Part 1: Trust & Estate Planning and Valuation Strategies

And as Joe mentioned, there's a couple other series that are coming up and those are meant to add on to today's conversation as well.

So first off, let's kind of take a step back from almost a year ago. Last July, we had the One Big Beautiful Bill and what that did was reset for us the current estate tax environment that we sit in today. Prior to the One Big Beautiful Bill, we knew that there was the sunset of the previous piece of legislation, the Tax Cuts and Jobs Act from 2017. There was a lot of uncertainty around what was going to happen with the exemption. Fast forward to July of last summer with the One Big Beautiful Bill, we have permanency. I do use that in quotes because nothing's permanent in tax code because all it takes is someone else to come along and change it. But for now, for our clients, we do have a permanent lifetime gift and estate tax exemption of 15 million per person. What that means for a married couple is they've got a combined overall federal protection amount of $30 million.

That $30 million can either be given away during their lifetime or at death. And we'll often talk about today with some of these planning illustrations, looking at a married couple for some of the illustrations and some of the comments that we're going to make. The base exemption of that 15 million is index for inflation. So one / one of 26, flat 15 million, starting one / one of 27, that number will go up. It had previously been indexed as well. It had gone up a couple hundred thousand dollars every year. We haven't gotten to that point in the year yet where they've done the calculation to set that inflation adjustment. That will likely come towards the end of 2026. We know what the exemption is come one / one / 27. The one thing, it also increased the GST exemption, so that's the generation skipping transfer tax.

Think of that as it's running parallel to our lifetime estate and gift exempts. We want to be mindful of GST. And as you see as we go through the presentation today, if we're looking at different gifting strategies, part of our overall estate administration, if there's any chance that assets might go to what they label as a skip generation, for discussion purposes, think of grandchildren, we'd want to make sure that we're also allocating part of that GST exemption to those transfers. The reason that we want to do that is not only is there a gift in estate tax that can be assessed, it's a 40% tax rate, there's also a GST tax that is separate than any gift or estate tax that our clients might pay. So that 40% GST tax is a flat tax. So that's where if we're thinking about setting up irrevocable trust, making transfers to grandchildren, we want to make sure that we're advising our clients or thinking about how do we leverage that GST exemption to make sure that we can avoid any potential tax that's going to be into the future because that's a very onerous tax and that's going to be set up.

I like this slide and I think it provides a good picture on how our focus has really shifted over the last roughly 20 years in the estate planning space. You can kind of see three different lines that we've got going on here. Blue line is the top federal estate tax rate, red line is the top federal individual income tax rate, and then the green line is what was our federal estate tax exemption? So rewind back to the early 2000s, you can see that we had a very low estate threshold exemption, about $600,000 per individual. And we had a very high estate tax rate of 55%. So the thought process there was estate deferral, right? Get it out of the estate, try to avoid any inclusion because we've got very little protection and a very high potential estate tax rate that's going to be there about 55%.

And you can even see the delta, the spread between the top federal estate tax rate and the top individual income tax rate, which was just about 40%. So as we've gone on and you can see a couple of lines here, vertical lines that talk about the different pieces of legislation, we get to 2010 and they increased, that's when we got to that $5 million base originally. So it was indexed for inflation, we keep going, Tax Cuts and Jobs Act comes in and it doubles the exemption from a $5 million base to a $10 million base. So that was our previous environment that we were in. And you can see where our crossover point starts to happen. Exemption keeps coming up, top federal estate tax rate keeps coming down. And where we are today, like I mentioned just a couple of minutes ago, is we are at a 15 million per person federal estate tax exemption.

We're at a top federal estate tax rate of 40% and a top individual income tax rate of 37%. So our estate tax rate and our income tax rate are almost lockstep with each other. So why we know it at the top, the shift is really, our focus has kind of shifted from estate planning, estate tax planning to income tax planning is because more and more individuals will have a lot of their gross estate covered by the federal state tax exemption. So now it turns into we're looking to maximize the income tax benefit that might be there for our clients. Anything that's includable in their estate besides retirement accounts are likely going to get a step up in basis to fair market value at the time of their death. So that's really what this conversation has come down to. And a lot of what we're focusing on with our conversations with our clients today is how do we maximize their tax situation holistically, looking at potential estate tax exposure, but then also looking at the benefit of the income tax side of things with some of the planning strategies and techniques that we're talking about with our clients on a regular basis.

So as I've put this in front of clients and we've really kind of talked about what's going on, this has really kind of helped set the scene for that discussion and it's really broadened it out. A lot of our tried and true techniques are still there, but this has changed. The environment that we're in today has really kind of changed that focus that we're moving forward with.

So not only do we have to worry about the federal estate side of things, which is pulling in less and less individuals with that current exemption of 15 million per person, but for those of you that might be in some of these states that we've highlighted here, not only do you have the federal estate tax to worry about, but you have your own state estate tax to worry about. I sit in our Minneapolis office, so obviously in Minnesota, we have our own state estate tax that we need to be mindful of when looking at estate planning considerations for our clients. And for Minnesota, and you can kind of see with the chart on the right, the different state thresholds for their exemption, Minnesota's exemption is only $3 million. So we've got a pretty big disconnect between what we're looking at and planning on the federal side compared to what we're looking at at the state estate tax exposure piece.

