National Association of Estate Planners and Councils

July, 2007 Newsletter
Provided by Leimberg Information Services

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Goldman - Important Pecuniary Bequest Issue

We just sent you a "LISI" FLASH on Supreme Court Cert in Rudkin by Carol Cantrell and Pete Rubin dealing with a very important estate administration issue.

 

So I thought this follow-up by Jeff Pennell on another important estate administration issue was timely:

 

Here's a quick test:

 

Imagine an estate worth $1.9 million on the date of the decedent's death, that grows to $2.2 million before termination.

 

The decedent's will calls for a formula credit shelter pecuniary bequest of the largest amount that will pass free of tax and leaves the residue of the estate to a marital deduction trust.

 

At death the applicable exclusion amount sheltered by the unified credit is $2.0 million dollars, which exceeds the federal estate tax value of this estate by $100,000.

 

Here's the question:

 

At the end of estate administration, on distribution, to whom does the $2.2 million pass?

 

Emory University School of Law Professor Jeff Pennell, author of WEALTH TRANSFER PLANNING AND DRAFTING (West 2005), FEDERAL WEALTH TRANSFER TAXATION (West 2004), the classic ESTATE PLANNING provides LISI members with the Goldman court's first impression answer to this abatement issue – and his views on that result.

 

EXECUTIVE SUMMARY:

 

In re Estate of Goldman is not a tax case. But it addressed that timing question as a matter of abatement law of first impression in Arizona (a Uniform Probate Code state) "and possibly the nation as a whole." When do we determine whether (or the extent to which) the pre-residuary credit shelter bequest abates?

 

According to Goldman the proper time is when distribution is made, meaning in the hypothetical above that the pre-residuary credit shelter bequest would receive a full $2.0 million, because growth during administration precluded abatement entirely, and the added $200,000 of growth would remain as marital deduction residue.

In so holding the court rejected the estate's argument that delay in administration should have no impact on the entitlement of estate beneficiaries — a rule otherwise (such as the one the court adopted) puts the personal representative in an untenable situation: Accelerate distribution and the pecuniary bequest abates to $1.9 million, the legatee takes the entire estate, and any subsequent appreciation therefore belongs entirely to the pre-residuary legatee; delay distribution and the pecuniary legatee can be made whole but any excess value goes to the residuary beneficiaries.

 

MORE FROM JEFF PENNELL TO FOLLOW.  BUT FIRST, EDITOR ANDY DeMAIO ISSUES A LAWTHREADS ALERT!

INCOME TAX ASPECTS OF CHARGING ORDER

Mark Merric and William Comer just defined and commented on charging orders in LISI Asset Protection Planning Newsletter # 107Andy DeMaio now provides us another dimension to the issue.

If a creditor obtains a charging order against a debtor's interest in a partnership (or LLC taxed as a partnership), who is taxed on that debtor's share of income from the entity?  Practitioners offer their views and cite literature, challenging some commonly held notions about charging orders against FLPs and FLLCs.

To read this and other recent LawThreads reports, log in at http://www.leimbergservices.com.  Once you've logged in, click the blue LawThreads button under Recent Entries.

NOW BACK TO JEFF PENNELL WHO TELLS US THERE MAY BE (FOOLS" GOLD(MAN) IN THEM THAR HILLS!

FACTS:

 

The decedent's estate had a value of $1.9 million on the date of the decedent's death.

 

By the date of termination, the estate had increased to $2.2 million.

 

The decedent's will provided a formula credit shelter pecuniary bequest of the largest amount that will pass free of tax.

 

Any residue was to pass to a marital deduction trust.

 

At the decedent's death, the applicable exclusion amount sheltered by the unified credit was $2.0 million dollars ($100,000 greater than the federal estate tax value of the estate).

 

On distribution at the end of estate administration to whom does the $2.2 million pass?

 

COMMENT:

 

CLASSIC WISDOM – DEATH OF DEATH DETERMINES ENTITLEMENTS:

 

Classic wisdom is that estate entitlements are determined at the decedent's date of death, meaning in this example that the pre-residuary general bequest would be reduced by abatement to $1.9 million and, under classic estate administration rules, delayed distribution of the pre-residuary general bequest would entitle that legatee to interest, typically determined at a statutory rate, usually after a statutory date (such as one year after the date of death). Otherwise, growth during administration of the estate would belong entirely to the residue.  If statutory interest did not consume the full $300,000 of growth in the hypothetical, the remainder would constitute a residue that essentially did not exist at the date of death.

 

The notion that a residue can exist at the date of distribution albeit none existed at death is disconcerting to some who understand classic abatement doctrine, because the priority of abatement holds that a residue abates before general bequests abate. Under that priority, at the date of death in this example, there was no residue to receive the growth that occurred during administration.

 

THEORY THAT PRE-RESIDUARY GENERAL BEQUEST MORPHS INTO RESIDUE:

 

Indeed, some observers want to argue that the pre-residuary general bequest in this case would morph into or become the residue when it was determined at the date of death that the pre-residuary general bequest exceeded the full value of the estate at the date of death.

 

That also is not correct, and the court did not hold that all the postmortem appreciation belonged to the general legatee. (The primary significance of alleging a metamorphosis is to avoid income tax gain or loss consequences that normally would apply in funding pre-residuary entitlements, such as the $2.0 million bequest in the hypothetical.)

 

STRANGE BUT TRUE:  WHAT WAS     NOT REALLY IS:

 

The notion that a residue that did not exist at death can exist at termination of an estate is not really a curiosity. Using these hypothetical facts, imagine that one estate is worth $2,000,001 at death, another only $1,999,999. There is no reason to suggest that $200,000 of postmortem appreciation would belong entirely to the residue in the first case and that there would be no residue whatsoever in the second. In both cases it should be the case that postmortem appreciation that exceeds interest payable on preresiduary entitlements goes in the same direction.

 

WHERE DOES ACCESSIONS LAW FIT INTO THE PICTURE?

 

One other reality that suggests error in Goldman is the existence of accessions law that informs entitlement to postmortem changes in an estate. The basic rule is that growth — be it income, interest, dividends, stock-on-stock splits, the birth of offspring to a herd, or whatever — belongs to the beneficiary of a specific bequest as if that beneficiary became the owner of the income producing or growing asset at death.

 

Similarly, interest payments on delayed distribution of general bequests reflects the same logic applied to the reality that a general bequest is not particularized — there are no specific assets to which the beneficiary is entitled — so it is not possible to track the actual income or growth (accessions) on assets postmortem as belonging to the general legatee.

 

But the notion of an entitlement to interest is that the legatee became entitled to the bequest at death and interest is the closest we can come to allocating postmortem earnings to that legatee.

 

MY BOTTOM LINE:

 

The flip side of each form of entitlement at the moment of death is that, if the estate was inadequate at death, the entitlement itself failed — the general bequest abated — at the moment of death, and postmortem appreciation cannot reverse that abatement result.

 

In this regard, the Goldman court decision will inappropriately alter that basic proposition -  if it is not reversed on appeal.

 

HOPE THIS HELPS YOU HELP OTHERS MAKE A POSITIVE DIFFERENCE!

 

Jeff Pennell

 

Edited by Steve Leimberg

 

CITE AS:

 

Steve Leimberg's Estate Planning Newsletter # 1142  (June 26 , 2007) at http://www.leimbergservices.com 

 

Copyright 2007 Leimberg Information Services, Inc. (LISI).  Reproduction in Any Form or Forwarding to Any Person Prohibited - Except With Specific Permission.

 

CITES:

 

In re Estate of Goldman, 2007 Ariz. App. LEXIS 88. 

 

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