would not include any gift the other executors with their mailing address and social security number. of real or tangible personal property located outside of New York State, any gift made when the individual was not a resident of New York State, any gift If this application is signed by the authorized representative of the executor, made prior to April 1, 2014, or any gifts made after January 1, 2019. enter the information for that person (attorney, CPA, or person with POA) in the area indicated for attorney or authorized representative. Line 5 — Estimated value of any property received under a Power of Appointment issued prior to 1930. For a definition of the term, power of Note: If an executor has not been appointed, this application may be signed appointment, refer to the Form ET-706-I that is applicable to dates of death by a person acting as executor who has sufficient knowledge of the estate to on or after April 1, 2014. file an accurate return. The information (name, address, etc.) for the person acting as executor should be entered in the area provided for the executor. If Line 8 — Refer to federal Form 706, page 3, part 5, line 24; or Form 706-NA, the application is signed by the authorized representative of a person acting page 2, Schedule B, line 8. Do not include deductions relating to property as executor, refer to the information above. located outside of New York State. Line 10 — Compute the tax using the tax table on page 4 of Form ET-706. When to file Subtract from the tax amount computed any applicable credit (see • Extension of time to file (Tax Law section 976(a)(1)) Form ET-706-I, page 4, line 3 instructions). You must file Form ET-133 within 9 months of the date of death. If there is no numerically corresponding day in the ninth month, the last day of Where to file the ninth month is the due date. When the due date falls on a Saturday, Mail this form and your payment (if required) to: NYS Estate Tax, Sunday, or a legal holiday, the due date is the next weekday that is not a Processing Center, PO Box 15167, Albany NY 12212-5167. legal holiday. Private delivery services — If you are not submitting your form by U.S. Mail, Note: The extension of time to file an estate tax return may not be sure to consult Publication 55, Designated Private Delivery Services, for the exceed six months unless the executor is out of the country. address and other information. An extension of time to file does not extend the time to pay. Therefore, if the application is for an extension of time to file only, you Penalties must show the amount of the estate tax estimated to be due and include Penalties may be imposed for failure to file the estate tax return within the a check or money order payable in U.S. funds to the Commissioner of extension period granted, or failure to pay the balance of the estate tax due Taxation and Finance with the application (if not previously paid). Write within the extension period granted. the decedent’s social security number and Estate tax on the check or money order. Bond • Extension of time to pay (Tax Law section 976(a)) If an extension of time to pay is granted, the executor may be required to Note: An extension of time to pay does not extend the time to file. furnish a bond. You must file the return within nine months after the date of death, unless an extension of time to file has been granted. Need help? You must provide details regarding why an extension of time to pay is needed. Except as provided below, an extension of time to pay cannot Visit our Web site at www.tax.ny.gov exceed 12 months from the due date of the estate tax return. (for information, forms, and online services) You may extend the payment of the estate tax attributable to a reversionary or remainder interest in property until six months after the termination of the precedent interest(s) in the property. Estate Tax Information Center: (518) 457-5387 To avoid penalties if the Tax Department denies your application for an To order forms and publications: (518) 457-5431 extension of time to pay, you should file your application early enough so that the Tax Department can review the application and reply before Text Telephone (TTY) Hotline the estate tax and return are due. We will notify you in writing of the Tax (for persons with hearing and Department’s decision. If we approve your application for an extension of speech disabilities using a TTY): (518) 485-5082 time to pay, you must pay the tax by the extended due date. A discretionary extension of time to pay for undue hardship under Privacy notification — New York State Law requires all government section 976(a)(3) may not exceed four years. For information on an agencies that maintain a system of records to provide notification of the legal extension of time granted to a closely held business under section 997, authority for any request, the principal purpose(s) for which the information see Form ET-415, Application for Deferred Payment of Estate Tax. is to be collected, and where it will be maintained. To view this information, The application must establish that it is an undue hardship for the executor visit our Web site, or, if you do not have Internet access, call and request to pay the full amount of the estate tax by the estate tax return due date Publication 54, Privacy Notification. See Need help? for the Web address and telephone number.

3-32

986 APPENDIX F APPENDIX F

New York State Department of Taxation and Finance ET-141 New York State Estate Tax Domicile Affidavit (1/99) For estates of decedents dying after May 25, 1990 Complete Form ET-141 if it is claimed that the decedent was not domiciled in New York State at the time of death. The fiduciary (executor or administrator), the surviving spouse or a member of the decedent’s immediate family who can provide all the information requested below should complete this affidavit.

Answer all questions completely. Attach this form to Form ET-90 or Form ET-85. Decedent’s last name First Middle initial Social security number

Address of decedent at time of death (number and street) Date of death

City, village or post ofﬁce County State ZIP code Country of residence

Age at death Date of birth Place of birth

1 If born outside the United States, was the decedent a naturalized citizen of the United States? If Ye s, enter (below) the name and address of the court where the decedent was naturalized. Ye s N o Name and address of court where naturalized

2 Did decedent ever live in New York State? Ye s N o I f Ye s, list periods. 3 Did decedent ever own, individually or jointly, any interest in real estate located in New York State? Ye s N o If Ye s , list addresses and periods below (attach additional sheets if necessary). Periods of time - from/to Addresses of property

4 Did decedent lease a safe deposit box located in New York State at the time of death? Ye s N o If Ye s, complete box below. Also, if Ye s, has it been inventoried? Ye s N o I f Ye s, attach copy of inventory.

Name and address of bank where box is located

5 Provide the following information regarding the residences of the decedent during the last ﬁve years preceding death (attach additional sheets if necessary). In New York State Outside New York State Residence Residence Period of time owned - rented Period of time owned - rented from - to Address other - explain from - to Address other - explain

6 For the five years prior to death, list (1) the Internal Revenue Service Centers and (2) the states or other municipalities where the decedent filed income tax returns if no income tax returns were filed, enter none). Year Internal Revenue Service Center State, county, or municipality

Privacy Notiﬁcation The right of the Commissioner of Taxation and Finance and the Department of Taxation and Finance to collect and maintain personal information, including mandatory disclosure of social security numbers in the manner required by tax regulations, instructions, and forms, is found in Articles 22, 26, 26-A, 26-B, 30, 30-A, and 30-B of the Tax Law; Article 2-E of the General City Law; and 42 USC 405(c)(2)(C)(i). The Tax Department will use this information primarily to determine and administer tax liabilities due the state and city of New York and the city of Yonkers. We will also use this information for certain tax offset and exchange of tax information programs authorized by law, and for any other purpose authorized by law. Information concerning quarterly wages paid to employees and identiﬁed by unique random identifying code numbers to preserve the privacy of the employees’ names and social security numbers will be provided to certain state agencies for research purposes to evaluate the effectiveness of certain employment and training programs. Failure to provide the required information may result in civil or criminal penalties, or both, under the Tax Law. This information will be maintained by the Director of the Registration and Data Services Bureau, NYS Tax Department, Building 8 Room 924, W A Harriman Campus, Albany NY 12227; telephone 1 800 225-5829. From areas outside the U.S. and outside Canada, call (518) 485-6800.

3-33

987 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

ET-141 (1/99) (back)

7 List the states where the decedent was registered to vote during the last ﬁve years preceding death (list latest year ﬁrst). Years State From To Date of death

If decedent did not vote in those ﬁve years, when did he or she last vote? Where?

8 List employment or business activities (if any) engaged in by the decedent during the ﬁve years preceding the date of death. In New York State Outside New York State Period of time Period of time from - to Nature of employment or business activities from - to Nature of employment or business activities

9 Was decedent a party to any legal proceedings in New York State during the last ﬁve years? If Ye s, list courts, dates Ye s N o and types of action.

10 Did decedent have a license to operate a business, profession, motor vehicle, airplane or boat? Yes No If Ye s, list below. License number Type of license Date of issuance Name and location of issuing ofﬁce

11 Did decedent execute any trust indentures, deeds, mortgages or any other documents describing his or her residence during the last ﬁve years preceding death? Ye s N o I f Ye s, attach copy. 12 Was the decedent a member of any church, club or organization? Ye s N o If Ye s give name, address and other details. (Attach additional sheets if necessary.)

13 What other information do you wish to submit in support of the contention that the decedent was not domiciled in New York State at the time of death? (Attach additional sheets if necessary.)

Applicant’s last name First Middle initial Relationship to decedent

Address (number and street) Connection with estate

City, village or post ofﬁce State ZIP code

The undersigned states that this afﬁdavit is made to induce the Commissioner of the Department of Taxation and Finance of the State of New York to determine domicile, and that the answers herein contained to the foregoing questions are each and every one of them true in every particular.

Notary Public, Commissioner of Deeds or Authorized New York State Signature of applicant Department of Taxation and Finance employee (no seal required)

Sworn before me this day of 19 Signature

3-34

988 CHAPTER SIX

RIGHT OF ELECTION

Arlene Harris, Esq. Linda B. Hirschson, Esq. Shifra Herzberg, Esq. Daniella Wittenberg, Esq.

3FQSJOUFEXJUIQFSNJTTJPOGSPN1SPCBUFBOE"ENJOJTUSBUJPOPG/FX :PSL&TUBUFT 4FDPOE&EJUJPO $PQZSJHIU QVCMJTIFECZUIF/FX :PSL4UBUF#BS"TTPDJBUJPO 0OF&ML4USFFU "MCBOZ /FX:PSL

989 990 RIGHT OF ELECTION § 6.0

[6.0] I. INTRODUCTION

New York case and statutory law imposes upon New York State resident spouses many duties during life; a spouse cannot avoid some of those duties in death. The surviving spouse is entitled to a minimum share of the deceased spouse’s estate.

Most estate planners will need to refer to this chapter only rarely, as most husbands and wives leave most, if not all, of their estates to each other. Where a lawyer is asked by a client to limit or dispense with a bequest to a spouse, however, this chapter will become first in importance.

The law carefully defines the amount to which a surviving spouse is entitled. The share to be paid cannot be avoided by most inter vivos transfers, but as with any right, it can be affected by the claimant’s words and actions. The provisions of Estates, Powers and Trusts Law 5-1.1-A (EPTL) affect the manner in which the elective share is measured, its character and from what property it shall be paid.

This chapter discusses EPTL 5-1.1-A—the right of election statute for decedents dying on or after September 1, 1992. The right of a surviving spouse to elect to take a portion of the decedent spouse’s estate was significantly expanded from the prior law, EPTL 5-1.1, which remains intact and applies to the estates of decedents who died before September 1, 1992. An overview of EPTL 5-1.1 is contained in the Appendix.

[6.1] II. DETERMINING THE ELECTIVE SHARE

[6.2] A. Size and Character of the Elective Share

A spouse’s elective share equals the greater of (1) $50,000 or (2) one- third of the net estate (as discussed and defined below).1 The calculation of a spouse’s elective share is not based upon the size of his or her own assets, regardless of the source of such assets.

The elective share is a pecuniary amount, not a fractional share of the estate.2 Thus, income earned by the estate prior to its distribution will not be included, nor will the appreciation or depreciation of estate assets be taken into account.3

1 EPTL 5-1.1-A(a)(2).

2 EPTL 5-1.1-A(a)(2).

3 See Estate of Raninga, 2008 N.Y. Misc. LEXIS 666 (Sur. Ct., Kings Co. 2008).

6-3

991 § 6.3 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

The computation of the surviving spouse’s elective share is only part of the process. The share of the testamentary provisions to which the surviving spouse is entitled is his or her elective share amount, reduced by certain interests passing to him or her. The amount as so reduced equals the surviving spouse’s “net elective share” (as discussed and defined below).4

[6.3] B. Net Estate

[6.4] 1. Generally

A decedent’s estate consists of the property passing under his or her will, property passing by intestate distribution pursuant to EPTL 4-1.1, plus the “testamentary substitutes” described in EPTL 5-1.1-A(b)(1).5 A decedent’s net estate is determined by reducing the decedent’s estate by debts, administration expenses and reasonable funeral expenses.6

[6.5] 2. Location of Decedent’s Assets; Inclusion of Foreign Realty

For right of election purposes, the decedent’s estate includes all property of the decedent wherever situated.7 Thus, the surviving spouse has a right of election against real and other property of the decedent located outside New York State.

[6.6] 3. Estate Taxes

All estate taxes are to be disregarded in calculating the net estate.8 The surviving spouse, however, is not relieved of contributing the amount of such taxes, if any, apportioned against him or her under EPTL 2-1.8.9 The reference to apportionment under EPTL 2-1.8 includes apportionment pursuant to a direction in the decedent’s will, which is one method of apportionment permitted by EPTL 2-1.8.10

4 EPTL 5-1.1-A(a)(4), amended by 1993 N.Y. Laws ch. 515, § 3, eff. Jan. 1, 1994.

5 EPTL 5-1.1-A(a)(3).

6 EPTL 5-1.1-A(a)(2).

7 EPTL 5-1.1-A(c)(7).

8 EPTL 5-1.1-A(a)(2).

9 Id. 10 In re Poffenbarger, 40 Misc.3d 482, 961 N.Y.S.2d 731 (Sur. Ct., Suffolk Co. 2013) (finding the apportionment clause in decedent’s will, apportioning all estate taxes to the residuary, applied to the elective share and that the spouse’s exercise of the right of election did not forfeit all the benefits afforded to her under the will).

6-4

992 RIGHT OF ELECTION § 6.7

Unless the decedent has provided otherwise, generally no taxes would be apportioned against the surviving spouse to the extent that property passing to him or her qualified for the marital deduction.11 In most cases, property interests that satisfy the elective share also will be eligible for the marital deduction. Exceptions include property passing outright to a surviving spouse who is not a United States citizen12 and cash bequests that, pursuant to a direction under the will, are used to purchase an annuity for the spouse.13 Even if the spouse’s share is eligible for the marital deduction, a contribution to the estate’s estate taxes may be required insofar as the estate taxes are attributed to pre-death transactions rather than to property included in the gross estate.

[6.7] 4. Debts and Administration Expenses

Not all obligations are treated as debts for purposes of defining the net estate. If they were, an individual could easily defeat his or her spouse’s right of election simply by executing a contract to bequeath his or her estate to some other individual or individuals. New York courts, for example, have held that an obligation contained in a separation agreement to bequeath a portion of an individual’s estate or specific assets to a former spouse is subordinate to a subsequent spouse’s right of election.14 The beneficiary of a contract to make a bequest often is viewed by the courts as a legatee rather than as a creditor. In contrast, a decedent’s obligation under a separation agreement to make post-death alimony payments is treated as a debt that reduces the estate that is subject to the right of election.15 The distinction between the two is tenuous. A debt that matures on the death of a decedent spouse seems to fall somewhere between the two. It is unclear how it will be treated under EPTL 5-1.1-A.

11 EPTL 2-1.8(c)(2).

12 Internal Revenue Code § 2056(d); but see New York Tax Law § 951(b), effective April 1, 2014 through July 1, 2016, providing that where a federal estate tax return is not required to be filed, property passing outright to a surviving spouse who is not a United States citizen will be eligible for the New York State marital deduction if, but for the fact that the spouse is not a United States citizen, the transfer would qualify for the federal marital deduction.

13 Treas. Reg. § 20.2056(b)-1(g) Ex. 7.

14 See In re Dunham’s Estate, 36 A.D.2d 467, 320 N.Y.S.2d 951 (3d Dep’t 1971); In re Erstein’s Estate, 205 Misc. 924, 129 N.Y.S.2d 316 (Sur. Ct., N.Y. Co. 1954); In re Hoyt’s Estate, 174 Misc. 512, 21 N.Y.S.2d 107 (Sur. Ct., N.Y. Co. 1940).

15 See In re Lewis’s Will, 4 Misc. 2d 937, 123 N.Y.S.2d 859 (Sur. Ct., Westchester Co. 1953). See also, Estate of Calligaro, 19 Misc.3d 895, 855 N.Y.S.2d 873 (Sur. Ct., Bronx Co. 2008) (holding that a decedent’s obligation to designate his minor daughter as beneficiary of his retirement benefits reduced the estate subject to the right of election).

6-5

993 § 6.8 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

Only those administration expenses that are reasonable and proper may be deducted from the decedent’s estate in determining his or her net estate. If the executor of a decedent’s estate cannot establish that certain expenses are necessary for the proper administration of the estate, then such expenses are not deductible as administration expenses for purposes of calculating the elective share.16

[6.8] C. Testamentary Substitutes

[6.9] 1. Generally

Estates, Powers and Trusts Law 5-1.1-A(b)(1) sets forth an expansive list of inter vivos dispositions which qualify as testamentary substitutes. A transaction described in EPTL 5-1.1-A(b)(1) generally will constitute a testamentary substitute whether it was effected before or after marriage. A significant exception to this general rule applies to irrevocable transactions (other than those described in clause (G) regarding retirement plans); such transactions constitute testamentary substitutes only if they are effected after marriage.17 Testamentary substitutes do not become part of the probate estate and, thus, do not increase the assets available to other will beneficiaries.18

[6.10] 2. Testamentary Substitutes

[6.11] a. Gratuitous Transfers and Gifts Causa Mortis

Gratuitous transfers of property made after August 31, 1992, and within one year of the decedent’s death, are treated as testamentary substitutes pursuant to EPTL 5-1.1-A(b)(1)(B), except to the extent that such transfers are excludable from gift tax by operation of Internal Revenue Code § 2503(b) (I.R.C.) (the annual exclusion, which in 2014 is $14,000 per donee and is adjusted for inflation in $1,000 increments) and I.R.C. § 2503(e) (the exclusion for amounts paid for tuition or medical care). The amount excluded from gift tax under I.R.C. § 2503(b) as a result of the spouse’s election to split the gift also is not taken into account in determining the aggregate transfers within one year of death.19

16 See In re Beiter, 2012 WL 6694906, (Sur. Ct., N.Y. Co. 2012) (finding that unreasonable fees cannot be deducted), adhered to on reargument by 2013 WL 3214429, No. 2005-3730/A (Sur. Ct., N.Y. Co. 2013).

17 EPTL 5-1.1-A(b)(1).

18 In re Handler, 82 Misc. 2d 482, 485, 371 N.Y.S.2d 297, 301 (Sur. Ct., Kings Co. 1975).

19 EPTL 5-1.1-A(b)(1)(B).

6-6

994 RIGHT OF ELECTION § 6.12

Gifts causa mortis are not encompassed within EPTL 5-1.1-A(b)(1)(B) because they are specifically designated as testamentary substitutes under clause (A).20 Also excluded from the operation of clause (B) are transfers of interests in retirement plans and releases of presently exercisable general powers of appointment, which are specifically dealt with in clauses (G) and (H), respectively.21

[6.12] b. Trusts, Disposition of Property and Contractual Arrangements

[6.13] (1) Generally

Dispositions of property and contractual arrangements made by the decedent, in trust or otherwise, are testamentary substitutes insofar as the decedent retained the right to the income from, or the possession or enjoyment of, the property for his or her life, for any period not ascertainable without reference to his or her death or for a period that does not in fact end before his or her death, except to the extent that such disposition or contractual arrangement was for adequate consideration in money or money’s worth.22 This provision is not applicable to dispositions made before September 1, 1992.23 Grantor retained annuity trusts and unitrusts (GRATS and GRUTS) and qualified personal residence trusts (QPRTS) may constitute retained life estates, and thus be testamentary substitutes, if the grantor spouse dies before the expiration of the term.

Also included as testamentary substitutes are dispositions of property and contractual arrangements made by the decedent, in trust or otherwise, to the extent the decedent, at the time of his or her death, retained—either alone or in conjunction with any person who does not have a substantial adverse interest24—by the express provisions of the disposing instrument, the power to revoke the disposition or the power to consume, invade or

20 EPTL 5-1.1-A(b)(1)(A).

21 See II.C.2.c., “Property Payable Under a Thrift,” and d., “Property Subject to a Presently Exer- cisable General Power of Appointment,” infra.

22 The exception for dispositions or contractual arrangements to the extent they were for adequate consideration was added by 1993 N.Y. Laws ch. 515, § 3, eff. Jan. 1, 1994.

23 EPTL 5-1.1-A(b)(1)(F)(i).

24 The reference to a “substantial adverse interest,” rather than “adverse interest,” was added by 1993 N.Y. Laws ch. 515, § 3, eff. Jan. 1, 1994.

6-7

995 § 6.13 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

otherwise dispose of the principal thereof.25 The power to invade must be possessed at the date of death, and a lapse of the power before death will lead to a determination that the trust is not a testamentary substitute.26 Since the statute does not specifically enumerate the transfers included, this category is open to judicial interpretation and is a source of much litigation. For example, courts have distinguished annuities from life insurance in finding that an annuity is a testamentary substitute and life insurance is not.27

The scope of the language “a power to revoke such disposition or a power to consume, invade or dispose of the principal thereof” was at issue in In re Estate of Reynolds.28 Although the case involved the former statute (EPTL 5-1.1), the same language is used in the new statute (EPTL 5- 1.1-A(b)(1)(F)(ii)). In Reynolds, the decedent created an irrevocable inter vivos trust in order to qualify for Medicaid benefits, pursuant to which the trustee could invade principal. The settlor retained, until one day before her death, the right to change beneficiaries to anyone except herself or her estate, and on that date the trust was terminated. A unanimous Court of Appeals held that the limited right to appoint beneficiaries left her with meaningful control during her lifetime and would allow her to circumvent her husband’s right of election “in contravention of the statute’s explicit and intended protection.” The Court of Appeals found that the provision

25 EPTL 5-1.1-A(b)(1)(F)(ii). See In re Samuel A. Garrasi and Mary H. Garrasi Family Trust, 104 A.D.3d 990, 961 N.Y.S.2d 594, 2013 N.Y. Slip Op. 01456 (3rd Dep’t 2013); In re Wenzel, 85 A.D.3d 563, 925 N.Y.S.2d 474, 2011 N.Y. Slip Op. 05205 (1st Dep’t 2011) (stating that inter vivos revocable trusts are testamentary substitutes). See also Wagenstein v. Shwarts, 82 A.D.3d 628, 920 N.Y.S.2d 55, 2011 N.Y. Slip Op. 02445 (1st Dep’t 2011) (stating that a trust under which the decedent retained the right to receive income for life is a testamentary substitute).

26 In re Kohut, 133 A.D.2d 687, 519 N.Y.S.2d 858 (2d Dep’t 1987). 27 See Estate of Boyd, 161 Misc. 2d 191, 613 N.Y.S.2d 330 (Sur. Ct., Nassau Co. 1994) (holding that life insurance contracts do not come within this provision in light of the legislative history regarding life insurance). See also In re Martorana, N.Y.L.J., Oct. 11, 1995, p. 2, col. 6 (Sur. Ct., Suffolk Co.); In re Callaghan, N.Y.L.J., Sept. 23, 1994, p. 30, col. 5 (Sur. Ct., Dutchess Co.). It is interesting to note that the Boyd court subsequently determined that counsel fees for the surviving spouse are not properly payable from the estate and must be borne by the spouse personally, since the primary issue in the construction proceeding was not to determine the intent of the testator from an ambiguous provision in the will, but rather to determine the extent of the surviving spouse’s right of election by statutory construction. In re Boyd, N.Y.L.J., Apr. 30, 1996, p. 35, col. 1 (Sur. Ct., Nassau Co.). See also Estate of Green, 18 Misc.3d 1116(A), 856 N.Y.S.2d 498 (Sur. Ct., Bronx Co. 2008) (holding that the courts must follow precedent that life insurance is not a testamentary substitute); Estate of Zupa, 22 Misc.3d 1104(A), 880 N.Y.S.2d 228 (Sur. Ct., Erie Co. 2006), aff’d, 48 A.D.3d 1036, 850 N.Y.S.2d 311 (4th Dep’t 2008) (distinguishing annuities from life insurance and finding that annuities are testamentary substitutes).

28 214 A.D.2d 944, 626 N.Y.S.2d 603 (4th Dep’t 1995), modified, 87 N.Y.2d 633, 642 N.Y.S.2d 147, 664 N.E.2d 1209 (1996).

6-8

996 RIGHT OF ELECTION § 6.14

terminating the settlor’s right to change beneficiaries on the day before her death was illusory because that date could not be ascertained until after the settlor’s death. A majority of the Appellate Division had dis- agreed with the surrogate’s conclusion that the trust was a testamentary substitute under EPTL 5-1.1, as the settlor had relinquished the right to appoint herself or her estate as beneficiary and there was no power to change beneficiaries at the time of death.

In In re Estate of Wechsler,29 an irrevocable inter vivos trust created by a decedent and his sister was held not to be a testamentary substitute because the decedent did not retain possession or enjoyment of the trust assets until the date of death, as the trust gave the decedent no right to revoke the trust, appoint new beneficiaries, or to consume, invade or dispose of the corpus. The court further held that the illusory trust doctrine ceased to exist in elective share cases with the enactment of the concept of testamentary substitutes in 1966.30

[6.14] (2) Charitable Remainder Trust

If the donor of a charitable remainder trust retains a life interest in a unitrust, annuity trust, pooled income fund, charitable gift annuity or the life use of a personal residence or farm, the exercise by the donor’s spouse of the right of election would cause a portion of the trust or annuity interest to be diverted from the charitable remainder beneficiary. This would occur because the statute provides for “ratable” contribution by both testamentary beneficiaries and beneficiaries of testamentary substitutes.31 If the possibility of the right of election being exercised by the surviving spouse is more than 5 percent, the charitable deduction may be disallowed. A waiver of the right of election by the nondonor spouse at the time of the creation of the retained interest would resolve the problem. For a description of a safe harbor pursuant to which the Internal Revenue Service will disregard the state law right of election for purposes of determining whether certain charitable remainder trusts meet federal income tax requirements, see V.D., “Waiver Issues With Respect to Certain Char- itable Remainder Trusts,” infra.

29 225 A.D.2d 785, 640 N.Y.S.2d 184 (2d Dep’t 1996).

30 For a further discussion of the illusory trust doctrine, see Appendix E.

31 EPTL 5-1.1-A(c)(2).

6-9

997 § 6.15 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

[6.15] (3) Stock Purchase Agreements

Case law in New York holds that a stock purchase agreement that had been executed by a decedent after August 31, 1966, may be a testamentary substitute. If, upon the decedent’s death, a closely held corporation is obligated to buy the decedent’s shares therein from his or her personal representative, the agreement is a testamentary substitute under EPTL 5- 1.1(b)(1)(E) if the decedent had retained the power to change or terminate the contract upon mutual agreement of the stockholders.32 A widow, however, cannot challenge the adequacy of consideration under a buy-sell provision in the absence of allegations of fraud, duress or undue influence.33

[6.16] (4) Transfers to Minors

If a decedent, on or after January 1, 1997, conveyed property to himself or herself as custodian for a minor pursuant to New York’s Uniform Transfers to Minors Act,34 under applicable case law, the interest is not a testamentary substitute. The rationale underlying this exemption is that a donor who becomes custodian of the property under the statute can exercise power over the donated property only for the benefit of the minor and not for the donor’s own benefit. Since a gift made pursuant to the act con- veys legal title to the minor, the surviving spouse of the donor has no right of election against it.35

[6.17] c. Property Payable Under a Thrift, Savings, Retirement, Pension, Deferred Compensation, Death Benefit, Stock Bonus or Profit-Sharing Plan, Account, Arrangement, System or Trust

Property payable under a thrift, savings, retirement, pension, deferred compensation, death benefit, stock bonus or profit-sharing plan, account, arrangement, system or trust is a testamentary substitute.36 This provision covers both qualified plans under I.R.C. § 401 as well as nonqualified plans. As to qualified plans with respect to which payment is in the form

32 In re Riefberg, 107 Misc. 2d 5, 433 N.Y.S.2d 374 (Sur. Ct., Nassau Co. 1980), aff’d, 86 A.D.2d 782, 449 N.Y.S.2d 371 (2d Dep’t 1982), aff’d, 58 N.Y.2d 134, 459 N.Y.S.2d 739, 446 N.E.2d 424 (1983).

33 Isaacson v. Beau Label Corp., 93 A.D.2d 880, 461 N.Y.S.2d 420 (2d Dep’t 1983).

34 EPTL 7-6.1–7-6.26. Transfers made prior to 1997 are governed by the Uniform Gifts to Minors Act, EPTL 7-4.1–7-4.13.

35 In re Zeigher, 95 Misc. 2d 230, 406 N.Y.S.2d 977 (Sur. Ct., Nassau Co. 1978).

36 EPTL 5-1.1-A(b)(1)(G).

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998 RIGHT OF ELECTION § 6.18 of a joint and survivor annuity for the participant and his or her spouse or the spouse is entitled to a survivor’s annuity if the participant dies after the annuity starting date, only one-half the value of the decedent’s interest in the property constitutes a testamentary substitute. Although the other half also passes to the surviving spouse, it is not charged against his or her elective share. Estates, Powers and Trusts Law 5-1.1-A(b)(1)(G) does not apply if the decedent designated the beneficiary or beneficiaries of the plan benefits on or before September 1, 1992, and did not change the beneficiary designation thereafter.37 A spouse’s waiver of the right to receive any such survivor annuity constitutes a waiver against the testamentary substitute. (Technically, a spouse must sign a consent to the participant’s waiver of such benefit.)38

[6.18] d. Property Subject to a Presently Exercisable General Power of Appointment

Any interest in property, to the extent it was subject to a presently exercisable general power of appointment (within the meaning of I.R.C. § 2041) held by the decedent immediately before death or which the decedent, within one year prior to his or her death, released or exercised in favor of someone other than himself or herself or his or her estate, is a testamentary substitute.39

37 Id. This section was amended by 1993 N.Y. Laws ch. 515, § 3, eff. Jan. 1, 1994. Prior to this amendment, the provision excluded transactions effected on or before September 1, 1992, from being deemed testamentary substitutes. See In re Farlow, 174 Misc. 2d 629, 666 N.Y.S.2d 388 (Sur. Ct., Monroe Co. 1997). When the decedent married in 1995, the spouses automatically replaced the estate as beneficiary of the decedent’s pension plan, without the decedent doing anything affirmatively. The court held that the marriage caused a change in designated beneficiary as a matter of law sufficient to make it a testamentary substitute. Thus, 50% of it had to be included in the estate against which the spouse could elect and be offset against her elective share.

See also In re Estate of Alent, 271 A.D.2d 73, 709 N.Y.S.2d 902 (4th Dep’t 2000). By decision and order, dated July 7, 2000, the Appellate Division, Fourth Department, affirmed an Order of the Surrogate’s Court, Livingston County (Alonzo, S.), that held that the decedent’s retirement plans under TIAA/CREF were not testamentary substitutes for purposes of calculating the elective share of the decedent’s surviving spouse, holding that the conversion of the annuity contracts to three payout contracts merely provided the method of payment for the plan beneficiaries during the decedent’s lifetime, and not a new retirement plan. Inasmuch as the beneficiaries of the plan remained unchanged from the plan’s inception on November 3, 1964, to the decedent’s date of death, the plan did not qualify as a testamentary substitute pursuant to EPTL 5-1.1- A(b)(1)(G).

38 EPTL 5-1.1-A(e)(4). See Matter of Estate of Bowens, 176 Misc.2d 153, 672 N.Y.S.2d 242, 1998 N.Y. Slip Op. 98170 (Sur. Ct., Bronx Co.), aff’d, 261 A.D.2d 334, 692 N.Y.S.2d 22, 1999 N.Y. Slip Op. 05403 (1st Dep’t 1999) (involving a change of beneficiary and a pendente lite order during a matrimonial action).

39 EPTL 5-1.1-A(b)(1)(H).

6-11

999 § 6.19 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

A release that results from a lapse of the power of appointment, which is not treated as a taxable release for federal estate tax purposes, is not within the scope of clause (H).40 Accordingly, the lapse within one year prior to the decedent’s death of a noncumulative annual right to withdraw the greater of $5,000 or 5 percent of the value of the trust does not constitute a testamentary substitute. If, however, an individual dies with an unexercised right to withdraw 5 percent of the property held in a trust, the property subject to the power of appointment is a testamentary substitute. The requirement that the power be “presently exercisable” protects property subject to a testamentary general power of appointment from characterization as a testamentary substitute.

[6.19] e. Securities Held in Transfer-On-Death Form

The registration of a security in transfer-on-death form is a testamentary substitute.41 Upon enactment of EPTL 13-4.1 through 13-4.12 allowing for securities held in transfer-on-death form, the legislature amended EPTL 5-1.1-A to treat the securities held in such accounts as testamentary substitutes. Such securities are not subject to disposition by will and are not included in the probate estate. This method of securities ownership parallels the concept of Totten Trust bank accounts, which are likewise deemed testamentary substitutes.42

[6.20] f. Totten Trust Bank Savings Accounts

A Totten trust fund is a testamentary substitute under EPTL 5-1.1- A(b)(1)(C). The provision includes money deposited together with all dividends or interest credited thereon, in a savings account in the name of the decedent, in trust for another person, and remaining on deposit at the date of the decedent’s death.43

40 Id.

41 EPTL 5-1.1-A(b)(1)(I), effective January 1, 2006. Note however that EPTL 5-1.1-A(b)(1) was not similarly amended to change the reference from “clauses (A) through (H)” to “clauses (A) through (I)”. Presumably this omission was an oversight. Query what impact it will have on transfer-on-death security accounts. Note, however, that EPTL 5-1.1(b)(1)(E)(ii) also may en- compass such accounts, thus perhaps obviating the problem.

42 See II.C.2.f, infra.

43 EPTL 5-1.1-A(b)(1)(C). Under the current statute, it does not matter when the decedent established the Totten Trust. This is a change from EPTL 5-1.1(b)(1)(B), which included only Totten Trusts created after August 31, 1966 and after the marriage as testamentary substitutes.

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1000 RIGHT OF ELECTION § 6.21

[6.21] g. Joint Bank Accounts

Under EPTL 5-1.1-A(b)(1)(D), a testamentary substitute includes money deposited after August 31, 1966, together with all dividends or interest credited thereon, in the name of the decedent and another person and payable on death to the survivor, and remaining on deposit at the date of the decedent’s death.44

The statute does not require that the joint account itself be created after August 31, 1966. Accordingly, if a decedent created an account on or before August 31, 1966 and made both deposits to and withdrawals from the account after September 1, 1966, the withdrawals are first charged against the otherwise exempt funds on “first in-first out” accounting principles and then charged against the nonexempt funds.45 For example, assume a decedent funded a joint account in July 1966 with $100,000. In 1969, he deposited another $10,000 into the account and then withdrew $5,000. The withdrawal is charged against the $100,000 of exempt funds on deposit before September 1, 1966. Therefore, of the $105,000 on deposit at the decedent’s death, $95,000 is exempt, while $10,000 constitutes a testamentary substitute.

If a decedent created a joint account before September 1, 1966, and, on or after that date, either changed or added a beneficiary or changed the depository bank, the decedent’s act constituted a new deposit. The entire trust or account then would be deemed a testamentary substitute.46

[6.22] h. Property Held in Joint Tenancy With Right of Survivorship or Tenants by the Entirety

EPTL 5-1.1-A(b)(1)(E)(i) includes as a testamentary substitute any property held by the decedent as joint tenants with right of survivorship or as tenants by the entirety, provided the interest was created after August 31, 1966.47 By subdivision (ii), property held by a decedent and payable on death to a person other than the decedent is treated as a testamentary

44 EPTL 5-1.1(b)(1)(D).

45 In re Agioritis, 40 N.Y.2d 646, 389 N.Y.S.2d 323 (1976); In re Spinelli, 86 Misc. 2d 1039, 1042, 384 N.Y.S.2d 665 (Sur. Ct., Kings Co. 1976).

46 Agioritis, 40 N.Y.2d at 651; Spinelli, 86 Misc. 2d at 1042.

47 EPTL 5-1.1-A(b)(1)(E)(i).

6-13

1001 § 6.23 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED. substitute.48 United States savings bonds and other United States obligations are specifically included in this provision.49

Query whether transfer-on-death securities accounts technically also come within this provision. Presumably the legislature added clause (I) to ensure that such transfer-on-death accounts are deemed testamentary substitutes since they came into existence after the passage of EPTL 5-1.1-A.

[6.23] i. Surviving Spouse’s Burden of Proof

Joint bank accounts, joint tenancies or tenancies by the entirety are testamentary substitutes only to the extent that the decedent made the deposits or provided the consideration for acquisition of the property held jointly or by the entirety.50 If such a transfer benefits a third party, the surviving spouse has the burden of proving the decedent’s contribution.51 If the third party made all the contributions, there is no transfer by the decedent against which the surviving spouse can elect.

Where the spouse is the other joint owner, it will be conclusively presumed that the proportion of the decedent’s contribution is only one- half.52 As a result, the spouse is deemed to own one-half in his or her own right and also has the right to elect to take one-third of the other (the decedent’s) half interest. See, however, In re Estate of Solomon,53 in which it was held that a residence purchased by the decedent and his wife prior to September 1, 1966, as tenants by the entirety did not constitute a testamentary substitute under clause (E) since it was not a “disposition of property . . . made after August 31, 1966.” Compare In re Estate of Cahill,54 where a contract to sell the property held as tenants by the entirety which was entered into on March 28, 1966 with the closing on November 17, 1966 was held to constitute a testamentary substitute because transfer of title is accomplished only by the delivery and acceptance of an executed deed, and title to the property was not conveyed until after August 31, 1966.

48 EPTL 5-1.1-A(b)(1)(E)(ii).

49 EPTL 5-1.1-A(b)(3).

50 EPTL 5-1.1-A(b)(2).

51 Id.

52 Id.

53 163 Misc. 2d 805, 622 N.Y.S.2d 412 (Sur. Ct., Nassau Co. 1994).

54 264 A.D.2d 480, 694 N.Y.S.2d 153 (2d Dep’t 1999).

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1002 RIGHT OF ELECTION § 6.24

[6.24] j. Creditors’ Rights

The surviving spouse’s rights regarding testamentary substitutes may not impair a creditor’s rights against the decedent.55

[6.25] k. Third Party Transfers Excluded

Third-party transfers of property that may be subject to the right of election are protected. A corporation or other person may pay or transfer funds or property to the person otherwise entitled to it, unless the corporation or other person has been served with an order of the surrogate’s court or other court having jurisdiction enjoining such transfer.56 Section 5-1.1- A(b)(4) of the EPTL specifically provides that any corporation or other person paying or transferring property described in clause (G) (regarding retirement benefits) is held harmless and free from liability for so doing.

An injunctive order may be made on notice to such persons and in such manner specified by the court upon application of the spouse or other interested party and upon proof that the spouse has exercised a right of election under EPTL 5-1.1-A. If, during the effective period of the injunc- tion, an action to recover the fund or property is brought against a corporation or person having the property, service of a certified copy of the order on the corporation or person holding the fund or property is a defense.57

[6.26] D. Determining the Elective Share

[6.27] 1. Net Elective Share

Once the amount of the elective share is determined, it must be offset by the testamentary assets, testamentary substitutes and intestate assets passing to the surviving spouse. The amount that the surviving spouse is entitled to is a share of his or her deceased spouse’s testamentary provisions equal to the elective share amount, reduced by the capital value of any interest, passing absolutely to him or her (or which would have passed absolutely to the spouse but for the fact that he or she renounced it) by will, in intestacy (under EPTL 4-1.1) or as a testamentary substitute.

55 EPTL 5-1.1-A(b)(5).

56 EPTL 5-1.1-A(b)(4).

57 Id.

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1003 § 6.27 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

Any balance of the elective share remaining after the offset represents the degree to which the election right may be exercised. Thus, for example, if the spouse’s elective share is one-third of the net estate, but the spouse is already entitled to an equivalent amount under the decedent’s will, by testamentary substitute or by intestate succession, or by the aggregate of the three, the elective share is fully offset by the testamentary provisions benefiting the spouse and there is no exercisable right of election. If the decedent, by testamentary provisions and by testamentary substitute, leaves the spouse an amount smaller than the elective share, the spouse may exercise a right of election as to the difference.

In arriving at the net elective share, only those interests which passed “absolutely” to the surviving spouse (or which would have passed absolutely to the surviving spouse but for the fact that he or she renounced such interest) are taken into account.

If an interest in property passes to the surviving spouse other than absolutely, that interest will not reduce the share to which the surviving spouse is entitled. Unless the decedent provided otherwise, however, if the spouse elects to take his or her elective share, the spouse will no longer be entitled to those interests that passed to him or her other than absolutely. Instead, such interests will pass as if the spouse had predeceased the decedent.58

An interest in property is deemed to pass other than absolutely if it consists of less than the decedent’s entire interest in the property or constitutes an interest held in a trust or trust equivalent created by the decedent. An interest is deemed to pass absolutely if it is not deemed to pass other than absolutely.59

Inasmuch as a property interest that passes other than absolutely will not reduce the surviving spouse’s elective share, a decedent can not preclude his or her spouse from electing against the will by creating a “right of election” trust, since a trust constitutes an interest that passes other than absolutely.60

58 EPTL 5-1.1-A(a)(4)(A).

59 EPTL 5-1.1-A(a)(4)(B).

60 This provision is effective for estates of decedents dying after August 31, 1994. See Appendix E, C(4), “Wills Executed after August 31, 1966,” infra, regarding the availability of right of election trusts under EPTL 5-1.1 for decedents dying after August 31, 1966, and before September 1, 1992.

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1004 RIGHT OF ELECTION § 6.27

Example:

Assume a testatrix died after August 31, 1994, leaving a net probate estate of $600,000. In her will, the testatrix, T, bequeaths $100,000 to her husband, H, outright. H elects to take his elective share, which equals one-third of $600,000, or $200,000. Since H received the $100,000 absolutely, his net elective share equals $100,000 ($200,000 - $100,000).

If instead T had provided for the $100,000 to be held in trust for H’s benefit for his life, with the remainder to go to her children, the $100,000 would be deemed to pass to H other than absolutely. Accordingly, H’s net elective share would equal $200,000 since the amount passing into trust would not reduce the elective share amount. However, by exercising his right of election, H is relinquishing his interest in the trust, unless T provided in her will that the trust can continue despite H’s decision to take his elective share.

Example:

Assume that a testator left a will which provided for a specific bequest of $50,000 for his wife. The gross probate estate is $200,000, and debts and expenses, not including estate taxes, are $40,000. The testator also left a nonexempt Totten trust for $50,000 to benefit his sister. The decedent left no surviving issue. To determine the spouse’s right of election, the decedent’s net estate must first be ascertained. Debts and expenses are deducted from the probate estate to arrive at a net probate estate. Estate taxes are disregarded for purposes of computing the net estate. Thus, in this example, the net probate estate is equal to $200,000 of probate assets less $40,000 of debts and expenses, or $160,000. The value of all nonexempt testamentary substitutes benefiting the spouse and others is then added to the net probate estate, resulting in the net estate value. Here, the Totten trust qualifies as a testamentary substitute under EPTL 5-1.1-A(b)(1)(C). The $50,000 value therefore is added to the net probate estate, resulting in a net estate value of $210,000. The spouse’s elective share is one-third of the $210,000 net estate value, i.e. $70,000.

The amount payable to the spouse as a result of the exercise of her right of election is offset by the aggregate value of testamentary provisions passing to her. Here, there is a $50,000 will provision benefiting her,

6-17

1005 § 6.28 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED. which amount must be deducted from her $70,000 share. The remaining $20,000 represents the amount payable to the spouse pursuant to her exercise of the right of election.

[6.28] 2. Apportioning the Net Elective Share

Unless the decedent has provided otherwise, the following persons (other than the surviving spouse) are required to contribute ratably to the spouse’s share: the recipients of property under the will, the recipients of property constituting testamentary substitutes and the distributees of intestate property.61 The fraction that each beneficiary contributes will be in direct proportion to his or her interest in the decedent’s property as that interest bears to the total interests received by all beneficiaries other than the surviving spouse.62

No distinction is drawn between specific, general or residuary legatees.63 The recipients making such ratable contributions can do so in cash, in the specific property received from the decedent, or partly in each, within the discretion of the recipient.64 The spouse making the election does not have the right to demand the specific property as opposed to taking its cash equivalent.65 A spouse who seeks a right of election has no right under N.Y. Civil Practice Law and Rules 6501 to file a lis pendens against real property that will pass to the residuary beneficiaries.66

Example:

Assume a decedent died partially intestate. The net testamentary assets, after deducting debts and expenses, were worth $400,000, while intestate assets were worth $250,000. The decedent made no will provision for the spouse. He also left $100,000 in a Totten trust for his sister.

61 EPTL 5-1.1-A(c)(2).

62 Id.

63 Id.

64 Id.

65 Estate of Recupero, 28 Misc. 3d 1207(A) (Sur. Ct., Bronx Co. 2010); In re Daniello, N.Y.L.J., Nov. 28, 2000, at 33, col. 3 (Sur. Ct., Bronx Co.) (but says p.33. col. 3); In re Neidich, N.Y.L.J., June 22, 2000, at 36, col. 3 (Sur. Ct., Westchester Co.).

66 Cassia v. Cassia, 125 Misc. 2d 606, 480 N.Y.S.2d 84 (Sup. Ct., Westchester Co. 1984) (finding that a surviving spouse only has a right to monetary reimbursement from the estate and while she receives a portion of the proceeds of sale of real property, she does not have any claim as would “affect the title to, or the possession, use or enjoyment” of a specific piece of property).

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1006 RIGHT OF ELECTION § 6.29

The decedent’s spouse may elect against the sum of (1) the probate assets, (2) the testamentary substitute, that is, the Totten trust account and (3) the intestate assets—a total of $750,000. Assume one child survived the decedent. The spouse’s elective share is one-third of $750,000, or $250,000. The elective share must be offset by the value of the spouse’s intestate share. The spouse’s intestate share under EPTL 4-1.1(a) is $150,000.67 The spouse’s net elective share thus equals $100,000.

Of the total $600,000 which would have passed to parties other than the spouse, four-sixths passed to will beneficiaries, one-sixth passed to the decedent’s sister—the Totten trust beneficiary—and one-sixth to the decedent’s child by intestate succession. The will beneficiaries must thus contribute four-sixths of $100,000, or $66,667, while the decedent’s sister must contribute one-sixth of $100,000, or $16,667, and the decedent’s child must contribute one-sixth of $100,000 or $16,667.68

[6.29] III. FEDERALLY CONFERRED SPOUSAL RIGHTS TO PENSION PLANS

The Retirement Equity Act of 198469 (REA) provided spouses with certain rights in certain qualified plans. Such qualified plans must provide spouses of plan participants with benefits in the form of a qualified preretirement survivor annuity (QPSA) or a qualified joint and survivor annuity (QJSA).70 The QPSA and QJSA requirements apply to all tax-exempt retirement plans except individual retirement plans (IRAs) or defined contribution plans which have minimum funding requirements, other than money purchase plans or target benefit plans. Also, with respect to otherwise covered defined contribution plans, if the plan participant has not elected a life annuity as the form of payment and, upon the death of the participant, the surviving spouse is entitled to a lump sum, the QPSA and QJSA requirements do not have to be met.71 As indicated, these rules do not apply to an IRA, but a rollover to an IRA from a defined benefit plan is impossible without spousal consent.

67 $50,000 plus one-half the residue ($50,000 + ½ of $200,000).

68 See In re Schlosser, 73 Misc. 2d 380, 342 N.Y.S.2d 808 (Sur. Ct., Kings Co. 1973), for another example of apportioning the net elective share.

69 Pub. L. No. 98-397, 98 Stat. 1426.

70 See generally Robert S. Baldwin, Jr., ERISA vs. Pre-nuptial Agreements, NYSBA Tr. & Est. L. Sec. Newsl., vol. 27, no. 3, pp. 9–11 (Fall 1994).

71 I.R.C. § 401(a)(11)(B).

6-19

1007 § 6.29 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

The federal law provides basic rules for participant elections and spousal consent. Thus, qualified plans must allow a participant, during the applicable election period, to elect (1) to waive either the QPSA or the QJSA form of benefits and (2) to change the designated beneficiary through the substitution or addition of a new beneficiary. Unless an election adopts the requisite QPSA or QJSA form of benefits, it will be effective only if the participant’s spouse expressly consents to it by executing, before a notary public or a plan representative, a written acknowledgment of the participant’s election and the effect of said election. Unless a qualified domestic relations order provides otherwise, spousal consent is not a requirement when the participant has secured an order stating that he or she is legally separated or has been abandoned according to local law.72

The provisions of section 1144(a) of the Employee Retirement Income Security Act73 (hereinafter ERISA) state that federal law supersedes all state laws that relate to an “ERISA plan.” As a result, for several years courts had, with one exception, held that neither state laws nor any prenuptial agreements executed in accordance with state law supersede the provisions of ERISA.74 Accordingly, the safest course of action, when the participant and spouse-to-be were not yet married, was not to rely on a prenuptial agreement as a valid consent to the waiver of survivor rights. However, in Strong v. Dubin the court qualified the rule in New York that “only a spouse can waive spousal rights to employee plan benefits, that a

72 See generally M. Robyn Cotrona, A Crack in the Antenuptial Shield: Antenuptial Agreements and Survivor Benefits from Qualified Retirement Plans, N.Y.S.B.J. (Feb. 1995), pp. 40–43, 58.

73 29 U.S.C. §§ 1001–1168. 74 See In re Estate of Bloom-Kartiganer, 194 A.D.2d 959, 599 N.Y.S.2d 188 (3d Dep’t 1993) (re- versing the surrogate of Ulster County, holding that a retirement savings plan’s provision that designation other than spouse required spousal consent did not apply to an unmarried person, and her later marriage did not nullify the then-existing designation of a person other than her spouse); In re Estate of Hopkins, 214 Ill. App. 3d 427, 158 Ill. Dec. 436, 574 N.E.2d 230, 234 (2d Dist.), appeal denied, 141 Ill. 2d 542, 162 Ill. Dec. 489, 580 N.E.2d 115 (1991) (rejecting the Treasury Regulation and upholding the surviving spouse’s consent in an antenuptial agreement to the waiver of survivor benefits even though the purported spousal consent did not comply with requirements for a valid spousal consent to the waiver of those benefits); see also Pedro Enters. Inc. v. Perdue, 998 F.2d 491 (7th Cir. 1993) (holding that, under ERISA, an antenuptial agreement is not effective to waive spouse’s rights to pension benefits where pension plan did not exist at time of agreement); Hurwitz v. Sher, 982 F.2d 778 (2d Cir.), cert. denied, 508 U.S. 912 (1992) (court looked to the terms of the antenuptial agreement itself rather than to the Treasury Regu- lation in holding that the purported spousal consent, as provided in the antenuptial agreement, was ineffective because it did not comply with REA’s prescriptions); Callahan v. Hutsell, Cal- lahan & Buchino, P.S.C., 813 F. Supp. 541, 543 (W.D. Ky. 1992), vacated without opinion, 14 F.3d 600 (6th Cir. 1993) (finding any premarital waiver to be ineffective; the district court refused to order specific performance of the spouse’s promise to execute a waiver after marriage on the basis that the consent documents were never given to the spouse).

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fiancée is not a spouse, and that such rights, therefore, cannot be effectively waived in a prenuptial agreement.”75 The court held that for purposes of equitable distribution, a waiver of any interest in a pension as marital property by an otherwise valid prenuptial agreement is not prohibited by ERISA.

[6.30] IV. EXERCISE AND WAIVER OF THE ELECTION RIGHT

[6.31] A. Time for Election

Prior to January 1, 2011, the election had to be made within six months of the issuance of letters testamentary or letters of administration, but in no event later than two years after the date of decedent’s death.76 If the spouse defaulted in making a timely election, the surrogate’s court could relieve the spouse from such default and authorize the election for a period of up to 12 months from issuance of letters, provided there had been no decree settling the account of the personal representative. How- ever, in no event could the time for the election be extended beyond two years after the decedent’s death. It had been ruled that this restriction within the statute created a statute of limitations, and that the statute did not allow for judicial discretion to excuse a spouse from default in timely filing to elect if the application was made more than two years after the decedent’s death.77

Effective January 1, 2011, EPTL § 5-1.1-A(d) was amended to clarify that a surviving spouse’s right of election must be exercised within two years of the deceased spouse’s death. However, if the spouse defaults in making a timely election (i.e. makes the election more than two years after the decedent’s death), the surrogate’s court may relieve the spouse from such default and authorize the election for a period of up to 12

75 Strong v. Dubin, 75 A.D.3d 66 (1st Dep’t 2010). See also Ramunno v. Ramunno, 91 A.D.3d 1355, 937 N.Y.S.2d 662 (4th Dep’t 2012).

76 EPTL 5-1.1-A(d)(1)-(2), amended by L.2010, c. 545, § 1, eff. Jan. 1, 2011; see In re Weber, N.Y.L.J., Jan. 5, 1999, p. 28, col. 5 (Sur. Ct., Suffolk Co.); In re Watson, N.Y.L.J., March 18, 1997, p.5, col. 2 (Sur. Ct., Westchester Co.)

77 In re Estate of Wolfer, N.Y.L.J., Nov. 3, 2004, p. 31, col. 6 (Sur. Ct., Suffolk Co.); but see In re Fernandez, N.Y.L.J., Dec. 9, 2003, at 26, col. 1 (Sur. Ct., Bronx Co.) (ruling that if the spouse has good cause for failure to make the election within two years of the decedent’s death, the two- year statute of limitations will not bar the spouse from making the election if it is not raised as an affirmative defense by the objectant).

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1009 § 6.31 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED. months from issuance of letters, provided there has been no decree settling the account of the personal representative.78

The surviving spouse’s application for relief from default and extension of the election period requires a petition showing reasonable cause to grant such remedy. The petition is to be filed upon notice to such persons and in the manner prescribed by the surrogate’s court. A certified copy of the order must be indexed and recorded, as would a notice of pendency, in the clerk’s office of each county wherein the decedent owned real property.

If the surviving spouse fails to file a timely notice of election and applies for relief before 12 months have elapsed from issuance of letters, reasonable cause to grant the relief is deemed to exist if the spouse did not know of the right of election or of the time limit.79 Reasonable cause has also been held to exist where the spouse needed time to investigate the size of the decedent’s estate and any unknown assets to which the right of election might attach.80 Reasonable cause has also been held to exist where the surviving spouse believed, as a result of numerous representations from the attorney representing the estate, that her elective share rights would be honored despite any untimeliness in filing the election.81 Reasonable cause has also been held to exist where the surviving spouse’s attorneys neglected to file the notice of election within the required time frame.82 Reasonable cause has been held not to exist where the surviving spouse filed a notice of election eight years after she first appeared in the proceeding, the surviving spouse was represented by counsel throughout the course of the litigation, and the surviving spouse was clearly aware during the two-year period following the decedent’s death that she had a right of election.83

78 EPTL 5-1.1-A(d)(1)-(2). 79 In re Patterson, N.Y.L.J., Sept. 11, 1981, p. 6, col. 4 (Sur. Ct., N.Y. Co.). This case, as well as the cases listed in footnote 78, are instructive even though they were decided under EPTL 5-1.1, not EPTL 5-1.1-A, because EPTL 5-1.1 included a similar “reasonable cause” defense for a late election.

80 In re Seligman, N.Y.L.J., Apr. 4, 1979, p. 11, col. 6 (Sur. Ct., Bronx Co.); In re Koleda, N.Y.L.J., Feb. 6, 1978, p. 12, col. 5 (Sur. Ct., N.Y. Co.).

81 In re Gray, 96 A.D.3d 1584, 946 N.Y.S.2d 765, 2012 N.Y. Slip Op. 04874 (4th Dep’t. 2012).

82 In re Sylvester, 107 A.D.3d 903, 904, 968 N.Y.S.2d 528, 529 (2d Dep’t 2013).

83 In re Cavallo, 98 A.D.3d 1115, 951 N.Y.S.2d 204, 2012 N.Y. Slip Op. 06297 (2d Dep’t. 2012).

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1010 RIGHT OF ELECTION § 6.32

[6.32] B. How Election Is Exercised

The elector must serve written notice upon the decedent’s personal representative or upon the decedent’s executor named in a will on file in the surrogate’s court if the will has not yet been admitted to probate. The original notice of election must be filed and recorded with proof of service in the surrogate’s court from which letters testamentary or letters of administration issued. Notice can be served by mailing a copy to any personal representative or to the nominated executor at the place of residence specified under SCPA 708, or in any other manner directed by the surrogate.84

If there has been substantial compliance with the statutory procedural requirements, the notice of election will be held valid. “Substantial compliance” is obtained whenever the form of election or service thereof gives actual notice of such election. Thus, if the electing spouse mails notice of election to the executor’s office rather than to the executor’s residence, there is substantial compliance if, in fact, the executor received such notice.85 Service upon the attorneys for the executor has been held to be substantial compliance with the statute.86

Where the surviving spouse is also the administrator, executor or personal representative of the decedent, service by the spouse upon himself or herself is not necessary. A formal notice of election should, however, be filed and recorded with the court. However, if the spouse, as petitioner for probate, states within the petition an intent to claim the elective share, case law indicates that the petition will satisfy the notice of election as to the court.87 A notice of election fails if there is no express, written asser- tion of the right of election.88

84 EPTL 5-1.1-A(d)(1). Estate of Gross, 22 Misc. 3d 1129(A), 881 N.Y.S.2d 363 (Sur. Ct., Nassau Co. 2008) (holding that where there is no executor or administrator with authority to accept the filing of a notice of election, the court can expand the authority of the limited administrator to accept such filing).