But again, it's all part of the holistic conversation with our clients because there might be a situation where it's worthwhile to cause estate tax at the Minnesota level and avoid federal estate tax because the overall income tax savings for our clients that might be there far exceeds any state estate tax that we're going to pay. So wanted to put this out there, if you happen to reside in one of these states that you're all likely aware of, if you do, that not only do we need to think about some of the federal estate planning techniques that are out there, but how do we potentially need to adapt those or what's the state implications of those strategies and techniques that we need to be mindful of at the same time?

So when I sit down and I talk to a lot of clients about estate planning, whether we're starting from scratch or they've been doing this for a long time, oftentimes we'll talk about and look at what are their goals and objectives and making sure that their plan continues to be in sync with what those goals and objectives are. And at a high level, when an individual dies, their assets are going to go to one of three locations, family and their heirs, charity, and then if we don't exhaust one and two, everything else is going to go to taxes. Now we certainly have to be mindful of what is all going to family and heirs and irrevocable trusts that might be set up and our available estate tax exemption, but we always have that charity lever that's there that we can pull on to help minimize any potential estate or inheritance tax that might be there holistically.

So this is really important when we're sitting down and if you're thinking about your own estate plan or you're advising clients on their estate plan, make sure that we're putting down and getting in front of them and understanding what are their goals and objectives, how do they fall into these three legs of the stool here? And once we know what some of those objectives are and what they're hoping to accomplish within their plan, then we can kind of figure out, all right, within each of those legs of the stool, what are some of the strategies? What are some of the techniques that we can lean into to help minimize any potential estate tax that might be there? Or if they may not care about tax and they want to make sure that certain assets, certain beneficiaries are taken care of, these trusts are set up in place, being mindful of what that structure looks like, even if it does have some tax implications as part of their overall plan that they're going to have.

So before we step into some of the other kind of more advanced planning techniques that are going to be there, we want to make sure, and oftentimes the conversations that we're having with our clients is let's make sure that our core plan is taken care of. Make sure that they've got their core documents in place. Do they have a will? Oftentimes for a lot of our clients, do they have a revocable trust? Where that revocable trust can be the primary document that's going to lay out the administrative provisions of their overall estate. When was the last time that we reviewed either one of those documents? Are they in sync with each other? Do our clients have a healthcare proxy, financial power of attorney, medical power of attorney? Have they set up and shared with the individuals that they're putting in various respective seats? If they're in charge of making healthcare decisions, what kind of decisions do they want to have?

If an individual is going to step in, if I'm incapacitated, have I let them know what their responsibilities are, what the goals are that I'm hoping to accomplish? And if it's been a while since we looked at their overall estate plan, we want to make sure that we're going back with the will, with the revocable trust, who's the PR of the estate, the personal representative, who's the executor, who are the successor trustees? Are those individuals still in the lives of the clients or of our own estate plan that we're looking at? Are they still the right people to serve in those roles and serve in that capacity?

A big thing that we see and often a concept or something that comes up a lot in our conversations is our clients are looking to maintain flexibility and control. That's a big part to them. We're looking at the dollars, we're looking at what the potential impact is to them, but they also want to make sure that they're being taken care of during their lifetime. It's ultimately our client's plan that we're trying to help advise them with. So making sure that they've got the flexibility that they're looking for, making sure they're retaining control on the right situations over the right assets. We want to make sure that that's very important, especially if they might be in a situation where their overall gross estate is less than the federal exemption. We want to make sure that we're thinking about that holistically, and this is a big piece.

The control piece from prior experience from my end really came into play back in 2012, which is one of the first times with the estate legislation that was there where the exemption was supposed to sunset. I think it was five million at the time or three and a half million was supposed to drop back down to a million dollars. Had a lot of clients at that point in time that were giving away assets. They were giving up control of the assets only to find out that it never sunset. New piece of legislation came in, kept the estate tax exemption at that higher threshold where oftentimes there was a lot of, wish I hadn't done that conversations with those clients because they weren't quite ready to give up control. So it's really important to make sure we're getting to an understanding of all those pieces in those conversations.

Obviously taxes first and foremost are really a primary driver in a lot of our conversations with clients. They certainly want to minimize taxes, but we want to make sure that we're looking at that, again, holistically between estate tax and income tax savings. Where are they at from an overall federal estate tax exposure perspective? Do we have any state estate tax exposure? And then while we're thinking about that and looking at planning for our clients, what is their underlying basis? What's our inherent gain in some of these assets from an income tax perspective? Because we want to make sure that we understand what that looks like holistically because that's also going to drive some of the conversations, some of the recommendations that might come to the table. Don't underestimate the power of annual gifts. So in addition to that $15 million exemption that you have during your lifetime that you can either give away during your lifetime or at death, every single one of us on this call also has what they call an annual exclusion.

It's $19,000 per person. So if I had the ability, I could walk up and down this webinar, hand everybody a $19,000 check, and as long as I stay underneath that annual exclusion, Joe's smiling, Joe, I'm going to make my way up to New Jersey and get out to you. But if I stay underneath that annual exclusion, it doesn't use a dollar of my lifetime exemption. As soon as I get a dollar above that annual exclusion, that's when I start to chip away. If you've got a married couple with three kids, five grandkids, they could each transfer about $152,000 to those individuals, right? Husband can do 152,000, wife could do 152,000. So they could transfer potentially over $300,000 per year to their kids and grandkids without even touching a dollar of their lifetime exemption. So don't underestimate the power of the annual exclusions. Just real quick to not get in the weeds on it, there are two exceptions to that annual exclusion amount.

