On-Demand: 2022 Trust & Estate Update

June 07, 2022

Join EisnerAmper’s Trust and Estate specialists to learn about the 2022 tax changes within the T&E world and how these changes can be applied to various client situations.


Transcript

Karen Goldberg: Welcome everyone. Welcome to the EisnerAmper 2022 Trust & Estate Update. I am going to cover recent cases, rulings, and regulations. And then I'm going to be followed by Patricia Green, who's going to focus on the SECURE Act and the recent proposed regulations. So, I thought I would start off by covering the important inflation adjusted amounts for 2022, that apply for an estate and gift tax purposes.

Welcome everyone. Welcome to the EisnerAmper 2022 Trust & Estate Update. I am going to cover recent cases, rulings, and regulations. And then I'm going to be followed by Patricia Green, who's going to focus on the SECURE Act and the recent proposed regulations. So, I thought I would start off by covering the important inflation adjusted amounts for 2022, that apply for an estate and gift tax purposes. The gift tax exclusion has increased from $15,000 to $16,000. This means that a married couple can give away, tax free, $32,000 to an unlimited number of individuals in 2022. The annual exclusion gift to a non-US citizen spouse has increased from $159,000 to $164,000.

Finally, the gift and estate tax exclusion and generation- skipping transfer tax exemption has increased from $11.7 million, as it was in 2021, to $12,060,000 in 2022. A total increase of $360,000. So, what this means is a married couple can give away an additional $720,000 worth of cash or property, in addition to their annual exclusion gift of $16,000, or together $32,000. So a lot of our clients likely will be topping off some of the trusts that they created in 2020 or 2021, with these additional tax free amounts, the $360,000 or $720.000.

Now I want to talk about a recent case that came out in November of 2021, which I think is by far the most interesting case over the past year, and I'll explain why this is. The case is Smaldino v. Commissioner, a Tax Court case Mr. Smaldino had a revocable trust that owned 100% of an LLC that had never been funded. And in 2012, he funded it was ten of his real estate properties. And then in 2013, he transferred about 8% of that LLC to a dynasty trust for his children and grandchildren. The 8% was about equivalent to his remaining gift tax exclusion. Around the same time, he transferred around 41% of the LLC to his second spouse the value of which was almost equal to her remaining gift tax exclusion. Just a day later, she transferred that 41% interest in the LLC to the dynasty trust that Mr. Smaldino had set up for his children and grandchildren from a prior marriage.

In the end, that dynasty trust for children and grandchildren acquired a 49% interest without any gift tax being triggered because both Mr. and Mrs. Smaldino used their gift tax exclusion for the gifts. The IRS examined their gift tax returns and contended that the doctrine of substance over form applied, and that Mr. Smaldino was actually the one who transferred the 49% interest in the LLC to the trust Mrs. Smaldino really didn't do anything; she was just acting as an agent for Mr. Smaldino. She made a transfer pursuant to a prearranged plan; she was never even mentioned in the LLC documentation as ever being a member of the LLC.

When this case went to trial, Mr. Smaldino didn't deny that the gifts were part of a prearranged plan. He said that he intended for the LLC interest to go to his children, and to leave other assets to his second spouse. In fact, he modified his revocable trust so that she would receive additional funds. Mrs. Smaldino testified in court that she had a committed to her husband that she was going transfer the LLC interest that her husband had given her to a trust for his children and grandchildren. She had made him a promise and she intended to follow through. She was asked when she testified, "Could you have changed your mind?" She responded by saying no because “believe in fairness.”

These are really bad facts considering the client didn’t deny that the gifts were part of a prearranged plan. So, the court agreed with the IRS that the substance over form doctrine applied. Mr. Smaldino had made the entire gift, and this generated a gift tax liability. So why do I find this so interesting? We have all been engaged to help our clients create Spousal Lifetime Access Trusts, known as SLATS. Husband creates a trust for his wife and their children. Wife creates a trust for her husband and their children. But inevitably, one spouse is wealthier than the other. Maybe it's the husband. He's been working and he has accumulated the wealth. But husband and wife each want to create a special lifetime access trust using their basic exclusion amount. So wealthier spouse transfers assets to less wealthy spouse so she can set up a trust.