85 In re Levitan, N.Y.L.J., Apr. 6, 1979, p. 13, col. 5 (Sur. Ct., Queens Co.).

86 In re Gaete, N.Y.L.J., Nov. 20, 1986, p. 20, col. 5 (Sur. Ct., Nassau Co.).

87 In re Johnson, N.Y.L.J., Dec. 14, 1981, p. 21, col. 3 (Sur. Ct., Westchester Co.). Cf. In re Dunne, N.Y.L.J., Mar. 17, 1986, p. 18, col. 5 (Sur. Ct., Suffolk Co.) (holding that the notice requirement is satisfied where a surviving spouse’s notice and consent to probate states that “I expressly reserve my right of election”).

88 In re Czerniawski, N.Y.L.J., Sept. 7, 1982, p. 14, col. 3 (Sur. Ct., Suffolk Co.).

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1011 § 6.33 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

If a probate decree is vacated and the will is again submitted for probate, the statutory period for election will start at the new date of issuance of letters, as if the vacated decree had never been entered.89 Thus, if the surviving spouse fails to exercise an election right within 12 months after the initial issuance of letters, but the probate decree is subject to vacatur on grounds of jurisdictional defect or fraud, the spouse may seek to vacate and, if successful, regain the right of election.

[6.33] C. Revocation of Election

A surviving spouse who has exercised a right of election may make an application to the court seeking an order cancelling such election.90 A court may make such an order, provided that no adverse rights have inter- vened and no prejudice is shown to creditors of such spouse or other persons interested in the estate. The application of the surviving spouse must be made on notice to such persons and in such manner as the court may direct.

[6.34] D. Who May Exercise the Right

[6.35] 1. Spouse or Authorized Agent

EPTL 5-1.1-A(c)(3) describes the spouse’s right of election as a personal right but provides for designated individuals who can exercise it on the spouse’s behalf. Courts have held that a “duly authorized agent or attorney in fact” can sign the notice of election and file it on the spouse’s behalf.91 If the agent acting for the spouse is acting under a power of attorney, but the powers granted are limited and inapplicable to the election right proceedings, the agent’s filing of a notice of election on behalf of the surviving spouse will be ineffective.92

89 See In re Latowitzky, 56 Misc. 2d 916, 290 N.Y.S.2d 667 (Sur. Ct., Kings Co. 1968).

90 EPTL 5-1.1-A(c)(5); Estate of Oestrich, 61 A.D.3d 1317, 877 N.Y.S.2d 754 (3d Dep’t 2009).

91 In re Estate of Lando, N.Y.L.J., March 21, 2006, p.2, col. 6 (Sur. Ct., Rockland Co.) (finding that language conferring general authority with respect to “estate transactions” under G.O.L. § 5- 1502G(7) must be construed to mean the authority to “execute, to acknowledge, to verify, to seal, to file and to deliver any consent, designation, pleading, notice, demand, election, conveyance, release . . .”); In re Zalewski, 292 N.Y. 332, 338, 55 N.E.2d 184 (1944) (finding that the Consul- General of the Republic of Poland, under a treaty with the United States and without direct authorization by, or communication from, the Polish national surviving spouse, is authorized to act as an attorney in fact on her behalf to exercise the right of election); In re Estate of Charkowsky, 89 Misc. 2d 623, 392 N.Y.S.2d 368 (Sur. Ct., N.Y. Co. 1977) (Consul of the U.S.S.R. can exercise right of election on behalf of surviving spouse).

92 In re Karr, N.Y.L.J., Apr. 23, 1981, p. 6, col. 1 (Sur. Ct., N.Y. Co.).

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1012 RIGHT OF ELECTION § 6.36

The spouse’s right of election may not be exercised after such spouse’s death by the spouse’s personal representative or administrator, nor by the spouse’s legatees or devisees.93 The election right may not be exercised on the spouse’s behalf by a party acting in hostility to the spouse, nor can the spouse be compelled to exercise the right for the benefit of creditors.94

[6.36] 2. Guardian, Guardian Ad Litem, Committee or Conservator

An election may be made by the guardian of the property of an infant spouse, if so authorized by the surrogate’s court having jurisdiction over the decedent’s estate.95 An election may be made by the committee of an incompetent spouse, by a spouse’s conservator, by a spouse’s guardian ad litem, or by a guardian under Article 81 of the mental hygiene law, if so authorized by the court that appointed the committee, conservator or guardian, as the case may be.96 However, the surrogate’s court will not file and record the notice of election unless the guardian seeking to make the election has been granted specific authority to exercise the right to an elective share in the order and judgment originally appointing the guardian.97 If during the spouse’s lifetime, an authorized committee exercises an election right but payment is not received prior to the represented spouse’s death, the committee thereafter may obtain the elective share.98

93 In re Estate of Fellows, 16 A.D.3d 995, 997, 792 N.Y.S.2d 664, 667 (3d Dep’t 2005); In re Reich, 94 Misc. 2d 319, 404 N.Y.S.2d 781 (Sup. Ct., N.Y. Co. 1978); but see In re Wurcel, 196 Misc. 2d 796, 763 N.Y.S.2d 902 (Sur. Ct., N.Y. Co. 2003), in which the court sought an equitable remedy where the failure to elect against the will prior to the death of the surviving spouse may have been the result of fraud. The surviving spouse was incompetent and there were indications that the executor of the predeceased spouse intentionally delayed probate of the predeceased spouse’s will until after the death of the incompetent surviving spouse. The executor had a conflict of interest in that he was both the executor and beneficiary of the estate of the predeceased spouse. Although establishing such fraud would not allow an election against the will (because the right of election was extinguished upon the death of the surviving spouse), the court ruled that the estate of the incompetent surviving spouse may pursue claims against the executor which could have the same economic effect of the election.

94 Dalisa v. Dumoff, 286 A.D. 856, 141 N.Y.S.2d 700 (2d Dep’t 1955).

95 EPTL 5-1.1-A(c)(3)(A).

96 EPTL 5-1.1-A(c)(3)(B)-(E).

97 In re Rivera (Helen Oringer), 8 Misc. 3d 746, 799 N.Y.S.2d 391 (Sup. Ct., N.Y. Co. 2005) (noting that unless the order and judgment assigns the power to the guardian all rights and powers are retained by the incapacitated person).

98 In re Matthews, 54 A.D.2d 999, 388 N.Y.S.2d 933 (3d Dep’t 1976).

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1013 § 6.37 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

In considering the eligibility of a potential guardian, the court must consider any conflicts of interest between the person proposed as guardian and the incapacitated spouse resulting from the availability of a right of election. The exercise of the right of election may impact a surviving spouse’s eligibility for Medicaid and other government benefits. In In re Commissioner of Cayuga County Dep’t of Social Services for Appoint- ment of a Guardian for Bessie C.,99 the testator died leaving a will that excluded his wife who suffered from Alzheimer’s disease and who was confined to a nursing home, with the full cost being paid by Medicaid. The commissioner of social services sought to be appointed as guardian of the wife for her care and of her property and to file an election against her husband’s will; the son cross-petitioned to be appointed guardian. The Appellate Division found that the appointment of the commissioner was improper insofar as a successful claim for the elective share, which would remove the wife from Medicaid funding, created a conflict of interest. The court found that the appointment of a neutral, disinterested person as guardian of the property was required, but the son could be appointed guardian of her person.

In a case in Ohio, In re Estate of Cross,100 a decedent was survived by a son and an incompetent spouse whose nursing home expenses were paid by Medicaid. The decedent left his entire estate to his son. The probate court exercised the right of election on behalf of the incompetent spouse and the son appealed. The state Supreme Court affirmed on the basis that Ohio law requires a Medicaid recipient to use all available resources (which would include the elective share) or lose eligibility for assistance.

[6.37] 3. Spouse of Nondomiciliary Decedent

The surviving spouse of a decedent who was not domiciled in the state at the time of death has no right of election under New York State law unless the decedent, by will, directed that such law govern the disposition of his or her property located in New York.101

[6.38] 4. Common Law Marriage

If the parties had entered into a common law marriage valid according to the law of the jurisdiction in which the marriage was purported to have

99 225 A.D.2d 1027, 639 N.Y.S.2d 234 (4th Dep’t 1996).

100 75 Ohio St. 3d 530, 664 N.E.2d 905 (1996).

101 EPTL 5-1.1-A(c)(6).

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1014 RIGHT OF ELECTION § 6.39

occurred, then that marriage would be valid for New York right of election purposes.102 In In re Huyot, 103 the court considered whether a French concubine should be treated as a “wife” for New York right of election purposes. The Appellate Division held that the surrogate properly concluded that under French law concubinage and marriage are recognized as two distinct types of relationship and if France did not accord her the same legal status as a spouse, then the right of election was not available under New York law. Accordingly, the claim for an elective share was dismissed.

[6.39] 5. Same-Sex Marriage

The passage of the Marriage Equality Act provided same-sex couples with all the “right, benefit, privilege, protection or responsibility” relating to marriage in New York.104 Accordingly, the surviving spouse of a same- sex couple now is permitted to exercise the right of election. Prior to the enactment of the Marriage Equality Act, a surviving spouse of a same-sex couple would be entitled to the right of election only if the couple was married in a state in which the marriage was valid where it was performed.105

[6.40] E. Proceedings to Determine Validity or Effect of Election

New York Surrogate’s Court Procedure Act 1421 (SCPA) sets forth the procedure to be followed to obtain a judicial determination of the validity or effect of a surviving spouse’s election. The party seeking such determination must present to the court in which the decedent’s will was probated or from which letters of administration issued, a petition showing his or her interest, the names and addresses of other interested parties, and the question about which he or she requests judicial determination.106 A judicial determination of the validity or effect of the spouse’s election can also be made in a proceeding for the judicial settlement of the accounts of a fiduciary.107

102 See In re Pecorino, 64 A.D.2d 711, 407 N.Y.S.2d 550 (2d Dep’t 1978).

103 245 A.D.2d 513, 666 N.Y.S.2d 697 (2d Dep’t 1997).

104 N.Y. Domestic Relations Law § 10-a, effective July 24, 2011.

105 See In re Ranftle, 81 A.D.3d 566, 917 N.Y.S.2d 195 (1st Dep’t 2011) (recognizing a surviving spouse of a same-sex marriage entered into in Canada as the decedent spouse’s sole distributee).

106 SCPA 1421(1).

107 SCPA 1421(3).

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1015 § 6.41 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

Interested parties include anyone with an interest in the transactions described in EPTL 5-1.1-A.108 Naming and serving the trustee of an express trust is sufficient, and the petitioner should not have to name the beneficiaries thereof.109 If the court entertains the application, process must issue to all such named interested parties to show cause why the judicial determination should not be made. On the return of process, evidence will be submitted and the court will issue a decree.110 If the fiduciary of the decedent has not obtained possession of a fund or property included in the net estate under EPTL 5-1.1-A (e.g., the property comprising a testamentary substitute), the court will fix the liability of anyone having an interest in such property or having possession thereof, whether as trustee or otherwise.111

[6.41] V. WAIVER OF THE RIGHT OF ELECTION

[6.42] A. General Rule

The rules governing a spouse’s waiver of his or her right of election are under EPTL 5-1.1-A(e). The waiver may be made at any time before or after the marriage of the parties. The waiver may be a general waiver or may be limited to a particular will or a particular testamentary substitute. An effective waiver must be in writing, subscribed by the waiving party and acknowledged before a notary.

[6.43] B. Mechanics of Waiver

[6.44] 1. Requirements

The spouse of a decedent, prior to the decedent’s death, may waive or release a right of election against a particular or any last will, or against a testamentary substitute made by the decedent.112 If the decedent’s spouse waives all rights in the estate of the decedent, he or she waives or releases a right of election against the decedent’s last will or other testamentary provisions.113

108 SCPA 1421(4).

109 Id.

110 SCPA 1421(2).

111 SCPA 1421(5).

112 EPTL 5-1.1-A(e)(1).

113 Id.

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1016 RIGHT OF ELECTION § 6.44

A waiver must be in writing, signed by the maker, and acknowledged or proved in the manner required by New York State law for the recording of a conveyance of real property.114 A waiver which had not been acknowledged at the time of death may not thereafter be acknowledged by the surviving spouse or other witnesses since a right of election attaches and should be determined at death.115

A waiver is effective, according to its terms, whether executed before or after the spouse’s marriage.116 It can be unilateral (i.e., executed only by the maker) or bilateral (i.e., executed by both spouses). The waiver can be with or without consideration and can be absolute or conditional.117

A waiver that is not understood by the waiving party is ineffective, although the burden of proving a lack of understanding is on the waiving party unless there was an inequality in the spouses’ respective bargaining power at the time of the waiver.118 For a waiver of election to be valid, the language must clearly indicate the rights being waived.119 A general release of all rights with respect to a particular will of the decedent will not constitute a waiver of the right of election against a subsequent will.120 Moreover, a spouse can waive the elective share without waiving

114 EPTL 5-1.1-A(e)(2); In re Estate of Saperstein, 254 A.D.2d 88, 678 N.Y.S.2d 618 (1st Dep’t 1998) (affirming a finding of waiver, even though the waiver was not acknowledged, as it could be proven after death, pursuant to N.Y. Real Property Law § 304, by the attorney who was the subscribing witness); In re Abady, 76 A.D.3d 525, 906 N.Y.S.2d 321 (2d Dep’t 2010) (holding that substantial compliance with the requirements of the real property law is sufficient). 115 In re Henken, 139 Misc. 2d 12, 526 N.Y.S.2d 334 (Sur. Ct., Westchester Co. 1988), aff’d, 150 A.D.2d 447, 540 N.Y.S.2d 886 (2d Dep’t 1989) (finding admission by surviving spouse that she signed antenuptial agreement insufficient to satisfy the requisite statutory formalities). But see Estate of Menahem, 13 Misc. 3d 1226(A), 831 N.Y.S.2d 348 (Sur. Ct., Kings Co. 2006) (holding that while a failure to acknowledge a waiver may not be cured after the death of one of the spouses, a waiver of such rights that has been acknowledged, but contains an improper certificate of acknowledgment or subscribing witness certificate can be cured after death).

116 EPTL 5-1.1-A(e)(3)(A). The waiver also may have been executed before, on or after September 1, 1966. EPTL 5-1.1-A(e)(3)(B).

117 EPTL 5-1.1-A(e)(3).

118 In re Yoselovsky, N.Y.L.J., March 9, 2004, at 24, col. 3 (Sur. Ct., Queens Co.) (spouse failed to establish her waiver was invalid due to lack of understanding because court found that she had a lawyer of her own choosing, knew or could have known the value of her spouse’s assets, and reaffirmed the agreement after the marriage).

119 In re La Due, 5 A.D.2d 52, 169 N.Y.S.2d 615 (4th Dep’t 1957).

120 In re Le Roy, 118 Misc. 2d 382, 461 N.Y.S.2d 161 (Sur. Ct., Onondaga Co. 1983).

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1017 § 6.45 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

other rights—for example, other rights under the will, intestate rights or the right to claim exempt property.121

[6.45] 2. Waiver by Marital Agreement

A right of election may be waived by a pre- or post-nuptial agreement that is procedurally executed and acknowledged in accordance with EPTL 5-1.1-A(e)(2).122 Although for EPTL purposes the waiver need not meet the test, N.Y. Domestic Relations Law § 236(B)(3) (DRL) provides that the terms of a prenuptial agreement must be fair and reasonable at the time of its making and not unconscionable when later enforced. Full disclosure and separate attorneys are not required under the EPTL or under the DRL.123 Such full disclosure and separate attorneys, however, generally are recommended for nuptial agreements and separation agreements.

In In re Estate of Greiff,124 the N.Y. Court of Appeals held that if a party challenging the validity of a prenuptial agreement can show “that the premarital relationship between the contracting individuals manifested ‘probable’ undue and unfair advantage,” the burden shifts to the proponent of the agreement to show that it was free from “fraud, deception or undue influence.”

In In re Buzen,125 analyzing Greiff, the court found that the respondent could not sustain her threshold burden of showing an inequality leading to probable undue influence and unfair advantage. At issue was the validity

121 In re Schwartz, 94 Misc. 2d 1024, 405 N.Y.S.2d 920 (Sur. Ct., Queens Co. 1978) (waiver of right of election did not constitute waiver of right to receive letters of administration or of rights in intestacy), aff’d, 68 A.D.2d. 891, 413 N.Y.S.2d 1023 (2d Dep’t 1979); In re Nelson, 51 Misc. 2d 375, 273 N.Y.S.2d 333 (Sur. Ct., Erie Co. 1966) (agreement waiving right of election did not constitute revocation of an existing will).

122 In re Sunshine, 51 A.D.2d 326, 381 N.Y.S.2d 260 (1st Dep’t), aff’d, 40 N.Y.2d 875, 389 N.Y.S.2d 344 (1976); In re Doman, 58 A.D.3d 625, 871 N.Y.S.2d 642 (2d Dep’t 2009); In re Seviroli, 44 A.D.3d 962, 844 N.Y.S.2d 115 (2d Dep’t 2007).

123 In Levine v. Levine, 56 N.Y.2d 42, 451 N.Y.S.2d 26 (1982), New York’s highest court held that the fact that both parties to a separation agreement were represented by a lawyer who was a relative of the husband by marriage was not by itself sufficient to establish coercion or overreaching, which would require rescission of the agreement that the court had determined was fair. See Einhorn v. Einhorn, 24 Misc. 3d 1250(A), 899 N.Y.S.2d 59 (Sup. Ct. Kings Co. 2009) (noting that “failure or refusal to disclose his financial circumstances when the agreement is executed is not sufficient to void an agreement fair on its face, particularly when the wife was represented by counsel during the negotiations”).

124 92 N.Y.2d 341, 680 N.Y.S.2d 894 (1998), rev’g 242 A.D.2d 723, 663 N.Y.S.2d 45 (2d Dep’t 1997).

125 N.Y.L.J., Apr. 2, 1999, p. 34, col. 3 (Sur. Ct., Nassau Co.).

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1018 RIGHT OF ELECTION § 6.45

of a reciprocal prenuptial agreement executed by the decedent and the respondent, when they were 84 and 73 years old, respectively, which contained express mutual waivers of the right of election. One attorney had drafted the agreement and advised the couple, and they had each seen the other’s list of assets.

In discussing the Court of Appeals decision, the Buzen court stated that Greiff stands for the proposition that the spouse who contests a prenuptial agreement has a threshold burden of proving, by a fair preponderance of the credible evidence, a fact-based particularized inequality between the parties, which demonstrates probable undue influence and unfair advantage. If this burden is sustained, then the burden of going forward shifts to the proponent of the prenuptial agreement, to prove the agreement was free from fraud, deception or undue influence.

The court stated that it did not read Greiff as having a revolutionary impact on prenuptial agreements. The sole novelty of Greiff appears to be its holding that a couple who are engaged to be married stand in a fiduciary relationship. The challenger to the agreement still bears the burden of proving a fact-based particularized inequality between the parties that manifests probable undue influence and unfair advantage. Some of the relevant factors in this regard are the following:

• Detrimental reliance on the part of the poorer spouse

• Relative financial positions of the parties

• The formality of the execution ceremony itself

• Full disclosure of assets as a prerequisite to a knowing waiver

• The physical or mental condition of the objecting spouse at the time of execution

• Superior knowledge/ability and overmastering influence on the part of the proponent of the agreement

• The presence of separate, independent counsel for each party

• The circumstances in which the agreement was proposed and whether it is fair and reasonable on its face

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• The provision for the poorer spouse in the will.126

The Buzen court also stated that while the absence of separate independent counsel is a significant factor, it is not dispositive.127 In Greiff, the Court of Appeals reversed the Second Department, which had dismissed the petition challenging the prenuptial agreement, and remitted the matter to the Appellate Division to determine “whether, based on all of the relevant evidence and standards, the nature of the relationship between the couple at the time they executed their prenuptial agreements rose to the level to shift the burden to the proponents of the agreements to prove freedom from fraud deception or undue influence.”128 The Appellate Division ruled that the petition be denied and the proceeding dismissed, finding that

[t]he petitioner did not demonstrate by a preponderance of the evidence, that the premarital relationship between her and the [decedent] manifested “probable undue and unfair advantage.”. . . Under these circumstances, it was the petitioner’s burden to establish that her execution of a prenuptial agreement whereby she waived her right to an elective share was procured through the decedent’s fraud or overreaching. The record does not support the petitioner’s claim that she was not advised of the effect of the prenuptial agreement, failed to comprehend it, or entered into it unwillingly.129

Fraud or overreaching occurs if the decedent misrepresented his or her assets or the nature of his or her holdings or otherwise concealed information at the time of entering the contract with the spouse.130 An increase in the decedent’s assets after the date of the agreement will not be deemed overreaching unless at the time of the execution of the agreement, the provision made for the surviving spouse was disproportionate to the dece-

126 Buzen, N.Y.L.J., Apr. 2, 1999, p. 34, col. 3 (citations omitted).

127 Id.; see also In re Sunshine, 51 A.D.2d 326, 381 N.Y.S.2d 260 (1st Dep’t 1976).

128 In re Estate of Greiff, 92 N.Y.2d 341, 680 N.Y.S.2d 894 (1998).

129 In re Estate of Greiff, 262 A.D.2d 320, 321, 691 N.Y.S.2d 541 (2d Dep’t 1999).

130 E.C. v. L.C., 41 Misc. 3d 1050, 974 N.Y.S.2d 745 (Sup. Ct., Nassau Co. 2013) (a finding of fraudulent inducement requires misrepresentation of a material fact that was false when made); Smith v. Smith, 29 Misc. 3d 1226(A), 918 N.Y.S.2d 400 (2010) (finding a waiver of discovery of financial information in a separation agreement a defense to a claim of fraudulent concealment).

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dent’s means.131 If the provision for the surviving spouse is manifestly unfair, it may give rise to a presumption of overreaching.132 The fact that, at the time of entering the agreement, the surviving spouse was not fluent in English, was not well educated, did not have a lawyer, and did not read or receive a copy of the document does not establish fraud or overreaching on the decedent’s part.133 If the spouse understood the contents of a prenuptial agreement, the agreement may be valid, notwithstanding that the surviving spouse did not read it.134 Oral promises made to induce at the time of the execution of a marital agreement could be treated as fraudulent inducement to enter into the agreement.135 The burden of proof is on the party alleging fraud.136

[6.46] 3. Waiver by Separation Agreement

If there is a valid waiver of the election right embodied in a separation agreement between the decedent and the surviving spouse, and the parties are separated at the time of executing the agreement and remain so until the decedent’s death, the agreement and the waiver embodied therein are effective.137 A failure to separate, or a subsequent reconciliation between the parties, may wholly revoke the separation agreement.138 This holds

131 In re Phillips, 293 N.Y. 483, 58 N.E.2d 504 (1944); Sunshine, 51 A.D.2d 326.

132 Petracca v. Petracca, 101 A.D.3d 695, 698-99, 956 N.Y.S.2d 77, 80-81 (2d Dep’t 2012) (“inasmuch as the terms of the agreement were manifestly unfair to the plaintiff and were unfair when the agreement was executed, they give rise to an inference of overreaching”); see C.S. v. L.S., 41 Misc. 3d 1209(A), 980 N.Y.S.2d 274 (Table) (Sup. Ct., Nassau Co. 2013) (finding that the terms of a prenuptial agreement were manifestly unfair giving rise to an inference of overreaching, where the non-monied spouse lacking control over the couple’s financial decisions, waived her marital rights, including right of election). 133 Sunshine, 51 A.D.2d 326.

134 Sunshine, 51 A.D.2d 326; In re Steinfeld, N.Y.L.J., Aug. 1, 1980, p. 13, col. 3 (Sur. Ct., N.Y. Co.). 135 Cioffi-Petrakis v. Petrakis, 103 A.D.3d 766, 767, 960 N.Y.S.2d 152, 154 (2d Dep’t 2013) (finding prenuptial agreement unenforceable where the husband fraudulently induced the wife to execute it by orally promising to tear it up after the parties had children).

136 In re Buzen, N.Y.L.J., Apr. 2, 1999, p. 34, col. 3.

137 Smith v. Smith, 29 Misc. 3d 1226(A), 918 N.Y.S.2d 400 (Sup. Ct., N.Y. Co. 2010) (finding that courts generally will not set aside a separation agreement unless there is fraud or overreaching).

138 In re Whiteford, 35 A.D.2d 751, 314 N.Y.S.2d 811 (3d Dep’t 1970) (finding that where there is a “resumption of the marital relation sufficient as to indicate an intention to abandon the agreement of separation” the unexecuted terms of the agreement are nullified); Estate of Britcher, 38 A.D.3d 1223, 833 N.Y.S.2d 332 (4th Dep’t 2007) (holding that reconciliation voids a separation agreement in its entirety); In re Wilson, 50 N.Y.2d 59, 427 N.Y.S.2d 977 (1980) (finding that if parties to a separation agreement reconcile, the separation agreement is void and a waiver of the right of election contained therein is not valid).

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1021 § 6.47 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED. true even if the parties have inserted a severability clause in the separation agreement.139

[6.47] C. Conflicts of Interest and Ethical Considerations: When Is There a Need for Independent Counsel?

The question of whether a spouse should waive his or her right of election generally arises in the context of estate planning for the married couple. Joint representation of the couple for such estate planning can give rise to a conflict of interest and raise significant ethical considerations. In that regard, note that Comment 27 of Rule 1.7 of the New York Rules of Professional Conduct states that in the context of estate planning and estate administration, in order to avoid the development of a disqualifying conflict, a lawyer should, at the outset of the joint representation and as part of the process of obtaining each client’s informed consent, advise each client that information will be shared (and regardless of whether it is shared, may not be privileged in a subsequent dispute between the parties) and that the lawyer will have to withdraw from one or both representations if one client decides that some matter material to the representation should be kept secret from the other.

There are two types of representation. One type has been called “show and tell,” where the spouses agree beforehand that every confidence will be shared and that neither spouse may proceed in secret if it may affect the other. The other type is known as “priestly” representation, where everything is separate and secret—the lawyer will represent each spouse separately and keep every confidence, and he or she may take action on behalf of one spouse to the detriment of the other. The key to any form of multiple representation is informed consent, confirmed in writing.140

After a decedent’s death, even if no attorney-client relationship exists, the surviving spouse may reasonably believe that the attorney is looking out for his or her interests.141 Nevertheless, the law of New York has not extended attorney malpractice liability to a harmed party where there was no privity between such party and the estate planning attorney. In Schnei- der v. Finmann, the Court of Appeals found that privity, or a relationship

139 Wilson, 50 N.Y.2d 59.

140 See Rules of Professional Conduct, Rule 1.7 and 1.8.

141 In re Ziegler’s Estate, 265 A.D. 820, 37 N.Y.S.2d 420 (2d Dep’t 1942), aff’d, 290 N.Y. 916, 50 N.E.2d 303 (1943) (finding that surviving spouse was not aware of her right of election and her reliance on decedent’s attorney constituted reasonable cause for a late exercise of her right of election).

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sufficiently approaching privity, did exist between the executor of an estate and the estate planning attorney.142 Therefore, the executor of the estate could maintain a malpractice action against the estate planning attorney for allegedly negligently causing the estate to incur enhanced estate tax liability.

The Schneider court was the first to hold that privity existed between an executor and an estate planning attorney. The Schneider court did not strike down the long line of cases establishing that in the context of legal malpractice, no privity exists between beneficiaries and the estate planning attorney. In Viscardi v. Lerner,143 the Second Department granted summary judgment against beneficiaries who lost their inheritance based on the attorney’s malpractice in drawing the testator’s will contrary to the testator’s written instructions to the attorney. The testator had instructed that the spouse was to receive an elective share outright, whereas the will was negligently drafted to provide for the spouse to receive an intestate share. That intestate share was the entire estate, so that the residuary beneficiaries were left with no inheritance. The court considered and rejected the cases in Illinois, Wisconsin, California and Connecticut where the privity concept would not have barred the suit. The court also recognized the inroads that have been made in the privity arena as to other professionals (accountants), but declined to whittle down the privity requirement in the area of legal malpractice.144 In Kramer v. Belfi,145 the Second Depart- ment granted summary judgment against beneficiaries who sought damages against the attorney for negligently drafting the will.146 In neither Kramer nor Viscardi was the attorney who drafted the will retained by the beneficiaries, and the court reasoned that the attorney owed the beneficiaries no duty, absent fraud, collusion or malice.

142 Estate of Schneider v. Finmann, 15 N.Y.3d 306, 933 N.E.2d 718 (2010).

143 125 A.D.2d 662, 510 N.Y.S.2d 183 (2d Dep’t 1986). 144 Id. See also Estate of Spivey v. Pulley, 138 A.D.2d 563, 526 N.Y.S.2d 145 (2d Dep’t 1988) (applying the privity concept to insulate attorney draftsman from malpractice liability suit brought by the executor and a beneficiary when the attorney draftsman allowed a beneficiary under the will to serve as a subscribing witness, resulting in the bequest to the beneficiary being voided by EPTL 3-3.2. This decision was abrogated by Estate of Schneider, 15 N.Y.3d 306, with respect to a suit by the executor.)

145 106 A.D.2d 615, 482 N.Y.S.2d 898 (2d Dep’t 1984).

146 See also Rossi v. Boehner, 116 A.D.2d 636, 498 N.Y.S.2d 318 (2d Dep’t 1986); Mali v. De For- est & Duer, 160 A.D.2d 297, 553 N.Y.S.2d 391 (1st Dep’t 1990); Victor v. Goldman, 74 Misc. 2d 685, 344 N.Y.S.2d 672 (Sup. Ct., Rockland Co. 1973), aff’d, 43 A.D.2d 1021, 351 N.Y.S.2d 956 (2d Dep’t 1974); Maneri v. Amodeo, 38 Misc. 2d 190, 238 N.Y.S.2d 302 (Sup. Ct., Dutchess Co. 1963), all abrogated by Estate of Schneider, 15 N.Y.3d 306 with respect to privity with executor.

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1023 § 6.48 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

Despite the current state of New York law, a wise practitioner should proceed as though the privity defense is unavailable.

[6.48] D. Waiver Issues With Respect to Certain Charitable Remainder Trusts

A charitable remainder annuity trust is a trust that meets the requirements of I.R.C. section 664(d)(1), and a charitable remainder unitrust is a trust that meets the requirements of I.R.C. § 664(d)(2). Pursuant to I.R.C. §§ 664(d)(1)(B) and (2)(B) (dealing with charitable remainder annuity trusts and charitable remainder unitrusts, respectively), no amount other than the annuity payments described in I.R.C. § 664(d)(1)(A) or the unitrust payments described in I.R.C. § 664(d)(2)(A) may be paid to or for the use of any person other than an organization described in I.R.C. § 170(c).147 The existence of the right of election gives rise to the possibility that a charitable remainder annuity trust or charitable remainder unitrust may be invaded for the benefit of a surviving spouse. As a result, the right of election, whether or not exercised, technically causes such trusts to fail to meet the requirements of section 664(d).

In response to this problem, the Internal Revenue Service determined in Rev. Proc. 2005-24,148 that for trusts created on or after June 28, 2005, it would allow the right of election to be disregarded for purposes of determining whether inter vivos charitable remainder annuity trusts and charitable remainder unitrusts meet the requirements of § 664(d) if the surviving spouse irrevocably waives the right of election with regard to the assets comprising the charitable remainder trust. Pursuant to the Reve- nue Procedure, such waiver had to be valid under applicable state law, in writing, and signed and dated by the surviving spouse. For trusts created before June 28, 2005, the Internal Revenue Service, providing a safe harbor, ruled that the right of election would be disregarded even without a waiver, but only if the surviving spouse does not in fact exercise the right of election. In Notice 2006-15,149 the Internal Revenue Service modified Rev. Proc. 2005-24, however, by extending the safe harbor to all charitable remainder trusts until further guidance is issued. Accordingly, it will not be necessary for a surviving spouse to execute a waiver in order to meet the requirements of I.R.C. § 664(d). Instead, the service will disre-

147 I.R.C. § 170(c) defines the types of organizations and political subdivisions to which contributions or gifts will be deemed charitable contributions.

148 2005-16 IRB 909.

149 2006-8 IRB 501.

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gard the existence of the right of election even without a waiver regardless of the date the trust was created provided the surviving spouse does not exercise the right of election.

[6.49] VI. DISQUALIFICATION AS A SURVIVING SPOUSE

[6.50] A. General Considerations

Section 5-1.2 of the EPTL sets forth the conditions under which a person is disqualified as a surviving spouse and thereby barred from any election right under EPTL 5-1.1-A. A person disqualified under EPTL 5- 1.2 also will be barred from intestate rights under EPTL 4-1.1 and from family exemption rights under EPTL 5-3.1. Finally, if damages are owed to the estate due to the decedent’s death by wrongful act, the disqualified spouse is barred from receiving such damages as a distributee under EPTL 5-4.4. The burden of proving disqualification of the surviving spouse is on the person asserting it.150

[6.51] B. Divorce, Annulment or Dissolution Under Decree Valid in New York State

A husband or wife is disqualified as a surviving spouse if

[a] final decree or judgment of divorce, of annulment or declaring the nullity of a marriage or dissolving such marriage on the ground of absence, recognized as valid under the law of this state, was in effect when the deceased spouse died.151

150 In re Maiden, 284 N.Y. 429, 31 N.E.2d 889 (1940); In re Carr, 134 N.Y.S.2d 513 (Sur. Ct., Chautauqua Co. 1953), aff’d, 284 A.D. 930, 134 N.Y.S.2d 280 (4th Dep’t 1954) (addressing the burden of proof where a decedent had been married multiple times); In re Chandler, 175 Misc. 1029, 26 N.Y.S.2d 280 (Sur. Ct., Kings Co. 1941); In re Atiram, 25 Misc. 3d 1241(A), 906 N.Y.S.2d 777 (Sur. Ct., Kings Co. 2009), aff’d, 83 A.D.3d 1055, 921 N.Y.S.2d 570 (2d Dep’t 2011) (finding that a surviving spouse claiming the right to take against a will must first establish that he or she is the lawful spouse of the decedent at which time the burden shifts to the person seeking disqualification).

151 EPTL 5-1.2(a)(1).

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It does not matter that the decree was obtained outside New York State. If the decree is recognized as valid in New York, neither spouse can claim an elective share.152

Termination of marriage generally is recognized as valid in New York State if the termination was valid wherever it was obtained.153 A New York court usually will give full faith and credit to a decree obtained in another state if the other state had jurisdiction to issue such decree.154 Moreover, a decree obtained in a foreign country will be recognized as valid in New York State if it was obtained bilaterally and the foreign court, under its own law, had jurisdiction to issue a decree.155

The surrogate’s court may determine the validity of any decree terminating a marriage.156 A divorced spouse has the right to challenge the validity of the decree, and such spouse must be cited in a probate proceeding.157 A decree entered after the decedent’s death does not affect the election rights of the surviving spouse, since they became fixed upon the decedent’s death.158 However, several recent cases have held that if a decree terminating a marriage is entered after the decedent’s death but the marriage occurred while the decedent lacked the requisite mental capacity

152 In re Locke, 21 A.D.2d 248, 250 N.Y.S.2d 181 (3d Dep’t 1964) (finding that Florida divorce decree is entitled to full faith and credit); cf Atiram, 25 Misc. 3d 1241(A) (holding that a Jewish religious divorce is not valid in New York and therefore cannot affect an elective share right).

153 Locke, 21 A.D.2d 248, 250 N.Y.S.2d 181; cf Atiram, 25 Misc. 3d 1241(A).

154 Milbank v. Milbank, 29 N.Y.2d 844, 262 N.Y.S.2d 856 (1971) (recognizing Nevada divorce); In re Bock, 70 Misc. 2d 470, 333 N.Y.S.2d 801 (Sur. Ct., Erie Co. 1972) (noting that while presumptive validity is given to ex parte divorce, the jurisdiction is “not beyond attack”).

155 Rosenstiel v. Rosenstiel, 16 N.Y.2d 64, 262 N.Y.S.2d 86 (1965), cert. denied, 384 U.S. 971 (1966) (recognizing divorce in Mexico where one party physically appeared before the court and the other party appeared by lawyer).

156 EPTL 5-1.2(a). 157 See Bock, 70 Misc. 2d 470.

158 Bennett v. Thomas, 38 A.D.2d 682, 327 N.Y.S.2d 139 (4th Dep’t 1971) (finding that a post-death annulment does not bar a surviving spouse’s right of election); Parente v. Wenger, 119 Misc. 2d 758, 464 N.Y.S.2d 341 (Sup. Ct., N.Y. Co. 1983); Atiram, 25 Misc. 3d 1241(A) (finding that the right of election fixed at death and a post-death determination by an Israeli court that the parties were divorced on the basis of a Jewish religious divorce was irrelevant).

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to enter into a marital contract, the surviving spouse is not entitled to an elective share.159

[6.52] C. Divorce, Annulment or Dissolution Under Decree Not Valid in New York State

If the husband or wife of a decedent has obtained, outside New York State, a decree of divorce from the decedent, of annulment of the marriage or a decree dissolving the marriage because of absence, but the decree is not recognized as valid in New York, the spouse procuring such decree is nevertheless disqualified.160 Thus, while neither party has a right of election if a foreign decree terminating the marriage is recognized as valid in New York State, when the decree is not so recognized, only the person who obtained it will be barred from an election right.161 If, however, the party who did not seek the decree nevertheless takes advantage of it—for example, by remarrying—that party may also be barred from a right of election.162 Furthermore, if cooperation of the nonseeking party was necessary to obtain the invalid decree, the cooperative, nonseeking party will be disqualified.163

[6.53] D. Void Marriages

A husband or wife is disqualified as a surviving spouse if the marriage was void as incestuous under DRL § 5 or bigamous under DRL § 6.164 The legal effect of a void marriage is as if the marriage never took place.

159 Campbell v. Thomas, 73 A.D.3d 103, 897 N.Y.S.2d 460 (2d Dep’t 2010) (exercising equitable power to find that the surviving spouse was disqualified so that the surviving spouse would not profit from her own wrongdoing); In re Berk, 71 A.D.3d 883, 897 N.Y.S.2d 475 (2nd Dep’t 2010) (finding that triable issue of fact existed as to whether surviving spouse forfeited right of election by deliberately taking unfair advantage of the decedent’s incapacity in marrying decedent for pecuniary benefit); see also Estate of Kaminester, 26 Misc. 3d 227, 888 N.Y.S. 385 (Sur. Ct., N.Y. Co. 2009) (finding that the marriage was void ab initio).

160 EPTL 5-1.2(a)(3).

161 See In re Mane, 40 Misc. 2d 805, 244 N.Y.S.2d 183 (Sur. Ct., N.Y. Co. 1963).

162 In re Bingham, 178 Misc. 801, 36 N.Y.S.2d 584 (Sur. Ct., Kings Co. 1942), aff’d, 256 A.D. 463, 39 N.Y.S.2d 756, motion for leave to appeal denied, 266 A.D. 669, 41 N.Y.S.2d 180 (2d Dep’t 1943) (finding that the remarriage did not give validity to an otherwise invalid Nevada decree, but the acceptance of benefits of that decree estops the surviving spouse from asserting its inva- lidity or from asserting any rights incident to the continued existence of the marital status).

163 Mane, 40 Misc. 2d 805.

164 EPTL 5-1.2(a)(2).

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1027 § 6.54 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

Accordingly, no court declaration is required to dissolve such marriage.165 Neither party ever acquires rights in the property of the other.166

The DRL prohibitions against incestuous or bigamous marriages reflect, for the most part, a public policy in New York State that cannot be avoided by contracting a marriage out of state.167 New York will, however, recognize as valid marriages contracted out of state between an uncle and niece or between an aunt and nephew because such marriages, while void under DRL § 5, are not repugnant to the public policy of New York State.168 In addition, New York will recognize as valid bigamous marriages contracted in foreign countries in which bigamy is legal, because such marriages, while void under DRL § 6, are not repugnant to the public policy of New York State.169

[6.54] E. Valid Judgment or Decree of Separation Against Spouse

A person is disqualified as a surviving spouse if a final decree or judgment of separation, recognized as valid in New York State, was rendered against that spouse and was in effect when the deceased spouse died.170 A judgment or decree of separation that is not in effect on the date of death of the surviving spouse will not operate to disqualify the spouse against whom it was rendered.171

165 See Estate of Kaminester, 26 Misc. 3d 227. 166 Id.

167 Cunningham v. Cunningham, 206 N.Y. 341 (1912) (finding marriage out of state to minor who was under the age of legal consent, without the knowledge or consent of her parents, was repugnant to New York public policy); In re Bronislawa, 90 Misc. 2d 183, 393 N.Y.S.2d 534 (Fam. Ct., Kings Co. 1977); see also In re May, 305 N.Y. 486, 114 N.E.2d 4 (1953) (recognizing marriage validly entered into in Rhode Island between uncle and niece as not “offensive to the public sense of morality”).

168 May, 305 N.Y. 486. Campione v. Campione, 201 Misc. 590, 107 N.Y.S.2d 170 (Sup. Ct., Queens Co. 1951).

169 Estate of Diba, 28 Misc. 3d 1207(A) (Sur. Ct., Bronx Co. 2010).

170 EPTL 5-1.2(a)(4); see In re Smith, 243 A.D. 348, 276 N.Y.S. 646 (4th Dep’t 1935) (finding only the person against whom a separation decree was rendered is barred from a right of election and that the spouse obtaining the judgment or decree retains the right to elect).

171 In re Oppenheim, 178 Misc. 1035, 37 N.Y.S.2d 40 (Sur. Ct., N.Y. Co. 1942), aff’d, 266 A.D. 652, 41 N.Y.S.2d 197 (1st Dep’t 1943).

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A reconciliation of the parties accompanied by an intent to abandon a separation agreement voids the agreement.172 Such conduct, however, would have no effect on a judgment or decree of separation, termination of which requires revocation by the issuing court or overturn on appeal.173 Thus, the spouse against whom a separation agreement or decree is obtained will remain disqualified until the judgment or decree is properly set aside, regardless of any intervening reconciliations.174

[6.55] F. Abandonment of the Deceased Spouse

A person is disqualified as a surviving spouse if such person abandoned the deceased spouse and such abandonment continued until the time of the decedent’s death.175 The party alleging abandonment must prove all the necessary elements thereof.176 The elements of abandonment are those that would support a judgment of separation.177 It must be shown that the spouses lived apart and that the departing spouse left without justification, without intent to return and without the consent of the other spouse.178 Consent of the decedent to the spouse’s departure is a defense to a charge of abandonment.179 Moreover, there is no abandonment where the departing spouse does so involuntarily, at the request of the other spouse.180

172 In re Granchelli, 90 Misc. 2d 103, 393 N.Y.S.2d 894 (Sur. Ct., Monroe Co. 1977).

173 DRL § 203; Granchelli, 90 Misc. 2d 103.

174 Id. 175 EPTL 5-1.2(a)(5).

176 In re Young, 30 Misc. 3d 1204(A), 958 N.Y.S.2d 649 (Sur. Ct., Broome Co. 2010); In re Atiram, 25 Misc. 3d 1241(A) (Sur. Ct., N.Y. Co. 2009), aff’d 83 A.D.3d 1055 (2d Dep’t 2011). 177 In re Lapenna, 16 A.D.2d 655, 226 N.Y.S.2d 497 (2d Dep’t), appeal dismissed, 12 N.Y.2d 671, 233 N.Y.S.2d 463 (1962); In re McAfee, 28 Misc. 3d 1225(A), 958 N.Y.S.2d 308 (Sur. Ct., Bronx Co. 2010). 178 Schine v. Schine, 31 N.Y.2d 113, 335 N.Y.S.2d 58 (1972); In re Maiden, 284 N.Y. 429, 31 N.E.2d 889 (1940); In re Prince, 36 A.D.2d 946, 321 N.Y.S.2d 798 (1st Dep’t 1971), aff’d, 30 N.Y.2d 512, 330 N.Y.S.2d 61 (1972); Lapenna, 16 A.D.2d 655; Young, 30 Misc 3d 1204(A); McAfee, 28 Misc.3d 1225(A).

179 In re Primm, N.Y.L.J., Feb. 17, 1988, p. 15, col. 2 (Sur. Ct., Bronx Co.); In re Ruff, 91 A.D.2d 814, 458 N.Y.S.2d 38 (3d Dep’t 1982) (finding no abandonment where wife frequently left home without explanation prior to the couple’s permanent separation and that such departures were never over decedent’s objection).

180 In re Sadowski, 246 A.D. 490, 284 N.Y.S. 521 (4th Dep’t 1935).

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1029 § 6.55 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

Open and notorious unfaithfulness does not by itself constitute abandonment.181 Cruelty and inhumanity alone are not equivalent to abandonment, nor is conduct endangering the life and health of a spouse per se equivalent.182

The determination of abandonment is a factual one.183 Where the decedent’s assault of the spouse prompts the spouse to leave, the departure has been held justified and not an abandonment.184 A reconciliation of the parties following abandonment reestablishes the departing party as a qualified surviving spouse and preserves his or her right of election.185

Where the departing spouse enters a valid or invalid second marriage with a third party and thereafter openly cohabitates with that third party, the New York State courts have generally held the second marriage to be an act of abandonment.186 The current definition and standard for abandonment has been criticized by at least one recent court, which stated that “[c]hanging understandings of what constitutes family, demographic shifts, and alterations in economic dependence strongly suggest the need both to reappraise the spousal disqualification statute and the interests it serves: administration, intestacy and spousal election. One may hope that the bar and the legislature will hear and heed this call.”187

181 In re Holman, 46 Misc. 2d 809, 260 N.Y.S.2d 885 (Sur. Ct., Erie Co. 1965); In re Archibald, 19 Misc. 2d 705, 191 N.Y.S.2d 1021 (Sur. Ct., N.Y. Co. 1959).

182 See In re Green, 155 Misc. 641, 280 N.Y.S.2d 692 (Sur. Ct., N.Y. Co.), aff’d, 246 A.D. 583, 284 N.Y.S. 370 (1st Dep’t 1935). 183 In re Riefberg, 58 N.Y.2d 134, 138, 459 N.Y.S.2d 739 (1983).

184 See Murphy v. Murphy, 296 N.Y. 168, 71 N.E.2d 452 (1947).

185 In re Sidman, 153 Misc. 735, 276 N.Y.S. 56 (Sur. Ct., Kings Co. 1934). 186 In re Loeb, 77 Misc. 2d 814, 354 N.Y.S.2d 864 (Sur. Ct., N.Y. Co. 1974); In re Oswald, 43 Misc. 2d 774, 252 N.Y.S.2d 203 (Sur. Ct., Nassau Co. 1964), aff’d, 24 A.D.2d 465, 260 N.Y.S.2d 615 (2d Dep’t), aff’d, 17 N.Y.2d 447, 266 N.Y.S.2d 807 (1965); In re Goethie, 9 Misc. 2d 906, 161 N.Y.S.2d 785 (Sur. Ct., Westchester Co. 1957); In re Bingham, 178 Misc. 801, 36 N.Y.S.2d 584; In re Estate of Henry, 35 Misc. 3d 1217(A), 951 N.Y.S.2d 86 (Sur. Ct., Bronx Co. 2012) (“the case law is clear that a spouse who, after no longer residing in a prior marital abode, enters into a ceremonial marriage with a new partner, holding herself or himself out as married to the “second spouse,” has unequivocally abandoned the first spouse by those acts, and can no longer claim the status of a surviving spouse of the first spouse”). See also In re Estate of Khabbaza, 174 Misc. 2d 82, 662 N.Y.S.2d 996 (Sur. Ct., Richmond Co. 1997) (finding that even if the initial separation from the decedent had been consensual, the subsequent ceremonial marriage by the husband to another wife constituted abandonment); Estate of Hama, 39 Misc. 3d 429, 957 N.Y.S.2d 583 (Sur. Ct., N.Y. Co. 2012) (finding that a husband was not entitled to a right of election due to abandonment where the husband witnessed and consented to the second marriage ceremony of his wife).

187 Estate of Hama, 39 Misc. 3d 429.

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1030 RIGHT OF ELECTION § 6.56

[6.56] G. Failure to Support

A husband or wife of a deceased spouse will not qualify as a surviving spouse if such husband or wife had

the duty to support the other spouse, failed or refused to provide for such spouse though he or she had the means or ability to do so, unless such marital duty was resumed and continued until the death of the spouse having the need of the support.188

The party alleging failure to support must prove that the spouse failed to support the decedent, that the spouse possessed the means from which to furnish support, that the decedent was not guilty of misconduct exoner- ating the duty to support and that the decedent desired and looked to the spouse for support.189

188 EPTL 5-1.2(a)(6).

189 In re Lamos, 63 Misc. 2d 840, 313 N.Y.S.2d 781 (Sur. Ct., Kings Co. 1970).

6-43

1031 1032 APPENDIX A

APPENDIX A SURROGATE’S COURT: COUNTY OF ______

------x

In the Matter of the Application of : ______, as Surviving Spouse of : File No. ______, : Deceased, : PETITION ON : APPLICATION TO To obtain a Determination as to the : DETERMINE VALIDITY Validity or Effect of an Election to : AND EFFECT OF Take Her Elective Share Against the : ELECTION Provisions in the Will of Said Decedent. : ------x

TO THE SURROGATE’S COURT, NEW YORK COUNTY: The Petition of ______, domiciled and residing at ______, in the City, County and State of New York, respectfully shows:

1. That your Petitioner is the surviving spouse of ______, the decedent above-named.

2. That your Petitioner and the said ______, deceased, were married in New York on the ___ day of ______, ____, and thereafter and until the death of the said ______, deceased, lived together as husband and wife at ______, New York, New York.

3. That said ______, at the time of his death, was domiciled and resided at ______, in the City, County and State of New York and died at ______, New York, in the State of New York on the ___ day of ______, ____, leaving a Last Will and Testa- ment, dated the ___ day of ______, ____, which was thereafter on the ___ day of ______, ____, duly admitted to probate by the Sur- rogate’s Court of the City, County and State of New York.

4. That Letters Testamentary of the Last Will and Testament were, on the ___ day of ______, ____, duly issued and granted by the said Sur- rogate’s Court to ______, the Executor therein named who

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1033 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED. thereupon duly qualified and thereafter acted and is still acting as such Executor.

5. That by said Last Will and Testament, the said decedent made no provision for your Petitioner. No other provision was made in said Will for your Petitioner or in any other way under the provisions of EPTL section 5-1.1-A, except that Petitioner is the survivor under certain joint account, the total amount of which is $______.

6. That on ______, ____, Petitioner and the decedent executed a writing purporting to be an antenuptial agreement with a waiver of all of Petitioner’s rights in the estate of the decedent. Said purported agreement was and is invalid, void and ineffective because, among other things, (a) Petitioner was uninformed of the factual impact of the writing that she executed, or the value or consequences of the purported waiver; and (b) decedent concealed and failed to disclose the nature and the extent of his assets at the time that he fraudulently induced the Petitioner to execute the alleged antenuptial agreement; and (c) decedent failed to provide the Peti- tioner with an opportunity, sufficiently in advance of the execution of the antenuptial agreement, to understand and comprehend the instrument and its consequences and failed to provide her with an opportunity, sufficiently in advance of the execution of the writing, to obtain and consult with an independent counsel for the purpose of review and negotiation of said writing; and (d) the purported antenuptial agreement was not acknowledged in the manner required by the laws of the State of New York for the recording of a conveyance of real property.

7. That ______is the son of a prior marriage of ______, decedent, and principal beneficiary under the Last Will and Testament of said decedent. There are no other beneficiaries.

8. That your Petitioner, desiring to exercise her right of election, pursuant to EPTL section 5.1-1-A to take her elective share of the estate of the said deceased, on the ___ day of ______, ____, caused a written Notice of Election in proper form to be duly served upon ______, the named Executor of the Estate of ______, by depositing a true copy of said written Notice of Election in a postpaid, properly addressed wrapper in official depository under the exclusive care and custody of the United States Postal Service within the State of New York. Thereafter, the original of said written Notice of Election, with proof of service, was filed in this Court on the ___ day of ______, ____. A copy of said Notice of Election, together with the affidavit of service thereto

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1034 APPENDIX A upon the named Executor is annexed hereto as Exhibit A-1. Petitioner has reason to believe that her election has been rejected by the Executor.

9. That the names and post office addresses of all persons other than your Petitioner interested in obtaining a determination as to the validity and effect of the said election, and all other persons interested in this proceeding who are required to be cited upon this application or concerning whom the Court is to have information are: e.g., ______, Sole Beneficiary Street Address/P.O. Box City, State, Zip under the Last Will and Testament of ______Upon information and belief, the said ______is of sound mind and of full age.

10.That, upon information and belief, there are no other persons than those mentioned interested in the application or proceeding.

11.Your Petitioner makes this application, pursuant to Section 1421 of the Surrogate’s Court Procedure Act in order that she may have a judicial determination as to the validity of the aforesaid Notice of Election and as to her rights thereunder, so that your Petitioner’s rights and remedies thereunder may be speedily determined and fully protected.

WHEREFORE, your Petitioner prays for a decree determining the validity and effect of the election of your Petitioner under EPTL section 5-1.1-A to take an elective share of the estate of the said ______, deceased, against the provisions of his Last Will and Testament, and that a citation be issued to all persons interested in the question to be presented to show cause why such determination should not be made and such relief should not be granted, and that Petitioner have such other and further relief as this Court may deem just and proper.

Dated: New York, New York

______, ____ s/______Attorney for ______Street Address City, New York Zip Code

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1035 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

VERIFICATION

STATE OF NEW YORK )

: ss.

COUNTY OF NEW YORK ) ______, being duly sworn, deposes and says that the deponent is the Petitioner in the within action; that the deponent has read the foregoing Petition and knows the contents thereof; that the same is true to the deponent’s own knowledge, except as to the matters therein stated to be alleged on information and belief, and as to those matters, deponent believes it to be true.

Sworn to before me this

___ day of ______, 20__

______Notary Public

6-48

1036 APPENDIX B

APPENDIX B SURROGATE’S COURT: COUNTY OF ______

------x

In the Matter of the Application of : ______, as Surviving Spouse of : ______, : File No. Deceased, : : ANSWER TO To obtain a Determination as to the : PETITION AND Validity or Effect of an Election to : COUNTERCLAIM Take Her Elective Share Against the : Provisions in the Will of Said Decedent. :

------x

______, Executor under the Last Will and Testament of ______, deceased, by way of answer to the petition of ______, alleges as follows:

1. That Respondent admits paragraphs “1,” “9” and “10” of the petition.

2. That Respondent denies paragraph “2” of the petition in that the marriage therein recited was invalid by reason of the then existing marriage of ______, as more fully detailed at paragraphs 14 through 17 herein.

3. That Respondent admits paragraph “3” of the petition and admits that ______died on the ___ day of ______, ____, and that the Last Will and Testament for the said decedent was admitted to probate on the ___ day of ______, ____.

4. That Respondent admits paragraph “4” of the petition and admits that Letters Testamentary of the Last Will and Testament were, on the ___ day of ______, ____, duly issued and granted by the said Surrogate’s Court to ______.

5. That Respondent admits paragraph “5” of the petition except denies that no provision was made for petitioner under the provision of EPTL section 5-1.1-A.

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1037 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

6. That Respondent denies paragraph “6” of the petition, except admits that Petitioner and decedent, on ______, ____, executed an antenuptial agreement with a waiver of all of Petitioner’s rights in the estate of the decedent.