There's an unlimited threshold for medical and education expenses, but the key caveat there is you need to make sure if you're helping out a child or grandchild with a medical expense or think of tuition, college tuition that you might be paying for, to hit that unlimited threshold, you've got to make sure that those payments are going directly to that institution. If you're making it to the parent of the kid to then pay the tuition, that's going to be considered potentially a taxable gift, mighty part of their lifetime exemption. But if the grandma and grandpa want to pay that and they're paying it directly to the institution, they're part of that unlimited cap isn't going to impact their annual exclusion and it's not going to use any of their lifetime gifting. Gifts are easy, super simple. The thing you need to be mindful of is carry over basis.

The basis in my hands isn't going to be the same as the basis, or I'm going to give the basis of the asset that I have to my daughter if I give it to her outright. We need to be mindful of what those income tax implications are because we're not avoiding that inherent gain. We're just kind of passing it along. And then last, just on the core piece, we still need to be mindful in thinking about when trust still might make a lot of sense. They may be inefficient from an income tax perspective or from an estate perspective in certain situations, but oftentimes there's a lot of non-tax reasons why our clients still want to set up trusts. So don't discount those irrevocable trusts. They still might be a very foundational part of our client's plan, even if they've got some tax implications that come along with it.

So a concept that's there, and then we'll keep everything rolling here, this has been around for a while. This came portability is the term, right? And so what that means is if I die and I don't use all of my lifetime exemption, I can make an election and give any of my unused exemption to my wife. So if I die and I only use five of my 15 million that's available to me, if I file and make a portability election on an estate tax return, I can give my wife my remaining 10 million that I didn't use during my lifetime. So not only does she have her lifetime exemption, but she's also got my unused exemption at that point in time. So she would still have the full protection that's going to be there. This can be a postmortem planning tool that's there for some of our clients, making sure that we're preserving that, it's being frozen in time, but should also be part of a proactive approach for our clients, making sure if you're having these conversations or again, if you're looking at your own estate plan on this call, make sure that you're retaining some of that flexibility that that portability election can be made so you can give that remaining unused exemption to your surviving spouse if that's something that you're looking to do.

Quick caveat, if I don't use my GST exemption, I can't give my unused GST exemption to my wife. So there is some planning considerations you need to look at there, topic for another day, but just be mindful of that. Federal estate exemption, I can transfer. GST exemption, I can't give my surviving spouse the unused exemption that's there. And then something that's unique is a lot of the states that have their own state estate tax have not adopted this portability concept, right? Minnesota being one of those. So if I die and I don't utilize my Minnesota state exemption of three million, I can't give that unused exemption to my surviving spouse. It's a use it or lose it piece. So that's where if you're in a state that has its own state estate tax and in some of these situations, some of that traditional planning still really comes into play.

You might be funding a family trust up to the Minnesota exemption. You just want to be mindful of what that overall potential exposure might look like to make sure that we're not leaving potential exemption on the table. And we need to make sure that we're being intentional and thoughtful about that proactively. The more that we can do that proactively, the easier it's going to make it on the surviving spouse to make sure that they can make the right decisions on their end as part of their overall holistic estate plan and the administration of the estate upon the death of the first spouse.

Okay. So we're going to step into a couple of more higher level, maybe some more of the sophisticated techniques that might be there that some of our clients are getting into. This first one here, and you can kind of see we've got kind of a little bit of content about each strategy on the left, kind of a visual of how it functions on the right. But this first concept is the spousal lifetime access trust. So generally what you have here, the donor spouse, I'll just use my wife and I as the example. So I'm creating a trust for the benefit of my wife and our children. And through certain powers, through certain provisions and the way that that trust is drafted, I'm making a completed gift for estate tax purposes. I'm getting the assets out of my estate into this trust for the benefit of my wife and our kids.

She's a beneficiary of this trust and the trust is structured in a way that it's also outside of her gross estate as well. So we're trying to look at overall holistic big picture planning that's going to be there. These are set up to be what they call a grantor trust. Again, we won't kind of go into the details of that, but really what that means, if it's a grantor trust to me, I've raised my hand. I'm going to pick up all of the income that this trust generates each year and I'm going to pay the income tax on that. So the trust is able to grow unencumbered by annual income tax reporting or annual income taxes that might be owed on the income the assets are generating. So I'm raising my hand. If I put 10 million into this trust, that 10 million is going to continue to grow and I'm using some of the assets in my estate to pay the income tax on that 10 million.

What the assets of the SLAT don't do is upon my death, they do not get a step up in basis. So there's carryover basis for these assets. So it's a great estate planning techniques, but oftentimes there's carryover income tax considerations we need to look at for the assets of this trust and be mindful of it when we're either selling underlying assets or looking to engage in certain transactions with assets of the SLAT. Something that individuals like about the SLAT when they're looking to set these up, right? If I'm giving the asset away, I'm getting it out of my estate. Again, one of the big things that we have with these conversations that clients are concerned about is flexibility and control, right? They don't necessarily want to give up the cash flow and the access to some of those assets. Well, if my wife is a beneficiary of the trust, I retain indirect access to the trust assets through her.