I always warn my clients that the IRS could assert this substance over form argument, but there's never been anything I could hang my hat on. Clients often ask if I transfer assets to my wife, how long should she wait before she sets up a SLAT for me? I have said, "There is no real guidance on this, and I would like to see the gift to your wife and then the gift to the SLAT happen in two different tax years.” If you going to transfer funds to your spouse so she can set up a SLAT for you, maybe you mix it up. You could transfer cash to her, and then she could invest that cash in marketable securities that she then uses to fund the SLAT for you. Maybe you don't transfer the exact amount to her that she's going to use to fund the SLAT." If the IRS asserts the substance over form argument, husband, who transferred the assets to the wife, will be deemed to have transferred those assets to the trust for himself. And under IRC Section 2036, that trust will be includable in his estate when he dies, and nothing will be accomplished.

I can't tell you how many times I've had discussions with attorneys and investment advisors who don't have a problem with the wealthier spouse transferring assets to the less wealthy spouse and having her transfer those assets to a SLAT for the wealthier spouse. In one situation that I had, the transfer to the less wealthy spouse and then her gift to the SLAT for the wealthier spouse happened on the same day. The attorney dug in his heels and said, "There's nothing on this. What's your authority?" I really didn't have a Smaldino type case to point to. Now I do. I have also heard investment advisors say, "Well, there's really nothing out there on this issue.” Well, Smaldino is a warning. However, this was bad facts case because the clients didn’t dispute that the transfers were part of a prearranged plan. However, this is something to be aware of when you're assisting your clients in creating SLATs for each other.

Now, let's talk about the Chief Counsel Advice 202152018, that came up on the next to last day of 2021. I found this CCA very interesting. A donor funded a two-year GRAT with shares of his privately held company stock, and I'm assuming it was a zeroed-out GRAT. For purposes of setting up the GRAT, our clients typically don’t like to get appraisals. In this case, the taxpayer used a seven-month-old appraisal that had been obtained for a nonqualified deferred compensation plan under Section 409A. But in the meantime, at the time he was planning to transfer the stock to the GRAT, he was in negotiations to merge his company. In fact, he had five offers to merge his company and he there wasn't an appraisal that took this into consideration.

Within six months after the taxpayer transferred his stock to the GRAT, he accepted an offer that included a tender offer for some of the shares, at almost three times the value used for the GRAT. Furthermore, three weeks prior to the closing of the tender offer, he transferred additional company shares to a charitable remainder trust and actually obtained a qualified appraisal that valued those shares at the tender offer value. The taxpayer indicated that he, needed to get that appraisal in order to take a charitable income tax deduction for the value of the shares that he transferred to the charitable remainder trust.

Some of you may be thinking, "Who cares?" If the IRS comes in and revalues the shares transferred to the trust, all that's going to happen is that the annuity is going to be increased. It's not going to generate a taxable gift. Well, surprise, surprise. in this chief counsel advice, the IRS concluded that because the annuity was undervalued as a result of the defective appraisal, it caused that retained interest, the GRAT annuity payment, to fail to function as a qualified interest under 2702as of the date of inception. So, the GRAT failed to be a GRAT. And as a result, the donor made a gift equal to the finally determined value of the stock transferred to the GRAT.

This was again a bad facts case because the client didn't get an appraisal that took into consideration what was going on. Things had changed. The company was up for sale. That was just ignored in determining the value of the shares that were transferred to the GRAT, and what the annuity would be. Something to be aware of when we are planning with our clients and they are resistant to obtaining an appraisal because it's expensive and it's a GRAT, so what does it matter? Our first polling question.