7. That Respondent admits paragraph “7” of the petition except denies that there are no beneficiaries under the Last Will and Testament of ______, deceased, other than ______.

8. That Respondent is without information sufficient to form a belief as to the allegations set forth in paragraph “8” except that Respondent denies that thereafter on the ___ day of ______, ____, the original of said written Notice of Election was filed in this Court. Respondent admits that portion of paragraph “8” which states that Petitioner’s Notice of Election has been rejected.

9. That Respondent is without information sufficient to form a belief as to the allegations set forth in paragraph “11.”

FOR A FIRST DEFENSE 10. That the Petitioner verified her petition on the ____ day of ______, ____, wherein said Petitioner swore that she had read the contents of said Petition and that those matters within her knowledge were true, except as to the matters stated to be alleged on information and belief, which Petitioner believed to be true.

11. That in said Petition, sworn to on the ___ day of ______, ____, Petitioner stated that a certain written Notice of Election was served upon Respondent on the ___ day of ______, ____, and thereafter, the original of said Notice of Election was filed with the Surrogate’s Court, New York County, on the ___ day of ______, ____.

12. That Petitioner in the instant proceeding is required to serve and file a duly verified petition, and that by virtue of the foregoing, Peti- tioner’s verification is defective, and as such may be regarded as a nullity.

13. By reason of the premises, Respondent, ______, Executor of the Estate of ______, deceased, pray that this Court dismiss the Petition, together with all costs of suit.

6-50

1038 APPENDIX B

FOR A SECOND DEFENSE 14. That on or about ______, ____, ______did purport to obtain from the Court of Mexico a decree of divorce from ______, Respondent’s mother and the wife of ______.

15. That such ex parte divorce decree dated ______, ____, was invalid and void.

16. That the purported marriage by Petitioner and ______on ______, ____, was invalid by reason of the incapacity of ______to enter into marriage, being at such time the lawful husband of ______, Respondent’s mother.

17. That on ______, ____, following such purported marriage, ______, Respondent’s mother, died in ______, New York, leaving ______as her widower.

FOR A COUNTERCLAIM 18. That Letters Testamentary of the Last Will and Testament of ______, the decedent above named, were duly issued to your Respondent by the Surrogate’s Court of the County of New York on the ___ day of ______, ____, and the said ______thereupon duly qualified and thereafter acted and is still acting as such executor.

19. That ______, the decedent above named, at the time of his death was domiciled and resided at ______, in the County, City and State of New York, and died at ______Hospital, ______, New York on the ___ day of ______, ____.

20. That certain personal property which should be delivered and/or paid to your Respondent, or the value of which should be paid to your Respondent, is in the possession of the Petitioner, who withholds the same from your Respondent.

21. That the property aforesaid consists of miscellaneous items of furniture, furnishings and personal effects, including but not limited to the following:

(a) Kitchen set consisting of a table and chairs;

(b) Persian rug, 6’ x 9’;

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1039 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

(d) Three (3) tables;

(e) One (1) television set;

(f) One (1) tea cart;

(g) One (1) living room couch;

(h) Two (2) upholstered chairs;

(i) One (1) wooden religious candelabra;

(j) One (1) serving buffet;

(k) Various pieces of crystal, china, plateware and jewelry; and

(l) Miscellaneous items of monetary and sentimental value. 22. That your Respondent has made diligent search and inquiry in regard to said property and on the ___ day of ______, ____, made a personal inspection of the decedent’s premises and observed the aforesaid items of personal property at such premises.

23. That your Respondent at the date and place aforesaid duly demanded of the said Petitioner the delivery of the said property, but the said Petitioner has refused to deliver the same to your Respondent and/or claims that she is the owner thereof.

WHEREFORE, your Respondent prays for an inquiry respecting the said property and that the Petitioner be ordered to attend the inquiry and be examined accordingly and to deliver the said property to your Respon- dent.

Yours, etc. s/______Attorneys for Respondent New York, New York (212) ______

6-52

1040 APPENDIX C

APPENDIX C SURROGATE’S COURT: COUNTY OF ______

------x

In the Matter of the Application of : ______, as Surviving Spouse of : File No. ______, : Deceased, : REPLY AND ANSWER : TO COUNTERCLAIM To Obtain a Determination as to the : Validity or Effect of An Election : to Take Her Elective Share Against : the Provisions in the Will of said : Decedent. : ------x The Petitioner, for her Verified Reply and Answer to Counterclaim, alleges as follows:

1. Petitioner denies each and every allegation set forth in paragraphs “18” through “23” of the Counterclaim, except that Petitioner admits that Respondent inspected the premises, ______, New York, New York, on or about ______, ____.

AS AND FOR AN AFFIRMATION DEFENSE TO THE COUNTERCLAIM 2. That with the exception of the wooden religious candelabra designated as Item (i), all the items of personal property mentioned in paragraph “21” of the Counterclaim are owned by the Petitioner in that they were either given to the Petitioner by the deceased, ______, at the time of the said marriage of ______to ______, the Petitioner, on ______, ____, as gifts, or were transferred to her in return for property that was transferred to the deceased, or were purchased by ______and ______as joint tenants to be used as matrimonial property by ______and ______.

Yours, etc., s/______Attorney for Petitioner, New York, New York (212) ______

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1041 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

VERIFICATION

STATE OF NEW YORK )

: ss.

COUNTY OF NEW YORK ) ______, being duly sworn, deposes and says that the deponent is the Petitioner in the within action; that the deponent has read the foregoing REPLY AND ANSWER TO COUNTERCLAIM and knows the contents thereof; that the same is true to the deponent’s own knowledge, except as to the matters therein stated to be alleged on information and belief, and as to those matters, deponent believes it to be true.

Sworn to before me this ___ day of ______, 20__

______Notary Public

6-54

1042 APPENDIX D

APPENDIX D Mutual Waiver Clause in Prenuptial Agreement

Ms. ______and Mr. ______each renounces, waives, releases and relinquishes:

(a)Any and all claims and rights which he or she may now possess or may hereafter acquire to share in any capacity, or to any extent, in the estate of the other, whether arising by way of statutory allowance, setoff, distribution in intestacy, dower, curtesy, community property, exempt property, or election to take against any Last Will and Testament of the other of Ms. ______and Mr. ______; and Ms. ______and Mr. ______each covenants and agrees that he or she will refrain from any action or proceeding that might change, impair or abrogate any provision of the Last Will and Testament of the other except to enforce his or her specific rights under this Agreement. Ms. ______and Mr. ______intend that the provisions of this subparagraph (a) shall constitute a waiver by each of them of the right of election in accordance with the requirements of any statute (including, but not limited to, EPTL section 5-1.1-A of the Estates, Powers and Trusts Law).

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1043 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

Waiver of Right of Election

Pursuant to New York’s Estates, Powers and Trusts Law I, ______, residing at ______, being the [husband/ wife] of ______, do hereby waive and release any and all rights which I may now possess or which I may at any future time possess, pursuant to section 5-1.1-A of the New York Estates, Powers and Trusts Law, or any successor to such section, or pursuant to any other applicable similar law or statute of any other jurisdiction, to elect to take against the Last Will and Testament of my said [wife/husband] executed by my said [wife/ husband] on the same date but prior to the execution of this instrument.

IN WITNESS WHEREOF, I have hereunto set my hand and seal this ______day of _____, 20__. s/______

STATE OF NEW YORK)

) ss.:

COUNTY OF ______) On this _____ day of ______, 20__, before me, the undersigned, personally appeared ______, personally known to me or proved to me on the basis of satisfactory evidence to be the individual whose name is subscribed to the within instrument and acknowledged to me that he/she executed the same in his/her capacity, and that by his/her signature on the instrument, the individual, or the person upon behalf of which the individual acted, executed the instrument.

______Notary Public

6-56

1044 APPENDIX E

APPENDIX E HISTORICAL OVERVIEW: RIGHT OF ELECTION FOR DECEDENTS DYING BEFORE SEPTEMBER 1, 1992— AN OVERVIEW OF EPTL 5-1.1

A. Generally For the surviving spouse of a decedent who died prior to September 1, 1992, and left a will executed before September 1, 1930, there was no statutory right of election.190 In that case, a surviving spouse may claim dower or courtesy rights only.

The statutory right of election was initially provided by statute with the enactment of EPTL 5-1.1(a), applicable to a surviving spouse of a decedent who died fully testate before September 1, 1992, leaving a will executed after August 31, 1930, and before September 1, 1966. EPTL 5- 1.1(c), which remains fully in effect, controls the election rights of the surviving spouse where the decedent died before September 1, 1992, leaving a will executed after August 31, 1966, or died fully intestate between August 31, 1966, and September 1, 1992.

The current statute was a significant expansion of EPTL 5-1.1(c), which, in turn, expanded EPTL 5-1.1(a). To some extent, all three provisions parallel each other. The discussion below deals with those parts of the statute which have been revised and the progression of the statute to its current state.

The applicable statutory right of election, determined by the date of death and the date of the decedent’s will, may be adjusted in the following scenarios:

1. If the decedent writes a later dated codicil, the will is thereby republished as of that later date.191

2. If the decedent died on or after September 1, 1966, the spouse may have a right of election under EPTL 5-1.1(c)(2) against the net estate, which includes the intestate assets plus any post-August 31,

190 If the decedent died on or after September 1, 1992, the spouse’s share is determined by EPTL 5- 1.1-A.

191 In re Greenberg, 261 N.Y. 474, 185 N.E. 704 (1933); In re Berger, 61 Misc. 2d 81, 304 N.Y.S.2d 911 (Sur. Ct., Kings Co. 1969).

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1045 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

1966, inter vivos transfers made by the decedent during his or her marriage to the surviving spouse.

3. Marriage after a will executed before September 1, 1930, may work as a partial revocation of the will.192 The provision does not apply if the spouse was married to the decedent before or at the time of the will’s execution. Moreover, any codicil executed during the marriage republishes a will executed prior to the marriage.193 Ratable contributions to the spouse’s share are made by the beneficiaries under the will without distinction as to specific, general or residuary bequests.194 The testamentary plan is otherwise preserved to the fullest extent possible.195 The surviving spouse may waive the statutory rights and take instead any benefits passing to him or her under the will.196

B. Wills Executed after August 31, 1930, and before September 1, 1966, Where Decedent Died Prior to September 1, 1992; EPTL 5-1.1(a)

1. Elective Share and the Net Estate

Under EPTL 5-1.1(a), the spouse’s elective share is one-third (if one or more issue survived the decedent) or one-half (if no issue survived the decedent) of the net estate. The net estate is based on the net value of assets passing under the will and certain “illusory transfers”, discussed below.197

In computing the value of the net estate, the decedent’s debts and the reasonable funeral expenses and estate administration expenses are deducted.198 Estate taxes are not considered in arriving at the value or composition of the net estate; the spouse remains liable for them insofar

192 EPTL 5-1.3(a).

193 3 New York Civil Practice: EPTL, 5-1.3[2] (NYCP), p. 5-270-271 (Matthew Bender).

194 EPTL 5-1.3(b); see In re Nicholson, 49 Misc. 2d 421, 267 N.Y.S.2d 719 (Sur. Ct., Washington Co. 1966)

195 EPTL 5-1.3(b).

196 EPTL 5-1.3(c).

197 EPTL 5-1.1(a)(1)(A), EPTL 5-1.1(a)(1)(b).

198 EPTL 5-1.1(a)(1)(A).

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1046 APPENDIX E

as such taxes are apportionable against the spouse as directed by the testator’s will or pursuant to EPTL 2-1.8.199

2. The Doctrine of “Illusory” Transfers

The surviving spouse of a decedent may attack certain nonprobate inter vivos transfers made by the decedent to third persons. Setting aside such transfers will depend on whether the decedent did or did not “in good faith divest himself of ownership of his property.”200 The “good faith” requirement refers to the decedent’s intent to transfer ownership to the third party; it does not refer to his or her intent to cut off the surviving spouse.201 Where ownership was not actually divested in favor of the third party, the transfer will be held to have been illusory. The subject property will become part of the decedent’s probate estate against which the surviving spouse may elect. Moreover, the inclusion of the subject property in the probate estate will increase the net assets available to all will beneficiaries, including third parties.202

The doctrine of “illusory” transfers also applies to an income interest created under the decedent’s will for the spouse’s benefit. Due to powers granted to the fiduciary or due to other testamentary provisions, the spouse may be deprived of income or principal.203 A surviving spouse has an absolute right of election against the principal of an illusory income interest created by a will executed between September 1, 1930, and August 31, 1966. Case law indicates that an income interest is illusory if (1) it is to terminate before the spouse’s death,204 (2) if the principal is subject to invasion for the benefit of one other than the spouse205 or (3) if the spouse is not to receive all net income to be produced by the principal.206 In other cases, EPTL 5-1.1(a)(1)(H) limited the chances of a finding of an illusory gift by enumerating allowable fiduciary powers which a

199 Id.

200 See In re Halpern, 303 N.Y. 33, 38, 100 N.E.2d 120 (1951); Krause v. Krause, 285 N.Y. 27, 32 N.E.2d 779 (1941).

201 Krause, 285 N.Y 27.

202 Halpern, 303 N.Y. 33.

203 In re Shupack, 1 N.Y.2d 482, 488, 154 N.Y.S.2d 441 (1956); Herrman, Fiduciaries’ Collateral Powers and Spouse’s Right of Election, 30 Brooklyn L. Rev. 53.

204 In re Byrnes, 260 N.Y. 465, 184 N.E. 56 (1933).

205 In re Wittner, 301 N.Y. 461, 95 N.E.2d 798 (1950).

206 In re Lincoln Rochester Trust Co., 274 A.D. 846, 80 N.Y.S. 769 (4th Dep’t 1948).

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1047 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED. decedent can confer by will and by granting the surrogate’s court supervisory power over the testamentary income interest in order to protect the spouse.

3. Determining the Elective Share

The elective share, whether one-third or one-half, must be offset by will provisions benefiting the spouse.207 The resulting surplus, if any, represents the degree to which the election right may be exercised. Will beneficiaries, other than the spouse, must make a ratable contribution toward the spouse’s share.208 Unless the testator explicitly provided that certain gifts be preferred, the contribution owed by each beneficiary is proportionate to the benefits received by such beneficiaries under the will. No distinction is drawn between specific, general or residuary legatees.209

4. Lifetime Income Interests

A decedent who died prior to September 1, 1992, leaving a will executed after August 31, 1930, and before September 1, 1966, can partially or fully satisfy the elective share amount without leaving the spouse an absolute interest. The will provisions benefiting the spouse and offsetting the elective share may include, in addition to absolute gifts, the principal of a trust or any other kind of testamentary disposition.210 To offset the elective share, the income interest must be for the spouse’s lifetime.211 The income interest need not be from a trust;212 it can be a legal life estate, an annuity for life or any other lifetime income interest. If the decedent did leave the spouse an income interest, the value passing to the spouse is the value of the principal from which the income interest is to be satisfied, rather than the commuted value of the income interest itself.213 In such case, the right of election is determined by subtracting the aggregate value of (1) absolute dispositions to the spouse plus (2) the value of the principal from which the spouse will derive the lifetime interest from

207 EPTL 5-1.1(a)(1)(F).

208 EPTL 5-1.1(d)(3).

209 In re Curley, 160 Misc. 844, 290 N.Y.S. 822 (Sur. Ct., Kings Co. 1936); 38 N.Y. Jur. 2d, Dece- dents’ Estates § 198 (1984).

210 EPTL 5-1.1(a)(1)(F).

211 EPTL 5-1.1(a)(1)(B), (D), (E).

212 EPTL 5-1.1(a)(1)(G).

213 Id.

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1048 APPENDIX E

(3) the elective share amount. Any deficiency is to be ratably contributed by will beneficiaries other than the spouse.214

5. Absolute Right of Election and Limited Right of Withdrawal

A decedent who died before September 1, 1992, leaving a will executed prior to September 1, 1966, may have denied the surviving spouse a right of election by leaving the surviving spouse a lifetime income interest in a fund equal to the elective share. However, if the outright testamentary dispositions to the surviving spouse do not exceed $2,500, such a testamentary disposition does not deprive the spouse of all absolute rights. Depending on the amount of absolute dispositions, if any, made to the spouse and the size of the elective share, the spouse may be entitled to an absolute right of election or a limited right to withdraw money from principal.215

6. Intestacy

If a decedent died partially intestate, the net estate against which the spouse may elect includes the assets disposed of by will and illusory transfers. Rights of the surviving spouse when the decedent died wholly intestate before September 1, 1966, are controlled by the intestate statute, EPTL 4-1.1.

C. Wills Executed after August 31, 1966, for Decedents Who Died before September 1, 1992; Intestate Death after August 31, 1966, and before September 1, 1992

1. Elective Share and the Net Estate

As under prior law, under EPTL 5-1.1(c), the elective share equaled one-third of the net estate if the decedent was survived by issue and one-

214 EPTL 5-1.1(a)(1)(F); NYCP, 5-1.1[9][b], p. 5-52-53; 38.

215 EPTL 5-1.1(a)(1)(C) (elective share not more than $2,500); In re Handler, 82 Misc. 2d 482, 371 N.Y.S.2d 297 (Sur. Ct., Kings Co. 1975); EPTL 5-1.1(a)(1)(B) (elective share exceeds $2,500 and lifetime income interest left to spouse with principal equal to or exceeding elective share); EPTL 5-1.1(a)(1)(D) (elective share exceeds $2,500 and lifetime income interest left to spouse with principal equal to or exceeding elective share, along with $2,500 outright); EPTL 5- 1.1(a)(1)(E) (less than $2,500 to the spouse outright, and left the spouse a lifetime income interest, and the sum of the absolute gift plus the principal producing the income exceeded or equaled the elective share).

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1049 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED. half of the net estate if the decedent was not survived by issue.216 The net estate includes intestate as well as probate assets.217 Moreover, the statutorily defined “testamentary substitutes” replaced the doctrine of “illusory” transfers and were the precursor to the testamentary substitutes in EPTL 5-1.1-A.

These “substitutes,” outlined in EPTL 5-1.1(b), include certain inter vivos transfers made by the decedent to the surviving spouse and to others. The property transferred inter vivos is considered part of the net estate for purposes of computing the elective share.218 Just as under EPTL 5- 1.1(a)(1)(A), the estate’s administration expenses and reasonable funeral expenses are deducted in determining the decedent’s net estate.219 Estate taxes are not taken into account in the net estate computation. To the extent the spouse’s interest does not qualify for the marital deduction, the spouse remains liable for estate taxes insofar as the decedent’s will or other instrument directs that such expense be apportioned against the spouse220 or, absent such direction, pursuant to the statutory apportionment provisions of EPTL 2-1.8.

Section 5-1.1 of the EPTL did not specify whether the elective share was a fractional share or a pecuniary amount. New York courts, however, generally treated it as a fractional share.

2. Testamentary Substitutes a. Comparison to “Illusory” Transfers

Characterization of a transfer to a third party as a “testamentary substitute” does not invalidate the transfer, as would have happened if the “illu-

216 But see Estate of Bogart, 160 Misc. 2d 54, 607 N.Y.S.2d 1012 (Sur. Ct., N.Y. Co. 1994) (holding that the elective share of the spouse of a decedent who died after August 31, 1992, and before September 1, 1994, and who was not survived by issue, was one-half of the net estate since the interest could be satisfied by a right of election trust).

217 Schlosser, 73 Misc. 2d 380, 342 N.Y.S.2d 808; Amend, The Surviving Spouse and the Estates, Powers and Trusts Law, 33 Brooklyn L. Rev. 530, 542.

218 If the decedent died fully intestate before August 31, 1966, or left a valid will executed before such date and died before September 1, 1992, an inter vivos transfer made by the decedent after August 31, 1966, will not qualify as a testamentary substitute. In re Filfiley, 69 Misc. 2d 372, 329 N.Y.S.2d 632 (Sur. Ct., Kings Co. 1972), aff’d, 43 A.D.2d 981, 353 N.Y.S.2d 400 (2d Dep’t 1974).

219 EPTL 5-1.1(c)(1)(B).

220 Id.

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1050 APPENDIX E

sory” transfer doctrine had applied.221 The inter vivos gift to the third party is still subject to reduction, but only to the extent that the surviving spouse may claim a statutory right of election against it.222

b. Statutory Inclusions and Exemptions

For decedents who died prior to September 1, 1992, a nonprobate inter vivos transfer benefiting the spouse or a third party, in order to qualify as a testamentary substitute, must have occurred during the marriage and after August 31, 1966.223 The inter vivos transfers which qualify as testamentary substitutes, and which therefore are included in the decedent’s net estate for purposes of determining the spouse’s elective right, are as follows:

1. Gifts causa mortis.

2. Totten trust funds or joint acounts created after September 1, 1966.224

3. Joint bank account funds deposited, after August 31, 1966.225

4. Any disposition of property made by the decedent after August 31, 1966, whereby property is held, at the date of his or her death, by the decedent and another person as joint tenants with a right of survivorship, or as tenants by the entirety.

5. Any disposition of property made by the decedent after August 31, 1966, in trust or otherwise, to the extent that the decedent at the date of his or her death retained, either alone or in conjunction with another person, by the express provisions of the disposing instrument, a power to revoke such disposition or a power to consume, invade or dispose of the principal thereof.226

221 In re Halpern, 303 N.Y. 33, 40, 100 N.E.2d 120 (1951); In re Handler, 82 Misc. 2d 482, 489, 371 N.Y.S.2d 297, 304 (Sur. Ct., Kings Co. 1975).

222 NYCP, 5-1.1[7][a], p. 5-30.

223 EPTL 5-1.1(b)(1); Arenson, Surviving Spouse’s Right of Election and its Application to Testa- mentary Substitutes, 20 N.Y. Law Forum 1, 9, 14.

224 See Section II.B.2(f), supra.

225 EPTL 5-1.1(b)(1)(B), (C); See Section II.B.2(g), supra.

226 EPTL 5-1.1(b)(1)(E); See Section II.B.2(b), supra.

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1051 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

For decedents dying prior to September 1, 1992, EPTL 5-1.1(b)(2) lists inter vivos transactions which, by specific statutory exemption, are not testamentary substitutes. Payments from a pension, thrift, savings, retirement, death benefit,227 or stock bonus or profit-sharing plan are not testamentary substitutes,228 nor are life insurance proceeds or U.S. Savings bond payments.229 Generally, any irrevocable inter vivos transfer, if not statutorily defined as a testamentary substitute under EPTL 5-1.1(b)(1), is not characterized as such and escapes inclusion in the decedent’s estate.

An exempt inter vivos trust may be subject to the surviving spouse’s right of election if the decedent, by amendment after August 31, 1966, materially altered the terms thereof so as to create a testamentary substitute. In re Walton, 56 A.D.2d 436, 392 N.Y.S.2d 621 (1st Dep’t 1977). Such material alteration will occur if, for example, the decedent eliminated the beneficiary’s power of appointment or the trustee’s power to invade principal for the beneficiary, or prevented the trust from qualifying for either the marital or charitable estate tax deduction. A material alteration may also occur if the decedent amended the trust to allow a corporate trustee to borrow money from itself. Id. at 439–41. c. Surviving Spouse’s Burden of Proof

Joint bank accounts, joint tenancies or tenancies by the entirety are testamentary substitutes only to the extent that the decedent made the deposits or provided the consideration for acquisition of the property held jointly or by the entirety.230 If such transfer benefits a third party, the surviving spouse has the burden of proving the decedent’s contribution.231 If the third party made all contributions, there is no transfer by the decedent against which the surviving spouse may elect.

227 When, pursuant to the decedent’s employment contract, a beneficiary designated by the decedent receives, upon the decedent’s death, a portion of what would have been the decedent’s future salary plus a portion of deferred compensation owed to the decedent, the payments are considered death benefits under EPTL 5-1.1(b)(2), and thus are not included as testamentary substitutes in the net estate. In re Hildebrand, N.Y.L.J., May 6, 1983, p. 18, col. 1 (Sur. Ct., Westchester Co.). In contrast, a court held that the future commissions of a decedent, who was a life insurance agent, made payable after his death to designated beneficiaries pursuant to a spreadout plan offered by the employer insurance company, are testamentary substitutes. In re Estate of De Vita, 132 Misc. 2d 185, 503 N.Y.S.2d 267 (Sur. Ct., Nassau Co. 1986), aff’d, 141 A.D.2d 46, 532 N.Y.S.2d 796 (2d Dep’t 1988); EPTL 5-1.1(b)(1)(E).

228 In re Hildebrand, N.Y.L.J., May 6, 1983, p. 18, col. 1 (Sur. Ct., Westchester Co.).

229 In re Martin Co. Del., N.Y.L.J., Dec. 21, 1981, p. 12, col. 4 (Sur. Ct., N.Y. Co.).

230 EPTL 5-1.1(b)(3).

231 Id.

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1052 APPENDIX E

Unlike EPTL 5-1.1-A, where the transfer benefits the spouse, the spouse must prove his or her own contributions, if any.232 If the spouse made no contributions, the entire amount will be considered a testamentary substitute benefiting the spouse; the elective share will be offset (i.e., reduced) by that value, and the right of election amount will thus be decreased. If, however, the spouse did make contributions, then to that extent, the transfer will not qualify as a testamentary substitute benefiting the spouse and will not offset the elective share.233

d. Third Party Rights

Corporations or persons who transfer funds or property to a party otherwise entitled to it are not liable to a spouse who has a right of election against such funds or property, unless the transferors are personally served with a certified copy of an order enjoining such transfer, made by a court having jurisdiction.234

The surviving spouse’s rights regarding testamentary substitutes may not impair a creditor’s rights against the decedent.235

3. Determining the Elective Share

a. Fully Testate Decedent; General Considerations

Estates, Powers and Trusts Law 5-1.1(c)(1) governs the rights of the surviving spouse where the decedent dies before September 1, 1992, fully testate, leaving a will dated after August 31, 1966. Section 5-1.1(c)(1)(H) of the EPTL provides, in part:

Where the aggregate of the testamentary provisions for the surviving spouse . . . is less than the elective share, the surviving spouse has the limited right to elect to take the difference between such aggregate and the amount of the elective share, and the terms of the instrument making such testamentary provisions remain otherwise effective.

232 Id.

233 See EPTL 5-1.1(c)(1)(H).

234 EPTL 5-1.1(b)(4); see Section II.C.2.(k), supra.

235 EPTL 5-1.1(b)(5).

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1053 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

As is the case for wills executed after August 31, 1930, and before Sep- tember 1, 1966, the elective share must also be offset by any testamentary provision benefiting the spouse. “Testamentary provision” includes both probate assets and the testamentary substitutes described in EPTL 5- 1.1(b)(1).236 Any balance of the elective share remaining after the offset represents the degree to which the election right may be exercised.

Unless the decedent expressly provided to the contrary, beneficiaries under the will and by testamentary substitute, other than the spouse, must make a ratable contribution toward the spouse’s share.237 The percentage that each beneficiary contributes will be in direct proportion to his or her benefits under the will as a percentage of the total benefits received by all beneficiaries other than the surviving spouse. No distinction is drawn between specific, general or residuary legatees.238 b. Decedents Partially or Fully Intestate; General Considerations

Estates, Powers and Trusts Law 5-1.1(c)(2) governs the rights of the surviving spouse where the decedent dies fully intestate between August 31, 1966, and September 1, 1992, or dies partially intestate during that time, leaving a will executed after August 31, 1966. In computing the net estate, the value of intestate assets is included. Section 5-1.1(c)(2)(A) of the EPTL provides that

[t]he share of the testamentary provisions to which the surviving spouse is entitled hereunder is his elective share, . . . reduced by the capital value of all property passing to such spouse . . . in intestacy under 4-1.1, . . . by testamentary substitute as described in . . . (EPTL 5- 1.1(b)(1)) and . . . by disposition under the decedent’s last will.

Accordingly, in offsetting the spouse’s statutory share, the spouse is credited not only with the testamentary assets and testamentary substitutes passing to him or her, but also with the intestate assets he or she receives. If the elective share exceeds the aggregate amount passing to the spouse, the excess must be funded by third parties benefiting under the

236 EPTL 5-1.1(c)(1)(C).

237 EPTL 5-1.1(d)(3)(B).

238 NYCP, 5-1.1[10][c], pp. 5-74-75.

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1054 APPENDIX E

testamentary provisions; intestate beneficiaries are exempted from having to contribute to the spouse’s statutory share.239

Example:

Assume a decedent died partially intestate before September 1, 1992, leaving a will executed after August 31, 1966. The net testamentary assets, after deducting debts and expenses, were worth $50,000, while intestate assets were worth $50,000. The decedent made no will provision for the spouse but left her $50,000 in a Totten trust. He also left $200,000 in a Totten trust for his sister.

The decedent’s spouse may elect against the sum of (1) the probate asset, (2) the testamentary substitutes and (3) the intestate assets—a total of $350,000. Assume one child survived the decedent. The spouse’s elective share is one-third of $350,000, or $116,666. The elective share must be offset by the value of the $50,000 Totten trust benefiting the spouse, plus her intestate share. The spouse’s intestate share under EPTL 4-1.1 is $4,000 plus one-half the difference between $50,000 (the intestate assets) and $4,000, a total of $27,000 (i.e., $4,000 + 1/2 ($50,000 - $4,000)). The spouse’s elective share thus equals $39,666.

Of the total $250,000 which passed to parties other than the spouse by will and by testamentary substitute, one-fifth passed to will beneficiaries while four-fifths passed to the decedent’s sister—the other Totten trust beneficiary. The will beneficiaries must thus contribute one-fifth of $39,666, or $7,934, while the decedent’s sister must contribute four-fifths of $39,666, or $31,732. The decedent’s child, as intestate distributee, need not contribute anything, since intestate beneficiaries are statutorily exempt from having to contribute to the spouse’s elective share.240

4. Lifetime Income Interests

a. Trusts, Annuities, Life Estates

Under EPTL 5-1.1, for decedents dying after August 31, 1966, a decedent could satisfy the surviving spouse’s elective share with a trust, provided the surviving spouse has a mandatory income interest for life. Although EPTL 5-1.1-A generally is effective with respect to the estates

239 EPTL 5-1.1(c)(2)(B).

240 EPTL 5-1.1(c)(2)(B); Schlosser, 73 Misc. 2d 380.

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1055 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED. of decedents dying after August 31, 1992, the elimination of the right of election trust is effective only with respect to the estates of decedents dying after August 31, 1994.241

A decedent who left a will executed on or after September 1, 1966, and who died prior to September 1, 1994,242 or who died intestate during such time, could partially or fully satisfy the elective share amount without leaving the spouse an absolute interest. The testamentary provisions (including testamentary substitutes) benefiting the spouse and offsetting the elective share may include, in addition to absolute dispositions, the principal of a trust or any other kind of testamentary disposition.243 To offset the elective share, the income interest must be for the spouse’s life.244

The income interest need not be from a trust;245 it can be a legal life estate, an annuity for life or any other lifetime income interest. Where the decedent, by will or testamentary substitute, leaves the spouse an income interest, the value passing to the spouse is the value of the principal from which the income interest is to be satisfied rather than the commuted value of the income interest itself.246 In such case, the right of election is determined by subtracting the aggregate value of (1) absolute dispositions to the spouse, plus (2) the value of the principal from which the spouse will derive the lifetime income interest, from (3) the elective share amount. Any deficiency is to be ratably funded by beneficiaries, other than the spouse, of testamentary provisions, and the balance of the testamentary plan will remain intact.247

241 See C.5., “Absolute Right of Election and Limited Right of Withdrawal,” infra, regarding the availability under EPTL 5-1.1 of right of election trusts for decedents dying after August 31, 1966, and before September 1, 1992. 242 Note that this is the only instance when the statute applies to deaths prior to September 1, 1994, rather than September 1, 1992.

243 EPTL 5-1.1(c)(1)(H).

244 EPTL 5-1.1(c)(1)(D), (F), (G), (H).

245 EPTL 5-1.1(c)(1)(I).

246 Id.

247 EPTL 5-1.1(c)(1)(H).

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1056 APPENDIX E

b. Charitable Remainder Trusts

If a decedent dies prior to September 1, 1994, and leaves the surviving spouse a lifetime interest in a charitable remainder annuity trust, defined in I.R.C. section 664(d)(1), with not less than annual payments of a sum certain of 5 percent or more of the initial fair market value of the trust property, the testamentary provision qualifies as a lifetime income interest and, thus, may offset the elective share.248 Alternatively, if the decedent leaves the spouse a lifetime interest in a charitable remainder unitrust, defined in I.R.C. section 664(d)(2), with not less than annual payments of a fixed percentage of 5 percent or more of the net fair market value of its assets valued annually, the testamentary provision likewise will qualify as a lifetime income interest and may offset the spouse’s elective share.249

The provisions of EPTL 5-1.1(c)(1)(K) became effective as of May 13, 1975. Since the rights of a surviving spouse vest upon the decedent’s death, EPTL 5-1.1(c)(1)(K) is inapplicable where the decedent died before the statute’s effective date.250

5. Absolute Right of Election and Limited Right of Withdrawal

As noted, a decedent who died prior to September 1, 1994, could have satisfied the surviving spouse’s lifetime elective share by providing for an income interest in favor of the spouse for life payable from principal assets which equal or exceed the amount of the elective share.251 How- ever, as in cases under EPTL 5-1.1(a), the surviving spouse may be entitled under EPTL 5-1.1(c) to an absolute right of election or a limited right to withdraw money from principal, even if the income interest fully satisfies the elective share. Such absolute or limited right depends on the amount of absolute dispositions, if any, made to the spouse and the size of the elective share. Moreover, the spouse’s right of withdrawal under EPTL 5-1.1(c) is $10,000 for decedents dying prior to September 1, 1992, and $50,000 for decedents dying prior to September 1, 1994 (not $2,500 as under EPTL 5-1.1(a)(1)(C)). Absolute dispositions benefiting the

248 EPTL 5-1.1(c)(1)(K).

249 Id.

250 In re Gerard, 84 Misc. 2d 213, 377 N.Y.S.2d 394 (Sur. Ct., N.Y. Co. 1975).

251 EPTL 5-1.1(c)(1)(H), (I).

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1057 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED. spouse include testamentary substitutes and the spouse’s intestate share, as well as gifts under the decedent’s will.252 a. Fully Testate Decedent

(1) Absolute Right of Election

The surviving spouse of a decedent who died fully testate before Sep- tember 1, 1992, leaving a will executed after August 31, 1966, has an absolute right of election in lieu of any benefit conferred upon the spouse by will or testamentary substitute if the elective share is $10,000 or less,253 or $50,000 or less if the decedent died after August 31, 1992, and before September 1, 1994.254 For example, assume a testator died in 1967 leaving a will executed in or after that year and was survived only by his wife. By his will, the testator left his estate in trust with income payable to his wife for her life, remainder to a friend. Assume that the net testamentary estate after deducting debts and expenses was $8,000, and that there were no testamentary substitutes or intestate assets. The spouse’s elective share, no issue having survived the testator, would be one-half of the net estate, or $4,000.

Under the will, however, the spouse has an income interest in a trust principal of $8,000—a value greater than her elective share. If there was no absolute right of election, the spouse would have to settle for the life income interest because her elective share would be totally offset by the value of testamentary assets—that is, the value of the trust corpus upon which her income interest would be earned. Without further statutory provision, the spouse could not exercise a right of election.255

As indicated above, however, where the elective share is $50,000 or less for decedents dying after August 31, 1992, and before September 1, 1994,256 the surviving spouse has an absolute right to the elective share in lieu of testamentary provisions benefiting her. In this example, she may receive the elective share outright, or she may withdraw it from the trust for her benefit.

252 EPTL 5-1.1(c)(1)(H), (2)(C).

253 EPTL 5-1.1-A(a)(5).

254 EPTL 5-1.1(c)(1)(E).

255 EPTL 5-1.1(c)(1)(H).

256 EPTL 5-1.1-A(a)(5).

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1058 APPENDIX E

(2) The Limited Right of Withdrawal

When the spouse’s elective share exceeds $10,000, or $50,000 as the case may be, and the wholly testate decedent, by will or testamentary substitute, has left the spouse a life income interest to be derived from principal assets equal in value to the full elective share, the spouse may withdraw $10,000 from the principal if the decedent died before Septem- ber 1, 1992, and $50,000 if the decedent died after August 31, 1992, but prior to September 1, 1994. The balance will remain intact in the trust.257 For example, assume a testator who died in or after 1967 but before Sep- tember 1, 1992, leaving a will executed after August 31, 1966, was survived by his wife and daughter. Assume that there were no intestate assets or transfers by testamentary substitutes. The net testamentary estate after deducting debts and expenses was $90,000. The spouse’s elective share would be one-third of the net estate, or $30,000.

Assume the testator left one-third of his estate in trust, with income therefrom to be payable to the spouse for her life, and the other two-thirds outright to his daughter. The spouse’s elective share is totally offset by the value of the trust corpus in which the testator gave her a lifetime income interest. The spouse has no right of election. The spouse may nevertheless withdraw $10,000 from the trust corpus, leaving the balance of the trust corpus ($20,000) intact.

For example, assume a testator who died in or after 1967 but before September 1, 1992, leaving a will executed after August 31, 1966, was survived by his wife and daughter. Assume that there were no intestate assets or transfers by testamentary substitutes. The net testamentary estate after deducting debts and expenses was $90,000. Assume that by his will, the testator left $5,000 outright to his spouse plus one-third of the residuary estate in trust with income payable to her for life. The testator left the other two-thirds of his residuary estate plus the remainder interest in the trust to his daughter.

The spouse’s elective share would be one-third of the net estate, or $30,000. To determine the spouse’s election rights, the elective share is offset by the aggregate of the testamentary gifts passing to her—in this case a trust principal of $28,333—plus the outright gift of $5,000. The aggregate value of testamentary provisions benefiting the spouse is, thus, $33,333, which exceeds her elective share and negates her right of election. The spouse, however, may withdraw the difference between $10,000

257 EPTL 5-1.1(c)(1)(D), 5-1.1-A(a)(5).

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1059 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED. and the testator’s outright disposition to her of $5,000 from the trust corpus. The trust corpus will thus be reduced by $5,000, and the balance will remain intact subject to the trust provisions of the will. b. Partially or Fully Intestate Decedents

Estates, Powers and Trusts Law 5-1.1(c)(2)(C) governs the rights of the surviving spouse when the decedent died before September 1, 1992 and after August 31, 1966, fully intestate, or partially intestate with a will executed after August 31, 1966, and left the spouse, by testamentary provision, a lifetime income interest. The spouse may withdraw, from the principal assets from which the income interest is to be derived, the lesser of her elective share or $10,000. The terms of the income interest, as set forth by the testamentary provision, remain otherwise effective. Before withdrawal is made, the absolute share is to be offset by any outright gifts passing to the spouse by testamentary provisions and by intestacy.

Assume that a testator died before September 1, 1992, survived by his wife and daughter. By will executed after August 31, 1966, the testator left one-third of his net testamentary estate in trust with income payable to his wife for her life. The remainder interest and the other two-thirds of the net testamentary estate were left to his daughter. Assume that the net testamentary estate was $100,000 and intestate assets were worth $50,000. The total net estate is thus worth $150,000. The spouse’s elective share is one-third thereof, or $50,000.

Under the will, the spouse is entitled to a lifetime income interest in the principal of $33,333. Her share in the intestate assets is equal to $27,000.258 Since the sum of testamentary provisions plus intestate assets benefiting the spouse exceeds her elective share, she has no right of election. The spouse’s limited right to withdraw $10,000 from the trust corpus is offset by any absolute interests passing to her by testamentary provisions or by intestacy. No absolute dispositions passed to the spouse under the will or by testamentary substitute. The spouse did, however, receive $27,000 outright as an intestate share. The $27,000 intestate share offsets the $10,000 withdrawal right totally. Accordingly, the spouse has no right of withdrawal with respect to the testamentary trust.

258 EPTL 4-1.1.

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1060 APPENDIX E

c. Effect of Right of Election on the Limited Right of Withdrawal

For decedents dying before September 1, 1992, if the spouse’s elective share equals or exceeds $10,000, the spouse may always withdraw that amount from the corpus of any life income interest benefiting the spouse, inclusive of (i.e., reduced by) any absolute testamentary provision.259 The term “absolute testamentary provision” has been interpreted to include any cash sums payable to the spouse by virtue of her election against testamentary provisions benefiting others.260

Assume that a testator who died in or after 1967 but before September 1, 1992, leaving a will executed on or after August 31, 1966, was survived by his wife and daughter. Assume that the testator left a net testamentary estate of $9,000. By his will, the testator left one-half of his net testamentary estate in trust with income payable to his spouse for her life, with the remainder to his daughter. The testator also left $40,000 in a Totten trust for his daughter and $20,000 in a Totten trust for his daughter’s children. The total net estate is the sum of all the values of the assets passing by will and by testamentary substitutes, or $69,000. The spouse’s elective share is one-third of $69,000, or $23,000.

The spouse’s elective share is to be offset by the value of the testamentary trust corpus in which the testator gave her a lifetime income interest (i.e., $4,500). The spouse thus has a right of election of $18,500 ($23,000 - $4,500) to which the daughter and grandchildren must contribute ratably.261 Since the spouse’s elective share exceeds $10,000, she has a statutory right to withdraw $10,000 from the corpus of the testamentary trust. However, the amount withdrawable has to be offset by any absolute testamentary provisions in her favor. While the testator made no absolute dispositions benefiting the spouse, the spouse will receive more than $10,000 outright from others by virtue of her right of election, to wit, $18,500. Therefore, the testamentary trust cannot be invaded.

6. Defeasible Income Interests—Codification of Prior Law

If a decedent who died after August 31, 1966, but before September 1, 1992, with a will executed after August 31, 1966, left the surviving

259 EPTL 5-1.1(c)(1)(H), 5-1.1(c)(2)(C).

260 In re Handler, 82 Misc. 2d 482, 371 N.Y.S.2d 297 (Sur. Ct., Kings Co. 1975); NYCP, 5- 1.1[9][a], p. 5-52.

261 Handler, 82 Misc. 2d 482.

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1061 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED. spouse an income interest, the spouse may elect against such interest if the testamentary provisions creating it authorize (1) invasion of the principal for another person, (2) termination of income payments before the spouse’s death by payment of principal to another person or (3) discretionary payment or application for the spouse’s benefit by the fiduciary of less than substantially all of the net income produced.262 These statutory prohibitions codify prior case law regarding “illusory” income interests. Thus, many cases dealing with wills executed before September 1, 1966, are applicable.263

When a gift of an income interest fails, the spouse may take the capital value of the corpus up to the elective share amount.264 The spouse’s election accelerates any remainder interests.

If the instrument creating an income interest contains provisions or grants powers to the fiduciary other than the foregoing which tend to diminish the income interest, the surrogate’s court has general supervisory power to issue equitable distribution to the surviving spouse.265

7. Conditional Bequest in Will

A provision in a will which places the burden upon the widow or widower to elect against the will in order to trigger a conditional bequest in trust will not be given effect, and the surviving spouse will be awarded the elective share outright.266

8. How Election Is Exercised

For decedents dying before September 1, 1992, the election must be made within six months from the date that letters testamentary or letters

262 EPTL 5-1.1(c)(1)(J).

263 In re Wittner, 301 N.Y. 461, 95 N.E.2d 798 (1950) (invasion of principal for another); In re By- rnes, 260 N.Y. 465, 184 N.E. 56 (1933) (termination of income interest prior to spouse’s death); In re Lincoln Rochester Trust Co., 274 A.D. 846, 80 N.Y.S.2d 769 (4th Dep’t 1948) (diversion of income away from spouse).

264 EPTL 5-1.1(c)(1)(J).

265 Id.; Arenson, Surviving Spouse’s Right of Election and its Application to Testamentary Substi- tutes, 20 N.Y. Law Forum 1, 20; 38 N.Y. Jur. 2d, Decedents’ Estates, § 219 (1984).

266 In re Filor, 267 A.D. 269, 45 N.Y.S.2d 376 (2d Dep’t 1943), aff’d, 293 N.Y. 699, 56 N.E.2d 585 (1944); cf. In re Arlin, 120 Misc. 2d 96, 465 N.Y.S.2d 491 (Sur. Ct., Nassau Co. 1983), aff’d, 100 A.D.2d 878, 473 N.Y.S.2d 1022 (2d Dep’t), appeal denied, 62 N.Y.2d 605 (1984).

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1062 APPENDIX E

of administration are issued.267 Before the election period expires, the surrogate’s court issuing letters may, upon application, order an extension for a further period, not to exceed six months.268

The 12-month period following issuance of letters was regarded as the true period of limitations within which an election must be made.269 Hence, in the absence of a showing of fraud upon the spouse, an application made more than 12 months after issuance of letters for relief from default would be denied.270

Under EPTL 5-1.1, a surviving spouse’s guardian ad litem has no statutory authority to file a right of election on behalf of his or her ward.271 When, however, the possibility exists that the spouse may have an election right, the guardian ad litem has the responsibility to notify those who are able to assert the election right for the spouse of the existence of the right.272 A guardian ad litem can institute a proceeding for the appointment of a committee or conservator for the ward. If, however, the guardian ad litem determines that the exercise of the right would be of no financial benefit to the spouse, and those parties with a financial interest in the spouse’s election right agree that it is not economically wise to institute such proceedings, the guardian ad litem may be relieved of any responsibility to seek the appointment of a committee or conservator to exercise the spouse’s election right.273

267 EPTL 5-1.1(e)(1). The time frame for making the election with respect to decedents dying on or after September 1, 1992, as set forth in EPTL 5-1.1-A(d)(2) is described in II.F. Note that under EPTL 5-1.1(e), there was no cutoff at two years. Therefore, if letters did not issue for years, the spouse still had six months thereafter to exercise her or his right of election. 268 EPTL 5-1.1(e)(2). See In re Pollack, N.Y.L.J., Aug. 19, 1998, p. 22, col. 5 (Sur. Ct., Bronx Co.) (granting motion to extend time to file right of election where motion filed after six months but before 12 months after letters). 269 In re Nastro, N.Y.L.J., Aug. 3, 1981, p. 15, col. 5 (Sur. Ct., Westchester Co.); In re Droskoski, N.Y.L.J., Jan. 9, 1981, p. 13, col. 6 (Sur. Ct., Suffolk Co.); In re Vogel, N.Y.L.J., Dec. 23, 1977, p. 6, col. 2 (Sur. Ct., N.Y. Co.).

270 In re Wojnowski, 136 Misc. 2d 401, 518 N.Y.S.2d 587 (Sur. Ct., Monroe Co. 1987). But see In re Davis, N.Y.L.J., June 9, 1988, p. 31, col. 3 (Sur. Ct., Suffolk Co.) (allowing an election to be made after the 12-month period where the surviving spouse was incompetent, there was no op- position by interested persons and no accounting had been made).

271 In re Fuller, 33 A.D.2d 1095, 308 N.Y.S.2d 193 (4th Dep’t 1970); In re Bailey, N.Y.L.J., Nov. 19, 1982, p. 13, col. 5 (Sur. Ct., Bronx Co.).

272 In re Conner, N.Y.L.J., Nov. 29, 1978, p. 12, col. 6 (Sur. Ct., Bronx Co.).

273 Bailey, N.Y.L.J., Nov. 19, 1982, p. 13, col. 5.

6-75

1063 PROBATE AND ADMINISTRATION OF N.Y. ESTATES—2d ED.

In In re Estate of Crane,274 a guardian ad litem appointed to represent an incompetent spouse in a probate proceeding was about to seek judicial authorization to file an election against the will, which provided a trust for the spouse, but the spouse died several days prior to the return date of the probate citation. The surrogate denied the guardian’s request to elect, on the ground that the spouse’s right of election is personal and cannot be exercised after death. The court found no precedent to the contrary and reasoned that the purpose of the statutory elective share was to avoid financial embarrassment to the spouse shortly after death, and not to enhance the value of the spouse’s estate.

274 170 Misc. 2d 97, 649 N.Y.S.2d 1006 (Sur. Ct., Erie Co. 1996).

6-76

1064 CHAPTER SEVEN

LIFETIME GIFTS AND TRUSTS FOR MINORS

Susan Porter, Esq. Magdalen Gaynor, Esq.

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1065 1066 LIFETIME GIFTS AND TRUSTS FOR MINORS § 7.0

[7.0] I. GIFTS

Donors make gifts for both tax and nontax reasons. Usually, lifetime gifts are contemplated when there is significant family wealth. A gift motivated by tax reasons is given to reduce the size of the donor’s subsequent estate. Such gifts are discussed in this first section. Nontax reasons for gifts vary from securing support of the donee to providing the donee experience in handling money. These gifts are the subject of the remaining sections in this chapter.

[7.1] A. Planning Issues

A donor who decides to undertake a gift-giving plan must decide how much total value to give. Because the donor should not transfer more property than he or she can afford to give up, the total amount to be transferred must periodically be reconsidered and adapted to changing circumstances.

A generous donor often is one who does not have vast wealth; thus, the practitioner must review the client’s gift-giving policy. The often multiple objectives of the donor’s plan will shape the donor’s selection of which assets to give.

In general, if the goal is to maximize capital appreciation for the donee, the donor will transfer high-growth (both liquid and illiquid) property. If the goal is to provide the donee with supplemental income, then cash (which can be converted into the most appropriate investment vehicle to meet the donee’s objectives) or high-income–yielding property will be an appropriate gift. The selection of gift property with a higher estate tax value than gift tax value is often desirable; life insurance is a good example of this kind of property.

Federal and state tax considerations, including basis and valuation determinations, are also factors in any donor’s gift plan. Each of these issues is addressed below.

[7.2] B. Tax Considerations

[7.3] 1. Federal Gift and Estate Tax

In general, giving assets away in life does not save taxes at death because both lifetime transfers and “death-time” transfers are subject to federal gift and estate taxes. Until 2004, the tax was determined by a unified tax rate structure that applied to federal gift and estate taxes. For all gifts made

7-3

1067 § 7.4 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION after January 1, 2004, and before January 1, 2011, the gift exemption amount was frozen at $1 million, and the top gift tax rate was scheduled to decrease incrementally through 2009 until it “bottomed out” at 35% in 2010.1 The unified rate structure continued to apply to federal estate taxes. As of January 1, 2011, the unified tax structure was revised using $5 million as the exemption for gift or estate tax. In 2013, the $5 million exclusion was made permanent and to be adjusted for inflation. The amount for 2014 is $5,340,000 and for 2015 is $5,430,000.

Under the unified tax system, the taxable amount of all gifts (i.e., the amount of gifts above the applicable annual exclusions and the marital and charitable deductions) made after 1976 is added back to the actual taxable estate for purposes of determining the estate tax to be paid.2 To determine the final estate tax, the unified rate structure is applied to the cumulative total of lifetime and death-time transfers. A tentative tax is computed under I.R.C. § 2001(c), and a credit is allowed under I.R.C. § 2505(b).3 Credit is also allowed for any gift tax payable on the gifts (at the rates in effect at the donor’s death) under I.R.C. § 2001(b).4

Gift tax paid on transfers made within three years of death will be included in the gross estate.5 This aspect of the federal gift tax, commonly called the Section 2035 gross-up rule, may affect the timing of gifts.

[7.4] 2. Generation-Skipping Transfer Tax

In addition to taxes imposed under the unified transfer tax system, the generation-skipping transfer (GST) tax6 will be imposed on all transfers to a “skip person,”7 subject to the transferor’s exemption,8 which the transferor (or executor) may allocate to lifetime and death-time transfers. Begin-

1 Economic Growth and Tax Relief Reconciliation Act of 2001, Pub. L. No. 107-16, 115 Stat. 38 (EGTRRA) (codified in scattered sections of U.S.C. tit. 26). 2 Internal Revenue Code § 2504 (I.R.C.). All I.R.C. references are to the Internal Revenue Code of 1986 as amended and the regulations thereunder.

3 See I.R.C. § 2010.

4 Chapter 2 contains an excellent discussion of how the federal estate tax is calculated, as well as the changes to the unified rate structure.

5 I.R.C. § 2035(c).

6 See I.R.C. §§ 2601–2664. The GST is calculated as a flat tax at the highest estate tax rate, which for 2015 is 40%.

7 See I.R.C. § 2613(a).

8 See I.R.C. §§ 2503, 2611.

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1068 LIFETIME GIFTS AND TRUSTS FOR MINORS § 7.5

ning in 1999, the exemption has increased annually to reflect a cost-of- living adjustment. The GST tax exemption is $5,340,000 in 2014 and $5,430,000 in 2015. New York State does not impose a New York generation skipping tax.

[7.5] 3. Local Gift Taxes

State tax considerations must also be taken into account, particularly in Connecticut, which imposes a gift tax. The gift tax annual exclusion is the same as the federal exclusion. Donors in Connecticut should consider the effect of such a tax before making gifts. New York eliminated its gift tax as of January 1, 2000.

[7.6] 4. Income Tax Considerations

Before implementing a gift-giving policy, a donor also should consider the effect of gift transfers on his or her income tax. Such potential effects include (1) the donor’s loss of income generated by the transferred property (e.g., rents, royalties, interest or dividends); (2) the compression of the income tax rate schedule for trusts under I.R.C. § 1(e), which virtually eliminates the income tax savings previously possible through income shifting; and (3) the kiddie tax, which taxes net unearned income at the parents’ marginal rate in certain circumstances.9

There are three events that trigger the kiddie tax. They are:

(1) Children under 18 whose unearned income exceeds the amount allowed by I.R.C. Section 1(g)(4)(A)(ii) and do not file joint returns.

(2) Children who are 18 whose unearned income exceeds that amount allowed by I.R.C. Section 1(g)(4)(A)(ii), do not file joint returns and have earned income that is less than one-half of the amount of his or her support.

(3) Children ages 19 through 23 whose unearned income exceeds the amount allowed by I.R.C. Section 1(g)(4)(A)(ii), do not file joint returns, have earned income that is less than one-half of the amount of his or her support and are full time students for at least five months of a year.

The net effect is you obtain the benefit of the child’s lower tax rate only for unearned income over the standard deduction amount ($1,000 in 2014

9 I.R.C. § 1(g).

7-5

1069 § 7.7 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION and $1,050 in 2015) and below the threshold amount ($2,000 in 2014 and $2,100 in 2015). All unearned income above the threshold amount is taxed at the parent’s higher rate.

Unearned income does not include salary or wages earned by the child. Such is not subject to the kiddie tax rules.

[7.7] 5. Tax Cost Basis

A property’s tax cost basis may affect when and to whom the property is transferred. For property gifted while the donor is alive, the donee of such inter vivos gift assumes the donor’s adjusted basis in the property (called the carryover basis).10 The donee’s basis is also adjusted for gift tax paid in accordance with the appreciation in the property. If the same property is transferred upon the donor’s death, however, the tax cost basis is “stepped up” to the fair market value of the asset on the date of death or the alternate valuation date (called the stepped-up basis) under I.R.C. § 1014.

PRACTICE TIPS

; The difference in basis can have significant consequences, particularly when the donee sells the gifted asset at a loss. In that situation, the donee’s basis would equal the lesser of the donor’s basis or the fair market value of the property on the date of the gift.11 Thus, practitioners typically should advise clients to retain until death any assets that have appreciated greatly and to gift other assets.

; Alternatively, because of the changes in the capital gains rate, a donor could consider gifting highly appreciated assets to younger donees (over the age of 18) who are in the lowest income tax bracket. Children who are in a lower tax bracket than that of their parents are good recipients of gifts of low-basis assets if the kiddie tax does not apply.12

10 See I.R.C. § 1015(a).

11 Id.

12 The incentive to shift income from the high-paying taxpayer to a child (or grandchild) is cur- tailed if the kiddie tax rule (I.R.C. § 1(g)) applies. Under § 1(g), the unearned income of a child under age 19, or ages 19 to 24 if a full-time student, is taxed at the parents’ rate if it exceeds twice the minimum standard deduction amount allowed to dependents ($2,000 in 2014 and $2,100 in 2015).