If we want to go on a family vacation and she wants to tap into the trust to go ahead and pay for that family vacation, she can go ahead and do that. And if I'm along for that trip, I indirectly benefited from the assets coming out of that trust to then pay for that trip. So there's a way that you're giving it up, you're getting the growth out, you're getting the appreciation out, but you still have some indirect access through the spouse for those assets. Now the two things that can happen that start to sever that connection is upon the death or divorce with that spouse. If my wife predeceases me, I've now lost my indirect access to the assets of that trust. It's going to drop down to my kids. If we were to get divorced, again, I'm going to lose access to the assets of those trusts.

So those are some of the things you need to be mindful of when looking at and considering whether or not a slat might be the right strategy to incorporate as part of your overall estate plan.

The next concept is what we call a sale to an intentionally defective grantor trust or agent. This is more of an estate freezing technique because really what I'm doing here, again, I am the grantor. I'm setting up a trust. Oftentimes this is for the benefit of my children or grandchildren. And what's happening is I'm transferring, I'm making a seed gift, I'm transferring some portion or some assets to this trust. After that happens, I'm then engaging in a sale transaction with that particular trust. So whatever asset I'm selling to the trust, I'm taking a note back. Oftentimes we've got clients that will utilize this with business interests. If they've got a business interest that they want to get to their kids or grandkids or get into a trust, I'm gifting 10% as kind of think of it as like your down payment, having some economic substance with that transaction.

So that could be cash, it could be an interest in the overall business. And then what's happening is I'm selling the remaining 90% of that asset to the trust. So I'm transferring 90% of my business interest. I'm taking a promissory note back. So that's why they call this more of an estate freezing technique because at the end of this transaction, the value of my gross estate is the exact same. What I'm hoping is going to turn out is as I get this appreciating asset out of my estate, as that continues to grow and provide enough cash flow to satisfy that note, I'm getting all that growth and appreciation out of my estate at the end of the day. So again, a lot like the slat, the assets that are inside of this irrevocable, this intentionally defective grantor trust are not going to get a basis step up upon my death.

They're outside of my estate. A positive from the income tax side, again, it's a grantor trust for income tax purposes. I'm going to pay all the income tax on the income that the assets of the agent generate. But again, when I engage in that sale technique, since it's a grantor trust, it's a transaction between myself, me as the grantor or me as the individual, and then me as the grantor of this trust. So the sale kind of cancels each other out for income tax purposes. Don't need to pick anything up, but I also don't get the basic step up on the backside with those assets. And I'm really hoping with the business interest that I'm selling is going to continually rapidly appreciating in value and I'm getting all that growth outside of my estate, gift and estate tax free into the future.

There we go. The third one here that we're covering is what we call a grantor retained annuity trust or grant.This is a tried and true technique. It's in the code. It's laid out for us. I personally haven't engaged in a lot of grant conversations with my clients, especially if they haven't used a lot of their lifetime exemption, because these can be designed in a way that they can be set up where they're not going to use any of your lifetime gift exemption. They can be what they call zero dollar grants. So these can be a great strategy for clients where you've utilized all of your lifetime exemption, you are hoping to continue to get a little bit more appreciation out of your gross estate. Again, it's a bit of a freeze technique because I'm putting in an asset, I'm getting an annuity stream back from that asset.

And if the asset grows at a certain threshold and exceeds a certain rate, all of that growth and appreciation will go to the beneficiaries of that GRAT gift and estate tax free. So again, it's something that we lean into that I've seen more with clients who have utilized all of their lifetime exemption and they're looking to just kind of get a little bit more off the top each year. They're like, "Hey, I want to continue to try to get this out there." Whether it's with a closely held family-owned business, they might be using marketable securities, finding ways to just Get a little bit more growth and appreciation outside of their estate at the end of the day.

One thing I will just note about this, if you're looking to set up a trust for the benefit of grandchildren, a grant has a little bit more nuance to it. I can't allocate GST to that trust when I initially fund it. I've got to wait till the end of the grad term to allocate GST to it at that point in time. So if you're thinking of using the strategy and you're thinking about leveraging with a trust for the benefit of grandchildren or allocating GST to it, this would be a great time to make sure you're taking a step back. Let's look at it holistically to make sure that we're not missing anything as part of the overall strategy that's going to be there because there might be a better tool, a better strategy that we can leverage to help accomplish that goal on everything.

So a couple last items and I won't steal Joe's thunder on the discounted asset planning. I'll let him kind of get into that in a second. That's a big piece where we can work together with Joe and team on the valuation side to figure out how can we amplify, how can we really leverage some of the gifts of the business interest or other strategies that our clients are looking to utilize? Well, a couple of other things that I really like to be mindful of with my clients, cashflow liquidity issues. We've come across a lot of estates where really high value, we've got potential estate tax exposure that's going to be there, but it's tied up in a closely on family owned business or it's tied up in illiquid assets. How are we being mindful of, how are we planning for any liquidity issues that might be there?