Megan Cronin: Poll #1

Karen Goldberg: I'm very happy to say that most of you were listening. And the correct answer is $12,060,000. Thank you. Now, the next case I want to talk about, that was decided at the end of 2021 is Nelson v. Commissioner. This had to do with a defined value formula gift. What happened was, on October 1, 2008, Mr. And Mrs. Nelson formed a limited partnership. The primary asset of which was stock in the family company. They each held half of 1% of the general partnership interest. Mrs. Nelson held almost 94% of the LP interest, with the remaining interest held in custodial accounts and trusts for their descendants. On December 23, 2008, Mrs. Nelson created a trust for her husband and their four daughters and transferred a limited partnership interest to the trust. The gift assignment stated that she was gifting a limited partnership interest, having a fair market value of $2,096,000, as of December 31, 2008, as determined by qualified appraiser within 90 days of the effective date of the assignment.

So, Mrs. Nelson didn’t say, "I'm giving away a percentage of the LP interest." She said she was giving away an LP interest, having a value equal to. Subsequent to that on January 2, 2009, Mrs. Nelson sold a limited partnership interest to the trust, having a fair market value of $20 million as of that date of the sale, as determined by a qualified appraiser within 180 days of the effective date of the assignment. Again, Mrs. Nelson didn't give away a percentage interest in the limited partnership, she gave away an interest equal to a dollar amount. Subsequent to that, eight or nine months later, Mrs. Nelson obtained an appraisal, which had valued a 1% limited partnership interest at $341,000. So as a result, Mrs. Nelson gifted a 6% limited partnership interest, and sold a 58.65% limited partnership interest to the trust. The IRS audited that Nelsons’ 2008 and 2009 gift tax returns and asserted a gift tax deficiency.

Interestingly, the Nelsons split the gifts, but the trust was what we call a SLAT, a spousal lifetime access trust, so I don't know how that was possible. The IRS audited the Nelsons’ 2008 and 2009 gift tax returns and challenged the valuation of the limited partnership. Mrs. Nelson asserted that the valuation is correct and even if it isn’t, she only transferred a specific dollar amount through a defined value clause, not a percentage of the LP interest. As a result, what should change is the amount of the limited partnership interest that she transferred to reflect this changed value. The Tax Court disagreed and on appeal to the fifth circuit, it ruled that the way the defined value formula was phrased in the gift assignment and in the sales documentation, referencing the appraisal rather than a final determination for a estate or gift tax purposes, it didn’t work as a defined value formula clause. . Once the appraisal was finalized, the percentage of LP interests transferred was fixed at that point in time.

If the gift assignment and the sales documentation had said that Mrs. Nelson had transferred an interest with a value, as finally determined for gift or estate tax purposes, that would have worked, Furthermore, the Court stated that if this was really intended to be a defined value type gift, the documentation would have included, as it usually does, languages as to what would happen with the additional shares if the valuation was successfully challenged and the documentation here didn't reference that at all. So, if the value of the LP interest in this case were determined to be more, what would happen with those additional LP interests that were transferred by accident?
In the Nelson case, the defined value formula was shot down. But it's not really bad news for practitioners because it wasn't a rejection of the Wandry-style defined value clause, that basically depend on values as finally determined for gift or estate tax purposes. When we are drafting these defined value formula gifts, we need to be careful that we're always referencing it to as finally determined for gift or estate tax purposes. And we just don't tie it to the appraisal, the value as determined pursuant to the appraisal.

Another case that was decided earlier in 2021, is the Estate of Warne v. Commissioner. The result in this case shouldn’t be a surprise because there was an earlier case in the 1980s. the Ahmanson Foundation v. U.S., it was a ninth circuit case that had a similar holding. In this particular case, the decedent's revocable trust owned 100% of an LLC and upon her death, 75% of the LLC units were distributable to a family foundation, and 25% to her church.

