Annual Exclusion - Each individual can gift up to $12,000 per year (2006) each to any number of other individuals (either outright or through irrevocable trusts) without incurring transfer tax liabilities. For example, a married couple can give a total of $24,000 to one child, or a single parent can give $24,000 to two children. The gift must be a completed gift ("no strings"). Over time, a consistent program of Annual Exclusion gifting can transfer a significant amount of wealth without incurring transfer tax liabilities.
Applicable Exemption Amount - This used to be called the Lifetime Unified Credit Amount. It is the amount of net estate assets which are exempt from Transfer taxes for one person's lifetime transfer of a combination of outright gifts and bequests. Beginning in 2002, the amount was $1,000,000. This amount rose to $1,500,000 in 2004, and to 2,000,000 in 2006. It will be $3,500,000 in the year 2009. Under current law [Jan. 2006], there is no federal estate tax in 2010, and the exemption amount will fall back to $1 million in 2011.
Asset Valuation Freeze - The value of assets taken out of your estate now are considered frozen at their present value for transfer tax purposes. For example, if you gift an asset worth $100,000 today to a properly drafted irrevocable trust, and that asset later grows in value to $250,000 at the time of your death, the value for lifetime transfer tax purposes is still considered to be $100,000.
Beneficiary - The person or entity that receives a gift, bequest or inheritance. Beneficiaries can be determined by being specifically named in estate planning documents, by disclaimers, or by court action.
Charitable Gifting - IRS rules encourage charitable gifting. The charity must be legitimate under strict IRS guidelines (typically under Section 501(c)(3)). You should inquire from the intended charity for proof of this eligibility. Transfers to charities are exempt from many transfer tax limitations.
Charitable Gift Annuity - You can contribute money or appreciated assets (for example, stock you bought low and that is now worth a lot) to a qualified charity under a special agreement. The agreement lets the charity return an income payments to you based on approved IRS tables over a set period of time. After the time period passes, the charity keeps the remaining value of your contribution. In the meantime, you get a partial immediate income tax charitable deduction and a guaranteed income stream according to your agreement.
Charitable Lead Trust - You set up an irrevocable trust which provides a income to a charity now (over a set term or the lifetime of the donor), but gives the principle (or corpus) of the donation back to the donor or to a named beneficiary at the end of the defined period. This can pass on the principle of the asset free of estate and gift taxes after the period of time.
Charitable Remainder Trust - You set up an irrevocable trust which has three purposes: 1) to return a set amount of income to you over a specified period of time or lifetime of the donor, 2) to fund a charity after the specified period of time, and 3) to give you a partial, immediate charitable income tax deduction based on approved IRS tables. It can be set up so that the charitable beneficiaries can be changed or not, so that you can be the Trustee or not, so that the income stream is fixed or variable, and other options.
Conservatorship - A Probate Court appointed set up where a person is named to handle the financial and legal affairs of another adult who cannot take care of these matters themselves.
CRAT - A Charitable Remainder Annuity Trust annually pays out a predefined fixed annuity to the non-charitable beneficiary. The principal available at the end of the term of the CRAT then goes to charity. See Charitable Remainder Trust above .
CRUT - A Charitable Remainder Unitrust annually pays out a predefined percentage of the assets of the trust to the non-charitable beneficiary. The principal available at the end of the term of the CRUT then goes to charity. See Charitable Remainder Trust above .
Custodian - A competent adult named to take care of the assets of a minor or incompetent adult. (See Guardian .)
Designated Fund - By agreement with a community foundation, you may be able to give a charitable contribution that is administered under your specific name, for example, the "John and Mary Smith Fund of the ABC Foundation". John and Mary may have specified that "their" fund be used to help environmental organizations. The ABC Foundation would then set up and carry out funding guidelines based on John and Mary's wishes. John and Mary's on-going charitable interests are carried out without them having to go to the expense and effort of establishing their own foundation. Many administering foundations additionally provide for allowing John and Mary to serve as "advisors" to their Designated Fund.
