Douglas Clegg of Eagle is only 47, but hes already making plans to pass on his estate to his five children. Hes also looking ahead to Jan. 1, 2013 a date that is flashing neon in the minds of many Idahoans who own businesses, ranches and farms. Thats the day a tax exemption for estates changes dramatically.
Last year, Clegg sold a chain of assisted-living facilities to an out-of-state real estate investment trust. He also took a four-month humanitarian trip with his family to Asia. Clegg has had trust and estate planning in place since 2001, but the trip and the sale of his assisted-living company prompted him to re-evaluate.
He decided to create a trust named For the Intent to Do Good. The date by which he plans to fund and finish the trust: Dec. 31. Thats when a tax break that affects an estimated 24,000 Idaho millionaire households is scheduled to end.
UNPRECEDENTED CHANCE TO GIVE TO HEIRS
There are a few ways the federal government applies taxes to assets transferred to children:
The estate tax, applied to the value of assets passed on at death.
The gift tax, for assets passed on during the parents lifetime.
The generation-skipping tax, for assets passed on at death or during the lifetime to grandchildren or future generations.
This year, gifts to children and future generations valued up to $5.12 million or $10.24 million for a married couple are exempt. Anything over that amount is taxed at 35 percent. Come 2013, unless Congress decides otherwise, the exemption will return to its old threshold of $1 million or $2 million for a married couple with a 55-percent federal tax rate for anything over that amount.
That has some people panicked, says Bruce Perry, founder and managing partner of Integra Law Group, a business and estate planning firm in Boise. A lot of people who had never contemplated they would have to pay an estate tax are going to potentially be at risk.
Idaho estate-planning professionals think theres a sliver of a chance Congress could keep that from happening or reverse it, to the benefit of higher-worth individuals. But with the fiscal cliff on the horizon, theyre not holding their breath.
Opponents of the so-called death tax argue it is bad for economic growth because it encourages people to spend or transfer funds, not to invest or re-invest in their businesses. Supporters say taxing millionaire and billionaire estates helps generate needed revenues.
There are many options for tax-advantaged estate planning. A trust can limit a childs ability to waste an inheritance. Dynasty trusts in Idaho, but not all states, can last perpetually. Some trusts are temporary and give out annual payments. Gifts worth up to $13,000 a year next year, $14,000, and double that for married couples can be given tax-free during a parents life without it counting against the larger exemption that changes Jan. 1. Business holdings can be broken into limited-liability companies and limited partnerships of various kinds. Properties can be divided into shares for heirs by creating entities to own those properties. Some arrangements allow the parent to pay taxes on a trusts income and capital gains, instead of leaving that obligation to the heirs.
The idea [this year] is, lets cram as much of our stuff into a gift that we can, and move that appreciation out of our estate, and move the control and cash flow and all the general purposes of the business, says estate-planning attorney Jason Melville of McAnaney & Associates in Boise. If someone does make the big [$5.12 million] gift this year, it is truly going out of their estate. ... Its unprecedented. [The limit] has never been this high.
He and others note that some people arent comfortable breaking up their estates before death and giving up control of the assets.
ITS LIKE APRIL 15 FOR ESTATE PLANNERS
Art Berry, founder and president of Arthur Berry & Co. in Boise, has been valuing businesses for 25 years from startups to companies worth more than $350 million.
Year-end, every year, we have a tremendous amount of gift and estate-planning work. This year, probably two times as much as normal, he says.
Eagle estate-planning attorney Jon D. Hill says calls to his office picked up in late October and early November, when it became apparent that so-called death tax breaks werent going to be a priority in Washington.
The change also ramped up business appraisals because business owners must assign values to whatever theyre passing on. And if theyre breaking a company into different-sized chunks for the children, each chunk will have a different value. For example, a 30-percent share in the family business isnt worth 30 cents on the dollar if its not a controlling share.
Peter Butler, owner of Valtrend, an Eagle business appraiser, says he has been working seven days a week for a couple of months.
Right now, you caught me in the middle of valuing an operating entity. Yesterday, I completed valuation of a fractional interest in a piece of residential real estate [being split up] in California to take advantage of the current tax law, he said one afternoon in mid-November. Who knows what January 2013 will bring? I might not have anything to do.
4 PERCENT OF IDAHO HOUSEHOLDS AFFECTED
The people contemplating estates arent just multimillionaires. A business owner with a house, a few valuable possessions, a life insurance policy and a couple of vehicles could quickly hit that $1 million threshold. About 4.2 percent of Idaho households had $1 million or more of investable assets in 2011, according to Phoenix Marketing International, a company that tracks wealth.
In Idaho, ranchers, farmers and dairy owners are some of the best candidates for estate planning right now. Why? Taxes apply to illiquid assets.
Particularly hard-hit [by estate taxes] are agriculture businesses, Berry says. They have a lot of value but might not have a lot of revenues.
The American Farm Bureau says real estate accounted for about 85 percent of farm assets in 2010.
So, if a farmers heirs receive ownership of the farm in 2013, the propertys value is subject to estate taxes. If a farm is worth $2 million, and half of that is taxed at 55 percent, the children may be on the hook for more than a half-million dollars in taxes.
You have to come up with the money, Hill says. That could put pressure on the children to sell the farm. However, if its an operating farm, the children may be able to petition the Internal Revenue Service to pay the taxes over time.
GETTING AROUND UNCLE SAM
Clegg makes no secret that he resents the estate tax. Its not that he hates taxes in general. He just disagrees with the idea of taxing nonliquid assets and personal possessions that were acquired using already-taxed income.
Its double jeopardy, he says.
He also disagrees with the notion that death is a tax-worthy transaction.
Death is not a transaction or an event that yields income, he says. It is a tax, in my opinion, that dissuades or discourages families from creating wealth so their heritage, their offspring, their children, can stand on their shoulders and continue a business.
It is irritating to individuals taking high risks, working their guts out, to find out that when they pass away, the government is going to take away 55 percent of it before the kids get to it, he said.
One goal of his trust is to minimize government taxes on todays assets and minimize government [taxes] on the growth of those assets over time, he says.
Clegg and his wife will have a 2-percent share with the ability to make all the decisions, and their children will own 98 percent, he says.
A second purpose is to create a lending institution of sorts. His children will be able to borrow from the trust, perhaps to buy their first homes. They will pay the money back with interest, essentially paying the interest to their future selves instead of to a bank.
A third purpose of the trust is to offer humanitarian assistance.
The real guts of it is tied to your willingness to sit down in a council setting with your children and say, We have these proceeds this year. How can we use it to bless the lives of others? he says. If you have money, you dont want to be selfish with it.
Clegg says its important to him that the assets held in the trust are protected from other creditors in case an investment goes south.
Until his children need the money, Clegg will be able to use it as a source of capital for buying and developing properties.
Eventually theyll either have to split it [or] keep the entity in place and find a general manager, he says.
GONNA MISS THE DEADLINE?
Estate-planning professionals say its not necessarily too late to get your estate-planning house in order.
For those who didnt get their papers in order in time to transfer everything by 2013, there are still options to keep liabilities at a minimum.
Berry says one approach for any tax year is to break the family business into shares, transferring fractions of the business to your children each year. That cuts the tax consequences of the breakup into small bites, he says. You can do it in a planned, serial multiyear distribution and maybe get under the minimum tax threshold.
Universally, estate-planning professionals say this: Business owners and parents, consult a financial adviser and tax counsel to get more information and determine the best approach for your needs.
Audrey Dutton: 377-6448