So if and when the estate tax is due, we can go ahead and accomplish in getting that payment taken care of. We want to make sure that we're not in a position that we've got to do a fire sale of a business, of another asset that the family really would've liked to have kept, but they needed liquidity to cover the estate tax. And not only are we being mindful of what is our potential estate or income tax that might be there, but we're looking at how much liquidity do we potentially need and where are we short from that standpoint that we need to be mindful of? And then lastly, I'll kind of tee up the part three when I think Neil's on for the real estate side of things.

If you have a heavy real estate portfolio, if you're advising clients that have a heavy real estate portfolio with some of the estate planning that you're looking at and it was includable on their estate that we got to step up in basis, take a look to see if a cost seg study might be a great opportunity to accelerate some of those income tax deductions. If that piece of real estate was included on their gross estate, we got to step up in basis. A cost seg could be a great way to then take that stepped up value, break it down into smaller, useful lives that could really help to accelerate some income tax deductions that are going to be there. So if you see in your portfolio, if you're working with clients and they've got a lot of real estate, depending upon that type of real estate, this could be a great strategy that will provide really significant post-death tax savings for the heirs and the beneficiaries.

So with that, we are on to polling question number two. How often should you review your estate plan? So this is something where there's no right or wrong answer as we get to this. As I think about estate planning, I'm advising clients. I think of it more of like an art and a science. The science part of it is we can calculate what the estate tax, what the income tax piece is going to be, but the art form is really getting to know and understand your clients. What are the goals? What are the objectives? What are the life events that they have that are going on that we need to be mindful of? And again, when was the last time they even touched this? You might have clients that are on top of this or you might be on top of this yourself on a regular basis being mindful of what's changing, what needs to be adjusted.

Far too often we've got clients that have been sitting on the sidelines for a long time like, Hey, I got this set up. I got it funded. I did this years ago. I don't need to go back and change it. But their kids might have been minors at that point in time. So I like to come back to this every three to five years. It's always on the open items list, topics and conversations with my clients to make sure that we can be in sync with them to make any adjustment that they need to along the way. Joe, with that, I'll turn it over to you.

Joseph Cecere: Yeah, that was great. And that was a great segue into the valuation component. And you may ask yourself, why do we even need a valuation? We're talking about estate planning. And so the valuation analyst gets involved just to lay the land here a little bit. They get involved when there's a transfer of an asset without a ready market price. And so if you think about those lifetime gifts that Derek was talking about, or if you're making an annual gift, say it's just cash, well, that's easy to value. You don't need me to come in and say, "Hey, what's the value of cash?" Same thing would be like a marketable security shares of Microsoft has a price. But in estate planning, one thing that we're doing is a lot of times we're transferring an ownership interest or an economic interest or a security in a privately held business and that business doesn't have a set market price.

And what we do is we come in and we set that market price.

And so because this is really a tax exercise, we're using a tax valuation definition standard and it's called fair market value. And that's ideally, I forget the definition at the top of the screen if you want to read it. It's a willing buyer, willing seller with no compulsion to buyer to sell. That means it's not a fire sale. You don't have to sell everything tomorrow. You can reasonably string out the transaction. And everybody has knowledge of the relevant facts. So what does that really mean? It means it's a fair price. Think of it like an arm's length price is the way I like to think of it. But let's see what it's not. So I have a lot of business owners that come to me and say, "Well, I'm the only guy that can run my business or the business owner has value to me or what happens if a synergistic buyer comes in and they want to overpay for my business?" Those are sort of different definitions of value.

Again, we're sticking with the tax. It's a tax gain here. It's a tax compliance exercise. And so we're going to stick with the tax valuation standard. Investment value is more, hey, what's this investment to one particular holder? Synergies come into play when a buyer comes in to identify a target, a target company, and they see upside that maybe a hypothetical willing buyer wouldn't see. So if you think about a national company coming in and they want to open up a location, it may be easier for them to just buy a company rather than take the time to set up a new plan and build out a workforce. They can just come in and start selling day one. They can also take their existing product line, throw it into their vertical and sell more and get a lot more upside. And so those motivations attribute to synergies.

Again, we're not looking at that. We're looking at where's the business today? What are the projections today? What do we know today? And that's how we're going to value the company. Again, a standalone as it's operating today type of value. So the fair market value asks what a hypothetical willing buyer would pay. It doesn't ask what the business is worth to the current owner. Again, the highest and best price strategic buyer value.

So knowing that, when we think about valuation, and this is really where we can transfer a lot of value out of the estate and you really get to see that the impact of the valuation is under the valuation discounts. So if you were going to value a whole company and say that company's worth $100, well, it's pretty straightforward. You get a valuation done of a private operating company and you would transfer it. But if you were valuing a small minority, non-controlling, non-marketable interest in that company, say 10% of that hundred dollar company, it wouldn't be that pro rata share. And that's really the big takeaway is it's not 10% times the company as a whole. When we do a business valuation, it's two steps. Step one is value the company as a whole. Step two is value the individual security. That individual smaller security may have less rights, less restrictions, less economic benefits.