7-6

1070 LIFETIME GIFTS AND TRUSTS FOR MINORS § 7.8

[7.8] 6. Value of the Gift

The amount of a gift is the value of the property on the date of the gift.13 Actual market sales will be used to value stocks and bonds traded on public exchanges. Determining the fair market value of assets not publicly traded (e.g., closely held stock and partnership interests) requires application of the willing buyer/willing seller test—that is, the asset’s fair market value is the price at which the property would sell “between a willing buyer and a willing seller, neither [being] under any compulsion to buy or to sell, and both having reasonable knowledge of [all] relevant facts.”14

Blockage, minority interest and lack of marketability discounts are other determinants for valuing property.15 Thus, for example, use of the annual exclusion or the unified credit for a gift of stock that represents a minority interest in a closely held corporation will protect from transfer tax a larger number of shares transferred during life than at death if they will then be part of a control block. In addition, a discount is available for a gift of an undivided interest in real property.16

As a result of I.R.C. § 2035(d), which negates the three-year contem- plation-of-death rule for most transfers, the valuation benefit resulting from the gift of either a minority interest in a closely held corporation or an undivided interest in real property may be available even when the donor dies shortly after making the gift. Discounts must be substantiated by an appraisal or a valuation conducted by an independent entity. Values for annuities, life estates and remainder interests are determined in accordance with valuation tables prescribed by the secretary of the Treasury Department.

All gifts must be reported on the U.S. Gift Tax Return, Form 709, and the tax, if any, is payable by the due date of the donors’ federal income tax return—April 15 of the year following the calendar year in which the gifts were made (unless extended).

Because of the mechanics of the unified estate and gift taxes, the IRS could, in effect, redetermine the value of a gift upon audit of the donor’s federal estate tax return. For gifts made prior to August 6, 1997, the value

13 I.R.C. § 2512.

14 Treas. Reg. § 25.2512-1.

15 See Rev. Rul. 93-12, 1993-1 C.B. 202.

16 In LeFrak v. Comm’r, 66 T.C.M. (CCH) 1297 (1993), for example, the discount was 30%.

7-7

1071 § 7.9 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION of the gift may be adjusted at any time, even if the time within which a gift tax may be assessed has expired under I.R.C. § 6501.17 For gifts made after August 5, 1997, which are adequately disclosed on the gift tax return and for which the period for assessment of gift tax has expired, the IRS is foreclosed from adjusting the value of the gift under I.R.C. § 2504(c) (for purposes of determining gift tax liability) and § 2001(f) (for purposes of determining estate tax liability).18

[7.9] 7. Tax Avoidance/Minimization

Before making a gift, a donor will need to consider the tax implications of such a gift (unless death occurs within three years of the gift or I.R.C. §§ 2036, 2037, 2038 or 2042 applies to the gift transfer). A donor who wishes to minimize or avoid a sizable estate, gift and GST tax burden has numerous options, detailed below in §§ 7.10 through 7.19, including

• annual exclusion “tax-free” gifts,19

• spousal consent to “gift splitting,”20

• direct payments to schools and medical providers,21 and

• use of 529 plans for college tuition.

The donor also should consider how his or her estate might be reduced with regard to post-transfer increases in the value of the gift property (including income therefrom that would otherwise have been retained).

[7.10] C. Gifts That Do Not Generate Tax

Certain gifts can be made during life that are free from gift taxes, which obviously provide the client with several potentially valuable planning techniques. Each is discussed below.

17 See Treas. Reg. §§ 20.2001-1(a), 25.2504-2(a).

18 Rev. Proc. 00-34, at 186, provides guidance on what information is required under I.R.C. § 6501(c)(9) to adequately disclose a gift.

19 I.R.C. § 2503.

20 I.R.C. § 2513.

21 I.R.C. § 2503(e).

7-8

1072 LIFETIME GIFTS AND TRUSTS FOR MINORS § 7.11

[7.11] 1. Annual Exclusion Gifts

The gift tax annual exclusion, set forth in I.R.C. § 2503(b), allows a donor to exclude from his or her adjusted taxable gifts the first $10,000 ($14,000 for 2014 and 2015) of any present-interest gift made to any person during the calendar year. Thus, the excluded amount is not added back to the donor’s taxable estate for purposes of computing the estate tax. To the extent such a gift is treated as nontaxable under I.R.C. § 2642(c)(3), it will also avoid the gift tax and GST tax.

This annual $10,000 gift tax exclusion ($20,000 for split gifts, described below) is indexed for inflation22 once the cost-of-living adjustment equals or exceeds 10%.23 The first increase occurred in 2002. In 2013, the amount increased to $14,000 ($28,000 for split gifts) and remains at that amount for 2014 and 2015.

The gift tax exclusion applies only to present-interest gifts.24 An outright gift is a present-interest gift. A gift in trust has two components: an income interest and a remainder interest. The remainder interest is a future interest and does not qualify for application of the annual exclusion. The income interest portion of a gift in trust may qualify as a present interest. A component of the present-interest requirement is that the income must be payable in all events.25

A life income interest or an income interest for a term certain is a present interest, as the beneficiary has an unrestricted current right to income that is able to be determined. However, if the donor makes a gift to a trust and the trustee has discretion to distribute or to accumulate income, or the trustee has discretion to allocate income among a class of beneficiaries, the income interest is a future interest.26 Gifts of a future interest do not make use of the annual exclusion and thus reduce the donor’s unified credit. Therefore, the planner should ensure that gifts constitute a present interest for tax purposes.

22 Taxpayer Relief Act of 1997, Pub. L. No. 10534, 111 Stat. 788 (TRA) (codified as amended in scattered sections of U.S.C. tit. 26).

23 The cost-of-living adjustment uses 1997 as its base year. I.R.C. § 2503(b).

24 Treas. Reg. § 25.2503-3(a).

25 Treas. Reg. § 25.2503-3(b).

26 See Treas. Reg. § 25.2503-3(c) ex. 1, 3.

7-9

1073 § 7.12 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

If the donor is married, each spouse may use the annual exclusion. One spouse may provide all the property for the gift, provided the nondonor spouse agrees to treat the transfer as if made one-half by each spouse. This is known as a split gift.27 The election to split the gift is made on IRS Form 709 (U.S. Gift Tax Return), and the return must be timely filed.

The annual exclusion is not cumulative. If a donor transfers less than $14,000 (or $28,000 if the donor is married) to a donee in a year, the balance is lost and not carried forward to the next calendar year. For donors who can afford to make such gifts, a valuable exclusion is wasted if not fully used each year.

[7.12] 2. Education and Medical Expense Gifts

In addition to the $14,000 annual exclusion, amounts paid on behalf of a donee for tuition at an educational institution or for payment to a provider for medical care for that individual will not be treated as a gift for gift tax purposes; thus, it will not be treated as an adjusted taxable gift for estate tax purposes.28 Similarly, such direct tuition or medical expense payments will not be treated as a generation-skipping transfer when the payment is made for a “skip person.”29 The payments must be made directly to the educational institution or the provider of medical care to qualify for the exclusion.30

These gifts are valuable because they are not limited to $14,000 per donee. With regard to education gifts, however, the donor must pay tuition only. Payments for educationally related expenses such as room, board, books, travel and tutoring are not covered by the exclusion.31 The educational institution must be an organization that “normally maintains a regular faculty and curriculum and normally has a regularly enrolled body of pupils or students in attendance at the place where its educational activities are regularly carried on.”32

27 I.R.C. § 2513.

28 I.R.C. § 2503(e).

29 See I.R.C. § 2611(b)(1).

30 Treas. Reg. § 25.2503-6(b); see also Treas. Reg. § 25.2503-6(c) ex. 1–4. Under I.R.C. § 2503(e) prepayments of multiple years of the tuition are net gifts.

31 See Treas. Reg. § 25.2503-6(b)(2).

32 Id.

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1074 LIFETIME GIFTS AND TRUSTS FOR MINORS § 7.13

Medical care payments exclude medical expenses for which the donee is reimbursed by medical insurance,33 but premium payments for medical insurance on behalf of the donee are qualified payments.

Any payments made do not reduce a donor’s annual exclusion amount. They are free of any gift tax.

[7.13] 3. College Savings Plans

[7.14] a. Overview

The Small Business Job Protection Act of 199634 introduced qualified tuition programs in I.R.C. § 529. The programs are commonly known as 529 plans. Plan features are controlled by the state in which the plan is located and include local tax treatment of funds contributed and withdrawn. EGTRRA made changes to the program that make it an attractive part of estate tax savings plans for minors.

There are two types of plans.35 The first is the prepaid tuition plan. It is for a designated beneficiary. This plan, which existed before 1996, is a defined benefit plan and locks in current tuition rates at an in-state institution. The preset tuition purchased is translated into units that are then redeemable for a percentage of future tuition and fees. Not all states offer a prepaid tuition plan contract. Some states impose a redemption fee or penalty if the student uses the credits for an out-of-state or private college.

A variation on the state prepaid plan was authorized by EGTRRA. It permits private institutions of post-secondary learning to establish qualified tuition programs to compete with programs sponsored by the state. The institutions may offer only prepaid plans, not savings plans, as described below. Many colleges have agreed to sponsor such a plan. Approximately 270 private colleges are part of the consortium which operated the plan. Thus, the Independent 529 Plan is offered through the not-for-profit Tui- tion Plan Consortium LLC.36

Contributions into this type of 529 plan purchase tuition certificates that can be used at any participating college. Colleges in this plan must offer a

33 Treas. Reg. § 25.2503-6(b)(3).

34 Pub. L. No. 104-188, 110 Stat. 1755 (codified in scattered sections of U.S.C. tit. 26).

35 For more information about the different plans, visit these websites: www.savingforcollege.com, www.independent529plan.org and www.nysaves.org.

36 More information on the Independent 529 Plan is available at www.privatecollege529.com.

7-11

1075 § 7.14 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION tuition discount to the student, which can be significant because most state prepaid plans now charge a premium to lock in current tuition rates for future years. On the other hand, if the student chooses to attend a school outside the plan, the investor can get his or her money back but with a small annual return.

The second type of 529 plan is the college savings plan. It is a defined contribution plan that allows contributions to grow tax-deferred and contains an element of investment risk. This type is more popular and provides more flexibility for a beneficiary’s educational needs. One of the most attractive benefits of this type of plan is the tax treatment. Funds placed in the savings plan grow tax-free, much like those in an individual retirement account. If withdrawals are used to pay for educational expenses, they are tax-free for federal income tax purposes. Some states also exempt account earnings from state income tax. Another advantage is that the college savings plan more broadly defines educational expenses. In addition to tuition, most state plans allow funds to be used for such expenses as on-campus room and board, fees, books and supplies.37

Typically, a parent or grandparent creates a 529 account for the benefit of a child. One of the most appealing aspects of the plan is that the contributor, not the beneficiary, is the account owner and can control the distribution of assets. The plan has no age or relationship restrictions. Presently, individuals can use these plans to save for their own education.

A transfer to a savings plan for another is a completed gift for tax purposes and treated as a gift of present interest. It is not included in the donor’s estate even if the donor is the account owner—with one exception, as discussed below in § 7.16.

The contribution is counted as using the annual exclusion amount available for the designated beneficiary of the account. It is not in addition to the annual exclusion. Contributing to a savings plan does not qualify as a direct payment of an educational expense.38

Although a contribution is not tax-deductible for federal income tax purposes, many states offer an income tax deduction, credit or subtraction for a portion of the contributions. At this writing, 34 states and the District of

37 Many of the benefits of 529 plans, such as tax-free distribution for educational expenses, were included in EGTRRA. The benefits of EGTRRA were to sunset after December 31, 2010, unless Congress took action to renew the provisions. The benefits were made permanent by The Amer- ican Taxpayer Relief Act of 2012, which was passed in January 2013.

38 I.R.C. § 2503(e).

7-12

1076 LIFETIME GIFTS AND TRUSTS FOR MINORS § 7.15

Columbia offer such deductions, some of which have no limit on the amount of the annual deduction. A New York State resident can deduct up to $5,000 ($10,000 if married) on his or her New York State income tax return for contributions to the account if it is a New York plan. The benefit also extends to nonresidents who work in New York and file returns in New York.

Section 529 plans are sponsored and administered by individual states, most of which contract with and outsource to various financial institutions to administer the plan and/or handle investment management. All 50 states have their own requirements for operating the plans. The state income tax deduction is only one factor in determining where to open a plan. The other factors to consider are plan performance, administrative fees and investment strategy.

[7.15] b. Investments

Unlike a Uniform Transfers to Minors Act39 account owner, the account owner of a 529 plan has a limited ability to direct how the account is invested.40 The investments cannot be self-directed. Each state has different criteria that govern the selection and performance of various investment funds. Investment options are defined by the state that sponsors the program. The plans offer various investment strategies, from aggressive growth to an age-based strategy.

New York’s 529 College Savings Program’s program manager is Ascensus College Savings Inc. The investment manager and account service provider for its existing plan is The Vanguard Group.

There are 16 investment options: three age-based options (conserva- tive, moderate and aggressive) and 13 individual portfolios (which invest in stock funds, bond funds and a short-term reserve account, each managed by Vanguard). Information can be found on nysaves.com.

The law allows the account owner to change investment strategy within the account without penalty once during a calendar year or in conjunction with a change of designated beneficiary on the account. In addition, most states allow the account owner to roll over the account to another plan— limited to one rollover per beneficiary within a 12-month period. Such roll-

39 1996 N.Y. Laws ch. 304, codified at N.Y. Estates, Powers & Trusts Law 7-6.1–7-6.26 (EPTL); see also infra § 7.29.

40 I.R.C. § 529(b)(4).

7-13

1077 § 7.16 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION over is not treated as a nonqualified distribution.41 If a second account is rolled over that has the same beneficiary and the rollover occurs within 12 months of the first, such rollover is treated as a nonqualified distribution.

[7.16] c. Contributions

Only cash can be used to fund the account.42 The law contains a special exception that allows the donor to place more than the annual exclusion amount ($14,000 in 2014 and 2015) in one calendar year without incurring the gift tax. A person can donate up to $70,000 (or more if splitting gifts with his or her spouse) in one year to one account and prorate the contribution over a five-year period.43 The donor is treated as having made five annual gifts of the exclusion amount. This exception permits a donor to frontload the account and have it grow tax-free over a longer period of time. The election is made on Form 709 for the year in which the excess contribution is made.

If the account owner dies before the five-year period ends, the portion of the contribution allocable to calendar years beginning after the date of death is included in the gross estate. To illustrate, if a donor contributes $70,000 in year one and dies in year three, the gift amount attributable to years four and five ($28,000) will be brought back into the donor’s taxable estate.

If the donor dies before the five-year period ends and less than five years of annual exclusion is contributed in one year, the amount that should be brought back into the taxable estate is more ambiguous. Many commentators had noted that IRS Proposed Regulation 1.5295(d)(2) was unclear. Most interpreted “portion of the contribution allocable to calendar years beginning after the date of death”44 to mean 20% per year spread over five years, and not $14,000 per year. For example, if $40,000 is given in year one and the donor dies in year two, 60% of the gift ($24,000) is brought back.

41 I.R.C. § 529(c)(3)(C).

42 I.R.C. § 529(b)(2).

43 I.R.C. § 529(c)(2)(B).

44 63 Fed. Reg. 45019-01, 45032.

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1078 LIFETIME GIFTS AND TRUSTS FOR MINORS § 7.17

[7.17] d. Penalties

The donor can remain the account owner and withdraw funds for nonqualified educational expenses. If the account owner exercises the withdrawal right, he or she is subject to a federal 10% penalty on the portion that represents earnings, in addition to federal income tax. Some states impose additional penalties and include the withdrawn funds in the account owner’s taxable income.

Nonqualified distributions are federally taxed under annual rules. In general, the earnings portion of the distribution is taxed as ordinary income.

[7.18] e. Change of Beneficiaries

An account owner may change the designated beneficiary without tax consequences in certain circumstances. The new beneficiary must be a member of the family of the prior beneficiary and from the same generation as the beneficiary. If the new beneficiary does not meet these requirements, the change will have income tax consequences. Acceptable members of the family include siblings, parents, children, children of a brother or sister, aunt or uncle. The eligible beneficiaries are listed in IRS Proposed Regu- lation 1.5291(c).45

If the new beneficiary is a generation below the prior beneficiary, the prior beneficiary is deemed to have made a gift, and GST consequences can occur.

The ability to change beneficiaries offers tax-free flexibility in the event the current beneficiary does not attend college or dies. These rules also apply if the beneficiary becomes disabled and cannot pursue higher education. If the beneficiary does not need funds for college, withdrawals by the account owner that represent the earnings in the account are subject to federal (and possibly state) income tax and a federal penalty of 10%. Upon the death of the beneficiary, the account owner can close the account and receive the account balance without any penalty. The earnings will be included as ordinary income in federal income tax. Whether such earnings are considered income for state income tax purposes depends on the state.

45 63 Fed. Reg. 45019-01, 45026.

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1079 § 7.19 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

[7.19] f. Successor Owners

Designation of a successor account owner is crucial, and most plan applications request such information. Although the account is not included in the account owner’s estate for federal and state tax purposes, it may become part of the probate estate absent designation of a successor for the account. Without a designated successor, the account could pass to the residuary estate beneficiary of the deceased account owner as a successor in interest, who could then liquidate the account.

[7.20] II. TRUSTS

The donor must decide whether to make outright gifts or to create an irrevocable inter vivos trust.

[7.21] A. Why Use a Trust?

Typically, a grantor creates a trust and funds it with income-producing assets that a trustee manages. Income is payable to the beneficiary for a term of years or for life; and, at the end of the term or at the beneficiary’s death, the trust assets pass to whomever is designated in the trust (i.e., the remainderman).

Common reasons for creating an irrevocable trust include to (1) manage investments; (2) shift income (including capital gain) to beneficiaries in a lower tax bracket, thereby removing future appreciation from the grantor’s estate; (3) protect beneficiaries from creditors by using a spendthrift clause;46 and (4) keep property out of a beneficiary’s taxable estate to reduce the estate’s probate costs and death taxes.

Irrevocable trusts also give the trustee and beneficiaries flexibility to achieve objectives through discretionary clauses. Discretionary powers may be given to the trustee to sprinkle, apply or accumulate income or principal or both, either in the trustee’s sole discretion or within stated parameters in the trust instrument, such as payments for support and maintenance, education, medical expenses, comfort and welfare, and emergencies.47

Discretionary powers that may be given to the beneficiary include (1) the right to withdraw corpus, which right can be unlimited if subject

46 New York trusts are automatically spendthrift as to the income interest. See EPTL 7-1.5(a)(1).

47 Neither of the latter two provisions constitutes an ascertainable standard—a term defined in I.R.C. §§ 2041(b) and 2514(c). Consequently, a trust beneficiary can use neither reason to withdraw the trust’s corpus.

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1080 LIFETIME GIFTS AND TRUSTS FOR MINORS § 7.22

to an ascertainable standard; (2) the noncumulative right to make annual withdrawals up to the greater of $5,000 or 5% of the value of the trust assets; and (3) the power to appoint corpus during lifetime or after death.

[7.22] B. Powers of the Trustee

More than 21 administrative powers are incorporated automatically in any trust instrument governed by New York law, subject to limitations imposed by the trust instrument.48 In addition, trustees are governed by the prudent investor rule for investments, subject to the investment provisions in the trust instrument.49

The trustee could be granted certain powers that are not contained in the statutes. Other powers should be expanded, including the following:

• powers of investment to include special assets that are speculative, non–income-producing or underproductive

• power to borrow and loan

• power to improve real property and to lease real property for periods that exceed statutory limitations

• power reserved to the grantor to exercise rights over insurance policies of which the trustee is the owner

• power to allocate receipts and disbursements between income and principal, notwithstanding an inconsistent provision under state law

[7.23] C. Executing and Funding the Trust

[7.24] 1. Identify Property Being Transferred

The trust instrument should identify the property being transferred by the grantor to the trustee, either by a schedule (e.g., Schedule A) attached to the trust instrument or by a description in the granting clause. Follow- ing the execution, title to the trust property should be transferred immediately to the trustee.

48 EPTL 11-1.1(b).

49 EPTL 11-2.3.

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1081 § 7.25 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

Assets are not transferred merely “by recital of assignment, holding or receipt in the trust instrument.”50 When the sole trustee and the grantor are different persons, transfer is accomplished when the grantor has taken all actions a grantor must take to complete registration. When the grantor and trustee are the same person, the law requires a complete transfer of assets into trust registration.51

Certain kinds of property should not be transferred to the trust or should be transferred only after careful research (e.g., I.R.C. § 1244 stock and subchapter S stock).

[7.25] 2. Pourover Trust

If the trust will serve as a receptacle for property poured over by the will, the trust instrument must be executed by both the grantor and the trustee before the will is executed so that the trust is in existence when the will is signed.

If the trust will serve as a receptacle for property poured over by the will in New York, the trust instrument and all amendments must be executed and acknowledged in the manner required for the recording of a conveyance of real property. Otherwise, the trust is not eligible to receive a bequest or devise.52

[7.26] III. GIFTS TO MINORS

When making gifts to minors, one of the donor’s most important decisions involves the selection of the legal form of the transfer to effectuate gifts. Several options are available, as discussed below.

[7.27] A. Outright Gifts

When the donor gives property outright to the donee, enjoyment of the gift is immediate and complete, and the gift qualifies for the annual exclusion (unless the nature of the property itself precludes present enjoyment). The donor may transfer property outright to a minor donee,53 but there are practical drawbacks. If, for example, it becomes necessary or desirable to

50 EPTL 7-1.18.

51 Id.

52 EPTL 3-3.7.

53 Rev. Rul. 54-400, 1954-2 C.B. 319.

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1082 LIFETIME GIFTS AND TRUSTS FOR MINORS § 7.28

sell the asset, the minor’s incompetency will bar any action with respect to the property because the minor can later disaffirm contracts. The minor is unable to sign a will, so the asset will pass in intestacy and be subject to probate expenses.

PRACTICE TIP

; To avoid the difficulties noted above, outright gifts to minor donees can be made to a guardian or custodian.

In a guardianship proceeding, a court appoints an individual (who may not necessarily be the natural parent) as guardian of the minor. That person has various administrative burdens and expenses, which include close supervision by the court, limited discretion with respect to investments and a requirement that he or she make an annual accounting.

Custodianship is a statutory creation that allows adults to hold property on behalf of minors without resorting to court appointment. Until January 1, 1997, New York followed the Uniform Gifts to Minors Act (UGMA).54 As of January 1, 1997, New York adopted the Uniform Transfers to Minors Act (UTMA),55 which replaced UGMA. Forty-eight states and the Dis- trict of Columbia now have UTMA.

[7.28] 1. UGMA

The Uniform Gifts to Minors Act applies only to transfers made before January 1, 1997. The act was replaced because of the way (1) it limited the type of property that could be held in a custodial account; (2) the custodian could use such funds; and (3) such accounts automatically terminated at age 18 (unless special language used in creating the transfer made 21 the age at which the account would terminate). As of January 1, 1997, all existing UGMA accounts became UTMA accounts but retained the original UGMA age of termination.

[7.29] 2. UTMA

The circumstances under which an UTMA account can be established are much broader than under UGMA. An UTMA account allows a fiduciary to transfer property to a custodian in the absence of a will or when the will contains no authorization. It also permits a debtor of a minor to pay

54 EPTL 7-4.1–7-4.13.

55 EPTL 7-6.1–7-6.26.

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1083 § 7.29 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION funds to a custodian.56 A custodian can hold every type of property, not just those specifically enumerated in the statute (as under UGMA). The custodian is allowed to use custodial property as he or she considers advisable for the use of the minor.57 The custodian need not consider the resources of the minor or any duty or ability of anyone (including the custodian) to support the minor.

The standard of investment is included in the act. Although a custodian, unlike a trustee, is not governed by the prudent investor rule, he or she must observe the standard of care that a prudent person would use in dealing with someone else’s property. The custodian is held to a special investment skill or expertise if the custodian possesses such, or was appointed because of a representation that he or she possesses such, skill or expertise.

Because UTMA does not provide for co-custodians, only one custodian may act, and the account can have only one beneficiary. The donor should not act as custodian. A transfer to a custodian is a transfer of a present interest and a completed gift for tax purposes. However, if the donor is the custodian and dies while the custodian account is in effect, the property will be included in the donor’s estate.58 A minor’s parent should not be the custodian, as the parent’s legal obligation to support a minor donee may result in the property being included in the parent’s gross estate.

By designating an UTMA custodian for any bequest in a will, probate is simplified because the custodian, and not the minor, is the person to whom process must issue or notice must be sent. If a testator does not want UTMA to apply with regard to gifts to a minor, he or she must expressly prohibit transfer to a custodian; otherwise, EPTL 7-6.6 applies.

Under UTMA, the custodian relationship does not end until the minor reaches age 21 (unless the account is a former UGMA account with a termination age of 18 or an election is made to make 18 the age of termination). If the beneficiary dies before age 21 (or 18 if such was elected for the account), the UTMA account will be payable to the beneficiary’s estate. Because most jurisdictions have enacted UTMA, the account will not be affected if the custodian or minor relocates to another state.

56 See EPTL 7-6.6, 7-6.7.

57 The form of written instrument for various types of custodial property is provided in EPTL 7-6.9(b).

58 I.R.C. §§ 2036(a)(2) and 2038 apply because of the discretionary powers vested in the custodian.

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1084 LIFETIME GIFTS AND TRUSTS FOR MINORS § 7.30

UTMA accounts provide a simple way to hold gifts for minors and are created at minimal cost. More complexity is sometimes required if the asset is unusual, the beneficiary has special needs or the donor wants to ensure the asset is managed beyond the age of 21. In those cases, trusts are used.

[7.30] B. Trusts Created Especially for Minor Beneficiaries

There are two types of trusts created especially for minor beneficiaries under I.R.C. § 2503. One is formulated under I.R.C. § 2503(c) and the other under I.R.C. § 2503(b). These sections transform certain gifts in trust into present interests for gift tax purposes.

[7.31] 1. Section 2503(c) Trusts

The § 2503(c) trust (also called the age 21 trust) is an attractive gift- transfer vehicle. It enables the donor to transfer assets into a trust for the benefit of a minor. The transferred property can remain in the trust until the donee is 21 (even if the age of majority for state law purposes is less than 21), and the gifts to the trust may qualify for the gift tax annual exclusion.

This type of trust also can give the trustee very broad investment powers, so the trustee must be carefully selected. The donor should not serve as trustee because, given the trustee’s discretionary power to distribute income and principal, the donor/trustee would thus retain the power to control the beneficial enjoyment of the trust property.59 Consequently, the trust would have to be included in the donor’s estate if he or she died while acting as trustee. The nondonor parent also should not serve as trustee, in order to avoid a potential problem concerning the parent/trustee’s power to make distributions that would discharge the parent’s support obligation.60

Compliance with I.R.C. § 2503(c) avoids the “future interest” problem that otherwise arises in relation to gifts transferred into trusts. The three statutory requirements of such a trust are that all income and principal be

• available for distribution by the trustee to the donee,

• distributed to the donee at age 21 when the trust terminates, and

• paid to the donee’s estate or pursuant to the donee’s exercise of power of appointment if the donee dies before reaching age 21.

59 See I.R.C. §§ 2036, 2038.

60 See I.R.C. § 2041.

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1085 § 7.32 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

A donor has considerable flexibility to continue the trust beyond age 21 if he or she is concerned about the donee’s ability to manage the trust assets when the trust terminates. In Heidrich v. Commissioner,61 for example, the trust beneficiary possessed the power to terminate the trust at all times after the beneficiary’s 21st birthday, and the trust automatically terminated when the beneficiary reached age 25. The U.S. Tax Court allowed the I.R.C. § 2503(c) exclusion. (Note that the trust becomes a substantial-owner trust for income tax purposes when the beneficiary reaches age 21, and, under I.R.C. § 671, the beneficiary reports all items of income, deductions and credits with respect to the trust.)

In Revenue Ruling 74-43,62 the IRS allowed a § 2503(c) exclusion when the trust gave the beneficiary, upon reaching age 21, the continuing right to compel distributions from the trust or the right for a limited time to compel distributions from the trust by giving written notice to the trustee. In the absence of such notice, the trust continues according to the trust terms, but the trust becomes a substantial-owner trust for income tax purposes under I.R.C. § 678(a)(2).

[7.32] 2. Section 2503(b) Trusts

A § 2503(b) trust is an attractive gift-giving vehicle because the trust need not terminate when the beneficiary reaches age 21.

For the donor to qualify for the gift tax annual exclusion, the trust beneficiary must have an unqualified income interest in the trust. Payment of trust income to the beneficiary may not be restricted in any way, although a spendthrift provision in the trust document is acceptable.63 The trustee may, but need not, be given discretion to make distributions of principal to the beneficiary.

The significance of the separate income and principal interests is that the I.R.C. § 2503(b) exclusion is available only with respect to present interests. The income interest is a present interest, but the remainder interest is a future interest and, therefore, not entitled to the exclusion. For gift tax purposes, the values of the present and future interests are determined by reference to the IRS valuation tables, which provide respective percent-

61 55 T.C. 746 (1971), acq. 1974-2 C.B. 1.

62 1974-1 C.B. 285.

63 Rev. Rul. 54-344, 1954-2 C.B. 319.

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1086 LIFETIME GIFTS AND TRUSTS FOR MINORS § 7.33

ages for the income and remainder interests according to the age of the life beneficiary.64

[7.33] 3. Powers-of-Withdrawal Trusts

The Crummey trust, a variation of I.R.C. § 2503(c) and (b) trusts, is an irrevocable trust that neither mandates termination at age 21 (like a § 2503(c) trust) nor requires distributions of current income (like a § 2503(b) trust). To avoid the future-interest problem and obtain a present-interest annual exclusion, the Crummey trust agreement must give the beneficiary an unlimited power to demand the trust property (or its equivalent value), which power is immediately exercisable upon the making of the gift.65

The demand right arises only when an annual exclusion is needed (i.e., because a gift is made to the trust). The trust in Crummey involved unique provisions pertaining to a minor beneficiary for whom no guardian had been appointed. The demand power extended only to the amount of the annual transfer into the trust (and not to all the trust property). If the right was not exercised, that particular annual transfer remained in the trust, and the demand right expired at the end of the calendar year during which the transfer into the trust was made. Published and private rulings have refined the Crummey requirements and provide some guidelines as to the IRS’s position about various aspects of the Crummey demand right.

[7.34] a. Designation of Multiple Power Holders

In order to increase the number of I.R.C. § 2503 exclusions, the Crum- mey trust agreement may designate multiple power holders. If several beneficiaries are given withdrawal rights, the preferred approach is to permit each beneficiary to withdraw only his or her pro rata share of the gift amount, so no beneficiary’s interest is diminished by the exercise of a withdrawal right by the first beneficiary to withdraw.

[7.35] b. Notice Requirements

Each beneficiary/power holder must be informed of the demand right. Although the beneficiary must have actual knowledge of the withdrawal right, such notice apparently need not be written. Notwithstanding that some trust agreements require that notice be given to the power holder every time a gift is made to the trust, if the document does not so require, the

64 See I.R.S. Publications 1457 and 1458 regarding transfers before May 1, 1989.

65 Crummey v. Comm’r, 397 F.2d 82 (9th Cir. 1968), rev’g 25 T.C.M. (CCH) 772 (1966).

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1087 § 7.36 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION trustee often sends a one-time notice to let the power holder know about his or her rights, the fact that future gifts are expected and that the trustee will provide additional information if the power holder so requests.66

If a trust beneficiary waives the right to notice regarding his or her right of withdrawal as to future gifts, such gifts do not qualify for the gift tax annual exclusion.67 In a case involving an insurance trust,68 however, the IRS previously held that a single letter notice to each beneficiary describing the amount of the premiums and their due dates constituted a “continuing notice” to each beneficiary. Until the IRS clarifies its position, the prudent course is to give annual notification of additions to an insurance trust.

[7.36] c. Length of Withdrawal Period

The power holder must have a reasonable time within which to exercise the right of withdrawal. In Crummey, the beneficiary had to make the demand before the close of the calendar year. The court noted that transfers to the trust might be made close to year-end. The beneficiary had approximately two weeks in which to exercise his demand rights before they expired, and the exclusion was allowed. In another case, the gift was made on December 29, subject to a withdrawal right that would expire on Decem- ber 31.69 Neither the donor nor the trustee informed the adult beneficiary of his demand right, and the exclusion was denied.

Other IRS rulings have approved instruments specifying withdrawal periods of 30 to 90 days. What is most important is that the beneficiary has a reasonable opportunity to exercise the demand right. A late December gift can qualify, as long as the trust agreement does not require lapse of the withdrawal right at year-end.

[7.37] d. 5 & 5 Exemption on Gift Tax Treatment

The Crummey demand right may generate adverse estate and gift tax consequences for the power holder. The holder of a Crummey demand power has the absolute right (before its lapse) to withdraw an amount from the trust. Because the Crummey power can be exercised in favor of the power holder, it is a general power of appointment under I.R.C. § 2041.

66 See Moore, Tax Consequences and Uses of “Crummey” Withdrawal Powers: An Update, Univ. of Miami 22d Inst. on Est. Plan. (1988).

67 I.R.S. Priv. Ltr. Rul. 95-32-001 (Apr. 12, 1995).

68 I.R.S. Priv. Ltr. Rul. 81-21-069 (Feb. 26, 1981); see also Rev. Rul. 81-7, 1981-1 C.B. 474.

69 Rev. Rul. 81-7, 1981-1 C.B. 474.

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1088 LIFETIME GIFTS AND TRUSTS FOR MINORS § 7.37

Given that the exercise or release of a general power is deemed a transfer of property,70 any amount that is subject to such withdrawal at the time of the beneficiary’s death will be includable in the beneficiary’s gross estate for estate tax purposes. Thus, the following actions would constitute gift transfers by the power holder:

• exercising the power of appointing the property to another person (even though the power holder never actually owned the property);

• release of a general power because the taker in default of appointment is considered to have received a gift from the power holder; and

• lapse of a noncumulative general power of appointment (deemed a release of the power).71

The lapse provision may apply to a Crummey beneficiary because of the annual lapse of the demand rights and will thus constitute a gift, for gift tax purposes, from the power holder to the trust. However, such gift treatment will apply only to the extent that the total amount of all the beneficiary’s lapsing withdrawal rights during the current calendar year exceeds the greater of $5,000 or 5% of the value of the assets out of which a demand could have been made. The 5 & 5 exemption from gift tax treatment on the lapse of a general power applies whether or not the trust agreement makes any reference to 5% or $5,000.

To avoid potentially adverse gift tax consequences, the trust agreement often provides that the power holder’s withdrawal right is limited not only to the amount of the donor’s gift but also to the 5 & 5 ceiling amount each year.

EXAMPLE

A donor contributes $14,000 in 2014 (or $28,000 if married and the spouse consents to gift splitting) to a Crum- mey trust to take advantage of the I.R.C. § 2503 exclusion. The beneficiary holds a demand right over annual transfers to the trust, exercisable for 30 days after each gift to the trust. The terms of the trust agreement further limit the beneficiary’s right to withdraw to the 5 & 5 exemption, as transfers to the trust that exceed $5,000 may encounter adverse gift tax consequences upon lapse of the power.

70 I.R.C. § 2514(b).

71 I.R.C. § 2514(e).

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1089 § 7.37 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

To avoid adverse gift tax consequences associated with the lapse of demand rights, the trust agreement may grant the beneficiary a hanging power:72

(1) the demand right will lapse within any year only to the extent of the § 2514(e) 5% or $5,000 exception, and (2) to the extent that the demand right for the year exceeds the 5% or $5,000 amount, the demand right continues and will lapse within the 5% or $5,000 exception in future years.

For income tax purposes, a beneficiary possessing the power to demand property from the trust is treated as the owner of some part of the trust.73 Therefore, the beneficiary reports the ordinary income, capital gains, deductions and credits relating to that portion of the trust. Because a beneficiary typically may exercise the withdrawal right for only part of the year, the trustee reports to the beneficiary, on the date on which the withdrawal right arises, only the income and deductions relating to whatever portion the amount of the withdrawal right (e.g., $10,000) represents of the fair market value of all the trust’s corpus.74

72 See Practical Drafting, p. 77 (Oct. 1982), p. 143 (Jan. 1983), p. 187 (Apr. 1983), p. 704 (July 1985); U.S. Trust, Bank of America Private Wealth Management, Trust Provisions Manual.

73 I.R.C. § 678(a).

74 Treas. Reg. § 1.6713(a)(3), (b)(3).

7-26

1090 1091 1092 1093 1094 1095 1096 1097 1098 1099 1100 CHARITABLE GIFT PLANNING (BASICS, INCLUDING ENDOWMENTS)

MICHAEL J. COONEY, ESQ.

Nixon Peabody LLP New York City

5IJTPVUMJOFPSJHJOBMMZBQQFBSFEJOi0QFSBUJOHUIF/FX:PSL /PUGPS1SPGJU0SHBOJ[BUJPO w/:4#"$PVSTF.BUFSJBMT GBMM

1101 1102 VI. CHARITABLE GIFT PLANNING (BASICS, INCLUDING ENDOWMENTS) Michael J. Cooney, Esq. Nixon Peabody LLP 437 Madison Avenue New York, New York 10022 212-224-7343 mcooney@nixonpeabody

A. Private Foundations

A private foundation contemplates a level of on-going donor control which is potentially greater than that present in a public charity. A substantial contributor to a private foundation will often sit on its governing Board, directing both investments and grants.

As a result, Congress made charitable contributions to private foundations less advantageous from an income tax deduction perspective than similar gifts to public charities, in addition to burdening private foundations with the operational rules in Chapter 42 and Section 507 of the Internal Revenue Code of 1986 (the “Code”). For example, the time between the gift and actual deployment of assets for charitable purposes benefitting the public is likely (though not necessarily) greater with a private foundation due to the mandatory five percent payout under Code Section 4942. Given the cost to create and maintain a private foundation, advisors will often consider a restricted gift to a public charity, a donor advised fund, or public charity supporting organization to one or more public charities as an alternative to a private foundation.

Like public charities, private foundations are charitable organizations exempt under Code Section 501(c)(3). Their designation as something other than a public charity is the result of the failure to meet certain tests expressed in Code Section 509(a).

There are important distinctions between private foundations and public charities which need to be considered at the point of creation of the charity. Those differences impact operating, administrative, and financing issues. The discussion here is limited to the impact of private foundation status on the availability of the income tax charitable contribution deduction under the Code.

AGI limitations. Code Section 170 limits the deductibility of charitable contributions for income tax purposes as a percentage of adjusted gross income. The limitations for gifts to private foundations are more stringent than those for public charities. For federal income tax purposes, individuals may deduct total annual contributions of cash and capital gain property to a public charity in an amount that does not exceed 50% and 30% of the donor’s adjusted gross income, respectively. For the same gifts to a private foundation, the annual percentage limitations are 30% and 20%, respectively. The ordering of those filters to an individual donor also considers public charity gifts of cash first and moves accordingly down the waterfall to property gifts to private foundations.

1103 Charitable reduction rules. The great innovation of American charitable giving is the general ability to take a full fair market value deduction for property gifts while simultaneously avoiding taxation on the gain above the donor's basis. That benefit is largely ameliorated with appreciated property gifts to private foundations. A gift of capital gain property to a private foundation, such as appreciated real estate, must be reduced by any long-term capital gain that would have resulted if the property had been sold instead at its fair market value. The effect of that rule is generally to limit the deduction to the donor’s cost or other basis of the property, eliminating a deduction for appreciation in value during the donor’s period of ownership.

This reduction rule does not apply to gifts of cash (obviously) or qualified appreciated stock, for which a market quotation is readily available on an established securities market on the day of donation. Code Section 170(e)(5). The stock exception does not apply to the extent that the donor and family members contribute more than 10% of the value of the outstanding stock in the corporation. There are other exceptions to this charitable reduction rule (for example, the ability of a private foundation to act as a conduit by flushing out the value of property contributions to another, public charity within a period of time, Code Section 170(b)(1)(F)(ii)), the effect is to make funding of private foundations most advantageous as a matter of estate planning, and not lifetime gifting.

There is yet another disadvantage to private foundation gifting, though not involving deductibility -- loss of anonymity for the donor. With a public charity, contributor names and addresses for gifts of more than $5,000 are excluded from the Form 990 for public inspection purposes, but such donor information must be retained on Form 990-PF, Schedule B, and is publicly available.

B. Direct Gift to Public Charity

Donations to public charities yield potentially greater benefits than the same gifts to private foundations as noted above, but even these transfers are saddled with a host of limitations, from the partial interest rule under Code Section 170(f), the related use reduction rule for gifts of tangible personalty under Code Section 170(e)(1)(B), rules for contributions inventory under Code Section 170(e)(3) and Reg. § 1.170A-4A(c), and so on. For the purpose of this presentation we concern ourselves not so much with the income tax aspects of these gifts, but the ability to mimic some level of donor control or influence in the public charity setting where the donor does not exert influence directly through the charity’s governing Board.

Donor restricted funds are a simple and effective way of creating some of the limited effects of a private foundation or donor advised fund. By relying on the requirements of New York law, in particular the recently-adopted New York Prudent Management of Institutional Funds Act (or “NYPMIFA”), a donor can take advantage of the existing tax-exempt status of the donee entity and achieve a particular charitable goal. Community foundations make superb use of these restrictions in the form of field of interest and other use-restricted funds and endowments.

1104 Simple donor instructions, or even the solicitation language in a fundraising campaign, can be used to impose fiduciary obligations on a governing Board sufficient to assure the specific use of charitable funds. By accepting a gift on terms dictated by a donor, a charity obligates itself to act consistently with those donor restrictions. New York law is clear that, whether under Not-for- Profit Corporation Law (“N-PCL”) Section 513(b), Estates, Powers, and Trusts Law Section 8- 1.1, or New York’s judge-made common law, any gift received with donor restrictions must be applied in accordance with those restrictions. To do otherwise might constitute a breach of fiduciary duty of the institution’s governing Board.

In order to maximize the clarity and thus intended impact of a charitable gift, a written gift agreement is a useful tool. Interestingly, the imposition of donor restrictions on a gift does not affect the deductibility of that gift, assuming that the partial interest rules are not invoked. Thus, a donor has the ability to impose all manner of restrictions on a proposed gift without diminishing his or her tax benefit.

A comprehensive gift acceptance policy is an essential tool for the charity, helping to shape the conversation on complex gifts so that the institution and the donor are satisfied with respect to their impact on the institution for years to come. A gift acceptance policy sets forth not only the types of gifts the institution is willing and able to accept, but it also addresses issues such as donor recognition and receipting, gift substantiation, naming opportunities, and donor reporting. Charities need to consider the extent to which their gift acceptance policies are incorporated by reference into their gift agreements with donors, providing a consistent and achievable structure for donor relations with respect to the gift into the future. New York law mandates that a charity have an investment policy, N-PCL Section 552(F), but does not mandate a gift acceptance policy.

Charities are well-counseled to review and update their gift acceptance policy regularly. NYPMIFA requires that the institution, “[w]ithin a reasonable time after receiving property,” decide whether to retain gifted property or liquidate it. N-PCL Section 552(E)(5). The statute provides a greater amount of flexibility in retaining gifted assets than perhaps in the past. See, e.g., N-PCL Section 552(E)(1)(h) on an asset’s “special relationship” or “special value” to the purposes of the institution. The common provision in a gift acceptance policy requiring liquidation of gifts “as soon as practicable” now has a statutory basis, and should reflect institutional practices on gift liquidation.

There are two general categories of donor restricted gifts, which may be combined: use restrictions for a particular purpose; and endowment restrictions limiting the ability of the charity to wholly expend a charitable fund on a current basis.

Use restrictions are simple enough to conceive, but sometimes difficult to express properly. A donor can limit the use of a contribution for a particular purposes in the hands of the recipient charity. The restriction needs to be consistent with the charitable purposes of the charity and not be illegal (i.e., racially discriminatory). A fundamental issue with respect to any use restriction is whether it can be modified by the charity without court approval, and if so on what terms. See N-PCL Section 555 (Release or Modification of Restrictions on Management, Investment, or

1105 Purpose). Use restrictions are a long-accepted limit on the free exercise of fiduciary authority, so should be carefully considered.

The creation and function of an endowment fund is much more complex, given the large body of law furnishing default rules over the treatment of this type of donor-restricted fund. A deep understanding of those standards is necessary for anyone counseling a donor or charity in the establishment of an endowment fund.

Prior to the enactment of the Uniform Management of Institutional Funds Act (“UMIFA”) in New York in the 1970’s, institutions had an incentive to invest endowment for current return in order to meet the spending needs of the institution, as well as to preserve capital so as to honor the endowment restriction imposed by donors. This resulted in a heavy concentration in investments with fixed returns such as bonds, and compromised the ability of the institution and endowment fund to invest in equity and other investments which over time provided a higher total return of both current income and appreciation.

The adoption of UMIFA allowed charitable institutions to recharacterize certain gains as income currently available for expenditure. This appropriation for expenditure was accomplished by the governing Board (or a committee delegated the function) usually at a stated percentage of the total value of the fund on a given date, then averaged over the most recent 12 or 20 quarters to smooth the impact of market changes. There then developed a number of variations on this theme of total return spending and investment, which had the effect of driving higher investment returns, diversifying the portfolio, and making returns more predictable and thus more manageable.

An endowment fund could be thought of in a number of layers, where the historic dollar value (“HDV”) — that amount originally gifted as endowment by the donor—was held inviolate under the law. Newer endowment funds, which have not had an opportunity to enjoy capital growth given the recent market drop, have been allocated only limited amounts of expendable income (e.g., interests, dividends and so on) with no recharacterized capital gains to support their charitable goals. Institutions were free to contact available donors and ask for relief from this restriction, as well as to seek court relief in appropriate cases.

With the adoption of NYPMIFA, the governing Board is subject to a general standard of prudence in applying a total return spending policy to the entire endowment fund, subject to the specific standards set forth in the statute, allowing invasion of the historic dollar value. N-PCL Section 553(A).

While many charities welcomed this flexibility, governing Boards are still required to balance historic market performance and the need for current income against inflation, preservation of capital, and a number of other factors. Organizations may elect not to exercise this new ability to invade endowment corpus, or they may still decide to preserve some amount of HDV on a fund- by-fund basis, regardless of what the spending formula may otherwise allow. Donors, too, will want to consider whether they wish to restrict their endowed or other use-restricted gifts through explicit language in the gift agreement, a practice specifically contemplated by NYPMIFA. The new statute thus does not so much do away with HDV (despite the deletion of the definition from the law) as it changes the impact of that value as fiduciaries exercise their new powers.

1106 N-PCL Sections 552(A) and 552(E)(1)(a-h) require that the investment function within the institution consider a number of enumerated factors, if relevant, in managing and investing each institutional fund, consistent with any gift instrument. There is a separate but similar set of factors to be considered in the setting of an endowment spending rate. N-PCL Section 553.

As under the predecessor UMIFA statute, NYPMIFA applies retroactively to existing donor funds, thus avoiding the need for institutions to account separately for assets received before a certain date, and manage them accordingly. A donor notice provision unique to New York, however, allows an available donor to demand that provisions of prior still apply, substantially complicating the exercise of fiduciary duties. So New York institutions are faced with the prospect of having some of their existing endowment funds subject to the full total return spending formula, while other funds still must be managed subject to the prohibition against access to HDV. In every case, the internal accounting systems of the organizations will still need to reflect HDV.

N-PCL Section 513(b) requires that the governing Board cause accurate accounts to be kept of donor restricted assets separate and apart from the accounts of other assets of the institution. Unless the terms of the particular gift instrument provide otherwise, the treasurer must make an annual report to the members (if there are members) or else to the governing Board concerning the assets held and the use made of them and their income. This is not a change from prior law, but recognizes the need for accurate accounting and reporting so that the Board can meet its obligations to donors.

In order to bring a valid legal challenge with respect to the use of non-profit assets, a party must have legal “standing.” The general rule in New York State to this point in time is that donors, absent a specific agreement to the contrary or special circumstances, do not have legal standing to bring a lawsuit against a charity. Compare Smithers v. St. Luke’s Roosevelt Hosp. Ctr., 281 A.D.2d 127 (1st Dep’t 2001) (where a New York court granted standing to a spouse, who had been named the special administratrix of her husband’s estate, to enforce the intent of her husband’s donation to a hospital) with Rettek v. Ellis Hospital, 2010 U.S. App. LEXIS 1863 (2d Cir. 2010) (denying standing). Despite this long-held norm in the State, there are several circumstances under NYPMIFA where donor notice is required. And although the statute does not explicitly provide for donor standing in such cases, it is clear that the consent of the donor will be an important element in securing the relief the organization seeks.

Even the solicitation of endowment funds must be considered. Executive Law Article 7-A deals generally with charitable solicitations in the state. It has a registration and annual reporting regime, as well as mandates on charitable solicitations so that the programs and activities supported are clearly described. Religious institutions are exempt from its coverage generally and educational institutions are also excepted from certain registration requirements. Executive Law Sections 172-a(1) and 172-a(2)(g).

The statute has been amended at Section 174-b(2) to require that any endowment solicitation by an institution subject to NYPMIFA include a statement making prospective donors aware that, unless otherwise restricted, the organization may expend so much of an endowment fund as it deems prudent, consistent with the requirements of NYPMIFA. The language of the required

1107 disclosure is somewhat tortured, and has a high probability for confusion within the donor community, so charities need to review with counsel how best to make the required disclosure.

Remember that in addition to the reporting on restricted funds which accompanies the new Form 990, N-PCL Section 513(b) requires that governing Boards cause accurate accounts to be kept of donor restricted assets separate and apart from the accounts of other assets of the institution. Unless the terms of the particular gift instrument provide otherwise, the treasurer must make an annual report to the members (if there are members) or else to the governing Board concerning the assets held and the use made of them and their income.

C. Donor Advised Funds

Donor advised funds (or "DAFs") were not even legally defined prior to the Pension Protection Act of 2006, yet the device had been a staple of community foundation activities for more than half a century. The most practical definition of a DAF is that it is a donor's privilege (not a legal right) to be heard (or ignored) by the public charity gift recipient, enforced by the prospects of future gifts (in the case of the instant donor) or continued standing as "donor-friendly" in the local community (in the case of future donors).

DAFs are similar to donor-restricted gifts to public charities generally with two major differences: a DAF is not a legal enforceable gift restriction binding the public charity's governing Board like a donor-restricted gift; but the ability of the donor (or designee) to influence the charitable use of the gift in the hands of the recipient charity is on-going and not static from the time of gifting.

DAFs are defined under Code Section 4966(d)(2)(A) as a fund or account:

x which is separately identified through reference to the contributions of a donor or donors (by including donor names in the fund name or by tracking contributions from specific donors in the organization's financial records); x which is owned and controlled by a sponsoring organization; and x in which a donor or person appointed by the donor has or reasonably expects to have advisory rights with respect to investments or distributions.

Excluded from the definition under Code Section 4966(d)(2)(B) and (C) are funds or accounts:

x which make distributions to only one identified organization or governmental entity; x which makes travel, study, or similar grants to individuals if: o the donor’s advisory privileges are performed exclusively by such person in his or her capacity as a member of a committee, all of the members of which are appointed by the sponsoring organization; o the committee of advisors is not controlled by the donor or persons appointed by the donor; and o an objective and nondiscriminatory process approved in advance by the sponsoring organization's governing board and which meets the requirements for similar grants by private foundations is used to award grants from the fund; and

1108 x which are exempted by the Secretary of the Treasury provided the fund is either: o advised by a committee not controlled by the donor, or o benefits a single charitable purpose.

The deductibility rules with respect to a gift to a DAF within the public charity and to the public charity for its general purposes are the same. There is no diminution in the deductibility of the gift by the creation of the donor advisory function. (For example, a DAF is not a partial interest gift, compromising deductibility.) Instead, the limits applicable to DAFs arise after the gift is made and pertain to DAF operations. In many (but not all) ways, these approximate the restrictions on private foundations. In some respects, they are more restrictive than those imposed on private foundation, in part because of the absence of regulatory exceptions like those available to private foundations.

Taxable Distributions. Just as private foundations are limited in their grant making under Code Sections 4942 and 4945, DAFs are now subject to taxable distribution rules under Code Section 4966(c). A DAF distribution to an individual or to any entity if for other than a charitable purpose will subject the sponsoring organization of the DAF to a penalty excise tax equal to 20% of the amount of the offending distribution and an excise tax of 5% on any sponsor manager who knowingly approved the distribution (up to a limit of $10,000 for any single taxable distribution). The following grants are allowed for DAFs: x Grants to any organization described in Code Section 170(b)(1)(A) (other than certain supporting organizations under Code Section 509(a)(3)); x Grants to organizations not described in Code Section 170(b)(1)(A) if expenditure responsibility is exercised; x Grants to the sponsoring organization; x Grants to other DAFs; and x International grants (using either equivalence determinations or expenditure responsibility).

A DAF must exercise expenditure responsibility, consistent with that for private foundations under Code Section 4945, for: x Grants to private, nonoperating foundations (grants to a private foundation established by the donor or his family remain should still be avoided). x Grants to Type III SOs (except for those that are “functionally integrated”) and grants to Type I or II SOs if the donor or advisor controls a supported organization or the Secretary determines by rule that a distribution is inappropriate. x Grants to organizations not described in Code Section 170(b)(1)(A).

Prohibited Benefits. Grants, loans, compensation and similar payments from DAFs to donors, advisors and related parties are subject to automatic excess benefit penalties under Code Section 4958(f)(7) equal to 25% of the amount involved. Additionally, the amount involved must be repaid, and not be held in any DAF. That section interplays with Code Section 4967(b) and the prohibition against more than incidental benefits from a DAF grantee organization to a donor, donor advisor or related parties, subject to penalties equal to 125% of the amount of the benefit, imposed on the person who recommended the grant and the person who received the benefit.

1109 The standard for “greater than incidental benefit” is whether a Code Section 170 deduction would be reduced or eliminated; quid pro quo payments out of DAFS are banned. Sponsor managers who approve any such grant are subject to a 10% penalty if they knew the distribution would result in the benefit. Repayment is not to the charity but to the government. Again, this penalty will not apply if the Code Section 4958 penalty applies to the same transaction. The excess business holdings rule of Code Section 4943 also applies to a DAF.

Form 990 requires specific disclosures on DAFs by sponsoring organizations, including the total number of donor advised funds, the aggregate assets held by donor advised funds, the aggregate contributions to donor advised funds, and the aggregate distributions by donor advised funds.

D. Charitable Lead and Remainder Trusts

Charitable Lead Trusts. We address charitable lead trusts (or “CLTs”) only in a limited way here, given the narrow (though important) scope of their potential use and the complexity in employing the device.

CLTs are taxable trusts which generally zero out their annual income through the use of charitable contribution deductions connected to an annuity payment (a charitable lead annuity trust or CLAT) or unitrust payments (accordingly, a CLUT). A CLT provides income payments to at least one qualified charitable organization for a period measured by a fixed term of years, the lives of one or more individuals, or a combination of the two. At the expiration of the charitable interest, the trust assets are paid to one or more noncharitable beneficiaries named in the trust instrument. CLTs are often described as the mirrored version of a charitable remainder trust, owing mostly to the ordering of the distributions from the trust and eventual remainder. The rules governing each are very different, however.

The primary benefit of the CLT is to shelter appreciation on assets transferred into the trust, so that they can grow in value during the trust term. This is only accomplished if the increase in value is not attributed to the trust grantor, although a CLT can be structured as a grantor trust with the income earned by the trust taxable to the grantor. In that case, the grantor takes an immediate charitable contribution deduction for the income interest, subject to applicable percentage limitations depending on whether a public charity or a private foundation is the beneficiary. Of course, in that case the income of the trust is taxable to the grantor during the term with no offsetting charitable deductions during the life of the CLT.

Charitable Remainder Trusts. With some specific exceptions, gifts of partial interests in property are not sufficient to sustain an income tax charitable contribution deduction. An important exception to the partial interest rule is the charitable remainder trust.

A charitable remainder trust (or “CRT”) is a trust that provides for a specified distribution, at least annually, to at least one non-charitable income recipient for a specified time, with the remainder paid to at least one charitable beneficiary on extinguishment of the non-charitable income interest. The device is complex, and generally should not be attempted without the assistance of qualified counsel as the failure to meet all the requirements may cause the loss of

1110 the creator's income tax deduction, will cause all transactions within the trust to be taxable, and may also subject the transfer to charity to gift tax.

In order for a trust to qualify as a CRT it must meet all of the requirements set forth in Code Section 664 and the applicable regulations. The IRS no longer issues private letter rulings on the vast majority of CRTs, relying instead on the promulgation of standard form agreements. Those forms do not, however, contain all the provisions one might normally expect to see in a CRT, so some modification is often desirable.

