Making sure that your heirs don't have to sell the business to pay the tax.
Joe Hanson, the sole owner of Hanson's Furniture and his wife Glenda owned a home jointly that had recently been appraised at $350,000. The business had a net asset value of $4.5 million including $1.5 million in real estate. In addition, their stock portfolio was valued at $750,000. After eating tainted 'hush puppies' at a famous barbecue restaurant in High Point, they were both rushed to the hospital but didn't survive.
The federal estate tax on their estate was approximately $2.5 million. (they used both available $600,000 exemptions).
Without up to date estate planning, heirs to many retail furniture operations (like the Hanson's) have been forced to sell real estate or substantial portion of their assets or actually liquidate the business to meet estate tax obligations.
Avoiding such dire consequences is not difficult for an attorney skilled in estate planning.
The difficult part for many business owners is taking time from their busy schedules to examine the goals they would like their estate planning to accomplish and then assemble a team to draft a plan to accomplish these goals.
Even when a tax threat has been identified, a qualified attorney hired and appropriate documents drafted, many business owners become distracted by that big sale, inventory problem or new warehouse construction. They either fail to sign any of the documents, or have the misconception that once the estate planning documents are written and signed, their estate planning is complete. Nothing can be further from the truth. Estate planning must be an ongoing process, because as business conditions and tax laws change, periodic review of your estate plan is required.
Every estate and business succession situation is fraught with difficult choices having to do with taxes; the fair allocation of assets and future income; as well as questions of who should control these assets.
Even the simple re-titling of assets to an individual's or their spouses trust to preserve the $600,000 exemptions for each spouse, can be a major stumbling block. Without the proper trust, upon the death of the second spouse, the estate is entitled to only one $600,000 exemption instead of $1,200,000. Yet even with hundreds of thousands of tax dollars at stake, some business owners become uneasy at the mere thought of an asset being re-titled to some entity, even if that other entity is their trust in which they are the sole trustee. That is why, as part of the planning process, it is important for all family members to candidly address and discuss their concerns openly... no mean task for many furniture retailing families!
But beware, even when you are married, having a properly drafted and executed will and inter vivos (living) trust for you and your spouse will not alone ensure that you will maximize each of your respective $600,000 exemptions. Proper asset balancing between you and your spouse will be necessary to ensure a maximum use of each unified credit. Typically, many assets are owned jointly. However, jointly owned assets can not be used against the unified credit because they qualify for the unlimited marital deduction between spouses. Thus careful consideration must be given when determining which assets will be re-titled (a non-taxable transaction).
Additional planning concerns may revolve around the notion that your heirs will be left with a substantial estate tax bill, even after the $600,000 unified credit has been maximized.
Many individuals are rather disenchanted when they learn their business interests will need to be sold at their death in order for their children to pay estate taxes. An irrevocable life insurance trust is one tool used to fund the payment of estate taxes, but other instruments such as Charitable Remainder Trusts, Grantor Retained Annuity Trusts, or a Grantor Retained Income Trust (GRAT) can be effectively employed. Each of these are rather complicated and need to be discussed with a specialist.
Additional estate planning strategies which you may want to discuss with your attorneys and tax advisors will be examined in more detail in future articles. For most owners, however, the biggest challenge is not to learn each legal planning option, but to understand that estate planning is an ongoing process which requires a personal commitment in order to be sure your desired intentions are carried out.
NEW EXCLUSION - MUCH ADO ABOUT NEXT TO NOTHING
Unified Credit: In 1998, the Unified Estate and Gift Tax Credit amount will be gradually increased from $600,000 to $1,000,000, by 2006.
Family-owned business exclusion: In 1998, the first $1,300,000 of a "qualified family-owned business interest" may be excluded from the gross estate. In general, 'qualified' means a business that comprises more than 50% of the estate and in which the decedent must meet certain requirements for ownership and material participation in the business previous to (and following) the death of the owner.
This family owned business exclusion overlaps the Unified Credit amount. The total exclusion, including the newly-indexed Unified Credit amount, cannot exceed $1,300,000.
For all the talk of indexing and the new unified credit, these provisions will only give minimal tax relief. In effect, much ado about next to nothing. With any reasonable growth over the next few years, the relatively minor reductions in estate taxes will be more than offset by the tax on greater asset value (a chart showing these relationships is reproduced in the printed article 10/97).
Steven J. Schacter, Esq. is an attorney who specializes in business and estate planning for furniture retail and manufacturing firms. Question on any aspect of financial planning can be sent to him care of FURNITURE WORLD at firstname.lastname@example.org.