Transcript Tools & Techniques of Estate Planning

Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
What is a Power of Appointment?
• A right given in a will, trust, or other instrument by
one person (donor) to another (donee/holder)
allowing the holder to name the recipient
(appointee) of the donor’s property at some future
time
• It’s the right to dispose of someone else’s property
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Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
When is a Power of Appointment Used?
• When flexibility, avoidance of family conflict, and
tax-savings are considerations
• When estate owner would like another person to
decide:
– Who should receive trust property
– How much income or principal should be allocated to any
given individual
– When principal or income should be paid out
• When estate owner does not know what the future
needs of intended beneficiaries will be or how
many beneficiaries he will have
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Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
When is a Power of Appointment Used? (cont’d)
• When an estate owner desires to qualify assets for
the marital deduction and still maintain the right to
designate who will receive the property if the
spouse does not exercise the power
– Power of Appointment vs. QTIP Trust
• When assets in trust would otherwise be subject to
generation-skipping transfer tax upon a taxable
termination of the trust
• Annual exclusion Crummey withdrawal right
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Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
Requirements
• No “magic” words or phrases required
• Examine whether words used in a will or trust
manifest an intent to create a power
– Power to invade or consume trust corpus = power of
appointment
– Power to affect beneficial enjoyment through altering,
amending, revoking, or terminating a trust = power of
appointment
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Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
Exercise of Power
• Specific language used in will exercising the power
of appointment
– Testamentary power: exercisable only by will at holder’s
death
• Holder mentions powers as part of a general
devise or bequest
• Unintended exercise in residuary clause
– General reference to powers of appointment
– Consider requiring exercise of power by a separate
document other than a will
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Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
Release vs. Lapse
• Release: formal statement that holder is giving up
power
• Lapse: termination of a power without exercise
Note:
Exercise, lapse, or release may have tax consequences
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Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
Tax implications
• General Power: No restrictions on powerholder’s
choice of appointees
– Powerholder may appoint property to himself, his creditors,
his estate, or the creditors of his estate
• Includes satisfaction of legal obligations of powerholder
• Includes withdrawal powers
• Exceptions
– De minimis $5,000 or 5% lapse of power
– Power exercisable only with consent of creator of power or
person with adverse interest
• Person who will lose something if power is exercised
– Power limited to ascertainable standard for health,
education, maintenance, or support of the powerholder
(HEMS)
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Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
Tax Implications (cont’d)
• Special or Limited: Powers with certain restrictions
– In general, a power other than a general power
– Power to appoint to anyone other than powerholder, his
creditors, his estate, or the creditors of his estate
– For example, power to appoint among children of
powerholder
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Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
Tax Implications (cont’d)
• Income Tax
– Powerholder with general power may be treated as owner
of all or part of trust
• No de minimis $5,000 or 5% lapse of power exception
• Estate Tax
– Property subject to general power includable in estate
– Property subject to limited power not includable in estate
unless power exercised in such manner that transferred
property would have been includable in powerholder’s
estate if powerholder had been owner (e.g., retained life
estate)
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Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
Tax Implications (cont’d)
• Gift Tax
– Lifetime exercise of general power is gift if exercised in
favor of someone other than powerholder
– A release or lapse of general power is gift
• De minimis $5,000 or 5% lapse of power exception
– Can disclaim a power of appointment
• Generation-Skipping Transfer Tax
– Exercise, release, or lapse of general power is subject to
GST tax
• De minimis $5,000 or 5% lapse of power exception
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Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
5 or 5 Power
• De minimis rule: The lapse of a general power of
appointment is not treated as a release of the
power to the extent of the greater of :
– $5,000 or
– 5% of the total value of the fund subject to the power as
valued at the time of lapse
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Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
5 or 5 Power (cont’d)
• Stated another way: To the extent that a lapse of
a general power within a calendar year exceeds
the greater of $5,000 or 5% of the assets subject
to the power, the excess is treated as a release
of general power and taxed accordingly
Note:
To ensure limits are not breached, the right of invasion
must be made noncumulative
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Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
5 or 5 Power (cont’d)
Example:
Jamie Gordon was the income beneficiary of a trust with
assets of $80,000. She had a noncumulative power to
withdraw $10,000 of principal each year, which she did
not exercise. At the expiration of each year Jamie is
deemed to have released a general power to the extent of
$5,000.
Lapse
$10,000
minus
- $ 5,000 (the greater of $5,000 or 5%)
Release
$ 5,000
Note: 5% of $80,000 trust assets = $4,000
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Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
Community Property
• A community property agreement may cause
both spouses to have a ½ undivided interest in a
power of appointment, resulting in a gift
– No federal gift tax, unlimited marital deduction
– Check state gift tax rules
• Special or limited powers may grant each
spouse an undivided interest without any gift
involvement
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Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
Rules Against Perpetuities
• The measuring period under the rule against
perpetuities relates back to the creation of the
power
– 21 years and nine months from the lives in being at the
time the power was created
– The power is void unless it must vest within the
appropriate period
– In some states, the interest will be valid unless it does
not actually vest within the appropriate period
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Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
Hanging Power
• Cumulative power in the beneficiary to appoint any
lapsed property in excess of $5,000 per year by will
at death
• Avoids lapse of excess amount by permitting the
holder to exercise it in the future
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Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
Hanging Power (cont’d)
• Withdrawal power up to the 5 or 5 limitation lapses
in any given year. The excess withdrawal power is
carried over to future years. In future years the
carried-over withdrawals are lapsed to the extent of
the 5 or 5 ceiling.
• Unresolved problems in use
– withdrawals can be sizable
– unused withdrawals included in estate tax
– if use life insurance, premiums paid through life of policy
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Power of Appointment
Chapter 10
Tools & Techniques of
Estate Planning
Hanging Power (cont’d)
Example:
Year
2009
2010
2011
2012
2013
2014
2015
Gift
$13,000
$13,000
$0
$0
$0
$0
$0
Withdrawal
Powers
$13,000
$21,000
$16,000
$11,000
$6,000
$1,000
$0
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Lapses
$5,000
$5,000
$5,000
$5,000
$1,000
$0
$0
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