For estate tax purposes, 100% of the LLC was included in the decedent's estate at its undiscounted fair market value. But for estate tax purposes, the IRS asserted that the charitable deduction should be discounted because the family foundation was only receiving 75%, not 100%, and the church was only receiving 25%. The Tax Court agreed. There was a mismatch. The entire value of the LLC was includible in the decedent's estate at its full fair market value, because the decedent owned all of it. But not all of it was treated as a charitable estate tax deduction because in this case, the court looked at what the charity actually received. The church received only a 25% interest in the LLC. And a 25% interest is not worth 25% of the LLC. There should be a discount for minority interest, lack of marketability, et cetera. So yes, there wasn't a charitable estate tax deduction equal to the undiscounted value of 100% of the LLC that was ultimately going to charity.

So when drafting documents, you should think about this and when we are splitting up an LLC or some other family business among charity and family members, we need to ensure that we're going to get the full charitable deduction. You can also apply this in the marital deduction area, and it has been so applied. You want to be very sure that what passes under the terms of someone's will and goes to a marital trust or a charity, will be entitled to the full charitable deduction or marital deduction without any discounts. Next polling question.

Karen Goldberg: Poll #2

New actuarial tables under 7520 have been released. They were issued on May 5, 2022. These are the tables that we use for GRATs, CLATs, CLUTs, CRATs and CRUTs. The current tables that we have are based on the 2000 census data. And now the new actuarial tables under 7520 are going to be based on the 2010 census data. There has been a dramatic increase in life expectancy from 2010 as compared to the 2000 census. What this means is that as a result of these new tables, there will be a larger charitable deduction for CLATs that are created for the life of an individual. And a lower charitable deduction for charitable remainder annuity trusts set up for the life of an individual.

These are proposed regs. For gift and estate tax purposes, if the date of transfer or death is on or after January 1, 2021, and before the regulations are finalized, either the new table using the 2010 census or the old table using the 2000 census can be used. So, there's some planning to be had here. The valuation tables under 7520, are required to be revised at least every 10 years. It makes sense that they are revised when new census data becomes available.

Another case I wanted to touch on is Estate of Grossman v. Commissioner, I thought it was a really interesting case, Semone married Ziona. She was a dual US- Israeli citizen. They got married in Israel in 1987, but Semone failed to get a civil divorce from his first spouse. However, he did get a get, which is a religious divorce under Jewish law. Semone and Ziona traveled to Israel to marry where the get was accepted. After they married, the couple returned to New York where they lived as husband and wife and had children, No one ever challenged their marriage. Semone dies in 2014 and leaves his property to his wife. The IRS somehow discovered that they were never married civilly, and the IRS disallowed the marital deduction because Semone was not divorced from his first spouse.

And surprisingly, or maybe not so surprisingly, the Tax Court held that the marriage was legally valid for estate tax purposes because New York law, the applicable state law recognizes a marriage under the place of celebration rule. So, because the marriage was valid in Israel, where the marriage was celebrated, it was valid under New York law, and hence it was valid for estate tax purposes and the marital deduction was allowed.

Finally, there was an amendment to the clawback regulations that was issued just a little over a month ago on April 26, 2022. So what are the clawback regs? These are regulations that provide that the decedent who made taxable gifts during his life using a higher basic exclusion amount than that which is available at his death, won't be subject to ae state tax on those excess gifts. So let me give you an example. Decedent made $11.7 million worth of gifts in 2021, and then he dies in 2026, when the basic exclusion amount is $6 million. The excess gifts in this case are $5.7 million. Those excess gifts won't be taxable in his estate. He got to take advantage of the $11.7 million exclusion, and he's not going to be penalized because of it.

The new proposed regulations modified this anti clawback rule by providing an exception. If an individual makes a gift and uses the higher basic exclusion amount, but yet those gifts are includible in his estate for estate tax purposes, he doesn't lock in that higher basic exclusion amount. There's a clawback. In this case, if a gift of $11.7 million is made to a trust that's includable in the decedent’s estate when the basis exclusion is $6 million, the decedent loses the 5.7 million exclusion he used in a prior year. However, the anti-clawback rule would still apply to transfers includable in a decedent's estate where the taxable amount is 5% or less of the transferred property on the date of the initial transfer. The bottom line is that a taxpayer can't lock in the higher basic exclusion amount today, than that which is available at his death by simply making gifts that are includible in his estate. Thank you very much for your time today. Pat is going to talk about the SECURE Act next.

