Retirement Planning and the Election

Now that Democrats have swept into Congress, what does this mean for your high-net-worth clients? It’s hard to say, but if the party’s six-point agenda is any indication (which called for everything from “better American jobs and better pay” to “affordable health care and life-saving science”), you had better brush up on your trust-creating skills.

Now that Democrats have swept into Congress, what does this mean for your high-net-worth clients? It’s hard to say, but if the party’s six-point agenda is any indication (which called for everything from “better American jobs and better pay” to “affordable health care and life-saving science”), you had better brush up on your trust-creating skills.

Some are hoping for gridlock, where the two parties will wrestle each other to a standstill. But many advisors are calling high-net-worth clients and telling them that they can no longer put off estate planning to see if the repeal of the estate tax is going to be made permanent. It won’t. Well, probably not. And that $2 million per-person estate-tax exclusion you and your clients hoped would be raised to $5 million? Nah. Not gonna happen, either.

Quite the contrary: There is a good chance that income-tax rates on higher incomes could be raised, too. (Think about this lefty lineup that will most like be running the 110th Congress: Nancy Pelosi as speaker of the House; Barney Frank in the chair of the House Financial Services Committee; and Charles Rangel as the top dog on the Ways and Means Committee.) The upshot: Time to call your high-net-worth clients and get working on trusts; but the important thing is to build in flexibility where you can, because there isn’t a clear sense of where Congress is headed.

“In our opinion, the new Congressional landscape likely will mean a somewhat less capital-markets friendly atmosphere in terms of legislative priorities,” said Bob Doll, vice chairman and global chief investment officer of equities at BlackRock, in a statement the day after the election. “In particular, we believe there will be a strong push for higher taxation levels in general, and on capital in particular (likely in the form of electing not to extend the tax cuts that are set to expire in 2010), which will be a source of concern for investors.”

When designing trusts, the key in this uncertain environment is to be flexible, says Jeffrey Cullen, an advanced planning expert at The Hartford. While “we’ve got to expect tax law to change,” you have to hedge, he says. You have to be ready to go either way, so, “avoid irrevocable trusts” if you can, he says. But if you can’t avoid them, build them with as much flexibility as you can, for example, giving the trustee discretion as to the amount and timing of principal and income distributions. And be sure your client remembers to take advantage of the annual $12,000 per-person tax-free gift before the end of the year, too.

Says one advisor in the Midwest, “I’d focus on charitable giving since clients are going to want to be very interested in giving it away (if the Democrats begin to roll out higher taxes).” Indeed, CRATs (charitable remainder annuity trusts) and CRUTs (charitable remainder unitrusts) will be particularly valuable retirement-planning tools. In these trusts, donations of property or money are given to a charity, but the donor—or grantor—continues to use the property and/or receive income from it while living. Not only does the client get to create a legacy, but he or she also sets up an income stream and gets a big savings on taxes.

Typically, the beneficiaries of a charitable remainder trust receive the income from the trust and the charity receives the principal after a specified period of time. The donated assets are not subject to capital-gains tax, and the donor gets an income-tax deduction for the fair market value of the remainder interest that the trust earned. In addition, the asset is cut out of the estate, reducing subsequent estate taxes. Here’s how they differ: CRATs pay a fixed dollar amount annually that is set when the trust is established. CRUTs pay a fixed percentage of the trust’s asset value annually, which is a hedge against inflation, but also an exposure to market risk.

Kimberly Wright-Violich, president of the Schwab Fund for Charitable Giving, says a general rule of thumb for charitable remainder trusts is that clients who would use them should have a net worth of $3 million or more. Fees on the instruments are usually negotiated three ways, between the client, the trustee and the financial advisor, but they typically range between 8 and 100 basis points, and many firms or trustees cap them at a certain rate.
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