It may be harder to transfer. It has less liquidity. It's harder to find a buyer. There's more professional fees involved in trying to sell that interest. That makes up our discount for lack of control and that makes up our discount for lack of marketability. And so if you have a family limited partnership or a family LLC or a privately held operating business and you want to transfer that business to your beneficiaries, to your children, what we do is we'll transfer it in smaller chunks over time. And so if we're transferring a smaller 10% or 25% interest and you can apply those discounts to each one of those transfers, if you think about it, you're discounting, you're getting it using almost like a coupon is another way to think of it.You're taking a discount on each one of those gifts or each one of those sales or each one of those transfers.

So these two discounts that I have on the screen are the two most common ones that you run into. There are others. The lack of control I think is pretty intuitive. So it reflects the limited decision making power. It really affects the limited amount of cash flow that you can control. So if you were 100% owner in a business, think an operating business, you can decide what to pay yourself. You can choose who management's going to be. You can control the day-to-day of the company. You decide when to make distributions, you decide when to pay bonuses, things like that. You decide where the company's going to go for the next five years. But if I'm a minority investor in the private company, I can't make those decisions. I'm kind of at the whim of management. I might not have a say. It comes down to the specific operating agreement and specific terms of how that company's run.

So that's the discount, that's that lack of control that limits those restrictions have economic benefits, or I'm sorry, the opposite. They don't have economic benefits. They take away. And so they've actually reduced value. So that's the discount for lack of control. Similarly, the discount for lack of marketability, if you're trying to sell an interest in a private company without a market set in place, it's harder to find a buyer. It's even harder to find a buyer when it's a small interest in a privately held company. And so that extra time, the extra fees it takes, that helps quantify the lack of marketability. And so the DLOC and the DLOM as we have up here, those are the two most common discounts.

And then this kind of goes into the same. Derek mentioned this before, but whenever I'm working with business owners, whether they own an operating business, whether they own a real estate holding company, whether they own a family LLC or a family LLP and it only owns stock and other marketable securities or bonds, what they consider is everyone considers taxes. They always ask two questions. Tax one is always taxes. That's the cooler one, right Derek? But then number two is, I get the second question is one of, it's either control, access, or basically family legacy I hear, I call it problems. So that's generally question number two. And so I think what I really want to get across in the slide is we work with everybody. We've seen it all. We've seen blended families, divorces, international relationships, all sorts of different complexities, multiple ex-spouses and things like that, different survivor situations.

And I feel like everyone thinks that their unique situation or their reason for not estate planning is because of their concerns. And I could tell you that we've already seen it and many people have already seen these and they've already addressed these challenges. So a lot of, I feel like business owners' concerns are already worked out, but let's go through taxes, intuitive. We can kind of skip number one. Number two is control and the business owners think of it usually I get the question like, "Hey, I'm sitting on a family LLC. It's got 20 or $30 million of stock in there. I don't want to give control over to my 15-year-old son or daughter." Same thing with an operating company. The business owner or owners, especially you have multiple owners, they might not be happy if you transfer your controlling shares to somebody outside of the company, even if it is your children.

And so that's always one of the major questions. The next one is liquidity and access. Obviously, if you do too good of a job, you give away all of your cash and all of your assets and you have nothing to pay for your bills in the future, that's going to be a problem. And so there's a little bit of a balancing act here of, again, Derek, you brought up the slack, which I think is very powerful, but it's great to use if someone passes away, their spouse can get the benefit and then ultimately can go to their children. You see this sometimes with blended families. We saw this recently where somebody was remarried later in life, and so they wanted to both protect the interests of their new spouse and also protect the interests of their children. And then the last one here is the family and legacy.

Think of this like avoiding problems. Divorce is an issue, but even if you're under the $30 million lifetime exemption, we still have people estate planning. And you always ask yourself, well, why? Why does it matter? It does matter because they want to be able to sleep well at night knowing that their kids are going to get a fair shake, knowing that, yeah, we've got some issues with blended families and I want to make sure that my children are taken care of or that the assets are going to the right place. Or if you have children with disabilities, that there's a trust set up for them so that they're taken care of so that after you pass away, when you're no longer around to protect and look out for your children, that there's mechanisms in place to resolve this.

And that's what we're doing. We're also kind of thinking about this with the valuation as well, particularly around control. And one of the most common things we do is we recap the company and you'll have controlling shares and non-controlling shares and you can gift or transfer the non-controlling shares while still maintaining all of the voting and controlling shares. Liquidity and access, there's a lot of opportunities there. One of the things you can do is set up, have different owners on different pieces of real estate and they can continue to get a management fee that's fair market value to help support their income over time. And the family legacy, that's really unique to your situation. But again, especially being in New Jersey, we've seen it all and you're really not going to surprise us with anything that we haven't heard of. And so Derek, we covered gifts, we covered the trusts, and those are the cool topics.

And it's the most common, but what I really want to get across is don't wait till last minute. You got to start this sooner rather than later, because in addition to everything Derek covered here, there's a lot more. Again, let's go back to the very first or second slide. I think we were talking about income tax planning and you can use some of these same mechanisms or valuations or other areas of the tax code to help minimize income tax, particularly on the sale of a business. And then there's also other avenues. My favorite is QSBS, qualified small business stock. If you don't know what it is, it's worth looking into if you're a business owner. But basically you could exclude some or all of your capital gains when the stock is sold, but this takes a long planning period. This isn't something you can do typically right before you sell your business.

There's a lot of qualifying factors that you need to have in place and ready to go ahead of time.