Although a CRT is exempt from income tax, it is subject to a 100% excise tax on unrelated business taxable income (“UBTI”) within the meaning of Code Section 512.

Just as with a direct gift to charity, one of the fundamental concepts of the CRT is to trigger what would otherwise be taxable gain inside a tax-exempt vehicle. The CRT assumes the donor's adjusted cost basis and holding period in transferred property under Code Section 1015 and 664(c). The focus, then, is to fund with highly appreciated, low yield assets in order to liquidate on a tax-preferred basis and then invest on higher yielding assets. There is a tiered payment scheme to the income beneficiary, so that tax is not entirely avoidable.

CRTs come in two and only two formats; you cannot combine the features of both and still comply with the CRT requirements. Reg. §1.664-2. Those forms are the charitable remainder annuity trust (or “CRAT”) and the charitable remainder unitrust (or “CRUT”). The main (but not sole) distinction between the two is the way in which income distributions are determined. (Be sure to distinguish a charitable gift annuity, which is an insurance product, from a CRAT.)

With a CRAT, an amount (not less than 5% of the initial fair market value of all property placed in trust) must be paid at least annually to one or more non-charitable persons for either a term of years (not in excess of twenty) or for the life or lives of the individual income beneficiaries.

The annuity amount is either a fixed percentage of the initial funding value or a fixed sum. So a defining characteristic of a CRAT is that it continues to pay the annuity (without regard to the trust's market value) until the trust terminates or its assets are exhausted. As the annual payout cannot be varied, the rules prohibit additional contributions to the CRAT. Reg. §1.664-2(b).

By contrast, a CRUT makes payments of a fixed percentage (though not less than 5%) of the net fair market value of its assets. One or multiple valuation dates are possible, though the valuation date(s) and methods must be consistent year to year. Reg. §1.664-3(a)(1)(iv). Because the payout is figured on the changing value of the trust assets, additional contributions are possible, with an adjusted to reflect the additional contribution. Reg. §1.664-3(b).

The computation of that CRUT payout may be expressed as a stated percentage of the annual value of the trust assets (whether income and gain, or corpus), but could also be computed as a net income alternative, which would require the trustee to pay the lesser of the standard unitrust amount or trust income. Code Section 643(b). The concept is to protect corpus in those years in which trust income is insufficient to satisfy the standard unitrust amount.

1111 If a net income approach is adopted, it is often combined with a provision to make-up past deficiencies from prior years by paying out excess income earned currently. Reg. §1.664- 3(a)(1)(i)(b)(2). The concept is referred to as a “NIMCRUT.” This net income with make-up CRUT is a common device to address the problem of funding with a non-income producing asset especially when combined with a “flip” feature.

In the case of a flip-CRUT, the governing instrument provides that the CRUT converts once from one of the income exception methods to the fixed percentage method for calculating the unitrust amount if the date or event triggering the conversion is outside the control of the trustee or any other persons. Permissible triggering events with include marriage, divorce, death, or birth of a child. Importantly, the sale of an unmarketable asset such as real estate is a permissible triggering event.

In order to assure an eventual charitable payout, CRTs are subject to two important requirements. First, CRTs are subject to a maximum payout rate of 50%. This requirement was imposed in order to prohibit the use of accelerated CRUT described in Notice 94-78, 1994-2 C.B. 555 (with a payout rate of 80% and a measuring term of two years).

Second, in addition to the limit on the payout rate, the present value of the charitable remainder interest must be at least 10% of the net fair market value of the property transferred into the trust on the date of transfer. A CRT which satisfies the 10% test does not fail to qualify if the present value of the remainder interest subsequently falls below the minimum original qualifying amount.

In addition, CRATs based on a measuring life or lives (as opposed to a term of years) are subject to the 5% probability test. Under this test, the income, estate or gift tax charitable deduction is disallowed if there is a greater than 5% probability that the noncharitable beneficiaries will survive the exhaustion of the trust principal in which the charity has a remainder interest.

CRTs provide many different options and planning opportunities. For example, it is even possible to distribute trust principal or excess income to the charitable remainderman prior to the extinguishment of the personal interest in the trust. Rev. Rul. 86-60, 1986-1 C.B. 302. But there are many challenges as well, particularly if the charity acts as trustee.

E. Loans to Charity

Loans to charity, while certainly helpful as cash flow support, do not offer an income tax charitable contribution deduction. The use of money is not a deductible benefit. This is the case even where the loan is interest-free; the donor would have otherwise taken the interest payments into account as income and deducted them as payments out to charity.

On the other hand, the forgiveness of a loan can be an event which results in an income tax charitable contribution deduction. There is a small but growing practice of directors or other control persons making loans to a charity and then forgiving payments amounts as they otherwise become due. This practice is described in PLR 8939014. (But remember that only the taxpayer who requested a private letter ruling may rely upon it for its precedential effect under Code Section 6110(k)(3).) Practitioners are reminded that financial transactions between

1112 or among charities and their fiduciaries are ones which require a special level of attention with respect to conflicts of interest.

Finally, on a related note, recall that except in narrow circumstances it is prohibited in New York for a nonprofit to make a loan to a director, officer, or entity controlled by them (or where they also serve as fiduciaries. This prohibition under N-PCL Section 716 is not applicable to education corporations by virtue of the knock-out provisions of Ed. Law Section 216-a.

F. Lifetime gifting vs. Testamentary gifting

A Wills program has been and likely will always remain the most widely-used planned giving program. The obvious benefit of lifetime giving is that the donor gets to see his or her contribution at work, even participating in its direction under devices such as the DAF. Nonetheless, testamentary giving affords certain benefits over lifetime giving. Code Section 2055 deals with the general rules for the estate tax charitable contribution deduction (Code Section 2522 does the same for the gift tax). With limited exceptions, the same contribution/bequest does not yield both an income and estate tax charitable contribution deduction. See Crestar Bank v. IRS, 47 F. Supp.2d 670 (E. D. Va. 1999).

The limitations on the percentage of the amount deductible expressed as a function of adjusted gross income only affects lifetime gifts. This is not so with the estate income tax charitable deduction, which does not burden bequests either with the charitable reduction rule (limiting the charitable income tax deduction to cost basis with respect to ordinary income property).

Estates are afforded a deduction for amounts permanently set aside for charitable purposes. Individuals (and generally trusts) receive a deduction only for amounts actually paid to charities.

Individuals are permitted a charitable deduction only for donations to U.S. charities, while estates also can take deductions for donations to foreign charitable organizations. For estate tax purposes, even foreign governments may qualify for the charitable tax deduction, if the bequest is used exclusively for charitable purposes. This is often solved with the interposition of a US “friends of” organization.

For purposes of the estate tax deduction, the recipient charity need not have been formed at the time of the decedent's death. It is not uncommon to create the recipient (often a private foundation) in the Will.

The partial interest rules apply differently under the income tax and gift tax regimes. The income tax charitable deduction turns upon the retention of a "partial interest," while the gift tax rules look to the cessation of "dominion and control." Reg. § 25.2511-2.

And perhaps most practically, the estate tax charitable deduction is not burdened by the cumbersome IRS substantiation requirements for the income tax deduction. See Reg. § 1.170A- 13(a) (for cash contributions), Reg. § 1.170A-13(b) (for noncash contributions), and Code Section 170(f)(8)(a) requiring a contemporaneous written acknowledgement from the donee organization.

14668087.3

1113 1114 CHARITABLE GIFTS OF ALTERNATIVE ASSETS – TAX AND PRACTICAL CONSIDERATIONS FOR DONORS AND DONEES

JASMINE M. CAMPIRIDES, ESQ.

Steptoe & Johnson LLP New York City

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1115

1116 Charitable Gifts of Alternative Assets – Tax and Practical Considerations for Donors and Donees

By Jasmine M. Campirides

This outline originally appeared in “Operating the New York Not-for- Profit Organization,” NYSBA Course Materials, fall 2013.

OUTLINE

I. LLCs & Partnerships......

II. Closely Held C-Corp Stock ......

III. S-Corp Stock ......

IV. Restricted Securities......

V. Stock Options ......

VI. Retirement Accounts......

A. Lifetime Gifts of IRA Assets: ......

B. Testamentary Gifts of Retirement Assets: ......

VII. Real Estate ......

VIII. Tangible Property......

IX. Intellectual Property......

1117 Charitable Gifts of Alternative Assets – Tax and Practical Considerations for Donors and Donees

By Jasmine M. Campirides

With fewer individuals owning highly appreciated marketable securities and excess cash, more consideration has been given to contributing assets other than publicly traded securities and cash to charities. Prior to making such gifts, donors should consider deductibility limits for income and gift tax purposes, the need for appraisals, the practicality of making partial interest gifts and the reality of parting with real and tangible assets and whether the donee will want the asset intended for donation at all. As a preliminary point, the general rules regarding the tax consequences of charitable contributions by individuals should be noted. Donors get a triple benefit when contributing appreciated property to charity – a gift or estate tax deduction, an income tax deduction and the avoidance of taxable gain had the property been sold.

While the gift and estate tax charitable deduction is generally equal to the fair market value of the property at the time the gift is completed (other than in the case of certain gifts of partial interests which are discussed below), is unlimited and does not require that the donee be a U.S. charity,1 the income tax charitable deduction is more complicated. The income tax charitable deduction requires that the taxpayer itemize his deductions on his income tax return2 and generally requires that the gift be made to a U.S. charity3. For any one tax year the deduction is limited to a percentage of the individual taxpayer’s adjusted gross income.4 The percentage limitation is determined by two factors – the type of organization receiving the donation and the type of property donated.5

With respect to the type of organization receiving the gift, generally a gift to a public charity affords the donor the greatest income tax deduction.6 The income tax deduction is generally equal to (a) the full fair market value of the property limited to 30% of the donor’s adjusted gross income or (b) fair market value less unrealized long-term capital gain limited to 50% of the donor’s adjusted gross income (AGI).7 Income tax deductions for donations to a private foundation are less advantageous. While deductions for cash donations are limited to 30% of AGI, deductions for gifts of long term capital gain property (with the exception of certain

1 IRC §2055; Treas. Reg. §20.2055-1. 2 See Schedule A of Form 1040 and IRC §68. 3 IRC §170(c)(2)(A) 4 IRC §170(b)(1(G); Treas. Reg. §1.170A-8(a). 5 IRC §170(b)(1). 6 While this article focuses on gifts to public charities and private non-operating foundations, numerous other charitable giving options exist including gifts to donor advised funds, private operating foundations, supporting organizations and split-interest trusts. 7 IRC §170(b)(1)(C).

1118 publicly traded stocks) are limited to the donor’s cost basis and 20% of the donor’s AGI.8 Deductions are available for the full fair market value of certain publicly traded stocks but these deductions are also limited to 20% of the donor’s AGI.9

The type of property donated is an important consideration as it affects both the income tax deduction limitation and whether a charity will accept the asset at all. The following highlights some of the income and transfer tax consequences as well as certain non-tax considerations for both donors and charitable donees presented by gifts of various non-cash assets.

I. LLCs & Partnerships

Donors may deduct the fair market value of LLC and partnership interests contributed to public charities reduced by the amount of any gain that would not be treated as long-term capital gain if the donor had sold the property instead.10 The donor’s deduction may be further reduced by the donor’s proportionate share of the liabilities of the partnership as a result of deemed bargain sale rules which may result in the recognition of capital gain by the donor.11

If a donor has suspended passive activity losses from a partnership, he may be better off selling his partnership interest and donating the net proceeds to charity. This is because the donor will then be able to take the passive activity loss as a deduction on his personal return and get a charitable deduction for the donated proceeds. Otherwise, the passive activity losses are simply added to the donor’s basis and may effectively be useless to the donor. Depending on the liabilities of the partnership and the donor’s unrealized gain, selling the partnership interest first may produce a better tax result to the donor.

The donor must give the charity an undivided portion of his entire interest in the entity including a pro rata share of all attributes of the interest such as capital, allocation of income, and expense and distributions.12

The admission of a new partner is generally governed by the partnership agreement or the operating agreement and thus may require consent of the other partners or compliance with other provisions mandated by the governing instrument.

A charity may be unwilling to accept a contribution of an LLC or partnership interest if it will produce unrelated business taxable income (UBTI) to the charity without assurance that the charity will receive sufficient cash from the interest to cover the resulting UBTI tax.13

8 IRC §170(b)(1)(D). 9 IRC §170(e)(5). 10 IRC §170(e); Treas. Reg. §§1.170A-1(c) and 1.170A-4. 11 Treas. Reg. §1.1001-2(a)(4)(v); Rev. Rul. 75-194, 1975-1 C.B. 80; See also, Goodman v. U.S., 2000-1 U.S.T.C. ¶50,162 (S.D. Fla. 1999). 12 Treas. Reg. §1.170A-7(a)(2).

1119 Contributions of partnership interests in excess of $5,000 will require a qualified appraisal.14

II. Closely Held C-Corp Stock

Donors may deduct the fair market value of closely held C-corp stock held for more than one year donated to a public charity.

If the charity does not really want to own illiquid securities or the other owners do not want an outsider involved in the business, the shares may later be redeemed by the corporation. However, the contribution and the redemption must not have been prearranged. Otherwise, the contribution will be treated as a sale of the stock by the donor and a subsequent contribution of the proceeds, which means the donor will realize and pay tax on the gain. Gifts of closely held shares to charity are especially useful if the business is being sold or merged so that the gain is passed on to the charity. However, again, these gifts should be made before any formal decisions are made by the shareholders regarding the sale or merger.

The IRS requires a qualified appraisal for donations of closely held stock in excess of $10,000.15

Deductions for donations of closely held stock to private foundations are limited to the donor’s basis in the shares and such gifts may trigger the excess business holding rules applicable to private foundations, making them less desirable than gifts to public charities for both the donor and donee.

III. S-Corp Stock

The income tax deduction for gifts of S-corp stock to a public charity is equal to fair market value reduced by the shareholder’s share of the ordinary income that the donor would have recognized had the assets of the S-corp been sold (ie gain on sale of appreciated inventory, unrealized receivables, and depreciation recapture).16

If a gift of the stock is made, all items of income and gain passed through to the charity during the period it holds S-corp stock will constitute UBTI to the charity.17 Furthermore,

13 Unlike S-corp stock, only the portion of income attributable to a partnership or LLC's unrelated commercial activities is subject to UBTI tax, not income from passive investments such as interest, dividends and capital gains. See IRC §512 (c) and Treas. Reg. §1.512(c)-1. 14 IRC §170(f)(11)(C); Treas. Reg. §1.170A-13(c). 15 Treas. Reg. §1.170A-13(c)(2). 16 IRC §170(e)(1). 17 IRC §512(e)(1).

1120 any gain recognized by the charity on the sale of the S-corp stock will also be taxable as UBTI.18 Charities may therefore be unwilling to accept gifts of S-corp stock. Donors considering making gifts of S-corp stock should consider instead having the S-corp itself make a donation of its own assets to charity. Gifts by the S-corp of its own assets do not present these same UBTI issues for the charity.

The excess business holding rules applicable to private foundations generally require private foundations to dispose of S-corp stock within five years of receipt.19 The self-dealing rules and excess benefit rules applicable to private foundations and public charities may also make receipt of S-corp stock by charitable donees less desirable.

IV. Restricted Securities

Restricted securities may be donated to charity but the charity will be subject to the restrictions. Such restrictions will affect the fair market value of the securities and whether the securities will be treated as qualified appreciated stock for purposes of a contribution to a private foundation.20

Charities should weigh restrictions on transfer against the anticipated net benefit of receiving the property.

The IRS requires a qualified appraisal for gifts of restricted securities in excess of $10,000.21

V. Stock Options

Donors may only make testamentary gifts of incentive stock options22 and only if the option plan allows for such gifts. If the donor wants to make a lifetime gift of the options, the donor would have to exercise the options and then, after a requisite holding period, donate the shares. To get a fair market value deduction for the shares and avoid income and capital gain recognition, the shares must first be held for at least two years from the date the option was granted and one year from the date the option was exercised.23

Nonqualified stock options, on the other hand, may be donated during the donor’s lifetime if the option plan permits. However, when the options are exercised by the charity, the donor

18 IRC §512(e)(1)(B)(ii). 19 IRC §4943(c)(7). 20 P.L.R. 9247018. 21 Treas. Reg. §1.170A-13(c)(2). 22 IRC §422(b)(5). 23 IRC §422(a)(1).

1121 must recognize the income at that time.24 This means the donor may not know exactly how much income he will recognize and because these types of options don’t generally have an ascertainable value at the date of grant, the donor may also not know the value of the charitable deduction. So again, it may be better for the donor to first exercise the options and then donate the shares.

VI. Retirement Accounts

A. Lifetime Gifts of IRA Assets:

The Pension Protection Act of 200625 gave taxpayers the ability to make direct contributions of IRA assets to a qualified charitable organization. Donors over the age of 70 ½ could contribute up to $100,000 directly from an IRA to a charitable organization. While the donor did not get a charitable deduction for the contribution, the donor avoided ordinary income taxes on the funds.26 For the tax benefit to apply the IRA assets must have been transferred to a qualified charity which does not include most private foundations (other than those meeting the conduit rules) nor donor advised funds. The initial provisions expired on December 31, 2007 and were extended several times after that. However, they were allowed to expire again on December 31, 2014 and have not yet been renewed for gifts after such date.

B. Testamentary Gifts of Retirement Assets:

Individuals seeking to make testamentary charitable gifts with considerable retirements assets should consider leaving such assets to charity. Upon death, both income and transfer taxes are assessed against assets remaining in retirement accounts. By leaving such assets to charity, both are avoided. Testators can save up to $0.80 on the dollar by specifically leaving retirement assets to charity and leaving other appreciated assets to noncharitable beneficiaries.

VII. Real Estate

Donors may receive an income tax deduction for contributed long term capital gain real property equal to fair market value. However, depreciation recapture rules may reduce the deduction if the donated property was depreciated using an accelerated depreciation method.27

Donors who want to spread out the tax deduction may make gifts of undivided fractional interests in real property over multiple years.28 By doing so, donors may get the benefit of

24 Treas. Reg. §§1.83-1(c) and 1.83-7 25 P.L. 109-280. 26 IRC §408(d)(8). 27 IRC §170(e)(1); Treas. Reg. §1.170A-4(b)(4). 28 Treas. Reg. §1.170A-7(a)(2).

1122 any appreciation in the property during the period over which the fractional gifts are made. Fractional interests gifts however should be accompanied by a specific agreement between the donor and donee regarding the complexities of co-ownership.29 Charities will often require that the donor agree to donate the remainder of the donor's interest in the property at death. Gifts of fractional interests in real property to the donor's private foundation are not practical because of self-dealing rules.

Charities may be unwilling or hesitant to accept gifts of real property for a variety of reasons, including management and carrying costs, environmental and other statutory liabilities, lack of liquidity and marketability, and ability to produce income.

A qualified written appraisal is required substantiating the value of contributed real property in excess of $5,000.30

VIII. Tangible Property

Donors may deduct the fair market value of long-term capital gain tangible property contributed to public charities or operating foundations if the charity will use the property in a manner consistent with its charitable purposes.31 If the charity will simply sell the contributed property, the donor's deduction will be limited to the lesser of the donor's basis and fair market value.

Works of art or patents created by the donor or received by the donor as a gift from the creator are considered ordinary income property and therefore subject to lower deductibility limits.32

Tangible property sold within three years of the contribution is subject to deduction recapture by the donor.33

Fractional interests gifts of tangible property may be made. However, the property must be owned solely by the donor or by the donor and the charity.34 If there are other owners, all owners must make a proportional contribution to the charity. The charity must also have the right to possess the property for an amount of time equal to its pro rata ownership share.

If a gift of a fractional interest in tangible property is made to a charity in one year and the use of the property by the charity is related to such charity's exempt purposes, the taxpayer

29 Treas. Reg. §1.170A-7(b)(1)(i). 30 IRC §170(f)(11)(C); Treas. Reg. §1.170A-13(c). 31 IRC §170(e)(1)(B)(i). 32 IRC §170(e); Treas. Reg. §1.170A-4(b)(1). 33 IRC §170(e(7). 34 IRC §170(o).

1123 may take a deduction for the fair market value of the contribution. However, the deductible value of any fractional gifts of the same tangible property made in future years will also be determined as of the date of the initial year contribution if the value on that date is lower than the fair market value on the date of subsequent contributions.35 This effectively prevents the donor from realizing a charitable deduction on the appreciation in the value of the property upon subsequent fractional gifts and may result in the imposition of a gift or estate tax upon subsequent contributions. Furthermore, 100% of the property must be received by the charity within the earlier of 10 years or the donor taxpayer's death. Otherwise, the donor will be subject to recapture of the income and gift tax charitable deductions (with interest) and to a 10% recapture penalty.36

Donors of art who own both the physical work and the copyright must donate a proportionate interest in both in order to receive an income tax deduction37 or, in the case of a gift to a charity for an unrelated use, a gift or estate tax deduction38.

Donations of tangible property in excess of $5,000 require a qualified written appraisal.39 If the donor is seeking a deduction for art valued at $20,000 or more, the donor may be required to submit along with the appraisal an 8x10 color photo, a color transparency or (as more recently offered by the IRS) a high resolution digital photograph.40

IX. Intellectual Property

Initial deductions for gifts of patents or other intellectual property (including certain copyrights, trademarks, trade names, trade secrets, know-how, certain software, etc.) are limited to the lesser of the donor's basis in the property and the fair market value.41

Additional deductions may be available in subsequent years based on the income, if any, from donated intellectual property.42 A certain amount of record-keeping and reporting is required of the charity which may be burdensome for smaller entities.

Taxpayers wishing to assign royalties must assign both the royalties and the source of the royalties to the charity. Otherwise the royalties will be includible in the donor's taxable

35 IRC §170(o)(4). 36 IRC §170(o)(3). 37 Treas. Reg. §1.170A-7(b)(1). 38 IRC §2055(e)(4); Treas. Reg. §20.2055-2(e)(1)(ii). 39 Treas. Reg. §1.170A-13(c). 40 See 1990-8 I.R.B. 25 and Instructions to Form 8283. 41 IRC §170(e)(1)(B)(iii). 42 IRC §170(m).

1124 income even though they are paid to the charity.43 The donor would then get a deduction for the amount of the royalties actually paid to the charity but the charitable deduction limitations will likely be lower than the amount taken into income.

In sum, non-cash assets present unique issues that both the donor and the donee must consider prior to making and accepting a gift. For the donor, gifts of alternative assets should be structured properly to maximize tax deductions and minimize any income or gain recognition. For the donee, considerations such as the production of unrelated business income, restrictions on transfer, environmental liability, lack of marketability, carrying costs, record-keeping and reporting requirements should also be weighed before a gift is accepted.

Jasmine M. Campirides is Of Counsel in the Trusts and Estates Department of Steptoe & Johnson LLP. Her practice centers on all areas of private client services, including personal and tax driven estate planning, probate, complex estate and trust administration and charitable organization representation.

43 See Moore v. Comr., T.C. Memo 1968-110.

1125 1126 CHAPTER NINE

ESTATE PLANNING WITH LIFE INSURANCE

Douglas H. Evans, Esq.

3FQSJOUFEXJUIQFSNJTTJPOGSPN&TUBUF1MBOOJOHBOE8JMM %SBGUJOHJO/FX:PSL $PQZSJHIU QVCMJTIFECZUIF /FX:PSL4UBUF#BS"TTPDJBUJPO 0OF&ML4USFFU "MCBOZ /FX:PSL

1127 1128 ESTATE PLANNING WITH LIFE INSURANCE § 9.0

[9.0] I. INTRODUCTION

Life insurance frequently comprises a substantial portion of the typical estate and deserves the planner’s careful attention. In tax planning, the primary utility of life insurance is that it allows one to transfer future benefits at a reduced present cost. With the compression of income tax rates and the opportunities and utility of income shifting lost under the Tax Reform Act of 1986,1 saving transfer taxes and planning with insurance have become more important. This chapter reviews the fundamentals of the income, estate, gift and generation-skipping transfer tax considerations involved in estate planning with life insurance and the drafting of the irrevocable unfunded life insurance trust.2

[9.1] II. ESTATE TAX CONSIDERATIONS

The proceeds of an insurance policy on a decedent’s life are includable in the gross estate if such proceeds are receivable by or for the benefit of the estate or are “receivable by all other beneficiaries as insurance under policies on the life of the decedent with respect to which the decedent possessed at his death any of the incidents of ownership, exercisable either alone or in conjunction with any other person.”3

[9.2] A. Proceeds Receivable by or for Benefit of Estate

Insurance proceeds receivable by the executor or payable to the decedent’s estate will be included in the decedent’s gross estate, regardless of whether the policy specifically names the estate as a beneficiary.4 Thus, even if insurance proceeds are receivable by another beneficiary but are subject to an obligation, legally binding upon the other beneficiary, to pay taxes, debts or other charges enforceable against the estate, then the amount of such proceeds required for the payment in full (to the extent of the beneficiary’s obligation) of such taxes, debts or other charges is includable in the gross estate.5

1 Pub. L. No. 99-514, 100 Stat. 2085 (codified as amended in scattered sections of U.S.C. tit. 26).

2 The appendix to this chapter includes a sample irrevocable unfunded life insurance trust. As with any form, this one is a starting point and must be modified to meet the needs of individual clients.

3 Internal Revenue Code § 2042 (I.R.C.).

4 Treas. Reg. § 20.2042-1(b)(1).

5 Id.

9-3

1129 § 9.3 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

This is a trap for the unwary when drafting insurance trust indentures where the donor wants the proceeds to be available for the payment of estate taxes or debts. Estate planning with an irrevocable life insurance trust will prevent insurance proceeds from being included in the insured’s gross estate.

[9.3] B. Proceeds Receivable by Others

As noted, the insured’s estate includes proceeds payable to others where the insured retained or possessed any incidents of ownership in the policy.6

[9.4] C. Incidents of Ownership

[9.5] 1. Defined

Incidents of ownership is not defined here in a technically legal sense but, rather, generally refers to the right of the decedent or his or her estate to the economic benefits of the policy. Thus, incidents of ownership includes the power to

• change the beneficiary or contingent beneficiaries,7

• borrow under the policy,

• surrender or cancel the policy,

• assign the policy or revoke an assignment,8

• change the time and manner of receipt of proceeds,9 and

• veto, or require consent to, an action with respect to the policy.10

It does not include the power an employee retains to convert a group term policy to a separate policy upon termination of employment.11

6 I.R.C. § 2042(2).

7 Nance v. United States, 430 F.2d 662 (9th Cir. 1970); Broderick v. Keefe, 112 F.2d 293 (1st Cir. 1940).

8 Treas. Reg. § 20.2042-1(c)(2).

9 Estate of Lumpkin v. Comm’r, 474 F.2d 1092 (5th Cir. 1973); but see Estate of Connelly v. United States, 551 F.2d 545 (3d Cir. 1977).

10 Comm’r v. Estate of Karagheusian, 233 F.2d 197 (2d Cir. 1956).

11 Rev. Rul. 84-130, 1984-2 C.B. 194.

9-4

1130 ESTATE PLANNING WITH LIFE INSURANCE § 9.6

A policy owned by a corporation but controlled by the insured, where the proceeds are not payable to the company or its debtors, is includable in the insured’s estate.12 In some circumstances involving corporate-owned policies, however, the insured does not retain any incidents of ownership.13

[9.6] 2. Incidents of Ownership by Fiduciaries

Where a fiduciary (i.e., trustee, executor, custodian) has the power to change (1) the beneficial ownership in the policy, (2) the distribution of the policy’s proceeds or (3) the time and manner of their enjoyment, the proceeds will be included in the fiduciary’s estate, even if the fiduciary has no beneficial interest.14

[9.7] a. Trustee

A trustee who holds the powers enumerated above has an incident of ownership sufficient to mandate inclusion.15 If, however, the trustee cannot exercise his or her powers for personal benefit and did not furnish any consideration to maintain the policy, and the insured did not retain the above powers as donor of the trust, the trustee will not be considered to possess incidents of ownership.16

The donor may retain the power to remove a trustee and appoint an individual or corporate successor if the successor is not related or subordinate to the donor17 and may retain the power to appoint a successor for a trustee who resigns, dies or is removed by a court order.18 The donor’s retention of such powers is not considered a reservation of the trustee’s discretionary powers of distribution.

12 Treas. Reg. § 20.2042-1(c)(6).

13 See I.R.S. Priv. Ltr. Rul. 94-21-037 (Feb. 28, 1994) (power of a sole shareholder to fire an employee/policy beneficiary and thereby cause proceeds to be paid to shareholder’s family trust was not an incident of ownership, given the employee’s rights under an employment contract); see also I.R.S. Priv. Ltr. Rul. 2000-17-051 (Jan. 24, 2000) (partner of a limited partnership, holding a policy on the life of the partner, does not possess an incident of ownership where the partnership agreement forbids any partner/insured from exercising any powers over such policy).

14 Treas. Reg. § 20.2042-1(c)(4).

15 Rose v. United States, 511 F.2d 259 (5th Cir. 1975); but see Estate of Skifter v. Comm’r, 468 F.2d 699 (2d Cir. 1972).

16 Rev. Rul. 84-179, 1984-2 C.B. 195; I.R.S. Priv. Ltr. Rul. 2004-04-013 (Jan. 23, 2004).

17 Estate of Wall v. Comm’r, 101 T.C. 300 (1993); Rev. Rul. 95-58, 1995-2 C.B. 191; I.R.S. Priv. Ltr. Rul. 97-35-023 (Aug. 29, 1997).

18 Rev. Rul. 77-182, 1977-1 C.B. 273, modified, Rev. Rul. 95-58, 1995-2 C.B. 191.

9-5

1131 § 9.8 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

[9.8] b. Custodian

When, under state law, a custodian may use funds to satisfy his or her obligations of support, such proceeds should be included in the custodian’s estate, even when the custodian is not the donor of the policy.19

[9.9] D. Transfers Within Three Years of Death

Because policies transferred by the insured, either outright or to a trust, do not fit within the general exclusion under I.R.C. § 2035(d),20 the proceeds of such policies are thus included in the insured’s estate. Proceeds of policies transferred by a noninsured generally are not included in the insured’s estate because the insured possessed no incidents of ownership. Transferred proceeds are includable in certain circumstances, however, such as the following:

• A transfer by the insured’s controlled corporation within three years of the insured’s death was considered a transfer by the insured.21

• Where a decedent had applied for insurance to be owned by another and had paid the premiums, the proceeds were includable.22

• Where the insured transferred funds to a trust under which the trustee was directed to purchase insurance, the trustee was merely an agent of the donor and the proceeds were includable in the donor’s estate.23

• Where the decedent had merely contributed cash to a trust under which the trustee had broad investment authority, the proceeds were includable only if it was determined as a matter of fact that the donor had directed the transaction and that the trustee was merely the donor’s agent.24

19 Rev. Rul. 84-179, 1984-2 C.B. 195.

20 This section excludes from the gross estate “any bona fide sale for an adequate and full consideration in money or money’s worth.”

21 Rev. Rul. 82-141, 1982-2 C.B. 209; Rev. Rul. 90-21, 1990-1 C.B. 172.

22 Bel v. United States, 452 F.2d 683 (5th Cir. 1971).

23 Detroit Bank & Trust Co. v. United States, 467 F.2d 964 (6th Cir. 1972); Estate of Kurihara v. Comm’r, 82 T.C. 51 (1984).

24 Hope v. United States, 691 F.2d 786 (5th Cir. 1982); Harwood v. United States, 89-2 U.S. Tax Cas. (CCH) ¶ 13,825 (S.D. Fla. 1989).

9-6

1132 ESTATE PLANNING WITH LIFE INSURANCE § 9.9

The IRS follows the holdings in Estate of Headrick v. Commissioner,25 Estate of Leder v. Commissioner26 and Estate of Perry v. Commissioner,27 which all involved transfers of cash to a trustee who used the discretion granted by the trust instrument to invest in life insurance on the life of the donor. Each court held that the proceeds of the policy would be includable in the insured’s gross estate if the insured died within three years of the transfer, but only if the donor possessed an incident of ownership under I.R.C. § 2042.

PRACTICE TIP

; Despite the position of the IRS, the planner should take care to limit the insured’s participation in acquiring a policy to (1) getting a physical examination and (2) helping to prepare the application, after the creation of the trust.28

The payment of premiums within three years of death on a policy transferred before the period will not cause inclusion of the proceeds.29 Likewise, changes in the insurer within the three-year period will not cause the proceeds to be included.30 Notwithstanding the IRS ruling regarding this latter provision, care is still required, as illustrated by American National Bank & Trust Co. v. United States.31 In that case, the husband’s company had changed carriers and required a new assignment from the husband as employee, which the husband apparently failed to execute. The new policy appeared similar in all respects to the superseded policy, except the death benefit was increased. The court held the proceeds were includable in the husband’s estate and rejected an argument that the wife’s surrender of the old policy constituted consideration for the new policy.

25 93 T.C. 171 (1989), aff’d, 918 F.2d 1263 (6th Cir. 1990), action on dec., 1991-012 (July 3, 1991).

26 89 T.C. 235 (1987), aff’d, 893 F.2d 237 (10th Cir. 1989).

27 59 T.C.M. (CCH) 65 (1990), aff’d, 927 F.2d 209 (5th Cir. 1991).

28 See I.R.S. Tech. Adv. Mem. 91-41-007 (Oct. 11, 1991).

29 First Nat’l Bank v. United States, 423 F.2d 1286 (5th Cir. 1970).

30 Rev. Rul. 80-289, 1980-2 C.B. 270.

31 87-1 U.S. Tax Cas. (CCH) ¶ 13,709 (N.D. Ill.), aff’d, 832 F.2d 1032 (7th Cir. 1987).

9-7

1133 § 9.10 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

[9.10] E. Estate Taxation of Crummey Power Upon Death of Holder

A Crummey power is a right in a trust beneficiary to withdraw property from the trust immediately after it is contributed. The trust must have assets that may be withdrawn by the beneficiary.32 The right is typically limited to an amount fixed at the lesser of the annual exclusion or the value of the property contributed to the trust. Usually, the power is noncumulative and lapses within a period set forth in the governing instrument.

Cash can be held in the life insurance trust, either in the form of excess funds or by delaying the payment of premiums until after the power lapses. Alternatively, the beneficiary can be given the right to withdraw an interest in the policy.33

The Crummey demand right may generate adverse estate tax consequences for the power holder. The holder’s estate includes the value of the property presently subject to the power under I.R.C. § 2041 because such power is considered a general power of appointment.

The lapse of a power of withdrawal of assets valued in excess of the greater of $5,000 or 5% of the value of a trust (the 5 & 5 amount) may eventually cause all or a portion of the trust to be includable. Inclusion is triggered where I.R.C. §§ 2035 through 2038 would call for inclusion had the property subject to the power been owned by the holder and contributed to the trust.34 Thus, inclusion under I.R.C. § 2036 is mandated where the holder has an enforceable right to income or principal of the trust or a limited testamentary power of appointment. Where the holder is only a discretionary income or principal beneficiary, the lapse will not cause inclusion under I.R.C. § 2036.

Where the holder’s power of withdrawal is noncumulative, each year’s lapse may cause adverse estate tax consequences where the value of the interest subject to the power exceeds the greater of $5,000 or 5% of the trust.

Thus, the holder’s gross estate will include a portion of the trust determined by a fraction, the numerator of which is the value of the property

32 I.R.S. Priv. Ltr. Rul. 81-34-135 (May 29, 1981); I.R.S. Priv. Ltr. Rul. 80-06-109 (Nov. 20, 1979).

33 See Sample Life Insurance Trust, Article FIRST, in the appendix following this chapter; see also I.R.S. Priv. Ltr. Rul. 81-34-135 (May 28, 1981); I.R.S. Priv. Ltr. Rul. 80-06-109 (Nov. 20, 1979).

34 I.R.C. § 2041(a)(2).

9-8

1134 ESTATE PLANNING WITH LIFE INSURANCE § 9.11

released, and the denominator of which is the value of the trust at the time of the release. The fractional interests determined each year are aggregated through the date of death, and the final fraction is used to determine the includable portion of the trust.

[9.11] III. GIFT TAX CONSIDERATIONS

[9.12] A. Gifts

A gift is made when an insured purchases a life insurance policy or pays a premium on an existing policy, the proceeds of which are payable to a beneficiary other than the donor’s estate, and does not retain any interest that would make the gift incomplete.35 Premium payments while the policy is held in the trust are also gifts to the trust’s beneficiaries.36

[9.13] 1. Valuation

Gifts of life insurance are valued as follows:37

• The value of a paid-up whole-life policy is the cost of a new replacement policy.

• The value of a whole-life, not fully paid, policy is the interpolated ter- minal reserve value and the value of prepaid premiums less loans.38

• The value of a term policy is the amount of the unexpired portion of the last premium payment.

• The value of a group term policy is either the Table I cost39 or the policy’s actual cost (whichever valuation method the donor chooses) unless the group plan is discriminatory, in which event actual cost is its value.40

35 Treas. Reg. § 25.2511-1(h)(8).

36 Treas. Reg. § 25.2503-3(c) ex. 6.

37 Treas. Reg. § 25.2512-6.

38 But see United States v. Ryerson, 312 U.S. 260 (1941) (face amount of policy may be the more appropriate value where the insured is in poor health or is uninsurable).

39 Treas. Reg. § 1.79-3(d)(2).

40 Rev. Rul. 84-147, 1984-2 C.B. 201.

9-9

1135 § 9.14 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

[9.14] 2. Annual Exclusion

The first $14,000 of a present interest in property transferred to a donee during 2013 is excluded from gift tax.41 The annual exclusion is available for outright transfers of insurance policies, but the availability of the exclusion for transfers to a trust is a function of the interests of the beneficiaries under the trust agreement. Generally, the beneficiary must have a present interest in the trust. A bare income interest in an unfunded life insurance trust is insufficient because (1) benefits will not begin until the insured dies and thus constitute a future interest, and (2) life insurance is non–income- producing.42

Additional interests in the beneficiary or the nature of the policy may entitle the donor to the exclusion. Such interests include

• transfer to a trust for the benefit of a minor, which trust meets the requirements of I.R.C. § 2503(c);

• transfer of a paid-up policy, the dividends of which are distributable to the income beneficiary, or transfer of a policy with a cash value that the beneficiary may borrow against; and

• possession by the beneficiary of a power of withdrawal.43

[9.15] B. Crummey Powers

The Crummey demand right may generate adverse gift tax consequences for the power holder.

The beneficiary must be given notice of his or her power,44 the amount of the withdrawal right and a reasonable time within which to exercise it.45 According to the IRS, a reasonable time is 30 days;46 according to the U.S. Tax Court, it is 15 days.47 A beneficiary’s waiver of future notices may endanger future gift tax exclusions.48

41 I.R.C. § 2503(b); Rev. Proc. 2010-40, 2010-46 I.R.B. 663 (setting forth the 2011 adjustments).

42 Treas. Reg. § 25.2503-3(c) ex. 2; Rev. Rul. 69-344, 1969-1 C.B. 225.

43 Crummey v. Comm’r, 397 F.2d 82 (9th Cir. 1968).

44 I.R.S. Priv. Ltr. Rul. 95-32-001 (Apr. 12, 1995); Rev. Rul. 81-7, 1981-1 C.B. 474.

45 Rev. Rul. 81-7, 1981-1 C.B. 474.

46 I.R.S. Priv. Ltr. Rul. 92-32-013 (May 4, 1992).

47 Estate of Cristofani v. Comm’r, 97 T.C. 74 (1991), acq. in result, 1992-2 C.B. 1 & 1996-2 C.B. 1.

48 See I.R.S. Tech. Adv. Mem. 95-32-001 (Aug. 12, 1995).

9-10

1136 ESTATE PLANNING WITH LIFE INSURANCE § 9.15

The holder of the power must have more of an interest in the trust than a bare power to withdraw. In one case, the parents created a trust for each of their sons, who were the income beneficiaries and had powers to withdraw.49 Powers were also granted to the sons’ family members in order to increase the number of annual exclusions. The IRS ruled that the bare power to withdraw was insufficient to create a present interest in the trust.50

The Tax Court, however, rejected the IRS’s argument that an annual exclusion is available only for Crummey power holders who also have a vested present or remainder interest in the trust. In Estate of Cristofani v. Commissioner,51 the court held that the annual exclusion was available for grandchildren who were contingent remaindermen of the trust. The IRS still maintains that the Crummey power will be insufficient where the beneficiary has no contingent or other interest in the trust.52 Even so, taxpayers continue to enjoy success. In Estate of Kohlsaat v. Commissioner,53 a Crummey power in contingent beneficiaries was approved.

If an agreement or understanding among the beneficiary, trustees and donor of the trust limits the ability, in a legal sense, of the beneficiary to withdraw property from the trust, the beneficiary may not have received a gift of a present interest in the trust.54 In Estate of Trotter v. Commis- sioner,55 for example, the decedent transferred her condominium, in which she lived, into an irrevocable trust that named her grandchildren as beneficiaries with a right of withdrawal. The court held that, in light of the relationship between the decedent and the trust beneficiaries, an implied understanding existed that the withdrawal rights would not be exercised and that the annual exclusion was thus unavailable.56

Usually, a Crummey power is noncumulative and lapses within a period set forth in the governing instrument. The lapse of a Crummey power is

49 I.R.S. Priv. Ltr. Rul. 87-27-003 (Mar. 16, 1987).

50 See also I.R.S. Priv. Ltr. Rul. 90-45-002 (July 27, 1990).

51 97 T.C. 74 (1991).

52 I.R.S. Tech. Adv. Mem. 96-28-004 (July 12, 1996); I.R.S. Tech. Adv. Mem. 97-31-004 (Aug. 1, 1997).

53 73 T.C.M. (CCH) 2732 (1997).

54 Estate of Holland v. Comm’r, 73 T.C.M. (CCH) 3236 (1997); I.R.S. Tech. Adv. Mem. 2003-41- 002 (Oct. 10, 2003).

55 82 T.C.M. (CCH) 633 (2001).

56 Id.

9-11

1137 § 9.16 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION considered a release of a general power of appointment.57 Where the value of the property subject to the lapse exceeds the greater of $5,000 or 5% of the trust corpus (as noted, the 5 & 5 amount), the holder of the power will have made a gift to other trust beneficiaries of the value in excess of the 5 & 5 amount.

Potential gift tax consequences can be avoided by limiting the right of withdrawal to the lesser of the annual exclusion or the greater of $5,000 or 5% of the trust principal. Granting the holder a limited power of appointment also solves the problem, because any potential gift will be incomplete.58

[9.16] C. Hanging Powers

Where the value of the property subject in any year to the lapsed power likely will exceed $5,000 or 5% of the principal of the trust, the instrument can provide that the power over the excess amount will not lapse but will continue in existence until it is exercised, or until it lapses if not exercised.

By allowing the excess amount to “hang” until a later year, the Crum- mey holder will have prevented a power in excess of the 5 & 5 rule from lapsing and thus will have avoided making a taxable transfer to the other trust beneficiaries. The operation of Crummey clauses without and with a hanging power is illustrated in the following examples.

EXAMPLES

Crummey Power—Nonhanging

Assume a married donor splitting gifts, with two children, a term policy and withdrawal power formula limited to the least of the following:

• a pro rata share of the gift

• the annual exclusion

• the 5 & 5 ceiling amount

57 I.R.C. § 2514(e).

58 Treas. Reg. § 25.2511-2(c).

9-12

1138 ESTATE PLANNING WITH LIFE INSURANCE § 9.16

The maximum total premium contributable is $10,000, which is derived from the following formula:

• pro rata share—$5,000

• maximum annual exclusion—$28,000

• 5 & 5 limitation—$5,000 ($5,000 or 5% of $10,000 ($500))

Each power holder (in this case, two) may withdraw up to $5,000; thus, the maximum contributable amount on a term policy in a trust holding no other assets is $5,000 per donee.

Crummey Power—Hanging

Assume a married donor splitting gifts, with three children, a whole-life policy with a cash value of 50% of premiums paid, five years of annual premiums of $66,000, withdrawal power limited to the lesser of the pro rata amount or the annual exclusion subject to hanging power. The maximum contributable amount will be the annual exclusion for the donor and his or her spouse. The chart on the next page, Calculation of Hanging Amount for Crummey Trust, illustrates this calculation.

Until this hanging power has fully lapsed, the holder’s estate will include the amount subject to the hanging power but will not include any other portion of the trust. The IRS, relying on Commissioner v. Proctor,59 concluded that an improperly worded hanging power that creates an imper- missible condition subsequent will be ignored for gift tax purposes.60 The power holder in Proctor was deemed to have made a future gift to the other beneficiaries of the trust. However, a properly worded hanging power, which does not void the gift, should survive a challenge.

Where the holder possesses multiple powers under trusts created by the same grantor or where lapses occur successively in one year in a single trust for a single beneficiary, the lapses are aggregated to determine the gift to the trust’s remaindermen. The value of the gift is the excess (over

59 142 F.2d 824 (4th Cir. 1944).

60 I.R.S. Tech. Adv. Mem. 89-01-004 (Jan. 6, 1989).

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1139 § 9.17 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION the 5 & 5 limitation) of the aggregated value of the property subject to the power, reduced by the actuarial value of the holder’s income interests.61

Calculation of Hanging Amount for Crummey Trust

Bene’s Bene’s Annual Pro Rata Trust Withdrawal Annual Lapse Hanging Year Premium Share Principal Amount Amount Amount 1 $66,000 $22,000 $33,000 $22,000 $5,000 $17,000 2 66,000 22,000 66,000 39,000 5,000 34,000 3 66,000 22,000 99,000 56,000 5,000 51,000 4 66,000 22,000 132,000 73,000 6,600 66,400 5 66,000 22,000 165,000 88,400 8,250 80,150 6 -0- -0- 165,000 80,150 8,250 71,900 7 -0- -0- 165,000 71,900 8,250 63,650 8 -0- -0- 165,000 63,650 8,250 55,400 9 -0- -0- 165,000 55,400 8,250 47,150 10 -0- -0- 165,000 47,150 8,250 38,900 11 -0- -0- 165,000 38,900 8,250 30,650 12 -0- -0- 165,000 30,650 8,250 22,400 13 -0- -0- 165,000 22,400 8,250 14,150 14 -0- -0- 165,000 14,150 8,250 5,900 15 -0- -0- 165,000 5,900 8,250 -0-

[9.17] IV. INCOME TAX CONSIDERATIONS

A person other than the grantor shall be treated as the owner of a portion of a trust with respect to which “such person has a power exercisable solely by himself to vest the corpus or income therefrom in himself.”62 Thus, during the period within which the holder may withdraw a fractional portion or fixed sum, the holder will be the owner and will be taxed a proportional share of all income items, prorated for the portion of the year the power is in existence.

A question arises, however, regarding how to treat for income tax purposes the holder of a lapsed power of withdrawal. A person other than the

61 Rev. Rul. 85-88, 1985-2 C.B. 201.

62 I.R.C. § 678(a)(1).

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1140 ESTATE PLANNING WITH LIFE INSURANCE § 9.17

grantor may be considered the owner of the entire trust, or a portion of it, and thus have all or a portion of the trust’s income attributable to him or her.

A person other than the grantor shall be treated as the owner of any portion of a trust with respect to which: . . . such person has previously partially released or otherwise modified such a power and after the release or modification retains such control as would, within the principles of sections 671 to 677, inclusive, subject the grantor of a trust to treatment as the owner thereof.63

An analysis of the operative (i.e., emphasized) words indicates that the holder of a noncumulative power could be treated as an owner. Unlike I.R.C. §§ 2041(b)(2) and 2514(e), I.R.C. § 678(a)(2) (and all other grantor trust sections) fails to include lapse of a power in the definition of release. In any event, a lapse of a noncumulative power is a complete release, not a partial release. But, if the section otherwise applies, it appears that the amount lapsing under a hanging power would be only a partial lapse. There is no modification of the power because, upon its lapse, it does not change but terminates. In a typical trust, the holder has a mere income interest and thus would not have any control for the purpose of the statute.

An exception to the application of § 678(a)(2) provides that the holder of a power over income will not be treated as an owner if the grantor is otherwise treated as an owner—that is, if the grantor has retained sufficient powers or interests.64 The IRS appears to ignore the limitation to a power over income and frequently taxes the income to the grantor. Never- theless, it has held that at the moment of lapse, the holder will be treated as the owner of that portion of the trust attributable to the power.65 This ruling, however, ignores the question of the lapse being a partial release and does not apply any 5 & 5 limitation.66

An alternative argument in favor of making the holder an owner looks to the economics of the lapse. A lapse is the economic equivalent of withdrawing the property and then contributing it, making the holder a grantor for purposes of I.R.C. §§ 673 through 677. However, no case or ruling has supported the argument, and § I.R.C. 678 appears to be the exclusive means of determining the issue.

63 I.R.C. § 678(a)(2) (emphasis added).

64 I.R.C. § 678(b).

65 I.R.S. Priv. Ltr. Rul. 81-42-061 (July 21, 1981).

66 See also I.R.S. Priv. Ltr. Rul. 85-21-060 (Feb. 26, 1985).

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1141 § 9.18 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

[9.18] V. GENERATION-SKIPPING TRANSFER TAX CONSIDERATIONS

A nontaxable gift in trust will be subject to the generation-skipping transfer (GST) tax unless (1) no portion of the principal and income of the gift may be distributed to any other person and (2) the assets will be included in the gross estate of the beneficiary if the beneficiary dies before termination of the trust.67

The typical insurance trust does not qualify under these provisions because, during the life of the insured, no individual has a separate share of the trust, and such undivided interest is not taxable if a beneficiary dies before the insured. Application of the rule would subject trust property distributed to grandchildren of the insured to the GST tax.

The rule should not adversely affect those donors who wish only to avoid estate and gift taxation for themselves and their spouses and to pass the proceeds to children. Thus, an insurance trust that terminates on the death of a surviving spouse and is distributed to children or to a trust for their benefit, which in turn terminates during their lives or upon their deaths and is subject to a general power of appointment, will not be subject to the GST tax. Such a trust should be combined with an equalizing legacy in the insured’s will to the issue of a deceased child, which will not be subject to the GST tax by reason of the predeceased child rule under I.R.C. § 2612(c)(2).

The rule can be satisfied by the use of a separate trust for each grandchild, which grants each a Crummey power and an interest in the trust subject to estate taxation (i.e., a general power of appointment or a remainder interest in the grandchild’s estate).

The donor may also allocate a portion of his or her $5 million GST tax exemption to the trust. In such event, the trust should continue for the maximum period permitted by the rule against perpetuities.

67 I.R.C. § 2642(c). The Tax Reform Act of 1986, Pub. L. No. 99-514, 100 Stat. 2085 (codified as amended in scattered sections of U.S.C. tit. 26), provided that the GST tax did not apply to any transfer if the amount transferred was less than the then-annual exclusion of $10,000. I.R.C. § 2642(c). Thus, insurance planning with Crummey powers was attractive; with careful planning, the initial gift tax and subsequent estate tax could be avoided on a trust in existence for multiple generations, and further, no GST tax would ever be payable. However, under the Technical and Miscellaneous Revenue Act of 1988 (TAMRA), Pub. L. No. 100-647, 102 Stat. 3342 (codified as amended in scattered sections of U.S.C. tit. 26), I.R.C. § 2642(c) was radically changed, which severely limited opportunities to avoid the GST tax.

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1142 APPENDIX

APPENDIX Sample Irrevocable Unfunded Life Insurance Trust

THE ______201__ LIFE INSURANCE TRUST THIS INDENTURE, made the _____ day of ______, 201__, between ______, of ______(hereinafter referred to as the “Donor”), and ______, of ______, and ______, of ______(hereinafter referred to as the “Trustees”);

W I T N E S S E T H: The Donor hereby transfers and delivers unto the Trustees the property described in Schedule A, attached hereto, the receipt of which is hereby acknowledged by the Trustees. [The Donor has caused or may cause to be assigned to the Trustees the Donor’s entire interest in certain insurance policies on the Donor’s life, and has caused or may cause the Trustees to be named as the beneficiary to receive the proceeds of such policies and of certain pension or other benefit plans in which the Donor participates;]

TO HAVE AND TO HOLD such property unto the Trustees, their successors and assigns, in trust, nevertheless, as follows:

FIRST: During the life of the Donor, the Trustees shall manage, invest and reinvest the trust estate and collect the income thereof and are authorized to distribute so much of the net income as the Trustees may determine to and among such of the Donor’s spouse and the Donor’s issue living from time to time (hereinafter referred to as the “Beneficiaries” of the trust established under this Part) as the Trustee or Trustees other than a beneficiary hereunder (hereinafter referred to as the “Disinterested Trustee”) from time to time may determine, in such proportions as said Trustee may determine, in each case in said Trustee’s discretion, and shall accumulate and add to the principal of the trust any net income not so distributed within sixty-five days after the end of the trust year in which it was collected.

During the life of the Donor, the Trustees are authorized to distribute from the principal of the trust such amounts (including the whole thereof) as the Disinterested Trustee may determine to and among such of the Beneficiaries as said Trustee from time to time may determine, in such

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1143 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION proportions as said Trustee may determine (including a distribution or distributions for the sole purpose of terminating the trust), in each case in said Trustee’s discretion.

In reaching any determination as to the advisability of making any discretionary distribution of income or principal, the Disinterested Trustee shall have no duty to inquire into or to consider any other income or resources of any Beneficiary (or, if any Beneficiary shall be a minor, of such Beneficiary’s parent or parents), and may exclude any one or more of the Beneficiaries from any such income or principal distribution and make distributions in equal or unequal proportions. The determination of said Trustee as to the advisability of making or refraining from making any such discretionary distribution of income or principal shall be final and binding upon all persons then or thereafter interested in the trust.

The Trustees are authorized to invest any or all of the trust assets, whether received from the Donor or from others, in life insurance policies upon the life of the Donor and to apply trust income or principal to the payment of premiums on such policies. The Trustees also are authorized to join with others in holding any such policy, or part thereof, under a split dollar agreement, whereby the Trustees own certain portions of the life insurance policy and the other owner or owners, in return for payment of an appropriate premium or share of the total premium, also own a portion of the life insurance policy. Notwithstanding such authorization, the Trustees shall have no obligation to pay any premiums, assessments or other charges necessary to keep any insurance policies in force, shall have no obligation to ascertain whether the same have been paid or to notify the Donor or any Beneficiary hereunder of the non-payment of premiums and shall have no responsibility or liability of any kind in case such premiums are not paid. If the Donor’s status as a group member shall terminate for any reason other than the Donor’s death, the Trustees shall have the right to convert any group insurance policies into individual insurance policies on the life of the Donor, and thereafter to hold any such policies, together with any dividends received on such policies. The Trustees may borrow against any insurance policies held in the trust and apply such borrowed amounts for the education of the Donor’s children, or for such other purposes as the Disinterested Trustee in said Trustee’s discretion may determine. The Trustees also may invest trust assets in other property.

If in any year a contribution is made to the trust estate by any person, the Trustees shall notify promptly such of the Beneficiaries as the Donor shall select of such contribution, or, if any Beneficiary shall then be a minor, his or her representative for the receipt of such notice under the

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1144 APPENDIX provisions of Part (H) of Article TENTH hereof, and each of the Benefi- ciaries so selected, or such representative acting on behalf of any such Beneficiary during his or her minority, shall have the right at any time within two months of receipt of such notice to withdraw from the trust estate an amount determined as follows:

(1) The Donor’s spouse if so selected shall have the prior right to withdraw an amount not in excess of the lesser of: (i) the amount of such contribution and (ii) the sum of Five thousand Dollars or such larger amount that shall not exceed the maximum annual amount with respect to which a power of appointment may lapse and not be considered a release of such power for United States Federal gift tax purposes under Section 2514 of the Internal Revenue Code of 1986, as amended (the “Code”); and

(2) Each of the Donor’s descendants so selected, or his or her representative, shall have the right to withdraw an amount not in excess of the lesser of (i) the Beneficiary’s pro rata share of the amount of such contribution, after reduction by the amount subject to withdrawal by the Donor’s spouse under Paragraph (1), and (ii) the annual exclusion available to the contributor (and his or her spouse as if such spouse shall have consented to being deemed to have made one-half of such contribution) for United States Federal gift tax purposes with respect to the Benefi- ciary’s pro rata share of such contribution, after reduction by the amount subject to withdrawal by the Donor’s spouse under Paragraph (1), and after taking into account any other gifts made by the contributor (and his or her spouse, if applicable) to the Beneficiary in that year. For this purpose, a Beneficiary’s pro rata share of a contribution shall be a fraction of which the numerator shall be one and the denominator shall be the number of Beneficiaries other than the Donor’s spouse receiving notice (or on behalf of whom notice is received by a representative under Part (H) of Article TENTH hereof) of the contribution. If a Beneficiary’s power of withdrawal is limited by clause (ii) above, then the excess of the amount determined under clause (i) over the amount determined under clause (ii) as to such Beneficiary shall be treated as an additional transfer to the trust except that such Beneficiary shall be excluded as a withdrawal power holder for purposes of applying clauses (i) and (ii) to such additional transfer.