Disclaimer - The IRS says that if you are the potential beneficiary of a gift or bequest, you are not obligated to take the money. By disclaiming the gift or bequest, the money passes on to the next in line as if you were not alive. You may choose to disclaim assets in favor of others for postmortem (after death) tax purposes. A disclaimer is a tricky operation that requires legal and financial planning help. If not done right, it cannot be undone. If you intend to keep the disclaimer option open for up to 9 months, you cannot use the gift or bequest in any way. For example, if you might want to disclaim an insurance settlement to your child, you cannot deposit the check which was made out to you -- you must have the check reissued to the child. You may do partial disclaimers.
Discount - This is an estate tax technique that allows the passing of an asset at less than "obvious" value. An example would be an asset for which there is a very limited market, despite its "value", like a share in a family owned business..
Estate Tax - A tax paid to the IRS or a state based on the net taxable assets of the estate. In 2006, a net federal taxable estate up to $2,000,000 could be exempt from estate taxes. (Gifts over $12,000 per year per donee other than a spouse cumulatively reduce that exemption.) The federal tax rate is high, typically kicking in at around 38% and going to 46%. Many states also impose estate taxes on top to applicable federal estate taxes. Current federal tax law eliminates the federal estate tax for the year 2010, but reinstates the federal estate tax in 2011 at year 2002 levels.
Family Limited Partnership - You set up a Limited Partnership and fund it with your business-oriented estate assets. You maintain control of the Limited Partnership by naming yourself as the General (managing) Partner. Over time, you gradually gift shares of this partnership to your designated beneficiaries, making effective use of your annual $12,000 gift exclusions . Eventually, you own may 1% of the shares while your designated beneficiaries have 99%, but you maintain control while you are alive. After your death, the partnership agreement spells out what's next. Many people take advantage of "lack of marketability" Discounts when setting up and funding these.
Fiduciary - A concept that means taking responsibility for doing what's prudent and right in regard to financial matters. If you have a Fiduciary responsibility for a trust that's set up to benefit someone else, you're supposed to do your best to handle the investments and pay-outs "right". You take only reasonable and prudent investment risks and make rational administrative decisions.
Foundation - A charitable entity approved by the IRS to receive tax-exempt contributions for the purpose of funding other charities or operating charities.
Generation Skipping Transfer (GST) Tax - A federal tax imposed on the transfer of great wealth from an older generation to the grandchildren or great-grandchildren, thereby "skipping" the middle (parents of the grandchildren) generation as a way to avoid estate taxes. The GST Tax is about 55%, but there is a lifetime exclusion amount for the transfer of $2 million in 2006. A federal form 709 is filed to claim the exclusion or to calculate the tax.
Gift Tax - A federal transfer tax imposed on gifts from any one donor to any one donee exceeding the Annual Exclusion Amount ($12,000 in 2006). There is a lifetime gift exclusion amount of $1,000,000 in 2006. The tax rate is 46% in 2006. A federal form 709 is filed to claim the exclusion or to calculate the tax.
Grantor - Also called the "Donor" or the "Trustor". This is the person or persons who establish a trust.
Grantor Trust - A trust which gives the grantor enough control of the trust to cause the IRS to consider that income tax liabilities of the trust must be reported on the individual return of the grantor. Depending on the intentions of the grantor, this may be a positive or a negative factor.
Grantor Retained Annuity Trust (GRAT) - An irrevocable trust set up to transfer assets to a "remainder beneficiary " at a future time, but provides the grantor with income during the term of the trust. The income received by the grantor is a fixed periodic payment over the term of the trust. This allows the donor to transfer assets to a child, for example, at a discounted value (due to the delay of the gift) while retaining use of the gift over the term of the trust. This is a mechanism for "freezing" the value of an asset for estate or gift tax purposes. So, for example, if the discounted value of the gift is $100,000 in 2006, the donor claims $100,000 on the federal Gift Tax Form 709 in 2006. If that gift grows in value to $200,000 by the end of the term, say in 2016, the child takes the $200,000 at that time with no further gift tax liability. The principle of the trust, diluted by periodic withdrawals of current income over the term, could also be less than the initial contribution. The donor must outlive the term of the trust, or the original gift is pulled back into the taxable estate of the donor at full value.