Patricia Green: Thank you, Karen, for keeping us up to date on all the cases. I'm here to talk to you this afternoon about a very important proposed regulation that was issued this year. And I think it's very important because for many years that we've been telling clients about the advantages of tax deferred earnings in retirement plans. And these retirement plans have grown to substantial amounts. And the idea was to have, what we called a stretch IRA, to stretch it over the life of the beneficiary. And then came along the SECURE Act in December of 2019, which eliminated the life expectancy payout by imposing a 10-year rule for most beneficiaries. There's an exception for five categories of beneficiaries, which are called eligible designated beneficiaries, or for this presentation, we're labeling them as EDBs. And these individuals are entitled to a life expectancy payout

Along comes the IRS in February of this year, and they issue a notice of proposed rulemaking regarding required distributions from IRAs and certain other retirement plans. And this proposed regulation changes how practitioners understood and interpreted the SECURE Act rules. It contains proposed changes to the treasury regulations dealing with required minimum distribution. It includes some definitions for some of the SECURE Act's important terms, and some already widely used terminology. For the first time, the IRS is defining them. It restates and improves the regulations for required minimum distributions for trusts. It has more detail on how to determine who the employee's beneficiary is and other matters that are not covered by this presentation.

So, prior to this proposed regulation, practitioners interpreted the 10-year rule, meaning that no payments were required in the first nine years. So, you could take it out any time before the 10th anniversary of the participant's death, at that time, 100% of the balance would be required to be distributed. And the interpretation was that it didn't matter whether the owner had reached their required beginning date, RBD, which is now at age 72 or not.

So then along comes the proposed regulations. And they indicate that the SECURE Act did not repeal what we call, the at least as rapidly rule, under code section 401(a)(9)(B)(i). So, treasury is saying that those regulations are still enforced and applicable. So, if a beneficiary, a designated beneficiary, as opposed to an eligible designated beneficiary or one that is non designated beneficiary, and we'll get into that in a little bit, inherits an IRA or retirement plan on or after the participants required beginning date, then there are required minimum distributions in the first nine years, based on the beneficiary's life expectancy. So, there's an annual track and an outer limit year when 100% must be paid out. So, unlike what we thought under SECURE for certain individuals, there are required distributions in those first nine years. And the key is, really, was the owner or participant required to take distributions during their lifetime? Had they reached their required beginning date? If so, then there are required distributions.

So how does the 10-year rule work? If you're an eligible designated beneficiary, remember those are the five categories of individuals that can take it out over their life expectancy, then the benefits are payable to the EDB in annual installments over the life expectancy of the EDB. Unless the EDB elects to use the 10-year rule instead. If the EDB is an older person and their life expectancy is less than 10 years, they can still elect to use the 10-year rule. Upon the death of the EDB, the life expectancy based on the now deceased EDB continues, with the required minimum distributions in the years through nine, and a final payout of 100% of the account due on the 10th anniversary of the EDBs death.

So, if a plain old, designated beneficiary, this is a human being, not one who is eligible for the life expectancy payout. If they inherited an IRA or retirement plan after the participants required beginning date, there are annual required minimum distributions that must continue to be paid after the participant's death, for the first nine years. And then in the 10th year, 100% of the balance needs to be distributed. And this is payable over the beneficiary's life expectancy for the first nine years.

Now, a minor child classified as an EDB. The proposed regulations now define what reached majority is. Proposed regulations say, "Reached majority on the individual's 21st birthday," which is clarification as different states have different rules on the age of majority. So annual distributions over the beneficiary's life expectancy. And then at the age of 21, then it switches to the 10-year rule. So annual distributions continue until the earlier of the EDBs death or the EDBs 31st birthday.