In satisfaction of such right of withdrawal, the Trustees may distribute to a Beneficiary any asset held in the trust estate (including any insurance policies or any interests in such policies), valued as of the date of withdrawal. Such right of withdrawal shall not be cumulative with respect to any prior contributions made to the trust and, if such right of withdrawal

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1145 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION is not exercised within such two-month period, it shall lapse, provided that the amount with respect to which the right of withdrawal shall lapse for any Beneficiary in any year shall not exceed the maximum annual amount with respect to which a power of appointment may lapse and not be considered a release of such power for United States Federal gift tax purposes under Section 2514 of the Code, as in effect for that year, taking into account any excess withdrawal rights carried over from previous years (hereinafter referred to as the “maximum lapse amount”). If any Beneficiary has a right of withdrawal in any year which shall exceed the maximum lapse amount, the power for that Beneficiary for that year shall lapse only to the extent of the maximum lapse amount, and any excess withdrawal right shall continue to be exercisable by the Beneficiary, but shall lapse in the next succeeding year or years to the extent of the maximum lapse amount for such year, on the second day of such year. The right of withdrawal hereunder shall be exercised by written notice delivered to the Trustees.

SECOND: Upon the death of the Donor, the Trustees shall collect, as principal of the trust estate, the net proceeds of any insurance policies then included in the trust estate, or of any pension or benefit plans payable to the Trustees as beneficiary, after deduction of all charges against such policies or benefits by way of advances, loans, premiums or otherwise. The Trustees may use any part of the income or principal of the trust estate to meet expenses incurred in collecting any such proceeds or benefits. If, however, the Trustees in their discretion shall determine that the income and principal on hand in the trust estate may not be sufficient to meet any expenses and obligations to which they may be subjected in any litigation to enforce payment of any insurance policy, benefits or proceeds then included in the trust estate, then the Trustees shall not be required to enter into or maintain any litigation to enforce payment of any such policy until they shall have been indemnified to their satisfaction against all such expenses and obligations. The Trustees are authorized to compromise and adjust claims arising out of any such policies, upon such terms and conditions as they may deem advisable, and the decision of the Trustees in this respect shall be binding and conclusive upon all persons then or thereafter interested in the trust estate.

THIRD: (A) If any assets held in the trust estate shall be included in the Donor’s estate for Federal estate tax purposes, and if the Donor’s spouse shall survive the Donor, then from and after the Donor’s death, subject to the provisions of Article SECOND hereof, the Trustees shall manage, invest and reinvest the assets of the trust estate so included in the Donor’s

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1146 APPENDIX gross estate for Federal estate tax purposes upon a separate trust, shall collect the income thereof and shall distribute the net income thereof to the Donor’s spouse (hereinafter referred to in this Part as the “Benefi- ciary” of the trust established under this Part), annually or at more fre- quent intervals, for the Beneficiary’s life.

The Trustees are authorized to distribute to the Beneficiary from the principal of the trust such amounts (including the whole thereof) as the Disinterested Trustee in said Trustee’s discretion from time to time may determine (including a distribution or distributions for the sole purpose of terminating the trust), and in reaching such determination, said Trustee shall have no duty whatsoever to inquire into or consider any other income or resources of the Beneficiary. The determination of said Trustee as to the advisability of making or refraining from making any such discretionary distribution of principal shall be final and binding upon all persons then or thereafter interested in the trust.

Upon the death of the Beneficiary, the Trustee shall dispose of the principal of the trust estate, as then constituted, as provided under Part (B) of this Article.

The Executor of the Donor’s estate is authorized to elect to treat all or any part of the disposition under this Part (A) as qualified terminable interest property under Section 2056(b)(7) of the Code, or similar provision of state law, and to claim a marital deduction with respect thereto for Federal and state estate tax purposes. Such election shall be binding upon the Trustees hereunder. If the Donor’s Executor shall make a partial election, the Trustees thereafter shall segregate upon their books the property with respect to which the election was made. The Donor recognizes that in exercising the discretion granted to the Donor’s Executor hereby, the Donor’s Executor may affect the amount of estate taxes payable by the Donor’s estate and the estate of the Beneficiary, and otherwise materially may affect the interests of the beneficiaries hereunder. The Donor nevertheless grants the broadest authority to the Donor’s Executor to exercise the power granted hereby as the Executor in the Executor’s exclusive discretion shall deem best, and the Executor’s determination shall be final and binding upon all persons at any time interested in the trust estate. If the Donor’s Executor has made a partial election and the Trustees are holding trust assets in two segregated accounts, any principal distributions for the Beneficiary’s benefit shall be made solely from the account with respect to which a Section 2056(b)(7) election has been made, until that account has been exhausted.

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1147 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

(B) From and after the date of the Donor’s death, subject to the provisions of Article SECOND hereof, the Trustees shall hold upon a separate trust under the terms of this Part (B) all assets of the trust estate except those held under Part (A) of this Article, together with any amounts received by the Trustees under a Will or other instrument of the Donor or any other person directed to be held under this Part (B). The Trustees shall manage, invest and reinvest the same and collect the income thereof and are authorized to distribute so much of the net income as the Disinterested Trustee may determine to and among such of the Donor’s spouse and the Donor’s issue living from time to time (hereinafter referred to as the “Beneficiaries” of the trust established under this Part) as said Trustee from time to time may determine, in such proportions as said Trustee may determine, in each case in said Trustee’s discretion, and shall accumulate and add to the principal of the trust any net income not so distributed within sixty-five days after the end of the trust year in which it was collected.

During the continuance of the trust, the Trustees are authorized to distribute (or to set apart hereunder in a separate trust solely for the benefit of a Beneficiary hereunder upon the terms of Part (C) of this Article) such amounts from the principal of the trust (including the whole thereof) as the Disinterested Trustee may determine to and among such of the Benefi- ciaries as said Trustee from time to time may determine, in such proportions as said Trustee may determine (including a distribution or distributions for the sole purpose of terminating the trust), in each case in said Trustee’s discretion.

In reaching any determination as to the advisability of making any discretionary distribution of income or principal, the Disinterested Trustee shall have no duty to inquire into or to consider any other income or resources of any Beneficiary (or, if he or she shall be a minor, of such Beneficiary’s parent or parents), and may exclude any one or more of the Beneficiaries from any such income or principal distribution and make distributions in equal or unequal proportions. The determination of said Trustee as to the advisability of making or refraining from making any such discretionary distribution of income or principal shall be final and binding upon all persons then or thereafter interested in the trust.

Upon the death of the Donor’s spouse, the trust shall terminate and the Trustee shall pay over and distribute the principal of this trust and of the trust under Part (A) of this Article, as then constituted (or, if the Donor’s spouse shall not survive the Donor, upon the Donor’s death the Trustee shall pay over and distribute the entire principal of the trust estate which

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1148 APPENDIX the Trustee shall collect), and any income thereof then held, to the Donor’s issue then living, per stirpes.

(C) Whenever the Trustees in their discretion shall determine to hold a share of the trust estate hereunder in a separate trust under this Part or shall receive under a Will or other instrument of the Donor or any other person any property to be held, administered and disposed of in trust for a descendant of the Donor who shall not then have reached the age of [ ] years, and notwithstanding any provision herein to the contrary, if any share or property shall be distributable to a descendant of the Donor who shall not then have reached the age of [ ] years, in lieu of distribution to such descendant, such share or property shall be held by the Trustees upon a separate trust for the benefit of such descendant (hereinafter referred to as the “Beneficiary” of the trust established under this Part for such descendant’s benefit). The Trustees shall manage, invest and reinvest the same and collect the income thereof and are authorized to distribute to the Beneficiary so much of the net income as the Disinterested Trustee in said Trustee’s discretion from time to time may determine, and shall accumulate and add to the principal of the trust any balance of said net income not so distributed within sixty-five days after the end of the trust year in which it was collected.

In reaching any determination as to the advisability of making any discretionary distribution of income or principal, the Disinterested Trustee shall have no duty to inquire into or to consider any other income or resources of the Beneficiary (or, if the Beneficiary shall be a minor, of the Beneficiary’s parent or parents). The determination of said Trustee as to the advisability of making or refraining from making any such discretionary distribution of income or principal shall be final and binding upon all persons then or thereafter interested in the trust.

[When and if the Beneficiary shall reach the age of [ ] years, the Trustees shall distribute to the Beneficiary [one-half] of the principal of the trust, as then constituted.] When and if the Beneficiary shall reach the age of [ ] years, the trust shall terminate and the Trustees shall distribute to the Beneficiary the principal of the trust, as then constituted, and any income thereof then held.

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[If the Beneficiary shall have reached an age herein specified as the occasion for a distribution [or distributions] of principal to the Beneficiary on the date a share or property shall become distributable to a trust for the benefit of the Beneficiary, such distribution [or distributions] shall be made forthwith to the Beneficiary by the Trustees.]

If the Beneficiary shall die before reaching the age of [ ] years, the Trustees shall distribute the principal of the trust, as constituted at the Beneficiary’s death, and any income thereof then held, to the then living issue of the Beneficiary, per stirpes, or, if no such issue shall then be living, to the then living issue of the descendant of the Donor who was the nearest ancestor of the Beneficiary with issue then living, per stirpes, or, if no such issue shall then be living, to the then living issue of the Donor, per stirpes.

(D) In lieu of making any distribution of income or principal to any Beneficiary as provided in this Indenture, the Trustees may apply the same for such Beneficiary’s support, maintenance, health, education or other benefit or, in the case of a minor, may set the same apart for distribution, to be administered as provided in Article FIFTH hereof.

(E) Notwithstanding anything herein to the contrary, in exercising any power of distribution of income or principal of any trust hereunder, in lieu of distribution outright to a Beneficiary or Beneficiaries hereof, the Trust- ees are authorized to distribute such income or principal for the benefit of such Beneficiary or Beneficiaries, on such further or other trusts and with further or other dispositive, discretionary and administrative powers, including discretionary trusts and powers of appointment, advancement and accumulation and other powers of management or administration exercisable by the Trustees or separate or other trustees or other persons, whether such further or other trusts shall be governed by instruments created by the Trustees or otherwise existing, all without court notice or approval or notice to or consent of any beneficiary; provided, however, that any distribution made from a trust created under Part (A) of this Arti- cle shall only be made on such further or other trusts with the same dispositive or discretionary powers as those conferred under said Part, and provided, further, that every distribution shall be made and all interests so distributed shall vest in interest upon the expiration of the period described in Part (F) of this Article.

(F) Unless sooner terminated under the foregoing provisions of this Indenture, each trust created hereunder shall terminate upon the expiration of twenty-one years following the death of the last to die of all of the

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1150 APPENDIX descendants of either of the Donor’s parents and of either of the Donor’s spouse’s parents who shall be living at the date of this Indenture, and thereupon the Trustees shall pay over and distribute the principal of such trust, as then constituted, and any income thereof then held, to [the Bene- ficiary to whom income may be distributed from such trust].

FOURTH: If any person whose life measures the duration of a trust hereunder and any remainderman of such trust shall die under such circumstances that there is reasonable doubt as to who died first, then such person whose life measures the duration of such trust shall be deemed conclusively to have survived such remainderman for the purposes of all provisions of this Indenture.

Any distribution required to be made per stirpes in this Indenture to the descendants of any person shall require division of such assets into as many equal shares as there are living children of that person, if any, and deceased children of that person who leave issue then living (even if all of such children are then deceased). Each living child shall be allocated one share, and the share of each deceased child who leaves issue then living shall be divided in the same manner.

FIFTH: If any principal or income of any trust held hereunder shall become payable to or be set apart to be distributed to a beneficiary who shall then be a minor, the Trustees are authorized in the Trustees’ discretion to pay over such principal or income at any time to a parent of such minor or to the guardian of the property of such minor, appointed in any jurisdiction, or to a custodian then acting or appointed by the Trustees for such minor (including one of the Trustees) under the Uniform Gifts to Minors Act or the Uniform Transfers to Minors Act of any state or any similar state law, or to retain such principal and income for such minor during minority. In paying over any principal or income to a custodian, the Trustees may direct that the custodianship shall continue until the minor reaches the age of twenty-one, rather than eighteen. In case of such retention, the Trustees may apply such principal or income, and income therefrom, to the support, maintenance, health, education or other benefit of such minor, irrespective of any other resources of such minor or of his or her parent or parents. Any such application may be made directly or by payments to such guardian of the property or parent of such minor or to the person with whom such minor may reside, in any case without requiring any bond, and the receipt of any such person shall be a complete discharge to the Trustees, who shall not be bound to see to the further application of any such payment. Any such principal or income so retained, and any income therefrom, which is not applied under the provi-

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1151 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION sions of this Article shall be paid over to such beneficiary upon reaching the age of majority or, if such beneficiary shall sooner die, to such beneficiary’s estate. In holding any principal or income for any minor, the Trust- ees shall have all the powers and discretion hereinafter conferred.

The retention of any funds under this Article shall not preclude the Trustees from receiving any commissions to which the Trustees would have been entitled had such funds been distributed. The Trustees shall also be entitled, for services in respect of each fund retained under the provisions of this Article, to the same commissions to which testamentary trustees would be entitled from time to time under the laws of the State of New York, as though each fund were a separate trust fund, such commissions to be payable without judicial authorization.

SIXTH: (A) Without limitation of the powers conferred by statute or general rules of law, the Trustees are specifically authorized and empowered with respect to any property held hereunder:

(1) To retain any property transferred to any trust hereunder for so long and upon such terms as the Trustees in the Trustees’ discretion shall deem it advisable to do so, regardless of the application of any prudent investor standard or duty to diversify;

(2) To invest any funds in any stocks, bonds or other securities or property, real or personal, including any insurance policies on the life of the Donor (and including without limitation the power to invest in oil, gas and mineral interests or in any partnership of any kind or description, to write or buy put and call options, whether or not covered, to buy securities on margin, to sell securities short and to enter into futures transactions in any commodities), and to join with others in such form of ownership of such property (including without limitation in the case of a life insurance policy, to enter into split dollar agreements) as the Trustees shall determine, notwithstanding that such investments may not be of the character allowed to trustees by statute or general rules of law, and without any duty to diversify investments, the intention hereof being to confer the broadest investment powers and discretion upon the Trustees;

(3) To sell (at public or private sale, without application to any court) or otherwise dispose of any property, whether real or personal, for cash or on credit, in such manner and on such terms and conditions as the Trustees may deem best, and no person dealing with the Trustees shall be bound to see to the application of any moneys paid [and, without limiting the gen- erality of the foregoing, if it becomes advisable at any time in order to sell

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1152 APPENDIX any securities held by the Trustees to register the same under the Securi- ties Act of 1933 or any other United States Federal securities law or to register or qualify any such securities for sale under any state securities law, the Trustees are authorized to do all acts which the Trustees may deem advisable for that purpose, including without limitation to enter into any agreements with underwriters, and with the corporation the securities of which are being sold, which the Trustees shall deem advisable, to make such representations and warranties, assume such obligations and engage in such undertakings of indemnity as the Trustees may deem proper (or to make such other arrangements concerning the same, including without limitation the purchase of an insurance policy or policies, charging the cost thereof to the principal of any trust holding such securities), to create escrows, to enter into custody agreements, and in any case in which it becomes advisable for the Trustees to enter into any agreement containing representations or undertakings which, but for qualifying terms of the agreement, would render the Trustees personally liable therefor, at the Trustees’ option, to enter into and execute any such agreement in the Trustees’ official capacity only and not individually, in which case, if the terms of the applicable agreement so provide, the representations and undertakings shall be binding upon any trust holding such securities, as the case may be, but shall not be binding upon the Trustees personally];

(4) To manage, operate, repair, improve, mortgage and lease for any period any real estate forming a part of the trust estate;

(5) (a) To borrow such amounts from any source (including one or more of the Trustees or any beneficiary (including any remainderman) of any trust hereunder) and for such purposes as the Trustees may determine, and to mortgage or pledge any assets of any trust hereunder, for a period within or extending beyond the duration of the trust, to secure the repayment of any amounts so borrowed;

(b) To lend, with or without security, and with or without interest, such amounts and at such interest rates and for such purposes as the Trustees may determine, to or for the benefit of any beneficiary (including any remainderman) of any trust hereunder, and for such purposes as the Trust- ees may deem advisable;

(c) To guarantee, with or without charge, loans made by any third party to or for the benefit of any beneficiary (including any remainderman) of any trust hereunder, upon such terms as the Trustees may determine;

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1153 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

(6) To maintain margin accounts with one or more individuals, partnerships, associations, banks or other corporations [(including without limitation [ ] or any affiliate of said firm)] on such terms and conditions as the Trustees in the Trustees’ discretion shall determine, and to conduct such transactions in such accounts as the Trustees shall so determine, and to pledge all or any portion of any trust hereunder as security for the payment of the respective debit balances in such accounts;

(7) To engage in any arbitrage transactions;

(8) To determine in the Trustees’ discretion whether any premium on any investment acquired at a premium shall be amortized from income;

(9) To cause any securities to be registered in the names of the Trust- ees’ nominees, or to hold any securities in such condition that they will pass by delivery;

(10) To employ such attorneys, accountants, custodians, investment counsel [(including without limitation [ ] or any affiliate of said firm)], real estate consultants and other persons as the Trustees may deem advisable in the administration of any trust hereunder, and to confer on them such authority and to pay them such compensation as the Trustees may deem proper, notwithstanding that one or more of the Trustees may be a member of, or otherwise connected with, such firm, and without any diminution of, or offset against, the commissions to which the Trustees may be entitled by law;

(11) To use any securities or brokerage firm [(including without limitation [ ] or any affiliate of said firm)] in the purchase or sale of stocks, bonds or other securities or property for the account of any trust hereunder and to pay such firm such compensation as the Trustees may deem proper, notwithstanding that one or more of the Trustees may be a member of, or otherwise connected with, such firm, and without any diminution of, or offset against, the commissions to which the Trustees may be entitled by law;

(12) To distribute any income or principal of any trust hereunder in cash or in kind and, if in kind, in a fashion other than pro rata, having regard in such event to the characteristics, including tax characteristics, of the property being distributed and to the income, needs and tax status of the recipient;

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1154 APPENDIX

(13) [To exercise all powers listed in Section 45a-234 of the Connecti- cut General Statutes or any successor thereto;]

(14) To delegate investment and management functions as prudent under the circumstances; provided that in delegating such investment functions, the Trustees shall exercise reasonable care, skill and caution in selecting an agent, establishing the scope and terms of the delegation consistent with the purposes of the terms of the trust, and periodically reviewing the agent’s overall performance and compliance with the terms of the delegation; and in performing a delegated function, an agent shall have a duty to exercise reasonable care to comply with the terms of the delegation; and if the Trustees comply with the requirements of this subparagraph, the Trustees shall not be liable to the beneficiaries or to the trust for the decisions or actions of the agent to whom the function was delegated;

(15) To divide any trust hereunder at any time into two or more equal or unequal separate trusts for any reason, including but not limited to assur- ing that the generation-skipping transfer tax inclusion ratio for each such trust shall be either zero or one; provided, however, that such trust shall be severed on a fractional basis. Such division may be made on a non-pro- rata basis, provided funding is based on either the fair market value of the assets on the date of the funding or in a manner that fairly reflects the net appreciation or depreciation in the value of the assets measured from the date of the creation of such trust to the date of division;

(16) To invest in solido the assets of any trusts hereunder or under any other trust agreement of which the Trustees are serving as trustees; and

(17) In general, to exercise any and all rights and powers in the management of the trust estate which any individual could exercise in the management of property owned in his or her own right, upon such terms and conditions as the Trustees may deem best, and to execute and deliver all instruments and to do all acts which the Trustees may deem necessary or advisable to carry out the purposes of this Indenture.

(B) Notwithstanding any provision in this Indenture to the contrary, no Trustee who is also a beneficiary of any trust hereunder shall participate in any decision regarding distributions of income or principal of such trust to himself or herself, nor shall such Trustee participate in any decision regarding distributions of income or principal of such trust to any other Beneficiary of such trust, other than for such Beneficiary’s health, education, maintenance or support. No Trustee who shall have a legal obligation to support a Beneficiary of any trust hereunder shall participate in any

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1155 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION decision with respect to making income or principal distributions that would satisfy such obligation.

(C) At any time when there shall be more than one Trustee serving hereunder, the signature of one Trustee shall be sufficient to bind the trust upon all undertakings to third parties in all administrative matters or in any other matter upon which the Trustees agree between themselves.

SEVENTH: All sums received by the Trustees and representing interest accrued or dividends declared but unpaid on securities at the time of the delivery thereof to the Trustees shall be considered by the Trustees as income and disposed of accordingly.

All liquidating distributions received by the Trustees shall be disposed of in accordance with the law from time to time in effect. All stock dividends and other distributions payable in shares of the distributing corporation or association, all stock dividends and other distributions by a corporation or association payable in shares of any other corporation or association, provided that the same shall be treated as a non-taxable distribution or as a capital gains distribution to the recipient for United States Federal income tax purposes, and all rights to subscribe to securities either of the issuing corporation or association or of any other corporation or association shall be solely principal. Distributions made by a regulated investment company from ordinary income shall be solely income, and all other distributions made by such a company shall be solely principal. All other distributions shall be treated solely as income.

EIGHTH: Any trust hereunder may be increased from time to time, whether or not any other trust also is increased, by the addition of such property as may be added to it by the Donor or, with the consent of the Trustees, by any other person.

NINTH: The Trustees are empowered to pay any taxes which may become payable from time to time with respect to any trust hereunder, or any transfer thereof or transaction affecting the same, under the laws of any jurisdiction which the Trustees are advised validly may tax the same. The Trustees shall not reimburse the Donor from trust income or principal for the amount of any gift taxes which may be payable by the Donor by reason of any transfer to, or for the amount of any income taxes of, any trust hereunder which may be payable by the Donor by operation of law upon any income (including capital gains).

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1156 APPENDIX

The Trustee is authorized in the Trustee’s discretion to pay out of the principal of the trust estate all estate, inheritance and similar taxes, including any interest and penalties thereon, which may be imposed upon the death of the Donor’s spouse by the United States of America or any state or subdivision thereof (and, in the Trustee’s discretion, any such taxes imposed by any foreign jurisdiction) with respect to the Donor’s spouse’s estate, including not only the trust estate, but also any other property or interest of any character taxable in the Donor’s spouse’s estate. The determination of the Trustee as to the amount of such taxes shall be final and binding upon all persons then or thereafter interested in the trust estate. The Trustee shall be under no duty to take part in the proceedings to determine any such tax, and may rely upon the certificate of the executor or administrator of the estate of the Donor’s spouse as to the amount of any such tax, as returned, tentatively assessed or ultimately determined.

TENTH: (A) [In case [ ] for any reason shall cease to act as Trustee, then [ ] shall be successor Trustee hereunder.]

(B) The Donor or, after the Donor’s death or incapacity, the Donor’s spouse, ______, is hereby empowered, in the Donor’s or the Donor’s spouse’s sole discretion and at any time and for any reason, by written instrument, duly executed and acknowledged, to take any one or more of the following actions: (i) to remove any Trustee of any trust hereunder provided that such person shall appoint as successor Trustee an individual or individuals (other than the Donor (or, in the case of an appointment by the Donor’s spouse, the Donor’s spouse)) or a bank or trust company, (ii) to revoke any designation of successor Trustee set forth herein or made by any Trustee, and (iii) to appoint as successor Trustee or co-Trustee an individual or individuals (other than the Donor (or, in the case of an appointment by the Donor’s spouse, the Donor’s spouse)) or a bank or trust company, in each case upon such conditions as such instrument shall specify; provided, however, that any individual or bank or trust company appointed as co-Trustee or successor Trustee by the Donor or the Donor’s spouse shall not be related or subordinate to the Donor or the Donor’s spouse, as the case may be, within the meaning of Section 672 of the Code. Any such appointment so made may be revoked by the Donor or, after the Donor’s death or incapacity, the Donor’s spouse, by written instrument, duly executed and acknowledged, at any time prior to the happening of the event upon which it is to become effective, and a new appointment may be made as above provided. Upon the happening of the event upon which such appointment is to take effect and upon qualifying

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1157 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION as hereinafter provided, any co-Trustee or successor Trustee so appointed shall become a Trustee hereunder as though originally named herein.

(C) Any individual Trustee acting hereunder from time to time is, or the individual Trustees, acting unanimously if there shall be more than one, are, hereby authorized, by written instrument, duly executed, to designate an individual (other than the Donor) or a bank or trust company to act as co-Trustee hereunder, upon such conditions as such instrument shall specify, if there shall be no co-Trustee designated as hereinabove provided who shall be willing and able to serve. Any such appointment so made may be revoked by the maker thereof, by written instrument, duly executed, at any time prior to the happening of the event upon which it is to become effective, and a new appointment may be made as above provided. Upon the happening of the event upon which such appointment is to take effect and upon qualifying as hereinafter provided, any co-Trustee so appointed shall become a Trustee hereunder as though originally named herein.

(D) Any individual Trustee acting hereunder from time to time is hereby authorized, by written instrument, duly executed, to designate an individual (or individuals, in the case of a Trustee acting as sole Trustee) (in either case, other than the Donor) or a bank or trust company to act as his or her successor Trustee hereunder, upon such conditions as such instrument shall specify, if he or she for any reason shall cease to act hereunder and there shall be no successor Trustee [named herein or] designated as hereinabove provided who shall be willing and able to serve. Any such appointment so made may be revoked by the then acting Trustee or Trustees of such trust, by written instrument, duly executed, at any time prior to the happening of the event upon which it is to become effective, and a new appointment may be made as above provided. Upon the happening of the event upon which such appointment is to take effect and upon qualifying as hereinafter provided, any successor Trustee so appointed shall become a Trustee hereunder as though originally named herein.

(E) Any Trustee at any time acting hereunder may resign and be discharged from any trust hereunder by giving written notice of his or her resignation, duly executed, to the Donor, or if the Donor shall not then be living, to the Beneficiary or Beneficiaries of such trust or, if any Benefi- ciary shall then be a minor, to the representative serving under the provisions of Part (H) of this Article.

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1158 APPENDIX

(F) If at any time the Donor’s spouse shall be acting as sole Trustee without having designated a co-Trustee as hereinabove provided, or if at any time there shall be no Trustee acting hereunder and no successor shall have been designated as hereinabove provided who shall then be willing and able to qualify, the firm of Sullivan & Cromwell LLP, of New York, New York (or any firm successor thereto) is hereby authorized, by written instrument duly executed, to designate an individual (other than the Donor, but who may be one of such firm’s own partners) or bank or trust company to act as successor Trustee. Upon qualifying as hereinafter provided, the successor so designated shall become Trustee hereunder as though originally named herein.

(G) In case any Trustee at any time acting hereunder for any reason shall cease to act, the retiring Trustee or his or her personal representative, as the case may be, upon the effective date of his or her resignation or upon his or her death shall turn over the assets of any trust estate held hereunder to the successor Trustee, and shall execute and deliver all instruments which may be necessary to vest title in such successor Trustee.

(H) ______shall serve as the representative of the Donor’s minor descendants for purposes of receiving notices, and taking (or electing not to take) action on behalf of such descendants during their minority for all purposes of this Indenture. The representative at any time may resign as such representative by delivering written notice of his or her resignation to the Trustees. If at any time there shall be no person acting as a representative for minor descendants hereunder, such individual as shall be designated by the Trustees shall serve as the representative. A successor representative shall accept his or her appointment by written acceptance delivered to the Trustees.

(I) Any successor Trustee or co-Trustee [named herein or] appointed as hereinabove provided and then entitled to act hereunder shall qualify by delivering or mailing written acceptance of such trust, duly executed, to any other Trustee then acting hereunder and to the Donor, or if the Donor shall not then be living, to the Beneficiary or Beneficiaries of such trust or, if any Beneficiary shall then be a minor, to the representative serving under the provisions of Part (H) of this Article.

(J) Notwithstanding anything herein to the contrary, but subject to Article FOURTEENTH hereof, and subject to a determination in writing by the Trustees to the contrary, during the period in which any Beneficiary of any trust hereunder shall be a U.S. Person (as defined in Section

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1159 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

7701(a)(30) of the Code and any regulations validly promulgated thereunder), (i) all Substantial Decisions (as defined in Section 7701(a)(30)(E)(ii) of the Code and any regulations validly promulgated thereunder) of such trust shall be made exclusively by the U.S. Persons then acting as Trustee of such trust hereunder, (ii) no Substantial Decision of such trust shall require the consent, or be subject to the veto, of any person who is not a U.S. Person, and (iii) any power, fiduciary or otherwise, held by a person who is not a U.S. Person shall be effective only to the extent such power is not the power to make a Substantial Decision.

(K) Except as otherwise expressly provided herein, all estates, powers, trusts, duties and discretion herein created or conferred upon the Trustees shall extend to any Trustee who at any time may be acting hereunder, whether or not named herein. No bond or other security shall be required of any Trustee hereunder in any jurisdiction.

ELEVENTH: Any Trustee at any time acting hereunder at any time may render an account of his or her proceedings to the Beneficiary or Beneficiaries of such trust; provided, however, that if any Beneficiary shall not then be living, such account shall be rendered to the personal representative of such deceased Beneficiary and the persons to whom the principal of the trust then shall be payable. If any person to whom an account would be so rendered shall be a minor, such account instead may be rendered to the parent or parents, or the guardian of such minor beneficiary, or the representative for such minor beneficiary then serving under the provisions of Part (H) of Article TENTH hereof. If approved in writing by the person to whom such account shall have been rendered as above provided, such account shall be final, binding and conclusive upon all persons who then or thereafter may have any interest in such trust estate. Any Trustee also at any time may render a judicial account of such Trustee’s proceedings.

In any accounting or other proceeding in which all persons interested in any trust hereunder are required by law to be served with process, if a party to the proceeding who is not under a disability has the same or a similar interest as a person under a disability, it shall not be necessary to serve process upon the person under a disability, it being the Donor’s intention to avoid the appointment of a guardian ad litem whenever possible.

TWELFTH: No beneficiary hereunder shall be authorized to antici- pate, alienate (other than by disclaimer), assign, hypothecate or otherwise dispose of or encumber any part of such beneficiary’s interest in the

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1160 APPENDIX income or principal of any trust hereunder, whether or not any such act may be authorized, in whole or in part, by any statute or other rule of law whether now or hereafter in force. Any such attempted act on the part of any beneficiary shall be void. No interest of any beneficiary hereunder shall be subject, while in the hands of the Trustees, to legal process on behalf of, or to the claims of the creditors of any such beneficiary.

THIRTEENTH: [During the life of the Donor, no] [During the lives of the Donor and the Donor’s spouse, no] [No] Trustee shall be entitled to any commissions or other compensation for such Trustee’s services as Trustee, except as may be paid to such Trustee under separate written agreement with the Donor, [or, if the Donor shall not then be living, with the Donor’s spouse,] filed with this Indenture from time to time. Follow- ing the death of the [survivor of the] Donor [and the Donor’s spouse], absent an agreement between the Donor [or the Donor’s spouse] and the Trustee applicable following the death of the Donor [or the Donor’s spouse], the Trustee shall be entitled for services hereunder to the same commissions to which a testamentary trustee would be entitled from time to time under the laws of the State of New York, to be payable without judicial authorization.

FOURTEENTH: The property constituting the principal of the trust estate is situated in the State of New York and has been accepted by the Trustees in the State of New York, and all questions pertaining to the construction, validity and effect of the trust shall be determined in accordance with the laws of the State of New York.

Any Trustee acting hereunder, if it seems expedient in the administration of the trust, may remove any or all of the property constituting the trust estate from the State of New York to any other jurisdiction.

If at any time one of the Trustees for the time being hereunder is domiciled in a jurisdiction (other than the State of New York) under the laws of which the trust would be valid, then such Trustee may determine that thereafter the construction and effect of this Indenture for any or all purposes shall be subject to the laws of such other jurisdiction. Such determination shall be evidenced by a written instrument duly executed by the Trustees and delivered to the Donor or, if the Donor is not then living, to the person or persons to whom an account would be rendered under Arti- cle ELEVENTH hereof.

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1161 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

FIFTEENTH: This Indenture and the trusts created hereunder shall be irrevocable and shall take effect upon acceptance by the Trustees. This Trust shall be known as “The ______201_ Life Insurance Trust.”

SIXTEENTH: This Indenture may be executed in counterparts or copies, each of which so executed shall be deemed an original, but all such counterparts shall be taken together to constitute but one and the same instrument.

IN WITNESS WHEREOF, the parties hereto have duly executed this Indenture under seal as of the day and year first above written.

______Donor

______Trustee

I accept my designation as representative of the Donor’s minor descendants for all purposes of this Indenture.

______

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1162 APPENDIX

SCHEDULE A $10.00

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1163 ESTATE PLANNING AND WILL DRAFTING, 2015 REVISION

STATE OF ______)

) ss.:

COUNTY OF ______)

On this ____ day of ______in the year 201_ before me, the undersigned, personally appeared ______, personally known to me or proved to me on the basis of satisfactory evidence to be the individual whose name is subscribed to the within instrument and acknowledged to me that he/she executed the same in his/her capacity; and that by his/her signature on the instrument, the individual, or the person upon behalf of which the individual acted, executed the instrument.

______Notary Public

STATE OF ______)

) ss.:

COUNTY OF ______)

______Notary Public

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1164 APPENDIX

STATE OF ______)

) ss.:

COUNTY OF ______)

On this ____ day of ______, in the year 201_, before me, the undersigned, personally appeared ______, personally known to me or proved to me on the basis of satisfactory evidence to be the individual whose name is subscribed to the within instrument and acknowledged to me that he/she executed the same in his/her capacity; and that by his/her signature on the instrument, the individual, or the person upon behalf of which the individual acted, executed the instrument.

______Notary Public

[Note: check current acknowledgment form for State of trust under Article FOURTEENTH]

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1165 1166 ERISA AND QUALIFIED PLAN BENEFITS

LIFETIME PLANNING FOR CLIENTS

DAVID A. PRATT

Professor of Law Albany Law School Counsel, Reish, Luftman, Reicher & Cohen Los Angeles, CA.

1167 1168 ERISA and Qualified Plan Benefits Lifetime Planning for Clients

David Pratt Professor of Law Albany Law School Counsel, Reish, Luftman, Reicher & Cohen, Los Angeles, CA. 518-472-5870 [email protected]

8FHSBUFGVMMZBDLOPXMFEHF1BUSJDJB+4IFWZ &TR 5IF4IFWZ-BX'JSN --$ "MCBOZ GPSSFWJFXJOH BOEVQEBUJOHUIJTDIBQUFS

I INTRODUCTION

This outline discusses some estate planning issues relating to assets accumulated under employer plans and IRAs, including rollover IRAs and Roth IRAs.

II DISTRIBUTION TIMING AND RESTRICTIONS

If an employer plan makes a distribution at a time when no distribution is permitted, this is a disqualifying defect. Different rules apply to different types of plan. Any after-tax employee contributions can generally be withdrawn at any time, if the plan so provides.

2.1 Pension Plans

Before 2007, under a pension plan (defined benefit or defined contribution), distributions could be made only upon the occurrence of one of the following events: death of the participant; disability of the participant; retirement; severance from employment; termination of the plan; or attainment of normal retirement age (NRA) without terminating employment, if the plan so provides.1 For defined benefit plans, there are also special limits on (1) the amount that can be distributed to certain highly compensated employees,2 and (2) the amount that can be distributed from certain underfunded plans.3

1 Reg. 1.401-1(b)(1)(i). Also, payments can be made to an alternate payee under a qualified domestic relations order (“QDRO”), even if none of the above events has occurred, if the QDRO and the plan so provide.

2 Reg. 1.401(a)(4)-5(b); Rev. Rul. 92-76, 1992-2 CB 76.

3 Section 206(g) of ERISA and section 436 of the Code, added by sections 103(a) and 113(a) of the Pension Protection Act of 2006 (PPA). See also Treas. Regs., Benefit Restrictions for Underfunded Pension Plans, 74 Fed. Reg. 53004, Oct. 15, 2009.

1169 Beginning in 2007, pension payments may be made to a participant who has attained age 62 and continues in employment.4 IRS has also issued final regulations that are generally effective May 22, 2007,5 subject to a delayed effective date for governmental plans.6 The regulations define NRA as an “age that is not earlier than the earliest age that is reasonably representative of the typical retirement age for the industry in which the covered workforce is employed.” Age 62 is deemed to meet this definition. If NRA is between 55 and 62, the employer’s determination that it meets this definition will be given deference, provided that it is supported by the facts and circumstances. An NRA below 55 is presumed not to qualify but a case can be made to the IRS. Age 50 is acceptable for qualified public safety employees.7

2.2 Profit- Sharing, 401(k) and Stock Bonus Plans

Under a profit sharing, 401(k), or stock bonus plan (including an ESOP), benefits (other than those attributable to elective deferrals) can be distributed upon the occurrence of any of the following events: death of the participant; disability of the participant; retirement; termination of employment; termination of the plan; attainment of normal retirement age without terminating employment, if the plan so provides; attainment of a stated age; occurrence of a stated event such as hardship, layoff, partial plan termination or illness; or accumulation of funds for a fixed number of years.8

2.3 Elective Deferrals

Amounts attributable to elective deferrals under a 401(k) plan, and other contributions that are

4 Section 905 of the PPA, amending ERISA section 3(2) and adding new Code section401(a)(36).

5 72 Fed. Reg. 28604, May 22, 2007.

6 IRS Notice 2008-98.

7 Notice 2007-69, 2007-35 I.R.B. 468, provides temporary relief, until the first day of the first plan year that begins after June 30, 2008, for certain plans under which the definition of NRA may need to be changed to comply with the regulations. The notice also identifies potential violations of the vesting and accrued benefit requirements for defined benefit plans that may arise from a definition of NRA based on a minimum period of service. Treasury and the Service are considering guidance under sections 401(a) and 411 of the Code to provide clarification regarding the types of benefits that are permitted to be provided in a qualified defined benefit plan [IRS Notice 2007-14, 2007-7 IRB 501].

8 Reg. 1.401-1(b)(1)(ii), (iii). Also, payments can be made to an alternate payee under a QDRO, even if none of the above events has occurred, if the QDRO and the plan so provide. Special restrictions may apply if the plan has received a transfer of assets and liabilities from a money purchase pension plan. [Rev. Rul. 94-76, 1994- 2 CB 46]

1170 subject to the same distribution restrictions,9 may only be distributed upon the occurrence of one of the following events:10 (1) death of the participant; (2) disability of the participant; (3) retirement; (4) severance from employment; (5) termination of the plan without establishment or maintenance by the employer11 of another defined contribution plan (other than an ESOP or SEP);12 (6) attainment of age 59 1/2, in the case of a profit-sharing or stock bonus plan; (7) hardship, in the case of elective contributions to a profit-sharing or stock bonus plan other than a safe harbor 401(k) plan;13 (8) disposition by a corporation to an unrelated corporation of substantially all (at least 85%) of the assets used by the corporation in a trade or business;14 and (9) disposition by a corporation to an unrelated entity or individual of its interest in a subsidiary.15 Under 5, 8 and 9 above, the distribution must be a lump sum distribution. Distributions under 8 or 9 must be made Ain connection with@ the disposition of assets or of the subsidiary, and are subject to additional requirements.16

These limitations generally continue to apply even after amounts attributable to elective contributions are transferred to another qualified plan, but do not apply (i) to elective transfers

9 Qualified matching contributions (QMACs), qualified non-elective contributions (QNECs), and safe harbor 401(k) contributions.

10 IRC section 401(k)(2)(B)(i); Reg. 1.401(k)-1(d). This rule does not prohibit distribution by an ESOP of dividends described in section 404(k)(2) [Reg. 1.404(k)-1(d)(6)(iii).

11 As determined after application of the employer aggregation rules of Code sections 414(b), (c), (m) and (o).

12 IRC section 401(k)(10)(A)(i); Reg. 1.401(k)-1(d)(3). A plan is a successor plan only if it exists at any time during the period beginning on the date of plan termination and ending 12 months after distribution of all assets from the terminated plan. Also, a plan is not a successor plan if, throughout the 24 month period beginning 12 months before the termination, fewer than 2% of the employees who were eligible under the 401(k) plan are eligible under the other plan. [Reg. 1.401(k)-1(d)(3)] A partial termination is not enough. [See, for instance, PLR 9523025]

13 IRC section 401(k)(2)(B). Section 826 of the PPA directs the Secretary of the Treasury to modify the rules relating to distributions from section 401(k), 403(b), 409A, and 457(b) plans on account of a participant’s hardship or unforeseeable financial emergency to permit such plans to treat a participant’s beneficiary under the plan the same as the participant’s spouse or dependent in determining whether the participant has incurred a hardship or unforeseeable financial emergency. See also IRS Notice 2007-7, 2007-5 IRB 395, Q & A 5. Hardship distributions and in-service distributions after age 59 2 may be made by a rural cooperative plan even though it is not a profit- sharing or stock bonus plan [IRC section 401(k)(7)(C)]. For additional rules relating to hardship distributions, see Reg. 1.401(k)-1(d)(2). The reduction of an employee=s account balance derived from elective contributions, by reason of default on a loan from the plan, is treated as a distribution [Reg. 1.401(k)-1(d)(6)(ii)].

14 Reg. 1.401(k)-1(d)(4)(iv). See also IRC sections 401(k)(10)(A)(ii), (C); Regs. 1.401(k)-1(d)(1)(iv), -1(d)(4).

15 IRC section 401(k)(10)(A)(iii), (C); Regs. 1.401(k)-1(d)(1)(v), -1(d)(4).

16 Reg. 1.401(k)-1(d)(4)(iii).

1171 described in Reg. 1.411(d)-4, Q & A 3(b)(1),17 if the amounts could have been distributed (otherwise than for hardship) at the time of the transfer, or (ii) to amounts directly rolled over to the 401(k) plan. Similar restrictions apply to the required employer contributions (matching or nonelective) to a safe harbor 401(k) plan, but in that case hardship distributions are not allowed.18

Also, payments can be made to an alternate payee under a QDRO, even if none of the above events has occurred, if the QDRO and the plan so provide.

2.4 Section 403(b) Arrangements

The rules for 403(b) plans differ, depending on the source of the funds and whether the funds are invested in annuity contracts or mutual funds.19 Amounts attributable to elective deferrals, and amounts held in mutual fund custodial accounts (rather than annuity contracts) are subject to restrictions similar to those applicable to elective deferrals under a 401(k) plan.20 Other amounts (i.e. employer matching and non-elective contributions held under an annuity contract or retirement income account) were previously not subject to any specific restrictions but, under the final regulations issued in 2007, are now subject to restrictions similar to those applicable to profit-sharing and stock bonus plans.21

2.5 IRAs

IRAs (including SEPs and SIMPLE IRAs) have no restrictions on the timing of distributions. Indeed, an employer that sponsors a SEP or SIMPLE IRA may not restrict the ability of an employee to withdraw funds from the account.22

A qualified plan, 403(b) plan or governmental 457(b) plan may include a deemed IRA. If the plan allows employees to make voluntary contributions to a separate account or annuity which, under

17 Reg. 1.401(k)-1(d)(6)(iv).

18 IRC section 401(k)(12)(E)(i).

19 IRC section 403(b)(7)(A)(ii).

20 IRC sections 403(b)(7)(A)(ii), IRC section 403(b)(11).

21 Treas. Reg. section 1.403(b)-6(b). The new rule does not apply to contracts issued by an insurance company before 2009 [Treas. Reg. section 1.403(b)-11(e)].

22 IRC sections 408(k)(4), (p)(3).

1172 the terms of the plan, meets the applicable requirements of section 408 or section 408A, then the account or annuity is treated as an IRA and not as a qualified plan.23

2.6 457 Plans

One of the requirements for an eligible (457(b)) plan is that distributions may be made available only at age 702, on severance from employment, or on the occurrence of an unforeseeable emergency.24 These restrictions do not apply to ineligible (457(f)) plans. However, most Section 457(f) plans are now subject to the Code section 409A distribution limitations enacted in 2004.

2.7 Non-Qualified Deferred Compensation

In the case of a non-qualified deferred compensation program maintained by a taxable employer, or an ineligible (457(f)) plan maintained by a governmental or tax-exempt employer, distributions may generally be made only on separation from service, disability, death, at a specified time (or pursuant to a fixed schedule) specified at the time of deferral, a change in ownership or control (to the extent provided in regulations), or the occurrence of an unforeseeable emergency.25

III PROTECTION OF SPOUSES

Some restrictions on plan distributions are intended to protect spouses. The requirement that most pension plans pay benefits in a “normal” form of a qualified joint and survivor annuity (QJSA)27 seeks to assure that a surviving spouse will be entitled to a benefit (at least 50% of what the employee would receive), unless that spouse consents to another form of benefit. The qualified domestic relations order (“QDRO”)28 rules are designed to ensure that the spouse can obtain funds from the plan in a matrimonial settlement. The QDRO rules do not apply to an IRA, including an employer-sponsored arrangement such as a SEP. However, a transfer of an individual’s interest in an IRA to a spouse or former spouse is not taxable, provided that the transfer is made pursuant to a divorce or separation instrument.29 There are differences between

23 Code section408(q)(1).

24 Code section 457(d).

25 Code section 409A(a)(2).

27 IRC Sections 401(a)(11), 417.

28 IRC Section 414(p).

29 IRC Section 408(d)(6).

1173 the IRA rules and the QDRO rules, which may be a trap for matrimonial lawyers who assume that the rules are the same.30

The Heroes Earnings Assistance and Relief Tax Act of 2008 (the HEART Act) provides additional qualified plan and other tax benefits for members of the military who are on active duty, or who die or become disabled while on active duty.

3.1 The Basic Survivor Annuity Requirements

Most pension plans (defined benefit, money purchase or target benefit plans) must provide (a) a qualified joint and survivor annuity (QJSA) as the required form of benefit, unless the participant, with the written consent of the spouse, elects otherwise; and (b) a qualified pre-retirement annuity (QPSA) for the surviving spouse in the event of the death of a vested participant prior to beginning to receive payments, unless the spouse elects otherwise.31 Plans that are not subject to the annuity rules (such as 401(k) plans, profit sharing plans and ESOPs) must provide that, on the death of a married participant, the entire account balance will be paid to the surviving spouse, unless properly waived by such spouse.32 The plan may provide that survivor annuities will be provided only if the parties have been married for at least one year.33

Thus, in a planning engagement that involves the designation of beneficiaries of qualified plan benefits, the consent of the spouse will be required (1) for a non-spouse beneficiary designation of death benefits and (2) in the case of a pension plan, for retirement distributions in a form other than a QJSA.

A consent to a beneficiary designation (as to the form of the benefit and/or the beneficiary) may be made specific as to the chosen designation or may be a blanket consent (in which case it would allow subsequent changes in the beneficiary designation). The designation of a trust which benefits the surviving spouse requires the waiver and consent procedures to be followed.

30 For example, Section 408(d)(6) does not provide for a tax free transfer to anyone other than the IRA owner’s spouse or former spouse, such as a child. Also, there is no provision allowing a withdrawal from one spouse’s IRA to be tax free if “rolled over” to the other spouse’s IRA. Therefore, it is prudent to be cautious when transferring an interest in an IRA. See, for instance, Rodoni v Commissioner, 105 TC 29 (1995).

31 IRC sections 401(a)(11) and 417; ERISA section 205.

32 IRC section 401(a)(11)(B)(iii).

33 IRC section417(d).

1174 In addition to the exception for profit sharing plans, 401(k) plans and ESOPs, the following retirement plans are NOT required to provide the QJSA and QPSA:

1. A plan to which Code section 411 does not apply, without regard to section 411(e)(2).34 This exempts governmental plans35 and non-electing church plans.36

2. The Code section 401(a) requirements generally apply only to qualified plans. 403(b) plans are specifically required to comply with certain provisions of section 401(a), but they are not made subject to the requirements of section 401(a)(11). A 403(b) plan will, however, be subject to the parallel annuity rules of ERISA section 205 unless

A. The plan is a governmental plan or a non-electing church plan;37 or

B. The plan is funded solely by employee contributions and employer involvement is limited;38 or

C. The plan is classified as a profit-sharing plan and the requirements described above are satisfied.

3. A plan described in Code section 457.

4. A non-qualified deferred compensation plan that is exempt from ERISA.

5. Any type of IRA, including an employer-sponsored IRA (a SEP or a SIMPLE IRA) and a rollover IRA, even if it holds funds transferred from a plan that IS subject to the annuity

34 Code section 401(a), flush language.

35 The term “governmental plan” is defined in Code section 414(d) and ERISA section 3(32), 29 USC section 1002(32.

36 The term “church plan” is defined in Code section 414(e) and ERISA section 3(33), 29 USC section 1002(33). A church employer may elect that its retirement plans be subject to the Code’s participation, vesting, funding, etc. rules [Code section 410(d)]. The term “non-electing church plan” describes a plan for which the election has not been made. Few churches have so elected.

37 ERISA sections 4(b)(1), (2), 29 USC sections 1003(b)(1), (2). For a discussion of survivor benefits under federal plans, see Patrick Purcell, Survivor Benefits for Families of Civilian Federal Employees and Retirees, CRS Report for Congress, updated April 17, 2008.

38 29 C.F.R. section 2510.3-2(f).

1175 rules.

In addition, the plan may (but need not) require the participant and spouse to have been married throughout the one year period ending on the date of the participant’s death.

3.2 QJSA

Under a QJSA, periodic payments must be made to the married participant for life. Periodic payments must continue to the participant’s spouse (if he or she survives the participant) and must be between 50% and 100% of the participant’s lifetime benefit.39

A defined benefit plan may satisfy this requirement by making the distributions directly out of the plan trust, or by purchasing an annuity contract. A defined contribution plan will purchase an annuity.

In general, under a defined benefit plan, the QJSA will be actuarially equivalent in value to the normal form of benefit, typically a single life annuity, provided by the plan, though sometimes the plan will subsidize the QJSA. Under a defined contribution plan, the amount of each monthly payment will be the amount that can be purchased with the participant’s vested account balance.

3.3 Selection of an Alternative Form of Benefit

This is possible only if several requirements are met. First, the plan must permit an alternative form of benefit, such as a lump sum or other form of installment distribution. Second, proper notice of all of the forms of benefit must be provided to the participant. Third, if a different form of benefit is to be selected, and the participant is married, not only must the participant select the different form in writing but also the participant’s spouse must consent in writing to that different form. In general, all of this must take place between 30 and 180 days prior to the date payments will begin, although the thirty day minimum notice period may be waived.40 A spousal waiver included in a pre-nuptial agreement is ineffective.

3.4 QPSA

Pension plans are also required to provide, as a mandatory form of pre-retirement death benefit, an

39 IRC section417(b).

40 IRC section417(a)(6), (7).

1176 annuity to the surviving spouse of a vested participant. This annuity, payable for the spouse’s life, is generally required to be actuarially equivalent to the survivor’s annuity that would have been payable to the spouse under a QJSA. Accordingly, the amount is essentially the actuarial equivalent of 50% of the participant’s vested benefit, converted to the form of a lifetime annuity. Under a defined contribution plan, the amount of the QPSA is the amount that can be purchased with 50% of the participant’s vested account balance.41

Again, an alternative form of death benefit can only be selected if it is available under the plan and is affirmatively elected by the participant or, if the plan so provides, by the surviving spouse after the participant’s death. If the participant is married or later marries, the alternative form of death benefit is payable only if the spouse consents. As with the waiver of a QJSA, there are notification requirements that must be satisfied both as to content and as to timing.

3.5 Notice and Consent Rules

If the plan is subject to the QJSA requirements, special notice and consent rules apply. The PPA amends these rules to require, beginning in 2007,42 distribution notices to be given 30 to 180 days before the date of distribution.43 In addition, Treasury was directed to modify the regulations under Code section 411(a)(11) to provide that the description of a participant’s right, if any, to defer receipt of a distribution must also describe the consequences of failing to defer receipt.44 Proposed regulations were issued on October 9, 2008.45

A standard form supplied by the plan may not be sufficient to inform the spouse of the rights that he is she is being asked to give up.46 An agreement made before marriage does not satisfy the

41 IRC section417(c).

42 Section1102(b)(2)(B) of PPA provides that a plan will not be treated as failing to meet the new requirements if the plan administrator makes a reasonable attempt to comply with the new requirements during the 90 day period after the issuance of the required regulations. Notice 2007-7, 2007-5 IRB 395, Q & A 33, provides a safe harbor.

43 ERISA section 205(c); IRC section 417(a). See also Section VIII of Notice 2007-7, 2007-5 IRB 395.

44 Section 1102(b) of PPA.

45 73 Fed. Reg. 59575.

46 See, e.g., Lasche v George W. Lasche Basic Retirement Plan, 870 F. Supp. 336 (S.D. Fla., 1994); Neidich v. Neidich, 222 F.Supp. 2d. 357 (S.D.N.Y. 2002); Notice 97-10, 1997-2 IRB 1 (IRS sample language for a spouse’s consent).

1177 consent requirement, even if made within the applicable time frame.47 “Because of the preemption of state law by ERISA the prevailing view is that an undertaking by the spouse to execute a waiver after the marriage in an otherwise enforceable prenuptial agreement cannot be enforced under state law, whether via a constructive trust on the benefits, suit for specific performance, breach of contract or otherwise.”48

In a Kentucky case,49 the participant, Sandler, remarried with two children from a prior marriage. He and his new wife executed a prenuptial agreement in which each expressly waived any interest in the other party’s retirement accounts. However, Sandler never changed his beneficiary designations and never had his wife submit a spousal waiver to the plan administrator. Sandler died, and the plan administrator filed an interpleader action. The court ruled in favor of the second spouse. The children also sought recovery on a breach of contract theory, i.e., that the wife had an obligation to submit the requisite forms. The court ruled against the children.

In a 2006 case,50 Douglas Durden separated from his first wife, Ann, in 1982. In 1985, he married his second wife, Rita. After he died, Ann claimed his Chrysler pension, life insurance and benefits. Durden assumed that he was divorced from Ann and named Rita as beneficiary. The 6th Circuit, applying Ohio law, ruled that the second spouse had the burden of proving that the prior marriage had been dissolved, which she failed to prove. The first wife was entitled to the benefits.

3.6 Effect of Divorce

Numerous cases have addressed the following situation: a participant in an employer-sponsored plan, or owner of an insurance policy, designates his or her spouse as beneficiary; the parties are later divorced, but the beneficiary designation form (BDF) is never changed. Who receives the proceeds?51 One way to address this issue is to specify in the property settlement agreement who

47 Treas. Reg. 1.401(a)-20, Q & A 28. See also Franklin v Thornton, 983 F 2d 1433 (9th Cir., 1993); Hurwitz v Sher, 789 F Supp. 134 (S.D.N.Y., 1992); Nellis v Boeing Co., 15 EBC 1651 (D. Kan., 1992).

48 Virginia F. Coleman, Selected Issues in Planning for the Second Marriage, ALI-ABA Course of Study Materials, Planning Techniques for Large Estates, Course No. SN048, May, 2008. In re Estate of Bloom-Kartiganer, 599 N.Y.S. 2d 599 (App. Div. 1993), holding to the contrary, is wrong.

49 Greenebaum, Doll & McDonald PLLC v. Sandler, 43 EBC 1690 (6th Cir., 2007).

50 DaimlerChrysler Corporation Healthcare Benefits Plan v. Durden, 448 F. 3d 918 (6th Cir., 2006).

51 For instance, in McCarthy v Aetna Life Ins. Co., 92 N.Y. 2d 436, the decedent had named his ex-wife as beneficiary of an insurance policy. A later will left all “insurance proceeds” to his father, but the beneficiary designation was never changed. The court held that the ex-wife was entitled to the proceeds because there was insufficient evidence of an intent to change the beneficiary. In the context of an ERISA-covered pension or welfare

1178 is to receive any plan or IRA proceeds, identifying each account individually. Another, and probably better, way is to specify in the plan or in the BDF whether any designation of a spouse as beneficiary is to survive a divorce or separation.