GRUT - Similar to a GRAT , but the grantor receives an income based on a set percentage of the trust assets measured year by year.
Guardian - A competent adult designated to care for the person of a minor or incompetent adult. (See Custodian .)
Health Care Directive - A legal document that lets a person give written instructions naming a heath care agent to make medical decisions on his or her behalf in the event that he or she is unable to communicate with the health care providers. In Minnesota, the document also incorporates the provisions of a "living will " that states the individual's wishes regarding the nature and extent of final care in life.
Implementation - In the context of estate planning, this means the re-titling of assets, balancing of holdings, proper designation of beneficiaries, and other formal procedures to ensure that intended estate plans are likely to work out as indicated in a will or trust. Estate plan implementation is all too often overlooked or inadequately attended to even after documents are drafted and signed.
Inheritance Tax - Some states levy a tax on inheritances payable by the beneficiaries. Minnesota does not.
Insurance Trust - An irrevocable trust that holds insurance outside the estate of the insured. If you own an insurance policy with a death benefit payable at your death, the death benefit paid out is considered a part of your overall estate. This may make your estate taxable and could end up cutting the net insurance pay-out after estate taxes in half. But, you could set up an Insurance Trust with your spouse or children (or others) as beneficiaries. The trust owns the insurance on you. You gift enough money to the trust to pay the insurance premiums. The beneficiaries have the right to take out and keep the money you gift to the trust instead of paying the insurance premium, but that would be foolish of them to do so. Also called an “ILIT”.
Intestate - Dying without a written Will. If you die intestate, the rules for distribution of your estate are set by Minnesota state law.
Irrevocable Trust - "Irrevocable" means "can't be changed". If you the grantor set up an irrevocable trust, you can't change the rules once you sign the form. The only way you could make an irrevocable trust you set up non-functional is to not put anything into that trust.
Joint - This is a titling that allows two or more people to have ownership rights to the same asset, for example real estate. In the even of death, a property titled as "joint with right of survivorship" (JWROS) is conveyed automatically and immediately to the surviving joint owner(s) without probate or other proceedings. Joint Tenants in Common, means that the interest of the deceased passes according the instructions of the deceased rather than automatically to the surviving joint owner.
Living Trust - A trust set up during your lifetime and while you are legally competent to act. A trust set up after you die, but according to your previous instructions, is called a testamentary trust.
Living Will - A written legal documents that states an individual's wishes regarding the nature and extent of final care in life. This is popularly referred to as the "pull the plug" instructions. The living will designates the health care agent who has the individual's permission to make the life and death decisions with the attending doctor if the individual is unable to speak for him or herself.
Long-term Care Insurance - This is also called "nursing home insurance", but in fact can cover many more benefits than just nursing home care (for example, it can include in-home care). You must be examined and qualify for coverage. There are many options available including deductibles, inflation guards, length of coverage, amount of daily coverage, etc. Shop around. The State of Minnesota and IRS have a number of incentives to encourage families to acquire long-term care insurance as an alternative to risking your estate assets to long-term costs. Generally, the younger you are when you apply, the lower the premiums are. On the other hand, policies have been written for people 80 years old or more. This can be an important tool for protecting estate assets.
Minor's Trust - A trust set up to hold and manage assets for a minor child. A competent adult is named as trustee of the trust with the fiduciary duty to invest and administer the assets for the benefit of the named minor as indicated in the trust language.
