Estate planning considerations amid COVID-19’s economic impact

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The COVID-19 pandemic has raised a plethora of questions and decisions that affect people’s planning for their futures. As the virus has had its terrible impact on human life, prompting people to reconsider their wills, guardianship of children, and health care proxies, the pandemic has also caused a diminution of asset values, leading to reconsideration of estate planning and potential modifications as well as the establishment of new, simple estate planning structures. While the life questions and decisions must be primary and deserve considerable in-depth study, we will focus here on the two of the most common estate planning structures and potential planning opportunities during economic travail.

Perhaps the simplest estate transaction is to establish a grantor trust and lend it money.  Commencing in May, the IRS requires a mid-term loan to have a 0.58% interest rate. If the assets in the trust grow faster than 0.58%, the excess will benefit the trust’s beneficiaries. The grantor trust can have a very long term. In some states, a trust can last for 90 years. In other states, a trust can last forever.

A logical question is what should be done if a loan was established between grantor and grantor trust in prior years when the prevailing interest rates were significantly higher. Like in the commercial market, there can be opportunities to renegotiate the loan, either directly or indirectly between the grantor and grantor trust. One might consider, why would a bank negotiate the reduction of a mortgage with a property owner when interest rates go down?.  While there are technical considerations to ponder, our practitioners are happy to provide more information and guidance.

Many of our clients established GRATs (grantor retained annuity trusts) thinking the value of their assets will go above a special interest rate used by GRATs that is established monthly by the IRS (0.6% for June 2020). GRATs typically have a two-year term and provide for annuity payments at the end of each of the two years. The interest rate for the annuity payments are set such that there is no “taxable gift” by the person establishing the GRAT. In effect, it provides a person a “heads I win, tails I do not really lose” opportunity. That is, if the assets’ performance exceeds the baseline interest rate, an economic benefit will pass in further trust to the GRAT’s ultimate beneficiaries. If the asset growth does not beat the established interest rate, other than the time and cost of planning, the senior-generation person is back to where she or he would have otherwise been with the assets placed in the GRAT returned.

Assuming asset values plummet shortly after establishing and funding a GRAT, it would be very difficult for the assets to rebound in value over the remaining GRAT term to exceed the GRAT’s required growth rate. Still, since a GRAT is a grantor trust, there is an income tax-free opportunity for the person who created it to swap equivalent-value assets like cash or notes for the assets in the GRAT. Clearly, the cash or notes will not exceed the GRAT’s required interest rate. Then, if the person still believes the original assets will explode in value, the person can establish a brand-new GRAT and place the original assets into this new GRAT with requirement to beat the current IRS rate (which for June is 0.6%).

In summary, given the economic consequences of the pandemic generally and specifically regarding estate planning, we currently suggest consideration be given to establishing grantor trusts while leveraging performance with loans at the 0.58% historically low interest rate. Additionally, freezing negative GRAT performance and commencing brand-new GRATs at current fair market value can allow performance to track the hoped-for safe reopening of the economy to beat June’s 0.6%.

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Lawrence Lipoff, Director

646.601.7791

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Lawrence M. Lipoff

Lawrence Lipoff

CPA, TEP, CEBS, Director, Trusts & Estates Tax Services

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Any advice contained in this communication, including attachments and enclosures, is not intended as a thorough, in-depth analysis of specific issues. Nor is it sufficient to avoid tax-related penalties. This has been prepared for information purposes and general guidance only and does not constitute legal or professional advice. You should not act upon the information contained in this publication without obtaining specific professional advice specific to, among other things, your individual facts, circumstances and jurisdiction. No representation or warranty (express or implied) is made as to the accuracy or completeness of the information contained in this publication, and CohnReznick LLP, its partners, employees and agents accept no liability, and disclaim all responsibility, for the consequences of you or anyone else acting, or refraining to act, in reliance on the information contained in this publication or for any decision based on it.