In Kennedy,52 the Supreme Court held that a former spouse can give up the right to benefits by agreeing to do so as part of a divorce decree, but whether the ex-spouse is entitled to the benefits is decided by what the plan documents say. The Court left open a third question: if an ex-spouse is paid the benefits by the plan manager, might they have to be surrendered, once the payout is completed? The Court resolved how federal benefit law applies to the initial distribution of plan benefits, not their subsequent fate. The Court held that the participant’s failure to replace his ex- wife as his beneficiary, as plan documents allowed him to do, ended the matter so far as the plan distribution was concerned. “William’s designation of Liv as his beneficiary was made in the way required; Liv=s waiver was not.”

In 2013, the Supreme Court decided Hillman v. Maretta, 133 S. Ct. 1943, preempting state-law- authorized post-distribution relief against an ex-spouse who took under a federally regulated beneficiary designation. “Although Hillman was not an ERISA case, the Court's 8-0 opinion will inevitably be treated as governing in ERISA cases as well. Hillman effectively abrogates Kensinger and Andochick, and it will preclude state-law-based post-distribution relief against the unjustly enriched ex-spouse in any case in which that ex-spouse takes under a federally created or federally regulated beneficiary designation.”53

3.7 Posthumous QDROs

Section 1001 of the Pension Protection Act of 2006 directed the U.S. Department of Labor (DOL) to issue regulations clarifying that an otherwise qualified DRO would not fail to be a QDRO solely because of the time when it is issued. DOL issued an interim final regulation in March, 2007, effective April 6, 2007.54 The regulation includes an example under which a non-qualifying DRO is corrected after the death of the participant. According to the preamble, the example

plan, the situation is complicated by the anti-alienation and QDRO rules and the general preemption of state law. In Egelhoff v Egelhoff, 2001 U.S. LEXIS 2458 (2001), the U.S. Supreme Court held that ERISA preempts a Washington State statute that revokes, on dissolution of marriage, a deceased’s designation during marriage of his then-spouse as beneficiary of his pension plan and employer-provided life insurance.

52 Kennedy v. Plan Administrator for DuPont Savings and Investment Plan, 129 S. Ct. 865 (2009).

53 Langbein, Destructive Federal Preemption of State Wealth Transfer Law in Beneficiary Designation Cases, 67 Vand. L. Rev. 1665, 1681 (2014). 54 72 Fed. Reg. 10070, March 9, 2007.

1179 illustrates the principle that “a domestic relations order will not fail to be a QDRO solely because it is issued after the death of the participant.”This suggests that the answer would have been the same even if the participant had died before entry of the first DRO.

3.8 Distribution Options for a Spouse55

1. Rollover to his/her own IRA,56 or to a rollover IRA in the decedent’s name.57 This can sometimes be done even though the spouse is not directly named as the beneficiary.58 In PLR 200615032, the decedent’s estate was named as beneficiary. The decedent had a pour-over will that created a trust in which the spouse was sole trustee and sole beneficiary, and had an unrestricted right to withdraw the IRA. The trust is considered a “see-through” trust, with the spouse treated as if she were named as the beneficiary. The same principle has now been adopted by IRS with respect to non-spousal rollovers.59 If a trust names a non-spouse as the sole or primary beneficiary of the trust, then the trust will qualify as a “see-through” trust and the non- spouse will be able to execute a rollover.

2. Election by the spouse to treat the decedent’s IRA as his/her own.60

3. To defer the commencement of payment until the participant would have reached age 70 1/2.61

4. If a spouse-beneficiary dies before payments to her are required to begin, he/she will be treated as the participant, and his/her beneficiary as the designated beneficiary, for purposes of determining the payout period.62

55 For a detailed outline, see Virginia F. Coleman, Special Distribution Options Available to Spouse as Beneficiary of a Qualified Retirement Plan or IRA, ALI-ABA Course Materials, Sophisticated Estate Planning Techniques, Course No. SP020, September, 2008.

56 Code sections 402(c)(1), (9), 408(d)(3)(C).

57 See, e.g., PLR 200650023.

58 See, e.g., PLR 200703047, 200704033, 200703035, 200637033, 200438045.

59 Notice 2007-07, Q & A 16.

60 Reg. 1.408-8, Q & A 5(b).

61 Code section 401(a)(9)(B)(ii) (iv)(I); Reg. 1.401(a)(9)-3, Q & A 4.

62 Code section 401(a)(9)(B)(ii) (iv)(II).

1180 5. If the spouse takes a payout as beneficiary, rather than making a rollover to his/her own IRA, then he/she may take payments over a recomputed life expectancy. All other beneficiaries are prohibited from recomputing life expectancy. However, if the spouse is named as direct beneficiary, it is generally better for him/her to roll over and to take payments under the uniform lifetime table.

1181 IV THE MINIMUM DISTRIBUTION RULES63

The Tax Reform Act of 1986 enacted minimum distribution rules for qualified plans, 403(b) arrangements, eligible deferred compensation plans under section 457(b) and IRAs.64 The statute leaves most of the detail to be provided by regulations. In 1987, Treasury issued complex proposed regulations,65 which were never finalized. On January 17, 2001, IRS issued new proposed regulations,66 which simplified the rules considerably and, in almost every situation, reduced the amounts required to be distributed.

On April 17, 2002, Treasury issued final regulations, which included temporary regulations relating to defined benefit plans and annuity contracts.67 Those regulations finalized many of the 2001 proposed rules, but also contained several changes, including new life expectancy tables to be used to determine the amount of the minimum required distributions (MRDs).68 At the same time, Treasury issued temporary and proposed regulations for MRDs from defined benefit plans and annuities: these regulations were finalized in 2004.69

The final regulations apply to qualified plans, 403(b) arrangements, SEPs, SIMPLE plans, IRAs

63 Tomes have been written on this topic [e.g., Life and Death Planning for Retirement Benefits: The Essential Handbook for Estate Planners, , by Natalie Choate], so this section is only a summary of the more important rules. In addition to satisfying the minimum distribution rules, a qualified plan must provide that, unless the participant elects otherwise, payment of benefits will begin no later than 60 days after the end of the plan year in which the latest of the following occurs: (i) the participant attains the earlier of age 65 or the plan’s normal retirement age; (ii) the 10th anniversary of the year in which the participant commenced participation; or (iii) the participant terminates service with the employer [IRC section 401(a)(14)].

64 See Code sections 401(a)(9), 403(b)(10), 408(a)(6), 408(b)(3), 457(d)(2).

65 52 Fed. Reg. 28070, July 27, 1987.

66 66 Fed. Reg. 3928.

67 67 Fed. Reg. 18988.

68 Several simplifying changes are included in the regulations, e.g. for lifetime distributions, the marital status of the employee is determined on January 1 each year: divorce or death after that date is disregarded until the next year [Reg. 1.401(a)(9)-5, Q & A 4(b)(2)]; a change in beneficiary due to the spouse’s death is not recognized until the following year [Reg. 1.401(a)(9)-5, Q & A 4(b)(2)]; contributions and distributions made after December 31 of a calendar year may be disregarded for purposes of determining the minimum distribution for the following year [Reg. 1.401(a)(9)-5, Q & A 3(b)]; and if the employee dies after the RBD, the applicable distribution period will be the longer of (1) the remaining life expectancy of the employee or (2) the remaining life expectancy of the designated beneficiary. This is helpful if the beneficiary is older than the employee.

69 69 Fed. Reg. 33288; T.D. 9130, June 15, 2004.

1182 (including Roth IRAs, except as provided in section 408A(c)(5)), and 457(b) plans. The final regulations apply whenever account balances are still held for the benefit of a beneficiary, even if the participant or IRA owner died before their effective date.70

On July 10, 2008, the IRS and Treasury proposed regulations,68 pursuant to section 823 of the PPA, providing that governmental plans are treated as satisfying the required minimum distribution rules of section 401(a)(9) if they comply with a reasonable, good faith interpretation of those rules. The proposed regulations would apply to governmental plans within the meaning of section 414(d); eligible governmental section 457(b) plans; and section 403(b) contracts that are part of a governmental plan (within the meaning of section 414(d)). Conforming changes were proposed for various regulations, and existing Treas. Reg. section1.401(a)(9)-6, Q&A-16, which provides a special rule for annuity payments under governmental plans, would be eliminated. The proposed regulations would be effective for all years to which section 401(a)(9) applies.

On December 23, 2008, the President signed into law H.R. 7327, the Worker, Retiree, and Employer Recovery Act of 2008, which includes the long-awaited technical corrections to the Pension Protection Act of 2006 (PPA), and a temporary waiver of the minimum distribution rules.

4.1 General Rules

All tax favored retirement arrangements (except, during the lifetime of the owner, Roth IRAs),69 are subject to the minimum distribution requirements, which generally require distributions to begin by April 1 (the “required beginning date”, or RBD) of the calendar year following the year in which the plan participant or IRA owner attains age 70 1/2.70 In the case of a qualified plan or 403(b) arrangement, distributions need not begin until the employee “retires” (an undefined term), unless the employee is a 5% owner with respect to the plan year ending in the calendar year in which the employee attains age 702.71 Generally, a distribution is required for each calendar year, and must be made by December 31 of the distribution year (except for the first year). Therefore, if

70 Reg. 1.401(a)(9)-1, Q & A 2(b)(1).

68 73 Fed. Reg. 34665 (2008). 69 IRC Section 408A(c)(5). 70 See IRC Sections 401(a)(9) (qualified plans), 403(b)(10) (tax-sheltered annuities), 408(a)6), (b)(3)) (IRAs), 457(d)(2)(A) (eligible deferred compensation plans). This rule does not apply to a governmental or church plan (Section 401(a)(9)(C)(iv)). 71 IRC Section 401(a)(9)(C)(i). The minimum distribution rules generally apply only to 403(b) benefits accruing after 1986. However, distribution of the amount that accrued before 1987 must satisfy the incidental death benefit requirement. Reg. section 1.403(b)-6(e). The minimum distribution rules, as amended by TRA 86, do not apply (i) with respect to any benefits subject to an election under Section 242(b)(2) of TEFRA, or (ii) in the case of a non-5% owner who attained age 70-1/2 before January 1, 1988. TRA 86, Section 1121(d)(4).

1183 the 70 1/2 year distribution is postponed until the next year, two distributions must be made in the second year. Distributions before the RBD do not offset future required distributions.72

Generally, benefits may be distributed over the life or life expectancy of the employee or the lives or life expectancies of the employee and a “designated beneficiary.”73 The regulations establish complex rules for determining life expectancy, identifying the designated beneficiaries, calculating the amount required to be distributed each year, and applying the incidental death benefit rule.74

Although each qualified plan must separately satisfy the minimum distribution rules, an IRA owner may generally use any one or more of his or her IRAs to satisfy these requirements with respect to all IRAs.75

4.2 Purpose and Policy Issues

The minimum distribution rules and the incidental death benefit rule80 are designed to prevent excessive deferral.81 They require specified amounts to be paid out of the retirement arrangement, or a severe penalty (a 50% excise tax) is payable.82 In 2004, less than one-fifth of households owning traditional IRAs took withdrawals. Of those that did, about three-quarters made the withdrawal to meet the minimum distribution requirements.83

For all their complexity, the rules do not prevent excessive deferrals. First, assuming that the account earns a reasonable investment return, the value of the account will continue to increase

72 Reg. 1.401(a)(9)-2, Q & A 6(a). Accordingly, if the individual dies before the RBD, MRDs must be calculated as though no distributions had been made before death, even if the MRD for the first distribution calendar year was made before the death. Also, if an individual takes a distribution that is larger than the MRD for any year, he or she may not use the excess to reduce the amount of the MRD for any later year. 73 Reg. 1.401(a)(9)-2, Q & A 1(a). 74 Code section 401(a)(9)(G); Reg. 1.401(a)(9)-2, Q & A 1(b). 75 Treas. Reg. section 1.408-8, Q & A 9. 80 In its original formulation, the incidental death benefit rule required that at least 50% of the present value of a participant’s benefit be distributed during the participant’s life expectancy, unless the designated beneficiary was the participant’s spouse. The rule is now in Code Section 401(a)(9)(G). 81 “Uniform minimum distribution rules which establish the permissible periods over which benefits from any tax- favored retirement arrangement may be distributed ensure that plans are used to fulfill the purpose that justifies their tax-favored status -- replacement of a participant’s preretirement income stream at retirement -- rather than for the indefinite deferral of tax on a participant’s accumulation under the plan.” [Staff of the Joint Committee on Taxation, General Explanation of the Tax Reform Act of 1986, released May 7, 1987, at 710]. 82 IRC Section 4974. 83 Investment Company Institute, “The Role of IRAs in Americans’ Retirement Preparedness”, Fundamentals, vol. 15, no. 1 (January 2006).

1184 for several years after distributions begin.84 Second, by allowing the benefits to be paid out over the life expectancy of a designated beneficiary who may be many years younger than the participant, wealthy participants (those who do not need the plan benefits to meet current living expenses) can ensure that the tax shelter continues for decades after they are dead.85

4.4 Designated Beneficiaries

Not all beneficiaries are designated beneficiaries. The importance of having a “designated beneficiary” is that it may allow use of a longer period over which to spread out distributions after the death of the plan participant or IRA owner.

Generally, a designated beneficiary must be a natural person and not, for instance, an estate or a charity.86 However, if a trust is named as beneficiary, the beneficiaries of the trust will be designated beneficiaries if (1) individuals have the only beneficial interests in the trust (and the interest is enforceable), (2) the oldest member of the class of beneficiaries is identifiable, (3) the participant provides the plan administrator with a copy of the trust instrument or a certification as to the trust beneficiaries, and (4) the trust is irrevocable or will, by its terms, become irrevocable upon the death of the employee or IRA owner.87 The final regulations make it clear that testamentary trusts qualify,88 and also clarify that the minimum distribution rules require only a payout by the plan or IRA to the trust, not a payout by the trust to the trust beneficiaries.89 It is not clear whether a perpetual or dynasty trust is a permissible beneficiary of IRA or qualified plan benefits.90

84 For instance, if the benefits are determined under the uniform lifetime table, the applicable distribution period for the first year is 27.4. [Treas. Reg. section 1.401(a)(9)-9, Q & A 2] At a constant 8% annual rate of return, if they withdraw only the required minimum distributions, the account will increase in value each year until the participant reaches age 88. 85 For instance, assume that a 65 year old decedent names her six-year-old grandson as the designated beneficiary of her IRA, which is worth $1 million at her death. The rules allow the IRA to be paid out over the grandchild’s life expectancy, 76.7 years [Treas. Reg. section 1.401(a)(9)-9, Q & A 1]. With a constant 8% annual return, the total payments, if the grandchild takes only the required minimum each year, would be more than $800 million. This is patently absurd. 86 Reg. 1.401(a)(9)-4, Q & A 1. 87 Reg. 1.401(a)(9)-4, Q & A 5. 88 Reg. 1.401(a)(9)-5, Q & A 7(c)(3), Ex. 2. 89 Reg. 1.401(a)(9)-8, Q & A 11. 90 See, for instance, Choate, Life and Death Planning for Retirement Benefits, Ataxplan Publications; Coleman, Preserving the ADesignated Beneficiary@ If a Trust is Named as Beneficiary of a Qualified Plan or IRA, ALI-ABA Course of Study Materials, Sophisticated Estate Planning Techniques, Course No. SP020, Sept., 2008; Ice, Hot Topics and Recent Developments in the IRA/ Qualified Plan Distribution Area: From the Sublime to the Ridiculous, 25 ACTEC Notes 226 (1999), at 239-241.

1185 Whether there is a designated beneficiary, and who that beneficiary is, can be determined as late as September 30 of the year following the year of the participant’s death.91 Under the 2001 proposed regulations, it was not clear whether it was possible to add (rather than eliminate) a beneficiary after the employee’s death, for instance (1) by giving an executor or trustee power to choose the beneficiary after the employee=s death or (2) by distributing the right to receive retirement plan benefits from an estate or trust with the aim of making the distributees the designated beneficiaries. The final regulations state that the designated beneficiaries are determined as of the date of death. After that date, beneficiaries can be eliminated, but not added:

In order to be a designated beneficiary, an individual must be a beneficiary as of the date of death... the employee’s designated beneficiary will be determined based on the beneficiaries designated as of the date of death who remain beneficiaries as of September 30 of the calendar year following the calendar year of the employee’s death.92

The final regulations provide that, if a designated beneficiary dies between the employee’s date of death and September 30 of the year following the year of the employee’s death, the individual continues to be treated as the designated beneficiary, for purposes of determining the distribution period, rather than the successor beneficiary.93

Any disclaimer by a beneficiary must meet the requirements of Code section 2518 and thus, for instance, must be made before the beneficiary accepts any part of the benefit.94 As with any other dispositive document, provision for a disclaimer can provide increased flexibility and allow for post-mortem planning. The participant should consider including in the beneficiary designation form (BDF) a specific provision for disclaimer of all or part of the benefit, particularly if the primary beneficiary is the surviving spouse. The BDF should also state specifically who is to be the beneficiary of any benefit that is disclaimed. The rules of Code section 2518 do not always govern the effect of a qualified disclaimer for purposes of the minimum distribution rules.95

In PLR 200616040, the decedent named his wife as beneficiary of his IRA. The wife died shortly

91 Reg. 1.401(a)(9)-4, Q & A 4. 92 Reg. 1.401(a)(9)-4, Q & A 4(a). 93 Reg. 1.401(a)(9)-4, Q & A 4(c). 94 Reg. 1.401(a)(9)-4, Q & A 4. 95 In PLR 9450040, IRS ruled that it would not be appropriate to treat the disclaiming surviving spouse as dead, since she was still alive. In PLR 9537005, IRS treated the disclaimer as being equivalent to a change of beneficiary made by the participant (who was past his RBD) at the moment of death. In PLR 200010055, IRS ruled that minimum distributions to a disclaimer trust were measured by the disclaiming widow’s life expectancy, as she was the oldest beneficiary of the trust. In PLR 200013041, IRS ruled that the personal representative of a man who died a few days after his wife properly disclaimed his interest in her IRA, and that their children could take distributions over the oldest child’s life expectancy.

1186 thereafter, and her estate disclaimed the IRA. The decedent’s daughters were not named as contingent beneficiaries because of a lapse by the custodian, who admitted to the mistake. The daughters obtained a court-ordered reformation of the beneficiary designation form naming them as contingent beneficiary. They then sought authorization from the IRS to allow the account to be transferred to the two separate accounts established for them, and the life expectancy of the oldest daughter was used for MRD purposes. The IRS agreed.

The rules do not allow the individual beneficiaries of an estate to become the deceased employee’s designated beneficiaries even if the estate has been closed before the designation date (September 30 of the year following the year of death) and all of its assets distributed to individual beneficiaries. By contrast, the regulations freely permit a “look through” to the individual beneficiaries when a trust is named as beneficiary. Why should beneficiaries of an estate be treated less favorably than beneficiaries of a trust? This furthers no apparent policy objective, and exalts form over substance. Elimination of the rule would avoid the adverse effects of the common error of naming one’s estate as beneficiary. While virtually all estate planners are aware of this rule, and can advise their clients of more advantageous alternatives, the average employee or IRA owner is not. The minimum distribution rules apply to all tax-favored retirement benefits, no matter how small. For an employee who wants her IRA to pass to her spouse, then to her children as contingent beneficiaries, it may seem entirely logical to name her estate as beneficiary, if her will provides for this distribution.

The problem is exacerbated by the fact that the estate may become, or may be deemed to be, a beneficiary even without an affirmative designation by the employee or IRA owner. For instance, the estate is the default beneficiary under many plan and IRA documents, or the IRS may deem the estate to be a beneficiary if estate taxes are paid from the retirement account.96

In PLR 200849020, the taxpayer designated “as stated in wills” as the primary beneficiary of his IRA. Under his will, the residuary estate was bequeathed to a trust. After taxpayer’s death, a state court entered an order providing that the phrase “as stated in wills” was a specification of the trust as designated beneficiary of the IRA and that the individuals who were beneficiaries of the trust were the designated beneficiaries of the IRA. IRS ruled that, because the IRA beneficiary designation form made no mention of the trust, the trust could not be “named as a beneficiary of the employee” as required by Treas. Reg. 1.401(a)(9)-4, Q&A-5 Thus, the taxpayer would be treated as having no designated beneficiary at his death for purposes of determining distributions under I.R.C. section 401(a)(9). IRS declined to give the state court order effect for purposes of

96 See, for instance, Virginia F. Coleman, Providing for the Payment of Estate Tax on Retirement Plans, ALI-ABA Course of Study Materials, Estate Planning for Distributions from Qualified Plans and IRAs, Course No. VPC0523 (May, 2002).

1187 I.R.C. section 401(a)(9) because to do so would, in effect, create or add designated beneficiaries by treating those individuals as designated beneficiaries even though they were not named as such by the taxpayer at his death.97

Naming the credit shelter trust as beneficiary should generally be done only if there are not enough assets outside the plan to fund the exemption equivalent. Problems include: (1) The difficulty of meeting the requirements of a qualified trust, (2) rollover treatment is not available, (3) the consent of the spouse is required for qualified plans, (4) some of the unified credit is wasted because it must be paid out in income taxes; (5) at best, benefits can extend only over the life of the oldest beneficiary; and (6) to the extent that assets are kept in the trust, they will be taxed at the trust’s higher rate.98

Death benefits under qualified plans and IRAs are IRD. If IRD is used to satisfy a pecuniary bequest, the trust may be required to immediately recognize gain on the transfer since the transfer is treated as a sale or exchange.99 Instead, use a fractional formula, and require the Trustee to allocate IRD items to the marital share, except to the extent needed to fund the exempt amount.

If any beneficiary (other than a qualifying trust) is not an individual, the plan participant or IRA owner will be treated as having no designated beneficiary.100

4.5 Who is a Beneficiary of a Trust?

In determining who are beneficiaries, for purposes of determining whether all beneficiaries of the trust are individuals, and in determining which beneficiary has the shortest life expectancy, the final regulations provide that a beneficiary can be disregarded if the beneficiary is merely the successor to the interest of another beneficiary. The beneficiary cannot be disregarded if he or she has an interest in the trust that is not merely as successor to another beneficiary.101 This is an improvement over the 2001 proposed regulations, but is still not entirely clear. Unfortunately, the final regulations do not include any examples on this issue.

Under a typical QTIP trust, the children are considered beneficiaries. Some amounts distributed from the decedent’s account to the trust may be accumulated in the trust during the surviving

97 See also PLR 200846028. 98 Gayle Evans, Estate Planning with Qualified Plans and IRAs, ALI-ABA Course of Study Materials, Basic Estate and Gift Taxation and Planning, August 2008, Course Number: SP005. 99 Code section691. 100 Reg. 1.401(a)(9)-1, E-5(a)(1), D-2A(b). 101 Reg. 1.401(a)(9)-4, Q & A 3.

1188 spouse’s lifetime for the benefit of the decedent’s children, as remainder beneficiaries, even though access to those amounts is delayed until after the surviving spouse’s death. Thus, the children are beneficiaries and the surviving spouse is not the sole beneficiary.102

The major area of concern with respect to this rule is where the secondary beneficiary is a charity because, under the IRS interpretation, the interest of the charity is not contingent. In view of these uncertainties, great care must be taken in naming charities as beneficiaries.103

Documentation of the beneficiaries of the trust must be provided to the plan administrator or to the IRA trustee, custodian or issuer.104

Trust beneficiaries cannot use the separate accounts rule for the trust’s interest in the benefits.105 Thus, the beneficiary designation should establish separate accounts at the plan or IRA level. It is not clear whether this can be corrected after the employee’s death.

In PLR 200708084, a mother left her IRA to a trust that, in turn, created subtrusts for each of her two children, one of whom was the only beneficiary of each subtrust. The terms of the trust required that the IRA be used to fund the two subtrusts. It further provided for outright distributions once each child had reached the age 45, which had already occurred. Since it was clear that the two children’s subtrusts would be entitled to the IRA, it was deemed to be a “see- through” trust and the children were able to take title to the IRA in their own names as beneficiaries.

PLR 2006200025 involved a special needs trust. The beneficiaries of the decedent’s IRA were his four sons, one of whom was disabled and receiving Medicaid benefits. The ruling acknowledged that the disabled son could not inherit his share of the IRA without becoming ineligible for

102 “ It is clear from examples in the regulations that if distributions from the retirement plan will or might be held in the trust for eventual distribution to a remainder beneficiary, then the remainder beneficiary must be taken into account. [citing Treas. Reg. 1.401(a)(9)-5, A-7(c)]The effect of layers of contingent remainder beneficiaries is far less clear, but a recent PLR indicates that the IRS is taking the position that you must peel back the layers until you find beneficiaries who would be eligible to take outright if the trust terminated at the Designation Date. If the remainder would pass in further trust, the remainder beneficiaries of that successor trust must also be examined. [citing PLR 200228025] On the other hand, if outright takers are living at the Designation Date, the contingency that they may die before the original trust terminates has been ignored. [citing PLR 200438044] Since letter rulings may not be relied upon by other taxpayers, cautious practitioners will assume that all contingencies must be taken into account, at least if they are stated in the document.” [Jean T. Adams, Working with Retirement Benefits in Estate Planning for Family Business Owners, ALI-ABA Course of Study Materials, Estate Planning for the Family Business Owner, July 2007, Course Number: SN002] 103 See, e.g., PLR 9820021. 104 Reg. 1.401(a)(9)-4, Q & A 6. 105 Reg. 1.401(a)(9)-4, Q & A 5(c).

1189 Medicaid. The son’s mother was his guardian, and she petitioned the probate court to create a special needs trust to hold the son’s share of the IRA. The ruling said that the special needs trust would qualify as a grantor trust, so the assignment of the beneficiary’s interest in the IRA to the trust was not a taxable even. IRS also ruled that the special needs trust qualified as a “see- through” trust, allowing the trust to use the son’s life expectancy for MRD purposes.

4.6 Defined Contribution Arrangements

Under a defined contribution plan or IRA, the amount of the required minimum distribution for any year is generally determined by dividing (i) the account balance at the end of the preceding year106 by (ii) the applicable distribution period.107

Although Roth IRAs are not subject to minimum distribution requirements while the IRA owner is alive,108 section 402A does not exempt designated Roth accounts. Thus, designated Roth accounts are subject to the rules of section 401(a)(9) in the same manner as pre-tax elective deferrals.

4.7 Separate Accounts and Segregated Shares

Separate accounts are a response to two difficult rules: first, the rule that if there is more than one designated beneficiary, the beneficiary with the shortest life expectancy (i.e., the oldest one) is used to determine the maximum payout period; 109 and second, the rule that if any beneficiary is not an individual, there will be no designated beneficiary.110 Another use for separate accounts, unrelated to the minimum distribution rules, is to ensure that the amount passing to a grandchild does not exceed the amount of the remaining generation-skipping tax (GST) exemption. Under the regulations, the GST exemption may not be allocated to a separate account during the participant’s lifetime.111

A separate account under a defined contribution plan or IRA is a portion of the benefit determined by an acceptable separate accounting, including allocating investment gains and losses,

106 Reg. 1.401(a)(9)-5, Q&A 3. For an IRA, the valuation date will always be December 31. [Reg. 1.408-8, Q & A 6] For a qualified plan or 403(b) plan, the valuation date may be another date. For example, if a plan has a plan year ending November 30, and provides for quarterly valuation dates, the last valuation date in a calendar year will be November 30. 107 Reg. 1.401(a)(9)-5, Q&A 1(a). 108 Code section 408A(c)(5). 109 Reg. 1.401(a)(9)-5, Q & A 7. 110 Reg. 1.401(a)(9)-4, Q 7 A 3. 111 Reg 26.2632-1(c).

1190 contributions and forfeitures on a pro rata basis in a reasonable and consistent manner between such portion and any other benefits.112 Separate accounts with different beneficiaries can be established “at any time”, either before or after the RBD. However, the separate accounts are recognized, for purposes of determining MRDs, only after the later of (1) the year of the employee’s death (before or after the RBD) or (2) the year the separate accounts are established.113 If separate accounts, determined as of an employee’s date of death, are actually established by the end of the calendar year following the year of an employee’s death, the separate accounts can be used to determine required minimum distributions for the year following the year of the employee’s death. Post-death investment experience must be shared on a pro-rata basis until the date on which the separate accounts are actually established.114

A benefit under a defined benefit plan is separated into segregated shares if it consists of separate identifiable components which are separately distributed.115

4.8 Spouse and Surviving Spouse

Generally the identity of an individual’s spouse or surviving spouse is determined under state law. However, a former spouse to whom benefits are payable under a QDRO will be treated as the spouse or surviving spouse, for purposes of the MRD rules, regardless of whether the QDRO specifically so provides.116

There are three special rules where the designated beneficiary is the surviving spouse:

1. The commencement date is postponed, where the employee or IRA owner dies before the RBD, until the end of the year in which he or she would have reached age 70 1/2.117

2. The surviving spouse has the right to effect a rollover,118 apparently even if she is not the sole beneficiary. Also, the surviving spouse may elect to treat an IRA as his or her own IRA, if he or she is the sole beneficiary and has the unlimited right to withdraw funds from the inherited IRA.119 However, a trust for the benefit of the spouse may not make this election, even if the

112 Reg. 1.401(a)(9)-8, Q & A 3. 113 Reg. 1.401(a)(9)-8, Q & A 2(a)(2). 114 Reg. 1.401(a)(9)-8, Q & A 2(a)(2). 115 Reg. 1.401(a)(9)-8, Q & A 2(b). 116 Reg. 1.401(a)(9)-8, Q & A 6(a). 117 IRC section 401(a)(9)(B)(iv). 118 IRC sections 402(c)(9), 408(d)(3). 119 Reg. 1.408-8, Q & A 5.

1191 spouse is the sole beneficiary of the trust.120

Use of the joint and survivor life expectancy table, during the lifetime of the employee or IRA owner, if the spouse is more than 10 years younger than the employee or owner.121

4.9 The Applicable Distribution Period

For distributions during the lifetime of the employee or IRA owner, the applicable distribution period, for each distribution calendar year up to and including the year of his or her death, is generally the period determined from a uniform table, using the individual’s age as of his or her birthday in that year.122 Accordingly, in calculating MRDs during that individual’s life, it generally does not matter whether there is a designated beneficiary, who the designated beneficiary is, or whether the beneficiary has been changed before or after the RBD. Under the uniform table, the divisor is never less than 1.9 so, assuming that the owner does not suffer catastrophic investment losses, the MRD rules will not require the account to be exhausted before the death of the employee or IRA owner.

There is one exception to this rule, which also favors the individual. If (1) the sole designated beneficiary of the employee’s entire interest, at all times during a calendar year, is the spouse of the employee (or IRA owner), and (2) the spouse is more than 10 years younger than the employee (or IRA owner), the applicable distribution period is the joint and survivor life expectancy of the employee and the spouse, based on their attained ages at the end of the year, from the joint and last survivor table under Reg. 1.401(a)(9)-9, Q & A 3.123

4.10 Distributions after Death

The uniform table applies only during the lifetime of the employee or IRA owner, and is used up to and including the year of his or her death. Beginning with the year after the year of death, different rules come into effect. The amount of the MRDs after death will depend on whether death occurs before or after the RBD; whether there is a designated beneficiary; and whether the designated beneficiary is the spouse.

If an employee dies before the employee’s required beginning date (RBD), and the employee has a designated beneficiary, then the life expectancy rule (rather than the 5-year rule) is the default

120 Reg. 1.408-8, Q & A 5(a). 121 Reg. 1.401(a)(9)-9, Q & A 3. 122 Reg. 1.401(a)(9)-5, Q & A 4(a). 123 Reg. 1.401(a)(9)-5, Q & A 4(b).

1192 distribution rule. Thus, absent a plan provision or election of the 5-year rule, the life expectancy rule applies in all cases in which the employee has a designated beneficiary, and the 5-year rule applies if the employee does not have a designated beneficiary.124 Under the 5 year rule, the beneficiary must receive the balance by the end of the calendar year that is five years after the year of death. Under the life expectancy rule, the beneficiary must begin to receive payments by the end of the year after the year of death.125

If an employee (or IRA owner) dies after MRDs have begun, then beginning with the year after the year of death, the applicable distribution period is:

1. If the individual has a designated beneficiary, the remaining life expectancy of the designated beneficiary or, if longer, the remaining life expectancy of the employee (or IRA owner), determined as of his or her birthday in the year of death.

2. If there is no designated beneficiary, the remaining life expectancy of the employee (or IRA owner), determined as of his or her birthday in the year of death.

Unless the surviving spouse is the sole beneficiary, the life expectancy is reduced by one for each subsequent year. If the surviving spouse is the sole beneficiary, the spouse’s life expectancy is determined by his or her age in each subsequent year, up to and including the year of the spouse’s death.126

If the sole beneficiary is the individual’s surviving spouse, distributions need not begin until the end of the calendar year in which the employee (or IRA owner) would have attained age 70 2.127 If (1) the surviving spouse is the designated beneficiary and (2) the surviving spouse dies after the employee (or IRA owner) but before distributions have begun to the spouse, then the rules are applied as if the surviving spouse were the employee (or owner) and the key date is the date of the surviving spouse’s death, rather than the date of death of the employee (or IRA owner).128

A qualified plan or 403(b) plan may include different rules, and may allow employees or beneficiaries to choose between the 5 year method and the life expectancy method.129

124 Reg. 1.401(a)(9)-3, Q & A 4(a). 125 Reg. 1.401(a)(9)-3, Q & A 1. 126 Reg. 1.401(a)(9)-5, Q & A 5(a), 5(c). 127 Reg. 1.401(a)(9)-3, Q & A 3(b). 128 Reg. 1.401(a)(9)-3, Q & A 5. 129 Reg. 1.401(a)(9)-3, Q & A 4(b), (c).

1193 4.11 Defined Benefit Plans

Generally, if the benefit is payable in the form of an annuity, the annuity starting date must be on or before the participant’s required beginning date.130

Annuity payments under a defined benefit plan must be paid in periodic payments, at least annually, over a life (or lives) or over a period certain not exceeding a life expectancy or joint and survivor life expectancy described in Code section 401(a)(9). All annuity payments must either be non-increasing or increase only as allowed by the regulations.131 Distributions under a variable annuity will not be treated as increasing merely because the amount of the payments varies with the investment performance of the underlying assets.132 The distribution of an annuity contract is not a distribution for purposes of the MRD rules.133 However, distributions may be made from an annuity contract that is purchased from an insurance company.134

An annuity for the life of the employee, or a joint and survivor annuity for the employee and his or her spouse, where the spouse is the sole beneficiary, will automatically satisfy the MDIB rule.135 If an annuity beneficiary is someone other than the spouse, then the annuity percentage payable to the beneficiary is limited to less than 100% if the beneficiary is more than 10 years younger than the employee.136 The duration of any period certain is also limited, even if the spouse is the survivor beneficiary.137

If an employee retires after age 70 1/2, the employee’s benefit under a defined benefit plan must be actuarially increased to take into account any period after age 70 1/2 in which the employee was not receiving benefits.138 This actuarial increase is generally the same as, and not in addition to, the increase required for the same period under Code section 411, to reflect a delay in the payment of retirement benefits after normal retirement age. However, unlike the increase under section 411, this increase must be provided during a period when benefits are suspended under section 203 of ERISA.139 The actuarial increase requirement does not apply to governmental or church plans.140

130 Reg. 1.401(a)(9)-6, Q & A 1(c). 131 Reg. 1.401(a)(9)-6, Q & A 1(a). 132 Reg. 1.401(a)(9)-6, Q & A 14(f), Ex. 1. 133 Reg. 1.401(a)(9)-8, Q & A 10. 134 Reg. 1.401(a)(9)-6, Q & A 4. 135 Reg. 1.401(a)(9)-6, Q & A 2(a), (b). 136 Reg. 1.401(a)(9)-6, Q & A 2(c). 137 Reg. 1.401(a)(9)-6, Q & A 3. 138 IRC section 401(a)(9)(C)(iii); Reg. 1.401(a)(9)-6, Q & A 7(a), (b). 139 Reg. 1.401(a)(9)-6, Q & A 9. 140 Reg. 1.401(a)(9)-6, Q & A 7(d).

1194 The final regulations repeal the prior rule that, if distributions from a defined benefit plan are not in the form of an annuity, the employee’s benefit will be treated as an individual account for purposes of determining the MRD.141 The preamble to the final regulations includes the following statement: “Few comments specifically requested retention of this rule. As a result, the IRS and Treasury have concluded that this rule has little application outside of being used to determine the portion of a lump sum distribution of an employee's vested accrued benefit that is eligible for rollover. Accordingly, this rule has not been retained in these temporary regulations except for use in determining the amount that is eligible for rollover when a defined benefit plan pays an employee’s entire vested accrued benefit in a lump sum. However, in response to comments, these temporary regulations permit a plan to treat the amount of a year of annuity payments that would have been payable under the normal form as the MRD for a year in the case of a lump sum payment.”142

4.12 Rollovers and Transfers

If an amount is rolled over, or directly transferred from one plan to another, then the transferor plan is still required to distribute the MRD for the year of the rollover or transfer and the transferee plan must include the amount received in the value of the account, for all subsequent years.143 A spinoff, merger or consolidation (as defined in Reg. 1.414(l)-1) is treated as a transfer of the benefits of the employees involved.144

The final regulations provide a special rule for trustee-to-trustee transfers between IRAs. Although the IRA to IRA transfer is not treated as a distribution for purposes of section 401(a)(9), as the MRD with respect to the transferor IRA can be taken from any IRA, the transferor IRA will be able to transfer the entire balance and will not be required to retain the amount of the MRD for the year.145

4.13 Special Rules for IRAs

Although each qualified plan must separately satisfy the minimum distribution rules, if an individual has two or more IRAs, the total MRD for all IRAs may generally be distributed from

141 Reg. 1.401(a)(9)-6, Q & A 1(e). 142 Preamble, 67 Fed. Reg. at 18991. 143 Regs. 1.401(a)(9)-7, Q & A 1, 2, 3, 1.408-8, Q & A 4, 7, 8. 144 Reg. 1.401(a)(9)-7, Q & A 5. 145 Reg. 1.408-8, Q & A 8.

1195 any one of them.146 However, (1) an IRA held by an individual as an owner can only be aggregated with other IRAs held by him or her as owner; (2) an IRA held by an individual as a beneficiary of a decedent can only be aggregated with other IRAs held by him or her as beneficiary of the same decedent; (3) an IRA may not be aggregated with a 403(b) plan; and (4) a distribution from a Roth IRA will not satisfy the MRD for a regular IRA or 403(b) plan.147

If the surviving spouse is the sole beneficiary of an IRA, and has an unlimited right to withdraw amounts from the IRA, he or she may elect to treat the IRA as his or her own. This election can be made at any time.148 In some cases, the surviving spouse will be deemed to have made the election.149

The Pension Protection Act of 2006 (“PPA”) allows non-spouse beneficiaries to transfer amounts received from a qualified plan, a governmental section 457 plan or a section 403(b) plan directly to an IRA. The transfer must be a trustee-to-trustee transfer. The IRA is treated as an inherited IRA of the non-spouse beneficiary.150

4.14 Section 403(b) Plans

For purposes of the minimum distribution rules, section 403(b) contracts are generally treated as IRAs.151 However, the rules differ from the IRA rules in several respects:

1. The RBD for a 403(b) plan is April 1 of the year following the later of (1) the year the employee retires from employment with the employer maintaining the plan or (2) the year in which the employee attains age 70 2.152

2. The surviving spouse of an employee is not allowed to treat a 403(b) contract as the spouse’s own contract.153

3. The MRD rules apply only to benefits accruing under a 403(b) plan after December 31, 1986, provided that the issuer keeps records of the account balance on that date.154

146 Reg. 1.408-8, Q & A 9. 147 Reg. 1.408-8, Q & A 9. 148 Reg. 1.408-8, Q & A 5(a). 149 Reg. 1.408-8, Q & A 5(b). 150 Code section 402(c)(11), added by section 829 of the PPA. See also IRS Notice 2007-7, 2007-5 IRB 395. 151 Reg. 1.403(b)-6(e)(2). 152 Reg. 1.403(b)-6(e)(3). 153 Reg. 1.403(b)-6(e)(4). 154 Reg. 1.403(b)-6(e)(6).

1196 Distribution of the pre-1987 account balance must satisfy the old incidental death benefit rule under Reg. 1.401-1(b)(1)(i).155 The regulations give no further guidance on how to distribute the pre-1987 balance.

If an individual has benefits under two or more 403(b) plans, the total MRD can generally be taken from any one of them.156 However, (1) 403(b) contracts held by an individual as an employee are aggregated only with other 403(b) contracts held by the individual as an employee; (2) 403(b) contracts held by an individual as a beneficiary of a decedent are aggregated only with other 403(b) contracts held by the individual as a beneficiary of the same decedent; (3) distributions from a 403(b) plan will not satisfy the distribution requirements for an IRA; and (4) distributions from an IRA will not satisfy the distribution requirements for a 403(b) plan.157

4.15 QDROs

If a QDRO provides for the employee’s benefit to be divided, and a portion allocated to an alternate payee, then that portion will be treated as a separate account. If the QDRO does not provide that the benefit is to be divided, but does provide that a portion is to be paid to an alternate payee, that portion will not be treated as a separate account.158

The MRD rules will not be violated merely because otherwise required payments are not made during a period (up to 18 months) in which the plan administrator is determining whether an order is a QDRO. The shortfall must be made up later, in accordance with the rules for non-vested amounts that later become vested.159

4.16 TEFRA Elections

There are special rules relating to any pre-1984 election made under Section 242(b)(2) of the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA).160 Such elections should be viewed with caution as it is doubtful whether many, if any, of them, are valid.

155 Reg. 1.403(b)-6(e)(6)(vi). The final regulations clarify that a contract will not lose the grandfather for a pre-87 account balance merely because the account balance is transferred from one section 403(b) contract to another, provided that the issuer of the transferee contract satisfies the recordkeeping requirements for the pre-87 account balance. However, a distribution and rollover (including a direct rollover) of an amount from the pre-87 account will cause that amount to lose the grandfather treatment. [Reg. 1.403(b)-6(e)(6)(iv]] 156 Reg. 1.403(b)-6(e)(7). 157 Reg. 1.403(b)-6(e)(7). 158 Reg. 1.401(a)(9)-8, Q & A 6(b), (c). 159 Reg. 1.401(a)(9)-8, Q & A 7.

1197 4.17 The Excise Tax

Code section 4974 provides for an excise tax if less than the MRD is distributed in any year. The amount of the tax is equal to 50% of the shortfall. Under the regulations, the tax may be waived if the payee establishes, to the satisfaction of the Commissioner, that the shortfall was due to reasonable error, and reasonable steps are being taken to remedy the shortfall.161 In order to obtain a waiver, the correct procedure, according to IRS, is to file IRS Form 5329 with IRS, pay the excise tax, and submit a statement substantiating the claim for a waiver on the basis of reasonable error.

The tax will be waived automatically, unless the Commissioner determines otherwise, if: the payee is an individual who is the sole beneficiary; the payee’s MRD for a year is determined under the life expectancy rule, in the case of the employee’s death before the RBD; and the entire benefit to which that beneficiary is entitled is distributed in accordance with the 5 year rule.162 The Employee Plans Compliance Resolution System (EPCRS) provides for a waiver of the excise tax in “appropriate cases” if the plan sponsor specifically requests a waiver in a Voluntary Correction Program (VCP) application.163

4.18 Roth IRAs164

There are no lifetime MRD rules for Roth IRAs. The post-death MRD rules are applied to Roth IRAs by reference.165 On the death of the Roth IRA owner, the rules of Reg. 1.408-8 apply as though the owner died before the required beginning date.166 The minimum distribution rules

160 Reg. 1.401(a)(9)-8, Q & A 13 through 16. 161 Reg. 54.4974-2, Q & A 7(a). 162 Reg. 54.4974-2, Q & A 7(b). 163 Rev. Proc. 2013-12, 2013-4 IRB. 313, as modified by Rev. Proc. 2015-28, 2015-16 IRB 920; 164 For articles expounding the estate planning advantages of Roth IRAs and Roth 401(k) accounts, see Barry R. Milberg, Roth 401(k): Significant Retirement and Estate Planning Opportunities for Business Owners/HCEs, May 7, 2006, and The Roth 401(k): A Hidden Wealth-Transfer Treasure for High Income Taxpayers, June 13, 2005 (“We use the Roth 401(k) Analyzer to compare the accumulation and distribution outcomes for a pre-tax contribution to a traditional 401(k), the equivalent after-tax contribution to a Roth 401(k) and a Savings Plan, and the maximum after- tax contribution to the Roth 401(k).”) 165 IRC section 408A(c)(5). 166 Reg. 1.408A-6, Q & A 14. Article V of Form 5305-R provides as follows with respect to distributions after the IRA owner’s death: (1) If, on the date of death, the owner’s surviving spouse is the sole beneficiary, then the spouse will be treated as the owner. This presumably means that no distributions will be required during the spouse’s lifetime; (2) If, on the date of death, the spouse is not the sole beneficiary, the entire remaining interest will, at the election of the owner (or, if the owner has not elected, at the election of the beneficiaries) either (a) be distributed by December 31 of the year containing the 5th anniversary of the owner’s death, or (b) be distributed over the life expectancy of the designated beneficiary. Unless distributions actually begin by December 31 of the year following the year of death, method (a) must be used.

1198 apply separately to (1) Roth IRAs and other retirement plans, and (2) Roth IRAs inherited by a beneficiary from one decedent, and any other Roth IRAs of which the beneficiary is either the owner or the beneficiary of another decedent.167

Section 402A does not provide comparable rules regarding designated Roth accounts under a 401(k) or 403(b) plan. Thus, designated Roth accounts are subject to the minimum distribution rules in the same manner as pre-tax elective deferrals.

4.19 Planning Opportunities

[a] Post-Mortem Planning

The designated beneficiaries are not determined until September 30 of the year following the year in which the employee or IRA owner dies. Accordingly, before that date, the beneficiaries can be “improved” by any of the following methods:

1. A disclaimer. However, care must be taken to ensure that an appropriate secondary beneficiary will receive the benefits if the primary beneficiary disclaims. For this reason, if permitted by the plan or IRA, the beneficiary designation should specifically provide for a disclaimer, and specify who receives the benefits following a disclaimer.

2. Establishing separate accounts after death, if this has not already been done.

3. Making a complete distribution to a beneficiary who does not qualify as a designated beneficiary, such as a charity.

Who chooses the form in which the remaining benefits are paid on the IRA owner’s death, the IRA owner or the beneficiary? Many IRA documents give this right to the beneficiary, or allow the beneficiary to withdraw the entire balance at any time. This may not be the IRA owner’s intent. Presumably, in most cases, the owner will not want the IRA paid out faster that the other assets left to his or her heirs, and in some cases may want slower distributions to maximize the tax deferral.

If the beneficiary has the right to withdraw the entire account balance at any time, this is a general power of appointment and would result in the IRA balance being included in the beneficiary’s

167 Reg. 1-408A-6, Q & A 15

1199 gross estate if he or she dies before the account is exhausted.168 This is not a problem if the beneficiary is the IRA owner’s surviving spouse and the entire IRA qualifies for the marital deduction in the IRA owner’s estate, or if the beneficiary’s estate will not be subject to estate tax. Otherwise, the power to withdraw should be limited or conferred on a third party, if inclusion of the entire value in the beneficiary’s gross estate is not desired.

[b] The Beneficiary’s Beneficiary

Once the employee or IRA owner has died, and the applicable distribution period has been established, based on the life expectancy of the designated beneficiary, the subsequent death of the designated beneficiary before the end of the period does not accelerate the MRDs.169 The beneficiary may be allowed to designate the successor beneficiary to receive the balance.170 In one ruling, IRS approved the designation of a beneficiary by the primary beneficiary, the son of the original IRA owner. The deceased mother’s BDF effectively determined the maximum period of payments, but did not name a beneficiary to receive the balance if her son died before the end of that period. The IRS noted that allowing the son to designate a beneficiary did not extend the maximum payout period.171

VI DISABILITY OR INCOMPETENCE OF THE PARTICIPANT

Increased longevity carries with it an increased risk that a plan participant or IRA owner may become incapable of making decisions with respect to the plan, temporarily or permanently. Accordingly, in the case of any client with a substantial balance, the appointment of an agent to make necessary decisions (such as changes of investments, electing a distribution method or changing the beneficiaries) should be considered. It may be appropriate to appoint different people to make different decisions. Review the power of attorney materials for a more detailed discussion.

VII ROLLOVER RULES AFTER THE PPA OF 2006

7.1 Rollovers by a Surviving Spouse

As before, a surviving spouse may receive, and roll over, an eligible rollover distribution into any eligible retirement plan, not only an IRA The rules generally apply the same way as they would

168 Code section 2041. 169 Reg. 1.401(a)(9)-5, Q & A 7(c)(2), (3). 170 Reg. 1.401(a)(9)-5, Q & A 7(d). 171 PLR 199936052.

1200 apply to the participant..194 An alternate payee under a QDRO, who is a spouse or former spouse of the plan participant, may also roll over an eligible rollover distribution to any type of eligible retirement plan.195

IRS has also allowed a rollover by a surviving spouse in the following circumstances: the named beneficiary was a trust or the decedent’s estate, but the surviving spouse had effective control of the disposition of the plan benefits.196

7.2 Rollovers by Non-Spouses

Under prior law, a beneficiary (other than a surviving spouse or an alternate payee under a QDRO) could not effect a tax-free roll over or transfer of benefits. Effective for distributions after December 31, 2006, a non-spouse beneficiary (including a trust)197 may make a direct transfer (not a rollover) to an IRA from a qualified plan, a governmental section 457 plan, or a 403(b) plan.198 Unlike spouses and alternate payees, non-spouse beneficiaries may only move funds to an IRA. The amounts transferred to an IRA will be treated as amounts held in an inherited IRA, and the beneficiary will be subject to the same required minimum distribution rules as apply to the non-spouse beneficiary of an IRA.199

The Worker, Retiree, and Employer Recovery Act of 2008 included technical corrections to the Pension Protection Act of 2006 (PPA). The PPA permits rollovers by non-spouse beneficiaries: section 108(f) of the 2008 Act clarified that the prior law treatment with respect to a trustee-to- trustee transfer from an inherited IRA to another inherited IRA continues to apply.

Under the 2008 Act, effective for plan years beginning after December 31, 2009, rollovers by non- spouse beneficiaries are generally subject to the same rules as other eligible rollovers. The IRS originally interpreted the PPA provision as allowing, but not requiring, plans to permit such rollovers. The Act clarifies that plans are required to allow non-spouse rollovers and to provide direct rollover notices under Code section 402(f), effective for plan years beginning after December 31, 2009. A direct rollover of a distribution by a non-spouse beneficiary is not subject to the direct rollover requirements of Section 401(a)(31), the notice requirements of Section 402(f), or the mandatory

194 Code section402(c)(9); Treas. Reg. section1.402(c)-2, Q&A 12. 195 Treas. Reg. section1.402(c)-2, Q&A 12. 196 See, for instance, PLRs 9533042, 199912040, 9850016, 9801051. 197 Notice 2007-7, Q & A 16. 198 Code section 402(c)(11), enacted by section 829 of PPA. 199 See also Section V of Notice 2007-7, 2007-5 IRB 395.

1201 withholding requirements of Section 3405(c). If an amount distributed from a plan is actually received by a non-spouse beneficiary, the distribution is not eligible for rollover. [Notice 2007-7, 2007-1 CB 395, Q & A 15]

7.3 Direct Rollovers to Roth IRAs

Effective for distributions after 2007, a rollover may be made directly from a qualified plan, 403(b) plan, or governmental 457 plan (but not from an IRA) to a Roth IRA.201 Previously, a rollover had to be made to a traditional IRA that was then converted into a Roth IRA. Such rollovers are subject to the following rules, that also apply to conversions from traditional IRAs to Roth IRAs: the taxpayer must include the distribution in taxable income (except for after-tax funds); the conversion is not subject to the 10% early withdrawal tax; and, for 2008 and 2009, only a taxpayer with adjusted gross income of $100,000 or less is eligible. Under the Tax Increase Prevention and Reconciliation Act of 2005, the $100,000 limit is eliminated after 2009.

7.4 Rollovers as Business Startups

In the November 5, 2008 issue of Employee Benefits News, IRS wrote that “With recent events in the financial markets putting a squeeze on business credit, many aspiring entrepreneurs may search for novel ways to acquire business capital. One that has gained IRS=s attention, and coverage in the press, is to withdraw money from existing retirement accounts and then channel it into a new retirement plan. On October 1, 2008, the IRS released initial guidelines on the acceptability of these arrangements. Though not stating that these arrangements are noncompliant per se, the guidelines sound a warning call that the IRS will scrutinize these transactions very carefully.”202

The article cites an October 1, 2008 memorandum stating that “We have examined a number of these plans - having opened a specific examination project on them based off referrals from our determination letter program - and found significant disqualifying operational defects in most. For example, employees in some arrangements have not been notified of the existence of the plan, do not enter the plan or receive contributions or allocable shares of employer stock. Additionally, we have identified that plan assets are either not valued or are valued with threadbare appraisals. Required annual reports for some plans have not been filed. In several situations, we have also found that the business entity created from the ROBS exchange has either not survived, or used

201 IRC section 408A(d)(3); section 824 of the PPA. See also IRS Notice 2008-30. 202 When “Too Good to Be True” Very Well May Be: Funding Business Startups with Plan Assets, Employee Benefits News, Nov. 5, 2008, www.irs.gov.

1202 the resultant assets on personal, nonbusiness purchases.”

The memorandum states that there are “two primary issues raised by ROBS arrangements”: (1) violations of nondiscrimination requirements, in that benefits may not satisfy the benefits, rights and features test of Treas. Reg. section1.401 (a)(4 )-4, and (2) prohibited transactions, due to deficient valuations of stock.

7.5 Planning Considerations

The liberalized rollover rules offer new planning opportunities, but also potential new pitfalls. Before effecting any rollover, particularly a rollover to a different type of plan, the following issues should be considered:

1. How will the rollover affect protection of the assets against claims of creditors? For instance, in some states IRAs receive less protection than qualified plans. In other states, such as New York, it is at least arguable that IRAs are better protected than qualified plans.

2. When and in what forms can distributions be made from the transferee plan? Generally, an IRA will offer the most flexibility. A qualified plan may require a termination of employment and/or spousal consent before any funds, even rollover funds, are distributed.

3. What investments are available under the transferee plan? For instance, except for a retirement income account maintained by a church employer, a 403(b) plan can invest only in annuity contracts and mutual funds.

4. By transferring funds from a plan or account (such as an IRA) that does not allow loans to a plan (such as a 401(k) plan) that does, funds can be made available for home purchase, college tuition, etc.

5. What rules govern taxation of distributions from the transferee plan? For instance:

Qualified plan distributions made at or after age 55 may be exempt from the 10% additional income tax under Code section 72(t). If a distribution is rolled over to an IRA, this exception is no longer available.

Distributions from a governmental 457 plan are subject to the section 72(t) tax only to the extent that they are attributable to a rollover to that plan from a non-457 plan. If assets are rolled over from a governmental 457 plan to any other type of eligible retirement plan,

1203 then all distributions from the transferee plan will potentially be subject to the tax.

Some favorable rules (deferral of tax on NUA on employer securities, grandfathered averaging and capital gains treatment) are available only for distributions from qualified plans.

6. The rollover may change the minimum distribution rules applicable to the amount rolled over.

7.6 New IRS Guidance on Rollovers of After-Tax Amounts

In September, 2014, IRS issued proposed regulations [79 Fed. Reg. 56,310] and a Notice [Notice 2014-54, 2014-41 IRB 670] that are applicable to distributions made after 2014, However, the new rules could be relied on immediately. Under the new guidance, a participant can

Roll over pre-tax amounts (401(k) deferrals, employer contributions and investment earnings) to a traditional IRA or an employer plan, and continue the tax deferral, and

Receive and retain after-tax amounts, tax-free, or roll over these amounts to a Roth IRA.