The important questions that we need to ask in order to determine what, if any, required distributions need to be made is, did the participant die before or after his or her required beginning date? Then you need to know what category is the beneficiary. Is the beneficiary a designated beneficiary? And that could be either, what I'm calling a plain old, designated beneficiary, or is it one of those special categories, eligible designated beneficiaries? Or is it a non-designated beneficiary? This would be something like the participant's estate or a charity, it's not a human being, and it goes under the old five-year rule, if died before required beginning date, or ghost life if died on or after required beginning date.

So let me just take a little break and just explain what I mean by ghost life. This is not a term that the treasury has used, but it's a term that many practitioners and presenters use. And it is based on the ghost life expectancy. It's the life expectancy of the participant upon their death. So, if they were alive on their death, what would their life expectancy be?

There are different rules for eligible designated beneficiaries, so we need to know what category they are. Are they a surviving spouse who's entitled to life expectancy payout with recalculation, and some other important rules? Or is it a minor child of the participant? Disabled or chronically ill individual. Or one not more than 10 years younger than the participant, which is now defined by the proposed regulations as of the beneficiary's actual birthday. And that could be a lifetime partner. They're not married, but they're living together. Or it could be a sibling.

The proposed regulations add more detail to who is accountable beneficiary on the beneficiary finalization date. So, the beneficiary finalization date is September 30th of the calendar year, following the calendar year of the employee's death. And if certain things happened by that date, the finalization date, then those beneficiaries can be disregarded. Some of those are, the beneficiary predeceases the employee, you do not count them. Or the beneficiary is treated as having predeceased, pursuant to a simultaneous death provision or pursuant to a qualified disclaimer. And the third item is, if the beneficiary receives the entire benefit, to which the beneficiary is entitled. So, suppose there were a couple beneficiaries named under the retirement plan, and one of them was a charity, you can pay that charity out so that it would not taint the rest of the designated beneficiaries.

What happens if you inherited an IRA or retirement plan and did not take a distribution in 2021? Which now, according to the treasury, is required under these proposed regulations. Still proposed regulations. But what if you didn't take it? You thought you could leave it in there for nine years and then take it all out in the 10th year, then you have all that deferred tax growth earnings inside the retirement plan. So, the proposed regulations are effective for the year of 2022, and they also indicate that any reasonable, good faith interpretation of the SECURE Act will be deemed compliant. We expect to have further guidance on this matter, and you may want to be prepared to take the required minimum distribution for 2021 and 2022, by the end of this year.

Megan Cronin: Poll #3

Patricia Green: Okay. This was a trick question. It definitely matters if you die before or after your required beginning date. Unlike what we thought under the SECURE Act, the proposed regulations changed that. So that is definitely one of the things that we need to consider, did the participant die before or after? That's not what the question says. The question says, "Did the participant die on or after the required beginning date?" So, the answer is no, because if you die on your required beginning date, if you die on your 72nd birthday, then it's considered as being as deceased after. So, either on or after your required beginning date is the same thing.

The proposed regulations enhance the rules for trust with retirement benefits. Who is the designated beneficiary? Is it an individual named by the plan owner? And that's what we discussed previously. Or is it a trust? And if it's a trust, it must meet certain requirements. And then you can look through the trust to the individual beneficiaries, and the beneficiaries will qualify as the designated beneficiaries. And we call this a see-through trust which, for the first time, the proposed regulations have defined what a see-through trust is. The four requirements. There's no change to the four requirements, except there used to be a requirement for elimination of the oldest beneficiary... for the oldest beneficiary, which still matters, but not determining whether it's a see-through trust.

So the trust has to be a valid document, under state law. It's irrevocable at the death of the participant. The beneficiaries are identifiable. And required documentation is provided to the plan administrator. So if it meets all those requirements, you can look through the trust to the beneficiaries, who count as the designated beneficiaries. The proposed regs also define now what a conduit trust is. And they define it as a trust whose terms of which provide that with respect to the deceased employee's interest in the plan, all distributions will, upon receipt by the trustee, be paid out directly to or for the benefit of the specified beneficiaries. So the proposed regs include beneficiaries. So the trust can have multiple beneficiaries.