NIM-CRUT - This is a CRUT with Net Income make-up provisions. You set a predetermined percentage of trust assets as the annual pay-out amount, but, if the trust assets do not generate enough cash to distribute in a certain year, the annual pay-out shortfall can be "made up" in a later year.
Outright Gifting - "Outright" means "directly". If you leave money outright to someone, the beneficiary gets the money directly. Another choice would be to leave the money in trust for someone, where the beneficiary must ask the Trustee for the gift or inheritance according to the rules you set up in making the trust initially.
Per Stirpes - This means according to blood-line descent for determining successor beneficiaries. Legal adoption counts.
Personal Representative - The person you name to administer the instructions in your Will . Also called Executor in some states. They have a Fiduciary responsibility.
Personal Residence Trust - You set up an irrevocable trust for the benefit of, say, your children. You gift your home today to that trust. You keep the right to live in the home for a set term of years (a life estate), then the home goes fully to the named Beneficiaries . You may keep living in the home then, but must pay rent (another way to transfer assets to your intended heirs). Because of your present life estate in the home (that is, the number of years before the home actually becomes the full property of the named Beneficiaries), the present value of your gift is Discounted for Gift Tax purposes. You declare the Discounted gift value on a Gift Tax return. At end of the term of the Personal Residence Trust, the home (at its appreciated real estate value) belongs to the Beneficiaries and is out of your estate. The catch is that you must outlive the term of the trust or the property is pulled back into your estate. Also called a “QPRT”.
Power of Attorney - You name in a written document who has your authorization to act financially and legally on your behalf. The Power of Attorney may be limited or very broad (allowing virtually anything). You can name more that one person or successors to your primary "attorney-in-fact". This document can be very important if you become incapacitated and unable to act for yourself. The Power of Attorney can be stopped by you either by putting the term in the document or by tearing it up. The State of Minnesota has set up a Short Form Power of Attorney for purposes of simplification and consistency.
Private Annuity - A mechanism where the maker of the annuity can transfer property to another person in return for a steady lifetime or term income.
Probate - A process defined by state law that requires a court of law to oversee the settling of estate transfers. Probate proceedings are public, alengthynd specific. Probate may be formal or informal, or supervised or unsupervised, depending on circumstances and the wishes of the court or estate stake-holders. A judge makes the final determination or approval of all decisions. Probate offers the protection that the instructions of a deceased person are carried out. Wills or Intestacy necessitate probate; Trusts generally avoid probate.
Revocable Living Trust - A trust set up by you (the Grantor ) while you are alive an legally competent, to be administered by you and maybe your spouse (the Trustees ), for the benefit of you (the Beneficiary ). It is a legal device that can hold property it its own name, but is considered transparent to you by the IRS for income tax purposes. The Revocable Living Trust uses your Social Security number and whatever is taxable to it is included in your income taxes as if you held its assets directly. It can contain your asset distribution instructions like (and in place of) a Will and thereby avoid probate. It can also serve as a vehicle to manage your assets and provide for you in the case of your future incompetency. You would name successor Trustees to act if you cannot.
Remainder Beneficiary - The person who is designated to receive the assets or benefits of a trust at a future time, typically at the end or "term" of the trust.
Special Needs Trust – An irrevocable trust set up to hold assets for the benefit of a person who may be handicapped or incapacitated and receiving public living assistance. The trust provides funds for personal needs not otherwise provided for by the public assistance. Typically, the assets held within the Special Needs Trust (SNT) are not taken into account by the public assistance authority in calculating the amount of aid to be given to the person in need. Also typically, the balance of funds remaining in the SNT at its term are then handed over to the agency which provided the public support, assuming that the public support was otherwise not reimbursed.