The third bullet on the slide, Derek and I were joking around about this, but when you think about value, you think about a range. And we think about the range because we don't just think of one number. We think about when you're selling a business, say you go to investment banker, you're going to get three or four or 20, a bunch of LOIs are going to come in and those LOIs are going to come in at all different prices and it's going to be a range, typically hopefully a narrow range, and that's going to be a fair indication of value for your business. And then where you are within that range is what we can use for estate tax planning. And so I think a lot of times people always think, oh, I want the lowest value, maybe not. Maybe you want a higher value, maybe you want a bigger step up in basis.

Maybe you want to contribute a larger charitable gift. These are the things that you need to think about. These are all part of the state tax planning. We've got some other vehicles that I list down below. And then again, let's get back to timing. Why do you want to do this sooner? It's probably the last bullet point in the slide is get the statute of limitations running. Typically, it's three years after everything's been filed properly. And so as soon as your estate is settled and the gifts have been made and the transfers and the trusts are set up, it's still open to IRS challenges. And so what you want to do is you want to get that statute of limitations running.

Oh, we're already at the third poll question here. All right. Which factor is most likely to cause the value of a minority interest to differ from its pro rata share of the underlying business value? Okay. So here we've got historical cost basis, the DLOC and the DLOM, the number of shareholders and state of incorporation. All right, so the poll question's up, want everybody to give it their best. I had a slide on this and I see who's going to answer it incorrectly. I'm going to reach out to them after that. Let's see how we do it. Let's give everybody a minute to make sure they've heard it. Right time to answer. Okay, let's see. We've got 73%. We're up to 76%. Do I hear 77%? There we go. Oh, nice. Here we go. All right. All right, everyone. I'm happy. I did my job. Lack of control, lack of marketability, that's the correct answer.

All right. Thank you. Okay. So now this is the fun one, Derek, putting it all together.

Derek Dockendorf: Here we go, Joe, right? Yeah. Okay. So a couple of pieces. Being mindful of time, we just kind of wanted to walk through, and Joe and I kind of talk about some things we see, like you mentioned during his part, we've seen just about everything with clients. And so here's just kind of a little example, some things that would kind of pop out to us looking at that. Married couple here, John and Jane, they're residents of Florida. We took the estate tax piece kind of out of play a little bit. They have three kids, five grandkids, but only one of their three children works in their family business. You can kind of see on the right, they've got a combined net worth of about $25 million today made up of a smattering of assets. One of the primary drivers or the primary sources of their net worth is the family-owned business that Jane owns 100% of.

And there's also the family LLC that holds the commercial real estate for the operating entity, right? Husband and wife own that one fifty fifty. So as Joe and I sat down with John and Jane, we're trying to figure out what's going on, what's important to them. They've got a couple primary goals that they're looking for. First and foremost, they want to transfer a third of the family business to child one. They've been in it a long time. They've been part of it. They really want to make sure that they get the chance to share some of that upside, reward them for all the hard work. Second one, which I probably should have put first, Joe, but they want to minimize overall income and estate taxes. We know, like you said, that's the primary thing that a lot of our clients are looking at. How do I minimize that as a whole?

The third and fourth piece kind of go hand in hand. They want to make sure they can take care of their kids and grandchildren along the way, but they want to make sure that they're able to retain enough cash flow that they can continue to sustain and live the lifestyle that they want to have either after they sell the business, after they move on, but they want to make sure that they're going to be taken care of. So Joe, as we look at this, what are a couple initial reactions on your side? What did you notice at first glance?

Joseph Cecere: So I noticed I went right to the value. I said, oh, 25 million. Is that an accurate representative of what's in there? And so if it's real estate, how long ago has it been valued? I know we're getting close to time, but if you think about it, as that 25 creeps up closer to that 30 million, you get into a little bit of a potentially a riskier situation. Every dollar above that 30 million is going to get taxed. And so what you don't want to do is get pushed up there. But that was the first thing that stuck out. The other thing was, hey, you want to transfer a private business to one of the kids. Well, how do you chew that up? How do you make that

Joseph Cecere: So what's the fair value? Then what do you do if that child ultimately sells that for much higher than it was valued? Okay, how do you handle that? So that's kind of the fun part of it, right?

Derek Dockendorf: Yeah.

Joseph Cecere: What did you see in there from your perspective?

Derek Dockendorf: Kind of the same thing. It was like we're kind of in that sweet spot that we see for a lot of clients, and I use that in quotes because they're just below the federal threshold. So they're thinking they're good. They probably don't need to do a whole lot. But just like what you said, Joe, they're spot on. Is that 25 a good number today? And what's the trajectory of the business? How are the underlying assets growing? Are we 25 today, but the growth of the business is like a hockey stick? Are we going to be 40 into the future? One thing I did notice, and I kind of threw it in because I got to create the example, but they had the second home in Minnesota. So you got a little bit of state estate tax exposure that's there,

But it kind of goes across the way where it's like, if you've got property in multiple locations, do we have a revocable trust? Are there things that we can do to avoid probate in some of those other locations? But one thing else that jumped out to me that would be part of additional questions that I'd bring up to them is given the ages of John and Jane, they're in their early to mid 60s, they likely both still have one or both of their parents around. Is there an inheritance that they might be receiving? Are they potentially going to be getting something from their parents that might be adding to their estate that could push them over the threshold? So is there planning that we can do with their parents or to help them avoid adding to their own issue and find ways to get other assets down to their kids?