In this case, if it's a designated beneficiary, a plain old, designated beneficiary, not an EDB, the trust benefits would be paid out within that 10 year frame. Whether they're required distributions during the life or just at the end of the 10 years. And the proposed regs also define what an accumulation trust is. And so opposed to a conduit trust that has to pay out everything that the trustee receives from the distributions, the conduit trust can accumulate. I mean, accumulation trust can accumulate that. And to no surprise, the proposed regs define it as any see-through trust that is not a conduit trust.

So who are the identifiable beneficiaries of the trust, and who are countable beneficiaries? So that's the first thing you need to determine, are who the beneficiaries are and who is countable. And then you have to test the trust. Based on the countable beneficiaries, does the trust qualify as a designated beneficiary, and if so, what type? Because this will determine what type of required minimum distributions are necessary and how long the payments can last. Who the oldest beneficiary is still counts, but not for determining if the trust is a see-through trust, but we'll see later how this affects the beneficiaries

Testing the beneficiaries of a see-through trust for designated beneficiary status. There's a three-tier system that the proposed regs indicate. Which these rules are an improvement over what we had, as I said before. The first-tier beneficiary is any beneficiary who could receive amounts in the trust representing the employee's interest in the plan, that are neither contingent upon or delayed until the death of another trust beneficiary. In other words, this would be a current beneficiary. First-tier beneficiaries are always countable. They are treated as having been designated as beneficiaries.

Second-tier beneficiaries are those who could receive amounts in the trust representing the plan's interest, but were not distributed to the first tier beneficiary. This seems to include remainder beneficiaries. Second-tier beneficiaries are not countable for conduit trust, but are countable for an accumulation trust with one exception, the disregard rule, which I will address in a little bit. So a conduit trust, the payments that are coming in from the retirement plan are going out to the beneficiary directly. Nothing is being accumulated in the trust. So, the proposed regs are saying you only have to look at those current beneficiaries, you do not have to look at the second tier.

Third-tier beneficiaries are those who could receive amounts from the trust solely because of the death of a second-tier beneficiary. Third-tier beneficiaries are always disregarded unless they also qualify as a second tier. So, this part is very good news. And you always disregard beneficiaries who predeceased the participant.

Megan Cronin: Poll #4

Patricia Green: Okay. Some of you are listening. Some maybe just want their CPE credit. So, it is the third-tier beneficiary is the category that you can disregard for an accumulation trust. I'm going to go through what the options for a surviving spouse. And this may help clarify some of these rules. You can name the surviving spouse outright as a designated beneficiary. They can roll it over to their own IRA. Start required minimum distributions at age 72, using uniform lifetime tables, which is recalculated using a joint life with hypothetical 10-year younger spouse, and can name new beneficiaries. This is what a lot of individuals do.

Sometimes they would like, if they were named outright, they may want to hold it as a beneficiary. And since they're the surviving spouse, they are an eligible designated beneficiary. So, they would receive life expectancy payout recalculated, which is only allowed for surviving spouse. And they can postpone distributions until the decedent would have turned age 72, or they could use a 10-year rule if the owner died before required beginning date. So, there are some situations where you may want to just hold as a beneficiary, depending on your age. If the owner were over 59 and a half and you're not 59 and a half, so there would be a 10% penalty if you took it out. If it's an inherited IRA, that penalty is waived.

But some individuals want to leave their retirement plans in trust. So, let's see how it works with a conduit trust. Remember, in a conduit trust, only the first-tier beneficiary is counted. Everyone else is disregarded. So, the spouse will be the only countable beneficiary, and his or her EDB status determines the required minimum distributions. Distributions received from the retirement plan would have to be paid out to or for the benefit of the surviving spouse. This is a good choice if you want to leave the retirement benefits in trust for a surviving spouse.