7.7 Advantages and Disadvantages of Rollovers

A participant who is entitled to receive an eligible rollover distribution from an employer plan typically has the following four options:

1. Leaving the money in the plan. Many employers do not want the trouble and expense of maintaining accounts for former employees and discourage use of this option, for instance by limiting investment choices, restricting the availability of future distributions, or charging higher fees than to current employees. These kinds of activities are limited to some extent for accounts in excess of $5,000, as they cannot cause a participant to have a significant detriment to exercising the right to leave the money in the plan. [Treas. Reg. §1.411(d)-11(c)]

2. Transferring the funds to a new employer’s plan. Some plans do not accept rollovers or make rollovers difficult because of concerns that acceptance of a rollover from a plan that is not fully in compliance with the Code may taint their plans.

3. Transferring the funds, directly or indirectly, to the participant’s IRA. A direct rollover is generally preferable as it avoids the 20 percent mandatory income tax withholding that would otherwise apply. [Code § 3405(c)]

1204 4. Keeping the money and paying income tax on the amount distributed in the year of receipt plus, in most cases where the participant is under age 59½, a ten percent additional income tax under § 72(t).

As FINRA has noted, “Each choice offers advantages and disadvantages, depending on desired investment options and services, fees and expenses, withdrawal options, required minimum distributions, tax treatment, and the investor’s unique financial needs and retirement plans.” [FINRA, the IRA Rollover: 10 Tips to Making a Sound Decision, available at www.finra.org.]

An IRA rollover has several advantages. It severs the tie with the former employer, gives the participant the greatest degree of control, and makes it possible for the participant to take irregular distributions or to stretch out distributions to the greatest extent allowed by the age 70½ required minimum distribution (RMD) rules. However, there are also significant disadvantages, which are often not fully understood by the participant. First, the participant is now responsible for the successful long-term investment of the funds, generally with no review of available options by a fiduciary. “Loss of fiduciary protections can be particularly important at advanced older ages when the risk of cognitive impairment is greater.” [John A. Turner and Bruce W. Klein, Retirement Savings Flows and Financial Advice: Should You Roll Over Your 401(k) Plan?, Benefits Quarterly, 4th quarter 2014, at 47, citation omitted]

Second, the participant must avoid engaging in any prohibited transaction, as that would trigger immediate taxation of the entire account. [Code § 408(e)(2)] Figuring out how the prohibited transaction rules apply to IRAs is fiendishly difficult, and many IRA owners succumb to the siren calls of exotic investment vehicles (bull semen, anyone?). Third, the individual no longer has the benefit of the ERISA fiduciary responsibility rules, as many victims of Bernie Madoff and other Ponzi schemes discovered to their chagrin. Most courts have held that the duties of an IRA custodian are limited to those it accepted in its contract with the IRA owner, a contract almost always drafted by the custodian. Attempts by the DOL and the SEC to extend fiduciary rules to IRAs and broker-dealers are highly controversial and appear to be bogged down for the time being. Fourth, employer plans often offer lower fees, typically provide more transparent fee disclosures, and give better access to advice.

Fifth, if the individual is still working at age 70-1/2, he or she does not need to comply with the RMD rules with respect to any benefits under a plan of the current employer: required distributions are deferred until he or she retires. This advantage is lost if the funds are rolled into an IRA. Five percent owners are not eligible for this exception.

If the individual has substantial amounts invested in employer stock, he or she should consider the rules regarding net unrealized appreciation (NUA). It may be preferable to pay taxes now on the taxable portion of the value of the company stock and only roll over to an IRA the amounts not held in company stock.

A rollover to an IRA will cause some of the exceptions to the ten percent additional tax under §

1205 72(t) to be unavailable, e.g. the exception for distributions at or after age 55. On the other hand, some exceptions are only available for IRA distributions, e.g. a withdrawal for a first-time home purchase (up to a $10,000 maximum).

The employer plan may allow loans to participants. Loans are not available from an IRA.

In some states IRAs receive less creditor protection than qualified plans. In other states, such as New York, it is at least arguable that IRAs are better protected than qualified plans.

“Here's the bottom line for me: Most employers spend a lot of time and money designing their 401(k) plans to help their employees. They don’t make money from their 401(k) plan, and in fact it often costs the business to have this program in place. By contrast, any financial institution you’ll be dealing with needs to make a buck (or lots of bucks) off of your investments. Which option sounds better to you?” [Steve Vernon, Money Watch, May 17, 2012, Rolling your money to a IRA? Think twice; see also the FINRA publication, The IRA Rollover: 10 Tips to Making a Sound Decision, http://www.finra.org/Investors/ProtectYourself/InvestorAlerts/RetirementAccounts/P436001]]

The amounts involved are enormous: “Pension rollovers are an important source of revenue for money managers. One estimate projects that rollovers to IRAs from other pensions will account for 40% to 50% of the net new money received by investment advisors through 2015. An estimated $2.1 trillion is predicted to be rolled over from defined contribution plans to IRAs in the next five years.” [John A. Turner and Bruce W. Klein, Retirement Savings Flows and Financial Advice: Should You Roll Over Your 401(k) Plan?, Benefits Quarterly, 4th quarter 2014, at 42, citations omitted]

Under the Department of Labor’s controversial proposal to expand the scope of ERISA fiduciary activities, much advice concerning rollovers would become subject to ERISA’s fiduciary requirements.

1206 VIII CUSTOMIZED BENEFICIARY DESIGNATIONS

8.1 Introduction

It is not uncommon for a client’s retirement savings to represent 50% or more of the client’s total wealth. A traditional (as opposed to a Roth) IRA is established by executing IRS Form 5305 (Traditional Individual Retirement Trust Account) or 5305-A (Traditional IRA Retirement Custodial Account).The forms and instructions state that provisions may be added by agreement between the IRA owner and the financial institution (the IRA sponsor) that sponsors the IRA. Most IRA sponsors do add provisions, such as binding arbitration and indemnification provisions, which are typically designed to further their interests and to protect them against liability. Relatively few IRA owners (or their advisors) take the opportunity to add provisions that benefit the owner and his or her beneficiaries, perhaps under the mistaken impression that all IRAs are the same and that the standard form adequately addresses all the important issues. Furthermore, many IRA owners complete their IRA beneficiary designations without considering issues that are left open by the standard form, and without taking care to ensure that the beneficiary designation is consistent with their overall estate planning.

For a retirement benefit of any size, the terms of the plan or IRA document, and the terms of the owner’s beneficiary designation form (BDF) governing the distribution of the assets, are as important as the owner’s other estate planning documents, and should be prepared with as much care as the owner’s will or revocable trust. This will generally require that individualized additional provisions be drafted and agreed with the plan or IRA sponsor.

This outline primarily addresses BDFs for traditional IRAs, including rollover IRAs and accounts under a simplified employee pension plan (SEP) or SIMPLE IRA. Although most of the issues discussed are also applicable to qualified plans, 403(b) plans and Roth IRAs, the outline does not address the additional considerations (e.g., the potential impact of ERISA preemption) that apply to such programs.

8.2 Threshold Issues

[a] Choice of IRA Sponsor

Before beginning to draft a BDF, it is essential to read the IRA document, paying particular attention to the additional Articles inserted by the IRA sponsor, in order to determine (1) whether any of the existing provisions conflict with the desired provisions of the BDF, and (2) which issues must be covered in the BDF, because they are not satisfactorily covered in the IRA

1207 document. Second, it is important for either the client or the attorney to contact the IRA sponsor, to confirm that it will accept additions to its standard form. This should not be a major issue, because any changes will affect only this client’s IRA: however, some sponsors are very reluctant to accept changes, or will only accept certain changes. In this situation, the IRA sponsor is more likely to be flexible if the IRA will be substantial in amount, or if there is a longstanding relationship between the client (or the client’s business) and the sponsor.

It is important that the proposed changes be submitted for approval to, and negotiated with, someone who has authority to commit the IRA sponsor. Once the changes have been agreed, the IRA document should be executed by the client and the IRA sponsor, and the BDF should be executed by the client and accepted, in writing, by the IRA sponsor. Unfortunately, this will not necessarily guarantee that the sponsor will implement the BDF when the time comes,204 but a written acceptance (particularly if it includes an agreement by the sponsor that it will follow the terms of the BDF) would create a contractual right which could be enforced by the IRA beneficiaries.

If the client’s chosen IRA sponsor will not cooperate with this approach, then the client must be advised of the options: either to search for another sponsor that will do so, or to accept an unsatisfactory IRA document that could cause problems (including, in a serious case, additional taxes, premature depletion of the IRA or funds being paid to the wrong beneficiaries).

[b] Trust or Custodial Account?

The IRA can be set up either as a trust (by using Form 5305) or as a custodial account (by using Form 5305-A). Mervin Wilf prefers a trust to a custodial account, because

1. Trust law is well established, custodial law much less so; and

2. If there is a trust, there should be no doubt that the BDF will be binding. At least in some states, there is uncertainty with respect to a custodial account, unless state law clearly provides that designation of IRA beneficiaries in a custodial IRA is not a testamentary disposition governed by the statute of wills.205

204 Citing Natalie Choate, Lynn Asinof [How to Handle an Inherited IRA Raises Some Thorny Questions, Wall Street Journal, October 22, 1998, C1] cites the case of a woman whose BDF was accepted by the custodian, but the custodian refused to honor it on her death. 205 See E.F. Hutton & Co. v Wallace, E.D. Mich., 1987, reversed and remanded 863 F.2d 472 (6th Cir., 1988). For purposes of Code section 408, it makes no difference whether the IRA is trusteed: “For purposes of this section, a custodial account shall be treated as a trust if the assets of such account are held by a bank (as defined in subsection (n)) or another person who demonstrates, to the satisfaction of the Secretary or his delegate, that the manner in

1208 He suggests repeating the BDF in the IRA owner’s will or, where permissible, incorporating the BDF in the will by reference.

Section 6-101 of the Uniform Probate Code, and the corresponding section 101 of the Uniform Nonprobate Transfers on Death Act, provide that IRA BDFs do not have to comply with testamentary formalities.206 However, neither of these statutes has been adopted by New York.207

8.3 Designation of a Trust as Beneficiary

If a trust is a beneficiary, the trust must be read carefully to ensure that none of its provisions are inappropriate. The trust should include language that deals specifically with receipt of the IRA assets, such as directions for allocating the IRA proceeds between the marital deduction portion and the credit shelter portion. See above for a discussion of issues under the minimum distribution rules.

8.4 Marital Deduction Issues

[a] In General

If the beneficiary is a trust, rather than the surviving spouse, and the disposition is intended to qualify for the marital deduction, the same language that would be included in a marital deduction trust, to ensure qualification for the marital deduction, should be included in the BDF, e.g., allowing the surviving spouse to direct investments or requiring the trustee to obtain investments which produce a reasonable current income.208

The Uniform Principal and Income Act (UPIA) was adopted in New York in 2001.209 The Act authorizes a trustee to adjust between principal and income, if the trustee determines that such an

which he will administer the account will be consistent with the requirements of this section, and if the custodial account would, except for the fact that it is not a trust, constitute an individual retirement account described in subsection (a). For purposes of this title, in the case of a custodial account treated as a trust by reason of the preceding sentence, the custodian of such account shall be treated as the trustee thereof.” [Code section 408(h)] Noel Ice agrees that there is a difference under state law: “There is a long and well established difference between a custodian and a trustee. It may be that both are fiduciaries, but their duties and powers are certainly not the same. I expect that this an area of developing law in which we will see new cases arise in the not too distant future.” 206 See Leier v Leier, 524 NW 2d 106 (N.D. 1994). 207 See below, discussing section 13-3.2 of the EPTL. 208 See Reg. 20.2056(b)-5(f)(4). 209 Assembly Bill 9050, signed by the Governor on September 5, 2001.

1209 adjustment would be fair and reasonable to all of the beneficiaries.210 The Act also provides with respect to IRAs and retirement plans that

If no part of a payment is characterized as interest, a dividend, or an equivalent payment, and all or part of the payment is required to be made, a trustee shall allocate to income ten percent of the part that is required to be made during the accounting period and the balance to principal. If no part of a payment is required to be made or the payment received is the entire amount to which the trustee is entitled, the trustee shall allocate the entire payment to principal. For purposes of this paragraph, a payment is not “required to be made” to the extent that it is made because the trustee exercises a right of withdrawal.211

In Rev. Rul. 2006-26, 2006-22 I.R.B. 939, IRS ruled that, in order for a marital trust named as beneficiary of a retirement account to qualify for the estate tax marital deduction, the trust document must require distribution to the spouse of the account’s income, or must disallow use of the 10% rule of the 1999 UPIA, which would otherwise allow the trustee to treat only 10% of each MRD as income of the trust distributable to the spouse. “With a great deal more complexity, it is possible to structure a QTIP trust so that the excess income can stay inside the plan account, subject to a withdrawal right by the spouse.”212 Marcia Chadwick Holt concludes that “The bottom line is that to qualify a QTIP Trust for the marital deduction, the trustees may not solely rely on a provision of state law that provides that only 10% of an RMD must be allocated to income to qualify for the marital deduction. Instead, the spouse must have the power to unilaterally access all the income of the IRA or Retirement Plan and all the income of the trust payable at least annually. Income for these purposes must be determined either: (1) under a state law power to adjust or unitrust regime that complies with the requirements of the Regulations; or (2) under the traditional definition of fiduciary accounting income, such as interest and dividends.”213

According to Gayle Stutzman Evans, “Typically a marital trust should be chosen as beneficiary only if there are compelling reasons why the spouse individually cannot be named. There are

210 E.P.T.L. section 11-2.3(b)(5), enacted by section 1 of A.B. 9050. The Act was effective January 1, 2002 and generally applies to trusts created before or after that date. 211 E.P.T.L. section 11-A-4.9(c). The trustee must allocate a greater amount to principal if this is necessary to obtain an estate tax marital deduction [E.P.T.L. section 11-A-4.9(d)]. The Act also provides for an optional unitrust provision [E.P.T.L. section 11-2.4].

212 Jean T. Adams, Working with Retirement Benefits in Estate Planning for Family Business Owners, ALI-ABA Course of Study Materials, Estate Planning for the Family Business Owner, July 2007, Course Number: SN002 213 Marcia Chadwick Holt, Special Planning for Interests in Qualified Plans and IRAs, Ali-aba Course of Study Materials, Estate Planning in Depth June 2008, Course Number: SN070.

1210 several drawbacks to naming a QTIP Trust as opposed to naming the surviving spouse.”214 She cites the following possible drawbacks: a spousal rollover may not be available;215 problems in qualifying for the marital deduction; and the deferral period is not as long.

[b] Non-Citizen Spouses

If the IRA owner’s surviving spouse is a non-citizen, a marital deduction will be allowed in the owner’s estate only if the benefits pass to a qualified domestic trust (QDOT). An IRA can qualify for both QTIP and QDOT treatment.216 Special rules apply if the surviving spouse becomes a citizen after the IRA owner’s death.217

8.5 Issues Under New York Law

EPTL section 13-3.3 deals with the designation of a trustee to receive certain proceeds, including pension and retirement plan benefits, and requires that the trust so designated must either (i) be in existence on the date of the designation or (ii) be a testamentary trust. This section does not specifically refer to IRAs. The law should be amended to provide specifically that it does apply to IRAs.

8.6 Planning for Events after the Owner’s Death

The following are some issues that can be problematic after the death of the owner, and that are often not addressed, or are not addressed satisfactorily, in the typical plan or IRA document. The owner should at least consider addressing these issues in the BDF.

[a] Method of Payment of Death Benefits

Who chooses the form in which the remaining benefits are paid on the owner’s death, the owner or the beneficiary? Many documents give this right to the beneficiary, or allow the beneficiary to withdraw the entire balance at any time. This may not be the owner’s intent. Presumably, in most cases, the owner will not want the benefits paid out faster than the other assets left to his or her heirs, and in some cases may want slower distributions to maximize the tax deferral.

214Gayle Stutzman Evans, Estate Planning with Qualified Plans and IRAs, ALI-ABA Course of Study Materials, Basic Estate and Gift Taxation and Planning, August 2007, Course Number: SN004. 215 See PLRs 9302022, 9426049, 9427035, 9322005, 9321032, 9416045. 216 See, for instance, PLR 9321032 and 9322005. 217 Code section 2056(d)(4).

1211 If the beneficiary has the right to withdraw the entire account balance at any time, this is a general power of appointment and would result in the balance being included in the beneficiary’s gross estate if he or she dies before the account is exhausted.218 This is not a problem if the beneficiary is the owner’s surviving spouse and the entire amount qualifies for the marital deduction in the owner’s estate, or if the beneficiary’s estate will not be subject to estate tax. Otherwise, the power to withdraw should be limited or conferred on a third party, if inclusion of the entire value in the beneficiary’s gross estate is not desired.

[b] Death of the Primary Beneficiary

If the primary beneficiary dies before the benefit is exhausted, who receives the remaining benefits, the contingent beneficiaries named by the owner or a beneficiary named by the primary beneficiary? If the latter, what happens if the primary beneficiary fails to do so effectively? There is no reason in principle why the beneficiary should not be allowed to name beneficiaries, if this is the owner’s wish. However, as with a will or trust, the BDF should attempt to provide for all possibilities, even if they appear unlikely to happen.

Under many plan and IRA documents, the benefits are payable only to the surviving primary beneficiaries, or to the contingent beneficiaries if there is no surviving primary beneficiary, and there is no provision for surviving issue of a deceased beneficiary. For example, P names her children A, B and C as her primary beneficiaries, with each to receive 1/3. A predeceases P, leaving surviving children. Under most wills and state anti-lapse statutes, A’s share would go to her children. Under many plans and IRA documents, the benefits would be paid to B and C only unless the BDF specifically provides otherwise.

In a 1999 ruling, IRS approved the designation of a beneficiary by the primary beneficiary, the son of the original IRA owner. The deceased mother’s BDF effectively determined the maximum period of payments, but did not name a beneficiary to receive the balance if her son died before the end of that period. The IRS noted that allowing the son to designate a beneficiary did not extend the maximum payout period.219

The choice of primary and contingent beneficiaries, and the possibility of different contingent beneficiaries in different situations, requires the same degree of care as the corresponding provisions in a will or trust.

218 Code section 2041. 219 PLR 199936052.

1212 The fact that benefits are paid outright to the participant’s spouse does not mean that the participant’s estate automatically qualifies for the marital deduction. If the spouse does not survive until the participant’s benefits have been completely distributed, care must be taken to ensure that the interest passing to the spouse is not a nondeductible terminable interest.

1213 [c] Transfer of the Account

After the death of the owner, can a beneficiary transfer the assets (or his or her share of the assets) to another plan or IRA ? The decision on this issue should again be consistent with the owner’s decisions with respect to the other estate planning documents. For instance, if the owner wants responsibility for investment to rest with someone other than the beneficiaries, the owner may not want to give the beneficiaries this right.

A transfer may be desirable for several reasons: for instance, because the beneficiary has moved to another state; or because another state’s law provides greater creditor protection;220 or to meet a beneficiary’s preferences. The plan or IRA documents should provide that the BDF continues to be effective for the new account.

[d] Simultaneous Death

As with a will or trust, the order of deaths can directly affect the distribution of benefits. Accordingly, the BDF should specify the presumptions that are to apply in the event of simultaneous death or two deaths within a short period. Under New York law, the default rule requires survivorship by at least 120 hours.

[e] Governing Law

Form 5305 does not, but the plan or IRA documents generally will, specify which state’s law governs their interpretation. That will typically be the state in which the sponsor is incorporated or headquartered. If that is not the state where the owner lives, it may be appropriate to specify that the interpretation of the BDF will be governed by the law of his or her state of residence.

[f] Execution of BDF

Particularly if IRA documents establish a custodial account rather than a trust, it may be necessary (and is probably prudent) to execute any BDF with the same formalities as would be required for a valid will.

EPTL section 13-3.2 deals with the rights of named beneficiaries of annuity or insurance policies and pension, retirement, death benefit, stock bonus and profit sharing plans. The statute provides

220 In 1999, the Investment Company Institute published a guide showing the extent to which different types of IRA are protected against creditors under the laws of each state. The guide can be downloaded from its web site, www.ici.org. A more recent guide is available at www.leimbergservices.com.

1214 that “... the rights of persons so entitled or designated and the ownership of money, securities or other property thereby received shall not be impaired or defeated by any statute or rule of law governing the transfer of property by will, gift, or inheritance.”221 A designation that is to take effect on death (of the person making the designation or another) must be written, signed222 and (1) in the case of insurance, agreed to by the insurer or (2) in the case of a plan, agreed to by the employer or made in accordance with the plan’s rules.223

Most plan and IRA documents provide for a default beneficiary (e.g., the surviving spouse, if any, followed by surviving issue or, if none, the owner’s estate) if the owner dies without a valid beneficiary designation. Clearly, the default designation is not signed by the owner, and the statute should be amended to clarify that the default designation is valid despite the lack of a signature.224

EPTL section 13-3.2 does not specifically state that IRAs are subject to its provisions, though cases have so held.225 The statute should be amended to clarify that this is so. In addition, the statute does not specify how to revoke such a designation, or whether the designation can be revoked by will. The statute should be amended to clarify these issues.

New York State law also does not specify how an IRA beneficiary may designate his or her own beneficiary of an inherited IRA under state law. EPTL section 13-3.2 should be amended to address this issue.

[g] Disclaimers

As with any other dispositive document, provision for a disclaimer can provide increased flexibility and allow for post-mortem planning. The owner should consider including in the BDF a specific provision for disclaimer of all or part of the benefit, particularly if the primary beneficiary is the surviving spouse. The BDF should also state specifically who is to be the beneficiary of any benefit that is disclaimed.

221 EPTL section 13-3.2(a). 222 See Androvette v Treadwell, 73 N.Y.2d 746 (1988), holding that an unsigned change of beneficiary was void. 223 EPTL section 13-3.2(e). The requirement that the beneficiary designation be in writing was held to be preempted by ERISA with respect to an employer plan [O’Shea v First Manhattan Co. Thrift Plan & Trust, 55 F.3d 109 (2nd Cir., 1995)]. 224 In Matter of Trigoboff, 175 Misc.2d 370, 669 N.Y.S.2d 185 (1998), the court did not suggest that the default designation in the IRA was invalid, but held that a testamentary disposition was better evidence of the decedent’s intent. 225 See, for instance, Matter of Morse, 150 Misc. 2d 415, 568 N.Y.S. 2d 689 (1991) (holding that a testamentary disposition of an IRA superseded a prior designation); Matter of Trigoboff, 669 N.Y.S. 2d 185 (1998) (holding that a specific testamentary disposition of an IRA in a will pre-dating decedent’s marriage superseded the IRA’s generic default designation in favor of the surviving spouse).

1215 A primary beneficiary may disclaim all or part of an inherited retirement account even if he or she received a mandatory distribution from the account in the year of the account owner’s death.226

The rules of Code section 2518 do not entirely govern the effect of a qualified disclaimer for purposes of the minimum distribution rules. In PLR 9450040, IRS ruled that it would not be appropriate to treat the disclaiming surviving spouse as dead, since she was still alive. In PLR 9537005, IRS treated the disclaimer as being equivalent to a change of beneficiary made by the participant (who was past his RBD) at the moment of death.

In PLR 200010055, IRS ruled that minimum distributions to a disclaimer trust were measured by the disclaiming widow’s life expectancy, as she was the oldest beneficiary of the trust.

In PLR 200013041, IRS ruled that the personal representative of a man who died a few days after his wife properly disclaimed his interest in her IRA, and that their children could take distributions over the oldest child’s life expectancy.

In PLR 200837046, an individual named her husband as the primary IRA beneficiary and one son as the contingent beneficiary. After a divorce, she executed a new will in which she left her tangible personal property to her two sons and the estate residue to her sons in trust. Distributions from the IRA were to be made to two separate trust shares, one for each son. Although the individual was advised to change her IRA beneficiary designation to name the trust as the beneficiary, she failed to do so, leaving one son as the sole beneficiary. That son disclaimed his interest in one-half of the IRA, allowing that interest to pass to the trust to be divided into two shares for the two sons. Since the son also disclaimed any interest in the one-half interest through the will, the disclaimed interest passed to the second son. The IRS ruled that the disclaimer was a qualified disclaimer under section 2518 . The minimum distribution requirements would be met by distributing annual amounts from the non-disclaimed portion based on the life expectancy of the first son. Under section408(d)(1), he would be taxed on distributions made to him from the non-disclaimed interest.

[h] Minor Beneficiaries

The BDF should also provide for the possibility that a primary or contingent beneficiary may be a minor, or otherwise lack capacity, by specifying to whom the benefits should be paid in that situation. For example, the BDF could provide that the benefits will be paid to the natural or legal

226 Rev. Rul. 2005-36, 2005-26 IRB 1368.

1216 guardian.

[i] Tax Clause

Code sections 2206, 2207, 2207A and 2207B deal with who should bear the estate tax attributable to inclusion in the gross estate of property subject to a power of appointment, QTIP property, life insurance proceeds or retained-interest property. There is no corresponding provision for retirement benefits. In the absence of a provision in the owner’s will, or under state law, the beneficiary is apparently not liable to pay the tax. 227

Good estate planning may suggest, in a particular case, that a tax clause should be included in the BDF. However, this may cause problems under the current IRS interpretation of the minimum distribution rules. Until this issue is resolved, it appears to be safer not to address the issue in the BDF.228

Any tax clause should be both in the will and in the BDF. If the source of funds to pay the tax will or may be the retirement account, the BDF should authorize distribution of the amount of taxes attributable to the account, as determined by the executor. The tax clause should also allow the beneficiaries to pay their share of the tax from their own funds, to preserve the tax deferral potential of the retirement benefits.

8.7 Additional Legal Issues

[a] Compliance with Sponsor’s Procedural Requirements

IRA and plan documents, like insurance policies, typically require a beneficiary designation to be delivered to the appropriate person (here, the plan or IRA sponsor) in order for it to be effective. In several cases, New York courts have held that the institution can waive compliance with its procedural requirements so that, in some of the cases, benefits passed under the decedent’s will

227 Code section 2205. See also Temp. Reg. 54.4981A-1T, Q & A d-8A (dealing with the now-repealed excess accumulations tax). 228 “If the revocable trust includes a standard payback clause directing the trustee to satisfy estate expenses and debts, then [the] estate could be considered a beneficiary of the trust. To avoid this problem, the trust should include language specifically disallowing such uses for the retirement benefits after the designation date.” [Jean T. Adams, Working with Retirement Benefits in Estate Planning for Family Business Owners, ALI-ABA Course of Study Materials, Estate Planning for the Family Business Owner, July 2007, Course Number: SN002] See also Louis A. Mezzullo, Planning for Qualified Retirement Plan Benefits and IRAs: “In addition, at least the terms of the trust must not direct the use of any plan benefit or IRA distributed to the trust from being used to pay debts or expenses of the participant=s estate, including federal and state estate and death taxes; otherwise the participant may not be treated as having a designated beneficiary because the participant’s estate will be treated as a beneficiary of the plan benefit.”

1217 rather than under the beneficiary designation.229

The test applied by the courts is a facts and circumstances test, so this introduces uncertainty and increases the risk of litigation. Consideration should be given to including in the BDF for an IRA a statement as to whether the IRA owner reserves the right to alter the beneficiaries by a later will and, if so, an agreement by the sponsor to waive its procedural requirements in that case. If, as one assumes would normally be the case, the IRA owner does not reserve that right, the BDF could require the IRA sponsor not to waive the procedural requirements so that a designation by will would be ineffective unless the will is delivered to the IRA sponsor.

The same considerations apply to an employer plan that is not subject to ERISA, e.g., a governmental or church plan. If the plan is subject to ERISA, then state law would be preempted and the owner must comply with the procedure specified by the plan documents.230

[b] Spousal Rights

IRAs are not subject to the qualified joint and survivor annuity (QJSA) and qualified pre- retirement annuity (QPSA) rules that apply to qualified plans under ERISA and the Code. Under state law, EPTL section 5-1.1-A(b)(1)(G) includes “thrift, savings, retirement, pension, deferred compensation, death benefit, stock bonus or profit-sharing” plans and accounts as testamentary substitutes that are subject to the spouse’s right of election: see section 9.1 below. The statute does not specifically refer to IRAs, and should be amended to clarify whether it does so. From a policy viewpoint, there is no reason to exclude IRAs.

A retirement benefit will not be classified as a testamentary substitute if the decedent designated the beneficiary on or before September 1, 1992 and has not changed the beneficiary thereafter.231

[c] Effect of Divorce

Numerous recent cases have addressed the following situation: a participant in an employer- sponsored plan, or owner of an insurance policy, designates his or her spouse as beneficiary; the parties are later divorced, but the beneficiary designation is never changed. Who receives the proceeds?232 One way to address this issue is to specify in the property settlement agreement who

229 See, for instance, McCarthy v Aetna Life Ins. Co., 92 N.Y. 2d 436 (1998). 230 See, e.g., the U.S. Supreme Court’s decisions in Egelhoff and Kennedy. 231 EPTL section 5-1.1-A(b)(1)(G). 232 For instance, in McCarthy v Aetna Life Ins. Co., 92 N.Y. 2d 436, the decedent had named his ex-wife as beneficiary of an insurance policy. A later will left all Ainsurance proceeds@ to his father, but the beneficiary

1218 is to receive any IRA or plan proceeds, identifying each account individually. Another, and probably better, way is to specify in the BDF whether any designation of a spouse as beneficiary is to survive a divorce or separation. In the case of an ERISA plan, the Supreme Court’s Egelhoff and Kennedy decisions will almost certainly result in the benefits being paid to the named beneficiary, despite the divorce. In the case of an IRA or a non-ERISA plan, such as a governmental plan or a church plan, state law will control, and the EPTL will, in the absence of evidence of contrary intent, revoke the designation of the ex-spouse.

IX SPOUSAL RIGHTS UNDER NEW YORK LAW

9.1 The Right of Election Under New York Law

[a] In General

Section 5-1.1-A of the New York Estates. Powers and Trusts Law (EPTL) generally grants a right of election to the surviving spouse235 of a decedent who dies, domiciled in New York State,236 after August 31, 1992.237 The amount of the elective share to which the surviving spouse is entitled is generally equal to the greater of $50,000 or 1/3 of the “net estate”.238 The net estate includes, in addition to the probate estate, “testamentary substitutes” described in section 5-1.1- A(b)(1).

If the decedent created testamentary substitutes during his or her life, the right of election is the right to receive money from the beneficiaries who received them, not a share of the assets

designation was never changed. The court held that the ex-wife was entitled to the proceeds because there was insufficient evidence of an intent to change the beneficiary. In the context of an ERISA-covered pension or welfare plan, the situation is complicated by the anti-alienation and QDRO rules and the general preemption of state law. In Egelhoff v Egelhoff, 2001 U.S. LEXIS 2458 (2001), the U.S. Supreme Court held that ERISA preempts a Washington State statute that revokes, on dissolution of marriage, a deceased’s designation during marriage of his then-spouse as beneficiary of his pension plan and employer-provided life insurance. 235 For disqualification as surviving spouse, see E.P.T.L. section 5-1.2. 236 In Estate of Rhoades, 607 N.Y.S. 2d 893 (Sup. Ct., 1994), the court held that a New York resident could disinherit a spouse by moving out of state. In Matter of Schwarzenberger, 626 N.Y.S. 2d 229 (App. Div., 1995), the court held that there was no New York right of election because the decedent was domiciled in Florida. 237 The right of election is not available to the spouse of a decedent who was not domiciled in the state at the time of death, unless the decedent has elected, under EPTL section 3-5.1(h), to have the disposition of his or her property situated in New York governed by New York law [EPTL section 5-1.1-A(c)(6)]. 238 “In order to discharge his fiduciary duty to treat the estate=s beneficiaries impartially, the executor of the decedent=s estate should typically fund the surviving spouse=s elective share with assets that are representative of the assets of the estate”. [Preminger et al, Trusts and Estates Practice in New York (West) at para 6:75]. By contrast, under the Uniform Probate Code, the amount of the elective share depends upon the length of the marriage. [U.P.C. section 2-202 (1990)]

1219 themselves.239

Generally, the election must be made within 6 months from the date of issuance of letters testamentary or of administration, but in no event later than 2 years after the date of death. However, the time may be extended by order of the surrogate=s court which issued the letters.240

What if the beneficiary is not the spouse, and demands immediate distribution before the end of the period in which an election can be made by the surviving spouse? These provisions do not prevent a person from paying or transferring any funds or property to a person otherwise entitled thereto, unless there has been served personally upon the payer a certified copy of an order enjoining such payment or transfer, made by the surrogate’s court having jurisdiction of the decedent’s estate or by another court of competent jurisdiction. Otherwise, a person so paying or transferring funds or property will be held harmless and free from any liability for making the payment or transfer.241

The spouse or surviving spouse cannot seek a qualified domestic relations order (QDRO) under the EPTL. A QDRO must be issued under a state “domestic relations” law:242 Section 5-1.1A of the EPTL is a succession law, not a domestic relations law. However, it may be possible to obtain a QDRO under the Domestic Relations Law, even after the death of the plan participant: see section 3.7 above.

The EPTL specifically says that the spouse is not a creditor with respect to the elective share. Accordingly, it appears that the creditor protection statutes under federal and state law would not protect assets in a qualified plan or IRA from the right of election.

[b] Retirement Benefits as Testamentary Substitutes

The testamentary substitutes include any “money, securities or other property” payable under a “thrift, savings, retirement, pension, deferred compensation, death benefit, stock bonus or profit-

239 Matter of Daniello, N.Y.L.J., November 28, 2000, at 27 (Surr. Ct., Bronx Co). See also E.P.T.L. section 5-1.1- A(c)(2) (“Except as otherwise expressly provided in the will or other instrument making a testamentary provision, ratable contribution to the share to which the surviving spouse is entitled shall be made by the beneficiaries and distributees (including the recipients of any such testamentary provision), other than the surviving spouse, under the decedent’s will, by intestacy and other instruments making testamentary provisions, which contribution may be made in cash or in the specific property received from the decedent by the person required to make such contribution or partly in cash and partly in such property as such person in his or her discretion shall determine.”) 240 EPTL section 5-1.1-A(d). 241 EPTL section 5-1.1-A(b)(4). 242 Code section 414(p)(1)(B)(ii); ERISA section 206(d)(3)(B)(ii), 29 USC section 1056(d)(3)(B)(ii).

1220 sharing plan, account, arrangement, system or trust”.243 However, with respect to

1. A plan to which section 401(a)(11) of the Internal Revenue Code (the Code) applies or

2. A defined contribution plan to which that subsection does not apply pursuant to section 401(a)(11)(B)(iii) (i.e., a profit sharing plan, 401(k) plan or ESOP described in 2(a) above) only 50% (rather than 100%) of the “capital value” of the benefit is a testamentary substitute.244 A spouse who receives retirement plan benefits as a result of exercising the right of election will apparently not be a designated beneficiary for purposes of the minimum distribution rules: the fact that an employee’s interest under the plan passes to a certain individual under applicable state law does not make that individual a designated beneficiary unless the individual is designated as a beneficiary under the plan.245

According to the preamble to the final minimum distribution regulations, under “Explanation of Provisions”:

The period between death and the beneficiary determination date is a period during which beneficiaries can be eliminated but not replaced with a beneficiary not designated under the plan as of the date of death. In order for an individual to be a designated beneficiary, any beneficiary must be designated under the plan or named by the employee as of the date of death.246

[i] Which Plans Are Subject to the 50% Rule?

As indicated above, Code section 401(a)(11) applies only to qualified plans, and the exception under section 401(a)(11)(B)(iii) also applies only to qualified plans. 403(b) plans may be subject to the annuity requirements under section 205 of ERISA, but they are NOT subject to section 401(a)11).

In Estate of Cohen, 247 Surrogate Preminger applied a “purposive interpretation” of the right of

243 EPTL section 5-1.1-A(b)(1)(G). 244 EPTL section 5-1.1-A(b)(1)(G). 245 Treas. Reg. 1.401(a)(9)-4, Q & A 1. 246 67 FR 18990 (April 17, 2002). It is not clear what the result would be if the plan (unusually) provided specifically for a beneficiary designation to be made in the participant’s will. 247 Estate of Cohen, N.Y.L.J. January 22, 2001, at 21 (Surr. Ct., New York Co.).

1221 election statute, which led her to “the conclusion that any plan (whether or not a “qualified plan” for federal tax purposes ) required to comply with the section 401(a)(11) requirements, directly or indirectly, is subject to the special ½ rule.” Surrogate Preminger acknowledged that 403(b) plans “are not directly subject to section 401(a)(11)” but cited the Treasury regulations, which provide:

The requirements set forth in section 401(a)(11) apply to other employee benefit plans that are covered by applicable provisions under Title I of [ERISA]. For purposes of applying the regulations under sections 401(a)(11) and 417, plans subject to ERISA section 205 are treated as if they were described in section 401(a). For example, to the extent that section 205 covers section 403(b) contracts and custodial accounts they are treated as section 401(a) plans. Individual retirement plans (IRAs), including IRAs to which contributions are made under simplified employee pensions described in section 408(k) and IRAs that are treated as plans subject to Title I, are not subject to these requirements. (emphasis supplied)248

Accordingly, she concluded, as the EPTL “does not differentiate between plans directly or indirectly subject to” section 401(a)(11), then a 403(b) plan that is subject to ERISA is subject to section 401(a)(11) for purposes of the right of election.

I believe that the result is correct from a policy viewpoint. However, the fact remains that, no matter what the Treasury regulations suggest, 403(b) plans are NOT subject to Code section 401(a)(11). There is no policy reason to differentiate between (1) retirement plans which are subject to Code section 401(a)(11), and (2) retirement plans (including many 403(b) plans) which are NOT subject to Code section 401(a)(11), but are subject to the parallel requirements of ERISA section 205. Accordingly, the right of election statute should be modified to apply the 50% rule to any retirement plan that is subject to either Code section 401(a)(11) or ERISA section 205.

The 50% rule raises another policy issue. Assume that the deceased spouse leaves nothing to his or her surviving spouse and has, in each case, only one asset subject to the right of election, and that the value of that asset is $300,000.

1. If the asset is corporate stock, then the surviving spouse is entitled to receive $100,000 if she exercises her right of election.

2. If the asset is an account balance under a qualified governmental retirement plan, then the surviving spouse is again entitled to receive $100,000 if she exercises her right of

248 Treas. Reg. 1.401(a)-20, TD 8219, 8/19/88, Q & A 3(d).

1222 election.

3. If the asset is an account balance under a qualified corporate retirement plan, then the surviving spouse is entitled to receive only $50,000 if she exercises her right of election.

4. If the asset is an account balance under an individual retirement account, which was funded solely by a rollover from a qualified corporate plan, then the surviving spouse is entitled to receive the full $100,000 if she exercises her right of election.

The difference in treatment can only be explained as an awkward attempt to comply with ERISA preemption, which is discussed below.

[ii] Life Insurance

Life insurance is not a testamentary substitute unless payable to the estate.249 Some retirement plans provide an insured death benefit; as the life insurance proceeds are part of the retirement plan benefit, it seems that they should be included as testamentary substitutes rather than excluded as life insurance.250

[iii] Transition Rule: No Change of Beneficiary After August 31, 1992

A transaction described above will not constitute a testamentary substitute if the decedent designated the beneficiary or beneficiaries of the plan benefits on or before September 1, 1992, and did not change the beneficiary designation thereafter.251 In one case, the decedent married after September 1, 1992. This had the effect of making his new spouse the beneficiary of his profit-sharing plan. The court held that he was deemed to have changed his beneficiary after September 1, 1992, so the plan was a testamentary substitute.252

In Estate of Alent,253 before 1992 the decedent named her two daughters as her beneficiaries. After September 1, 1992, she selected the method of payment, and again named her children as beneficiaries. After her death, her husband sought a declaration that her retirement benefits were testamentary substitutes. The court held against him:

249 Will of Boyd, 613 N.Y.S. 2d 330 (Surr. Ct., Nassau Co., 1994). 250 Under the Uniform Probate Code, life insurance proceeds are included in the augmented estate. [UPC section 2- 205 (1990)] 251 EPTL section 5-1.1-A(b)(1)(G). 252 In re Farlow, 174 Misc. 2d 629, 666 NYS 2d 388 (Surr. Ct., Monroe Co., 1997). 253 Estate of Alent, 709 N.Y.S. 2d 902 (4th Dept., 2000).

1223 Inasmuch as no new beneficiary was designated after the original designation of decedent’s children in 1964, the exception to the requirement that a retirement plan be treated as a testamentary substitute ... applies.

[c] Waiver of Right of Election

A testamentary substitute is not included to the extent that the surviving spouse has executed a valid waiver or release pursuant to section 5-1.1A(e) with respect thereto.254

The spouse may, during the lifetime of the other spouse, waive or release the right of election against a particular will, or against any will, or a testamentary substitute. The waiver or release must be in writing, signed and acknowledged in the manner required for recording a conveyance of real property. However, in Saperstein,255 a waiver was held valid even though it was not acknowledged.

The waiver or release is effective even if it is executed before the marriage, or without consideration.256 The language must clearly indicate that the election right in particular is being waived.257

A waiver may be withdrawn if it was obtained by fraud, concealment or overreaching.258

If, at the time of the decedent’s death, there is in effect a waiver, or a consent to the decedent’s waiver, with respect to any survivor benefit, or right to such a benefit, under Code section 401(a)(11) or section 417, then that waiver is deemed to be a waiver against that testamentary substitute.259 The preamble to the final, temporary and proposed regulations under sections 401(a)(11) and 417 states that section 417 “provides explicit safeguards to ensure informed consent of the participant and the participant’s spouse”.260

254 EPTL section 5-1.1-A(b)(1). 255 Estate of Saperstein, 678 NYS 2d 618 (1st Dept., 1998). 256 EPTL section 5-1.1-A(e). 257 In re Le Roy, 461 NYS 2d 161 (Surr. Ct., Onondaga Co., 1983). 258 Matter of Sunshine, 369 N.Y.S. 2d 304 (New York County, 1975), reversed 381 N.Y.S. 2d 260 (1st Dept., 1976), aff’d 389 N.Y.S. 2d 344 (1976). 259 EPTL section 5-1.1-A(e)(4). 260 T.D. 8620, 1995-41 IRB 25. See also Private Pensions: Spousal Consent Forms Hard to Read and Lack Important Information, GAO/HRD-90-20, Dec. 27, 1989.

1224 IRS has issued sample language to waive the QJSA or QPSA.261 Each form contains an extensive explanation of the nature of the rights being given up and the effect of the consent.262

The likelihood of an ERISA waiver being a truly informed waiver appears remote. Also, what if plan assets for which an ERISA waiver was obtained are commingled in a single IRA with other assets?

9.2 ERISA Preemption

[a] In General

ERISA includes a broad preemption provision263 which generally preempts any state law or cause of action which “relates to” an employee benefit plan that is subject to ERISA.264

The EPTL provides that, if any part of section 5-1.1A is preempted by federal law with respect to a payment or an item of property included in the net estate, a person who, not for value, received that payment or item of property is obligated to return to the surviving spouse that payment or item of property or is personally liable to the surviving spouse for the amount of that payment or the value of that item of property, to the extent required under the section.266

[b] Boggs v Boggs267

Isaac Boggs’ first wife died in 1979. He remarried in 1980, retired in 1985 and died in 1989. He participated in (1) a qualified savings plan, which he rolled over to an IRA before his death, (2) a qualified ESOP, from which he received a distribution of employer stock before his death, and (3) a qualified defined benefit plan. After he retired, he received annuity payments from the

261 Notice 97-10, 1997-2 IRB 1. 262 For additional rules relating to waivers under the Code and ERISA, see Treas. Reg. 1.401(a)-20, Q & A 27 (circumstances when consent is not required), 28 (consent in a prenuptial agreement does not satisfy the rules) and 29 (consent by a spouse does not bind a later spouse). 263 ERISA section 514, 29 USC section 1144. 264 The term “employee benefit plan” includes employee pension benefit plans and employee welfare benefit plans [ERISA sections 3(1), (2), (3), 29 USC sections 1002(1), (2), (3)]. Certain categories of plans, including governmental plans and church plans, are exempt from ERISA [ERISA section 4(b), 29 USC section xx(b)]. 266 EPTL section 5-1.1-A(b)(7). 267 Boggs v Boggs, 520 U.S. 833 (1997). For discussions of Boggs, see Tony Vecino, Note: Boggs v Boggs: State Community Property and Succession Rights Wallow in ERISA=s Mire, 28 Golden Gate U.L. Rev. 571 (1998); Alvin J. Golden, A Preliminary Analysis of Boggs v Boggs- and the Problems It Does Not Answer, 23 ACTEC Notes 139 (1997); Boggs v Boggs Holds That a Predeceasing Nonparticipant Spouse Has No Property Interest in an ERISA Pension Plan, 6 no. 3 ERISA Lit. Rptr. 4 (Aug. 1997); Philip H. Wile, Boggs v Boggs: The Good News and the Bad News, 76 no. 5 Tax Notes 679 (1997).

1225 defined benefit plan and, after his death, these payments continued to his second wife.

His first wife bequeathed a remainder interest in 2/3 of her estate to their sons. Absent preemption, Louisiana community property law would control, and her will would effectively dispose of her community property interest in the plans. The lower courts held that ERISA did not preempt state law. The Court reversed in a 5-4 decision.

For the majority, Justice Kennedy said that

We can begin, and in this case end, the analysis by simply asking if state law conflicts with the provisions of ERISA or operates to frustrate its objectives. We hold that there is a conflict, which suffices to resolve the case. ...

ERISA’s solicitude for the economic security of surviving spouses would be undermined by allowing a predeceasing spouse’s heirs and legatees to have a community property interest in the survivor’s annuity....

Beyond seeking a portion of the survivor’s annuity, respondents claim a percentage of: the monthly annuity payments made to Isaac Boggs during his retirement; the IRA; and the ESOP shares of AT & T stock....

The surviving spouse annuity and QDRO provisions, which acknowledge and protect specific pension plan community property interests, give rise to the strong implication that other community property claims are not consistent with the statutory scheme. ERISA’s silence with respect to the right of a nonparticipant spouse to control pension plan benefits by testamentary transfer provides powerful support for the conclusion that the right does not exist....

As was true with survivors’ annuities, it would be inimical to ERISA’s purposes to permit testamentary recipients to acquire a competing interest in undistributed pension benefits, which are intended to provide a stream of income to participants and their beneficiaries....

It does not matter that respondents have sought to enforce their rights only after the retirement benefits have been distributed since their asserted rights are based on the theory that they had an interest in the undistributed pension plan benefits. Their state-law claims are pre-empted (emphasis supplied).

In his dissent, Justice Breyer pointed out that

1226 ... the state law in question involves family, property, and probate- all areas of traditional, and important, state concern....

The lawsuit before us concerns benefits that the fund has already distributed; it asks not the fund, but others, for a subsequent accounting....

The anti-alienation provision is designed to prevent plan beneficiaries from prematurely divesting themselves of the funds they will need for retirement, not to prevent application of the property laws that define the legal interest in those funds. One cannot find frustration of an “anti-alienation” purpose simply in the state law’s definition of property....

He also pointed out that protection of Isaac, the plan participant,

... is beside the point... for the state law action here seeks an accounting that will take place after the deaths of both Dorothy and Isaac....

[I] agree with the majority that Louisiana cannot give Dorothy’s children a share of the pension annuity that Sandra is receiving without frustrating the purpose of [ERISA section 205].

This inconsistency does not end the matter, however, for Dorothy’s children here sought different relief. Although the children apparently requested a portion of Sandra’s monthly annuity payments in their state court pleading, they stipulated at oral argument that they are seeking only an accounting....

... it is possible that Louisiana law would permit Dorothy (or her heirs) to collect not the pension benefits themselves, but other nonpension community assets of equivalent value....

I cannot understand why Congress would want to pre-empt Louisiana law if (or insofar as) that law provides for an accounting and collection from other property- i.e., property other than the annuity that [ERISA section 205] requires the BellSouth plans to pay to Sandra. The survivor annuity provision assures Sandra that she will receive an annuity for the rest of her life. Louisiana law (on my assumption) would not take from her either that annuity or any other assets that belong to her. The most one could say is that Sandra will not receive certain other assets- assets which belonged to the Dorothy-Isaac community and

1227 which Isaac had no right to give to anyone in the first place.

The Court’s decision is somewhat surprising. First, there is a strong presumption (to which the Court paid lip service) against preemption of state law in traditional areas of state concern, such as succession law. Second, since its Travelers decision,268 the Court has applied ERISA preemption much less sparingly than it did before and could have sidestepped the preemption issue in Boggs, with respect to two of the plans (the savings plan and the ESOP), as the benefits were no longer held by the employer plans at the time of Isaac’s death.269 Third, as Justice Breyer indicated in his dissent, there is no apparent policy reason why the drafters of ERISA would have wished (had they thought about it, which they clearly did not) to preempt state community property law.

[c] The Uniform Probate Code

The Uniform Probate Code (1990) (UPC) provides270 that, if any provision thereof is preempted by federal law, the person receiving funds to which he or she would not be entitled under the UPC is personally liable for that amount to the person who would be entitled under the UPC. According to the Comment,

This provision respects ERISA’s concern that federal law govern the administration of the plan, while still preventing unjust enrichment that would result if an unintended beneficiary were to receive the pension benefits. Federal law has no interest in working a broader disruption of state probate and nonprobate transfer law than is required in the interest of smooth administration of pension and employee benefit plans.

This statement is echoed by Justice Breyer in his dissent:

I cannot understand why Congress would want to pre-empt Louisiana law if (or insofar as) that law provides for an accounting and collection from other property-i.e., property other than the annuity that section 1055 requires the BellSouth plans to pay to Sandra. The survivor annuity provision assures Sandra that she will receive an annuity for the rest of her life. Louisiana law (on my assumption) would not take from her either that annuity or any other asset that belongs to her. The most one could say is that Sandra will not receive

268 New York State Conference of Blue Cross & Blue Shield Plans v Travelers Ins. Co., 514 U.S. 645 (1995). 269 In Guidry v Sheet Metal Workers’ Int'l Assn., Local No. 9, 10 F. 3d 700 (1993), affd. en banc 39 F. 3d 1078 (1994), the 10th Circuit held that the ERISA anti-alienation rule protects plan benefits against claims of creditors only as long as the benefits are held in an ERISA plan. Accord, Trucking Employees of New Jersey Welfare Fund, Inc. v Colville, 16 F. 3d 52 (3rd Cir., 1994). 270 UPC section 2-804(h)(2).

1228 certain other assets- assets which belonged to the Dorothy-Isaac community and which Isaac had no right to give to anyone in the first place.

[d] Example

Assume that a New York decedent has a probate estate of $700,000 and a $1,000,000 account balance under a qualified plan that is subject to Code section 401(a)(11). In 1997, the decedent named his children as the sole beneficiaries of his estate and also of the plan. The surviving spouse has not waived her annuity rights, so she is entitled to a $500,000 QPSA, 50% of the account balance. For purposes of the elective share statute, the net estate is $1,200,000 ($700,000 plus (50% of $1 million)), and the elective share is $400,000. As the spouse has already received $500,000, more than her elective share, under Justice Breyer’s approach she would receive no other assets.

This approach appears eminently reasonable. However, as Langbein & Wolk pointed out:271

the rejection of Part II-B-3 of Breyer’s dissent by seven justices has implications beyond community property issues. ... the Uniform Probate Code directs the state probate court to set off a surviving spouse’s pension benefits derived from the decedent against the surviving spouse’s forced-share entitlement. Does Boggs signal that the UPC system will be pre-empted?

The Supreme Court’s unanimous 2013 decision in the non-ERISA Hillman case, discussed above, seems clearly to confirm that the UPC approach would be held to be preempted. Also, the Breyer approach was rejected by Surrogate Preminger in Cohen:272

The apparent purpose of the 50 percent exclusion of certain retirement benefits was to ensure that the right of the surviving spouse to control disposition of 50 percent of the plan benefit conferred by federal law would not be diluted by the surviving spouse’s right of election with respect to non-pension assets.... the total value of the plan assets received by [the husband] from the two plans that are fully includible in the elective share base are proper offsets to the net amount of the elective share while the amount received from the 50 percent plan is not a proper offset. Accord, Matter of Farlow, 174 Misc 2d 629.

Accordingly, on the facts of the above Example, the surviving spouse would receive her entire

271 John H. Langbein & Bruce A. Wolk, Pension and Employee Benefit Law, Foundation Press, 3rd ed., 2000, at 617. 272 Estate of Cohen, N.Y.L.J. January 22, 2001, at 21 (Surr. Ct., New York Co.).

1229 elective share of $400,000 in addition to the $500,000 QPSA.

[e] Preemption and Divorce

Most states have laws providing that divorce revokes the provisions of a will in favor of the divorced spouse, but some (unlike New York) do not extend this to non-testamentary transfers.273 The UPC would revoke any revocable “disposition or appointment of property” in favor of the ex- spouse.274

In Egelhoff,275 H designated W as his beneficiary under 2 ERISA plans, a pension plan and a life insurance plan. They were later divorced, and H died intestate two months later. H had not changed the beneficiary designation. Under state law, his heirs in intestacy were his children from a prior marriage. Washington state law provided that a divorce revoked the designation in favor of the ex-wife. The Washington Supreme Court held that the state law was not preempted. The U.S. Supreme Court reversed. The Court held 7-2 that the Washington statute was expressly preempted by ERISA because it governed the payment of benefits, “a central matter of plan administration” and would impose a burden on plan administrators, exacerbated by choice of law problems. Also, the statute “interfered with nationally uniform plan administration”.

According to Justice Thomas, writing for the majority,

The statute binds ERISA plan administrators to a particular choice of rules for determining beneficiary status. The administrators must pay benefits to the beneficiaries chosen by state law, rather than to those identified in the plan documents. The statute thus implicates an area of core ERISA concern....

Plan administrators cannot make payments simply by identifying the beneficiary specified by the plan documents. Instead they must familiarize themselves with state statutes so that they can determine whether the named beneficiary’s status has been “revoked” by operation of law. And in this context the burden is exacerbated by the choice-of-law problems that may confront an administrator....

There is... a presumption against pre-emption in areas of traditional state regulation such as family law []. But that presumption can be overcome where, as here, Congress has

273 See, e.g., E.P.T.L. section 5-1.4. 274 UPC section 2-804(b). 275 Egelhoff v Egelhoff, 532 U.S. 141 (2001). See also Egelhoff v Egelhoff; the Supreme Court More or Less Stands Pat on Preemption, 9 no. 1 ERISA Lit. Rptr. 3 (Apr., 2001).

1230 made clear its desire for pre-emption. Accordingly, we have not hesitated to find state family law pre-empted when it conflicts with ERISA or relates to ERISA plans [citing Boggs].

In dissent, Justice Breyer said:

if one looks beyond administrative burden, one finds that Washington=s statute poses no obstacle, but furthers ERISA’s ultimate objective- developing a fair system for protecting employee benefits []. The Washington statute transfers an employee’s pension assets at death to those individuals whom the worker would likely have wanted to receive them. As many jurisdictions have concluded, divorced workers more often prefer that a child, rather than a divorced spouse, receive those assets. Of course, an employee can secure this result by changing a beneficiary form; but doing so requires awareness, understanding, and time. That is why Washington and many other jurisdictions have created a statutory assumption that divorce works a revocation of a designation in favor of an ex-spouse. That assumption is embodied in the Uniform Probate Code; it is consistent with human experience; and those with expertise in the matter have concluded that it “more often” serves the cause of “justice” Langbein, The Nonprobate Revolution and the Future of the Law of Succession, 97 Harv. L. Rev. 1108, 1135 (1984).

In forbidding Washington to apply that assumption here, the Court permits a divorced wife, who already acquired, during the divorce proceeding, her fair share of the couple’s community property, to receive in addition the benefits that the divorce court awarded to her former husband. To be more specific, Donna Egelhoff already received a business, an IRA account, and stock; David received, among other things, 100% of his pension benefits []. David did not change the beneficiary designation in the pension plan or life insurance plan during the 6-month period between his divorce and his death. As a result, Donna will now receive a windfall of approximately $80,000 at the expense of David’s children. The State of Washington enacted a statute to prevent precisely this kind of unfair result. But the Court, relying on an inconsequential administrative burden, concludes that Congress required it.

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