And just like you said, they want to get assets to the one child in the business. How do they feel about the overall distribution of the estate? Fair isn't always equal and equal isn't always fair. So it's some of those tougher conversations that we've got to get into. How do we divvy this thing up at the end of the day? And what do you want to have if something happen tomorrow to mom and dad? Is 100% of that business going to go to the child that's in it or what do they want to do?

And so I know we're getting close to time. Sorry, Joe, go ahead. I'm going to flip to the next slide

Joseph Cecere: Here. Yeah, let's keep moving because I know we are getting close. Yeah.

Derek Dockendorf: So one thing that we just want to look at this, and again, feel free to look at these next couple illustrations and we'll kind of touch on them real quick. We want to make sure that we can get to the last polling question for everybody. But we just wanted to put a couple of the techniques that we talked about today on the screen. And what's the benefit, as Joe was saying, with the planning that we can do to get the lack of marketability, lack of control discounts, right? So if this client was interested in a sale to a defective trust made sense, you could see if we didn't discount or didn't have any discounts with these assets, the overall gift value would be about two and a half million. But they come in, they work with Joe and I, we work through a couple things.

We help them do some restructuring, voting, non-voting. All of a sudden we're able to get a combined total discount of 35%. Now that one third interest that we're looking to transfer is only about a million six. And you can see the impact of what it does, the initial gift, that 10% seed gift that's there, but then also the value of the note coming back. So we'd have to kind of weigh how much exemption are we using right away versus some of the cash flow that mom and dad might need. The discount planning works great from the gift and estate tax side, but our notes a couple hundred thousand dollars less than the undiscounted side. So they may not have some of the same cash flow that's coming back to them at that point.

Then real quick as we keep going, we've got the slat, a couple of things just to note there with the slat and the outright gift. The slat helps them accomplish one goal, but not the other. They're able to retain the cash flow because John as beneficiary of the slat will have cash flow. Jane has the indirect access to it, so they're still whole from a cash flow perspective, but they haven't reached the goal of transferring that one third interest to child one who's in the business. It's still trapped in trust that John's the beneficiary of until he dies. So there's the delayed effect that's going to be there. And another option that could be is Joe, we just do an outright gift. We just say, "Hey, you've worked super hard in the business. We're going to go ahead and transfer this to you. We can leverage the 35% discounts that are there.

Great. We just dropped about 800 plus thousand dollars off our gift value." So we checked the box that we've transferred a third to child one, which was our goal, but how much of that cash flow, how much access did we give up via that outright gift? So you can kind of see the few things that we've got to put on the table, walk through, crunch some of the numbers, do the math with our clients to make sure that they understand the pros and cons of each of these and that they can make the ultimate right decision for that's there for them at the end of the day.

Bella Brickle: Pardon the interruption. I'm just going to launch this last poll here at the two o'clock minute. So everyone that still needs one more poll to get their credit can select an answer and hit the submit button. So this is polling question number four. When is a wealth transfer strategy often most effective from a valuation perspective? I'll let the presenters keep presenting, but just wanted to give everyone the opportunity to get in this fourth polling question as we just hit the hour mark.

Derek Dockendorf: Perfect. Thank you, Bella. Yeah, Joe, just a couple, what are a couple of final thoughts and takeaways on your side from this at the end of the day?

Joseph Cecere: Yeah. Estate plan, look at it early and often. The sooner you can start tackling some of these problems and getting these strategies in place, getting your statute of limitations running, and then also seeing what else you qualify, like USBS, setting up life insurance. So the earlier is typically the better. And then also revisit often as the dynamics change, as the business changes, as your family dynamics change, revisit the plan. Does it still make sense? Is it flexible enough and see what it is? What are you thinking?

Derek Dockendorf: Yeah, same, Joe. It's first and foremost come back to it early and often. It's important to get the foundation set, but we want to make sure that that foundation's set and it's designed in a way that it can mold with you as your life continues to evolve. You've reached some of those life events, you've seen what's going on. You want to make sure that every time that there's a piece of legislation or a life event, you don't have to go back to scratch to redesign the whole thing. So being mindful of what are the goals, what are the objectives, what are the flexibility that you want to build into the plan? And then the one that I come back to, especially given where we are today with the estate tax legislation and laws we have in front of us, you got to run the math because your gut might tell you to gift it, get it out of your estate, get it out.

But as we sit down and put a little pen to paper, actually causing inclusion in certain situations might be the right answer at the end of the day. So we just really need to make sure that there might be an initial thought or objective that the client has. And we want to make sure that we fully vet that and we put that pen to paper so they can see what the outcome will be. And then at the end of the day, they can make that fully informed decision on what's best for them and their family and their business and everything else.

Joseph Cecere: Yeah, I think that's it. That's really the name of the game. Everyone asks about taxes, but it's more than taxes.

Derek Dockendorf: Yep. It's an art decision. So with that, we'd like to thank everyone for taking the time this afternoon to be with us today. Stay tuned for parts two and three over the next coming weeks in the series. And Bella, we'll turn it back over to you for any other housekeeping items.

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