How does it work if it's an accumulation trust, where you count the first and the second tier of beneficiaries? If on the spouse's death, the remainder goes to charity, then the trust fails as a designated beneficiary. Because you're looking at the first two tier of beneficiaries. So, the spouse is a designated beneficiary, but a charity is a non-designated beneficiary. So, you would fall under the old five-year rule or ghost life expectancy, if died after required beginning date.

Suppose the second-tier beneficiary is an adult child, the trust has two countable beneficiaries, an EDB, the surviving spouse, or a PODB, a plain old, designated beneficiary. A designated beneficiary, a human being, but not one with the EDB status. In that case, you're stuck with the plain old, designated beneficiary status and you do not get the EDB status of the surviving spouse. So, you're stuck with the 10-year rule.

If the second-tier beneficiary is an EDB, such as a sibling less than 10 years younger, then the RMDs are based on the life expectancy of the oldest beneficiary. So, you have two EDBs, the surviving spouse, whose benefits are better than the 10 years younger, but it would be based on the life expectancy of the older beneficiary.

This is the special disregard rule that I mentioned earlier, and it's for minors that inherit IRAs. So, the proposed regulations add to a minor EDB, that you can disregard even the second-tier beneficiary. So, in an accumulation trust, if it was for a minor child of the participant, you can disregard the second tier if the EDB beneficiary will receive all of the plan assets by the time they attain age 31. So that's 21, and then plus the 10-year rule after they turn 21.

There's the eligible designated status for the minor, annual distributions over their life expectancy up to age 21. And then the distributions continue until the age of 31, under the 10-year rule. So, you can use an accumulation trust, provided that the trust goes outright to them at age 31. Then you can disregard the second-tier beneficiaries. This rule also applies to beneficiaries under age 31. So, this could be a trust that was set up by a grandparent, as long as the assets are required to be distributed to the beneficiary by the time they reach the age of 31. They wouldn't get the eligible designated beneficiary status because that's only for the minor child of the owner, but you still have the 10-year rule after they reach the age 21.

This is not part of the proposed regulations, but I thought it was very important for distributions. Because beginning with this year, we have new lifetime expectancy tables. These were published in November of 2019, with a final version adopted in November of 2020. The new tables apply for 2022 and later years. They include a single life table, which is used for payouts to beneficiaries from inherited IRA or retirement plans. The uniform lifetime table used for determining lifetime required minimum distributions to a participant over age 72. Joint and last survivor tables, which is used for participants over 72, whose sole beneficiary is his more than 10-year younger spouse. And the divisor on these tables are slightly larger than the old tables.

So, everybody has to convert to the new tables for required minimum distributions for this year. The changeover is easy for those like a surviving spouse that is being recalculated every year. You just determine the life expectancy using the new table, beginning this year. For beneficiaries who inherited under a fixed term over their single life expectancy, there's a one-time reset for the distributions, starting this year. You go back to the year after the decedent's death, which is the first year required distributions are required. You find the single life expectancy of the beneficiaries age in that year using the table. And then you subtract one year for each year that has lapsed since then.

The proposed regulations deal with some post-death matters. They indicate that having a power of appointment has no effect unless it's exercised. Decanting and other post-death changes, the mere possibility does not affect your identifiable beneficiaries. If changes are made before the finalization date, September 30th of the following year, then it counts retroactively to the date of death. And if you make changes after that date, you could mess up the distributions. You can't make it better, but you could make it worse by accelerating the distribution period. I don't know if we have any time for questions. I'm sorry, I went a little bit over. I hope you benefit from this information.

Transcribed by Rev.com

About Karen L. Goldberg

Karen L. Goldberg Partner-in-Charge of the National Tax Trusts and Estates practice, within the Personal Wealth Advisors Group. She specializes in estate planning for closely held business owners, senior corporate executives and other high net worth individuals.

About Patricia Green

Patricia Green is a Tax Director with over 30 years of experience in providing services to small businesses, individuals and estates. She has expertise in tax compliance, estate and gift tax, wealth transfer, and succession planning.

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