ALL ABOUT THAT BASIS: HOW INCOME TAXES HAVE RESHAPED ESTATE PLANNING MICKEY R. DAVIS AND MELISSA J. WILLMS DAVIS & WILLMS, PLLC 3555 Timmons Lane, Suite 1250 Houston, Texas 77027 (281) 786-4500 [email protected] [email protected] American Law Institute PLANNING TECHNIQUES FOR LARGE ESTATES April 3-5, 2019 Scottsdale, Arizona © 2019, Mickey R. Davis and Melissa J. Willms, All Rights Reserved All About That Basis: How Income Taxes Have Reshaped Estate Planning TABLE OF CONTENTS I. Introduction ................................................................................................................................................... 1 II. The New Tax Environment ......................................................................................................................... 1 A. ATRA, TCJA, and Their Changes to Rates and Exclusions .......................................................... 1 B. The Net Investment Income Tax .................................................................................................... 1 C. Portability ....................................................................................................................................... 2 III. What Is Basis? ............................................................................................................................................ 2 A. Basis in Property Acquired from a Decedent ................................................................................. 2 Basis Consistency .............................................................................................................. 3 Holding Period ................................................................................................................... 4 B. What Property is "Acquired from a Decedent"? ............................................................................ 5 Inherited Property .............................................................................................................. 5 Revocable Trust Property ................................................................................................... 5 Property with Retained Right to Control Beneficial Enjoyment ........................................ 5 Property Subject to a General Power of Appointment. ...................................................... 5 Both Halves of Community Property ................................................................................. 5 Other Property Includable in the Decedent's Gross Estate ................................................. 5 QTIP Property. ................................................................................................................... 5 C. Exceptions ...................................................................................................................................... 5 Assets Representing Income in Respect of a Decedent. .................................................... 6 Distributions from Trusts and Estates. ............................................................................... 6 Property "Re-Inherited" Within One Year of Gift ............................................................. 6 Depreciable Property Owned by Others ............................................................................ 6 Property Subject to a Conservation Easement ................................................................... 7 D. Persons Dying in 2010 ................................................................................................................... 7 E. Contrast Basis in Property Acquired by Gift .................................................................................. 7 Donee's Basis to Determine Gain....................................................................................... 7 Donee's Basis to Determine Loss ....................................................................................... 7 Basis for Gift Tax Paid....................................................................................................... 7 Basis for Transfers Between Spouses ................................................................................ 7 Basis for GST Tax Paid ..................................................................................................... 8 Holding Period ................................................................................................................... 8 Basis of Suspended Passive Losses ................................................................................... 8 The Cost of Forgoing Basis ............................................................................................... 8 IV. Do Our Old Planning Tools Still Work? .................................................................................................... 9 A. Using Bypass Trusts ....................................................................................................................... 9 No Basis Adjustment at Second Death .............................................................................. 9 Higher Ongoing Income Tax Rates ................................................................................... 9 Some Assets Cause Greater Tax Burdens ........................................................................ 10 Disclaimer Bypass Trusts ................................................................................................. 10 B. Advantages of Trusts over Outright Bequests .............................................................................. 11 Control of Assets .............................................................................................................. 11 Creditor Protection ........................................................................................................... 11 Divorce Protection ........................................................................................................... 11 Protection of Governmental Benefits ............................................................................... 12 Protection from State Inheritance Taxes .......................................................................... 12 Income Shifting ................................................................................................................ 12 Shifting Wealth to Other Family Members ...................................................................... 12 No Inflation Adjustment .................................................................................................. 12 Risk of Loss of DSUE Amount ........................................................................................ 12 No DSUE Amount for GST Tax Purposes .................................................................... 13 Must File Estate Tax Return for Portability ................................................................... 13 Impact on Life Insurance Planning ................................................................................ 13 C. Using QTIPable Trusts ................................................................................................................. 14 i All About That Basis: How Income Taxes Have Reshaped Estate Planning Control, Creditor, and Divorce Protections. ..................................................................... 14 Less Income Tax Exposure. ............................................................................................. 14 New Cost Basis at Second Spouse's Death ...................................................................... 14 Preservation of GST Tax Exemption ............................................................................... 14 QTIPs and Portability....................................................................................................... 14 QTIPs and Using the DSUE Amount .............................................................................. 14 D. QTIP Trust Disadvantages ........................................................................................................... 15 No "Sprinkle" Power ........................................................................................................ 15 Estate Tax Exposure......................................................................................................... 15 Income Tax Exposure ...................................................................................................... 15 Is a QTIP Election Available? ......................................................................................... 16 Clayton QTIP Trusts ........................................................................................................ 17 The QTIP Tax Apportionment Trap ................................................................................ 17 E. Is a "LEPA" Trust a Better Choice? ............................................................................................. 18 Structure of LEPA Trusts ................................................................................................. 18 Benefits of LEPA Trusts .................................................................................................. 18 Disadvantages of LEPA Trusts ........................................................................................ 18 V. A New Estate Planning Paradigm ............................................................................................................. 19 A. Creative Options to Create Basis ................................................................................................