INDUSTRIES

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is 2012 the Last Great year to Preserve Your WEalth?

by Norm Pendell, Partner, Wealth Services Group, and Trace Skopil, Partner, Construction Group

Estate planning: If you’re like a lot of people, you tell yourself you’ll get to it when you can. Besides, an estate plan is something only wealthy people need, right? And you already have a will in place. Isn’t that enough?

No and no, as it turns out—especially for business owners and many executives in the construction industry. Given the challenges the industry has faced over the past few years, you might think you have less wealth to protect and you don’t need to plan. But the reality is, even if you don’t perceive yourself as wealthy, it’s extremely worthwhile to try to protect the wealth you do have. And now is the time to get started.

Why? Because the window for exceptionally favorable wealth preservation rules will soon close. Over the next 10 months, you have an unprecedented opportunity to keep more of your hard-earned wealth—and give less to the IRS. This is thanks to generous estate and gift tax rates and exemptions that, barring an extension by Congress, will expire on December 31. (See table below.)

So this year it will pay, quite literally, to make estate planning a priority. If you haven’t updated your estate plan recently—or if you haven’t created one in the first place—let’s take a look at the steps for doing so.

Getting Started

Your estate plan should be as unique as the people it aims to protect, including you. It should ensure your assets are distributed as intended while minimizing costs and aggravation. Here are a few basic questions to consider:

• If you already have a will or estate plan, does it fit your current financial and personal situation? It may not if there have been significant changes in your finances, work, family, or relationships in the past few years.
   
• Does your estate plan leverage current tax rates effectively? The planning you do now could result in significant tax savings for your heirs. For example, through 2012 you can gift up to $5 million with no current cash outlay for taxes. Any amount over that level will be taxed at 35 percent. In 2013 that ceiling drops to $1 million, and tax on amounts over that low threshold will instead be assessed at a 55 percent rate. For a $5 million gift, that means you’d pay nothing in out-of-pocket tax costs in 2012 compared with a hefty $2.2 million on the same amount in 2013. In addition, income tax rates on ordinary income and capital gains are also scheduled to increase dramatically in 2013, making it all the more important to begin exploring strategies sooner rather than later.
   
• Do you live in a state that doesn’t currently assess gift taxes? Oregon, Washington, and many other states don’t, but they do assess a significant death tax. Thus, if you make lifetime gifts, you could pay no state transfer tax on them, since gifts aren’t “added back” in the computation of state death taxes.
   
• Have you charted the flow of assets to your beneficiaries? The distribution of some assets is determined by asset title or beneficiary designation, rather than a will. For example, a bank account titled Joint Tenant with Right of Survivorship passes to the surviving joint account holder, regardless of what your will says. A retirement account or life insurance passes to the beneficiary you designate. However, what can happen is one of your beneficiaries may receive a larger (or smaller) inheritance than you intended. So it’s important to check how assets will flow to ensure they’re distributed as you intend.
   
• What basic documents do you need? First, you’ll need a will to set forth executors and trustees and the distribution of your assets. Second, you’ll need a power of attorney to identify someone to manage your financial affairs in the event you can no longer do so. Third, you’ll want a health care directive to identify someone to make medical decisions if you’re incapacitated. Fourth, a living trust may be appropriate in some situations. Other documents may come into play as well, depending on your goals.

Building Your Plan

The estate plan documents you adopt will likely involve two types of trusts. First, a credit shelter trust, which includes assets equal to the lesser of your estate value or your available federal exemption, is formed. Second, a marital trust for the excess will accept the balance of your estate as transfers to the surviving spouse, tax free. You’ll likely want to structure your estate documents to take advantage of the current federal exemption of $5 million while ensuring there are no state inheritance taxes due on the first death by using a “state only” marital trust for the difference in exemptions.

Knowing you can take advantage of the current gift tax exemption to give away greater amounts of your assets, you may feel inspired to consider gifting. There are many gifting strategies to choose from, but they can be complex and time-consuming to arrange. Be sure to allow yourself ample time to plan and execute.

Should you risk waiting until 2013 to see whether Congress renews the current gift tax rates and exemptions? You could. But for most, the potential tax savings now are simply too significant to ignore, and gifting assets to your children this year might make more tax sense than waiting. Of course, parents should make it a priority to take care of themselves before giving significant gifts, since no parent wants to burden his or her children later on.

Many other planning techniques can be beneficial depending on your situation. Consulting with your estate planning professional may give rise to using one of a number of tax-saving and asset-protection tools.

Special Estate Planning Considerations for Business Owners

One often overlooked aspect of estate planning involves what’s likely your largest asset: your business. Do you have a succession plan in place for it? A plan helps answer such key questions as:

• Who will run the business after you?
• Who will own the business after you?
• When should you transition ownership and control to the next generation, whether key employees, family members, or both?
• How, exactly, will you structure the transfer of your ownership interests?

As owner, you need to ensure your estate plan is closely aligned with your business succession plan. If the company is to continue without you, a well-coordinated plan can provide for a smooth transition for employees and minimize potential work disruptions.

Estate and succession planning are both much more effective when planning takes place several years before the transition occurs. In almost all cases, the survival of the company depends on a succession plan and estate plan designed long before the owner actually leaves.

And remember: Estate tax is generally due nine months after death, and more often than not it eats up 50 percent of your estate’s value. This can severely impact your company’s cash flow, and many heirs have been forced to sell assets—or even the entire company—to pay estate taxes.

Finally, for most owners, valuation discounts are also an important factor in estate planning. When you transfer minority or fractional interests in your business holdings or real estate, the applicable discounts can produce dramatic transfer tax savings.

Conclusion

You’ve worked hard to get where you are, and preserving what you’ve earned—to finance your retirement, to benefit heirs, or to leave a wealth legacy—is a worthy goal. Your ability to keep more of what you’ve earned relies on understanding the estate and gift tax landscape and coming up with a plan to navigate it effectively. The result? You—and your heirs and your construction business—end up better prepared to face the future.

Norm Pendell advises closely held businesses on matters related to ownership transition, succession planning, business valuation, financial management, and strategy formulation.

Trace Skopil provides accounting, auditing, general business, and management consulting solutions to a wide range of construction businesses