Stepped-up Basis - The IRS allows the basis (original cost) of appreciated assets to be "stepped-up" to a current value for the heirs of the assets. (To determine the capital gain on the sale of an appreciated asset, you subtract the basis from the current value to figure your profit from the sale.) The heirs will then have as a new basis the Stepped-up value. The date for determining the current, Stepped-up value can be either the value at date of death or nine months after the date of death. It is to the advantage of the heir to have a Stepped-up Basis because it would lower their income tax on the sale of the appreciated asset. It is to the disadvantage of the estate to pay Estate Taxes on the value of the appreciated asset rather than the (presumably lower) basis. The IRS rules on stepping up the basis of estate assets were changed and limited in 2001 and are now complicated. Consult your tax or estate planning advisor.
Testamentary - Set up as a result of your death. A Testamentary trust is a trust that is set up from the instructions in your Will after your death. A Living Trust is set up while you are alive.
Three Year Rule - The IRS considers gifts made within three years of death to be "gifts in anticipation of death" and therefor not gifts but rather bequests. For example, insurance policies transferred to an Insurance Trust are not considered to be out of the original owner's estate for tax purposes until three years after the date of transfer.
Transfer on Death - Sometimes called Pay on Death or a Totten Trust. Some financial institutions allow an account holder to set up an account with instructions to transfer or pay out the assets to a named Beneficiary upon the death of the initial account holder. This avoids the need to probate the asset to transfer it after death, but is not a very flexible arrangement. You may see it referred to as a TOD or a POD account.
Transfer Tax - These are the collective rules governing estate, gift and generation skipping transfers. In general, gifts and inheritances are not federally taxable to the recipient. However, gifts or bequests (transfers) of great wealth beyond certain exemptions are taxable to the donor. For examples, in 2006, gifts over $1,000,000 are subject to transfer taxes to be paid by the donor. The three types of transfer taxes are referred to as the " Estate Tax ", the "Gift Tax ", and the "Generation Skipping Transfer Tax ".
Trust - A Trust is a contract with three parties: 1) the Grantor (who sets up the trust), 2) the Trustee (who is named to carry out the instructions written in the trust), and 3) the Beneficiary ( for whom the instructions of the trust intend to help). Because the trust is a contract among consenting parties, it ordinarily does not need to go before a probate court for validation, operation or supervision. The origins of the trust in English Common Law goes back many centuries when, during the Crusades, a knight (and lord of the estate) made an agreement with another trusted person to take care of the knight's estate for the the benefit of the lady, et. al., while the knight was away.
Trustee - Someone trusted to carry out the instructions of a Trust . The Trustee has a Fiduciary responsibility to follow the trust instructions as a prudent person.
Unlimited Marital Deduction - One spouse can gift or bequest an unlimited amount of assets to the other without incurring a Transfer Tax liability. The IRS is willing to wait for the death of the second spouse. Because of the operation of the Unlimited Marital Deduction, the first-to-die spouse may inadvertently miss the opportunity to use their lifetime Applicable Exemption Amount (unified credit, $2,000,000 in 2006). If your assets together (including insurance) total more than $2,000,000 in 2006, you will want to make sure your estate planning documents provide for separating you assets between the two of you so that you may each take advantage of your $2,000,000 Applicable Exemption Amount before you use your Unlimited Marital Deduction. Implementation of proper asset titling and Beneficiary naming is very important.
UTMA or UGMA - Uniform Transfers (or Gifts) to Minors Act. You can set up an account at a bank of brokerage firm in the name of and using the Social Security number of a minor child. The income from that account is income taxable to the child. You name an adult as the Custodian of that account. The child does not have access to the account until they are 18 or 21 years old, depending on local statute, then it's theirs free and clear. Amounts in UTMAs are considered part of the Custodian's estate, however.
Will - A will is your set of written instructions signed by you that say how you want your estate settled and other legal instructions. You name a personal representative to carry out your last wishes. You must sign the will. Your signature must be validated, either by a probate judge or by two witnesses. You must be at least 18 years of age and legally competent. The will should be dated. The last dated valid will prevails over previous wills. If you die without a will (intestate), Minnesota state law will be your default will.