Effective January 1, 2016, the Tennessee inheritance tax has been repealed, based on a law that was enacted in 2012.  The repeal does not help individuals who died in 2015.  They are still subject to the tax.  It only helps families of decedents who die this year or later. 

What is the effect of the repeal?  First of all, the maximum estate tax rate for decedents who are above the federal estate tax exemption (currently $5,450,000) will only be 40%, rather than approximately 46%.  Even though this represents a significant reduction, I see little impact on whether you implement strategies to avoid federal estate taxes.  40% is still a steep rate and most of our clients want to take reasonable measures to minimize or eliminate the federal estate tax. 

The repeal will affect the design of documents prepared for our married clients.  For many years, our documents have created two credit shelter trusts, a typical credit shelter trust (often referred to as a “Family Trust”) for the amount of the Tennessee inheritance tax exemption, and a second trust (sometimes referred to as a “Tennessee QTIP Trust” or a “Tennessee GAP Trust”) equal to the difference between the federal estate tax exemption and the Tennessee inheritance tax exemption.  In 2015, this formula resulted in $5,000,000 going to the Family Trust and $430,000 going to the Tennessee QTIP Trust.  Fortunately, we can now place the entire federal estate tax exemption, currently $5,450,000, in the Family Trust and will not need a Tennessee QTIP Trust.

Do you need to modify your current documents that contain Tennessee QTIP Trust provisions?  In most cases, the answer is no.  The funding language for the Tennessee QTIP Trust will not apply since there is no Tennessee inheritance tax.  Feel free to modify your documents if it bothers you to have unnecessary language in your Will; however, my advice is to wait until you need to make a change for other reasons. 

A few surviving spouses have asked us whether they can eliminate a Tennessee QTIP Trust that was established by a spouse who died prior to 2016.  Unfortunately, it is not possible to merge the Tennessee QTIP Trust into the Family Trust.  The Tennessee QTIP Trust will still avoid federal estate taxes upon the surviving spouse’s death.  Thus, as a general rule, my advice is to maintain the Tennessee QTIP Trust.  If the surviving spouse’s estate has declined below the federal estate tax exemption, then it might be acceptable to liquidate the Tennessee QTIP Trust in whole or in part. 

The repeal of the Tennessee inheritance tax is a welcome change.  Most individuals do not need to make any adjustments to their estate planning documents or planning in light of this change.

There have been very few cases involving decanting, a technique that allows the trustees of an irrevocable trust to distribute the assets of the trust to a second irrevocable trust with different terms.

In the attached case, Matter of Schreiber, the New York Attorney General tried to overturn a decision made by the Trustees of a Minor’s Trust to decant the assets of the Trust to a Special Needs Trust prior to the beneficiary’s 21st birthday.  The Special Needs Trust allowed the beneficiary to qualify for Medicaid benefits in New York.  If the Trustee had not decanted the Trust assets from the Minor’s Trust, the beneficiary would have been able to withdraw the Trust assets upon his 21st birthday and would have been ineligible for Medicaid.  The Court analyzed the decanting statute in New York (which is very similar to the statute in Tennessee) and concluded that the Trustee’s exercise of the decanting power was valid under New York law.

If you are a Trustee of a trust for a minor or young adult that will be terminating in the near future, you should consider decanting the trust to a different trust to maintain eligibility for government benefits or to otherwise protect the assets from the numerous bad things that can happen to money placed in the hands of a young adult.

Family limited partnerships (or LLCs) are often used to obtain valuation discounts for estate and gift tax purposes. Appraisers typically conclude that the fair market value of an interest in a family limited partnership (“FLP”) is at least 35% less than the value of the assets owned by the FLP.

The IRS dislikes these discounts and has successfully challenged the discounts in several court decisions. As a general rule, the taxpayers were "sloppy" in the cases that the IRS has won. Errors were made either in funding, distributions, or record keeping.

When the FLP is properly funded and administered, taxpayers are able to substantiate the discounts. For every case in which the IRS has successfully disallowed discounts, there are many others where the court approved a discount or the IRS agreed to a discount without going to trial.

A case in point is the recent Rayford L. Keller et al v. United States decision. Mrs. Williams was in the hospital, dying from cancer. Six days before her death, she signed documents to establish an FLP to be funded with $240 million of bonds and $10 million cash.

The assets were not transferred to the FLP until one year after she died. Nevertheless, the Court ruled that her family was entitled to a 47.5% discount on the value of the bonds and cash that were transferred to the FLP.

I do not recommend waiting until death is imminent to establish an FLP. It is far better to establish the FLP when you have several years to live, and then to make gifts or sales of FLP interests when that is appropriate.

Detailed summary of Keller case by Steve Akers of Bessemer Trust Company, N.A.

Several of my clients are concerned about passing on too much money to their children. They fear that a large inheritance will inhibit their children from reaching their full potential.

One of my clients noticed a positive change in her children after informing them that her Will leaves all of her considerable fortune to charity. Her children now understand the need to become productive citizens if they intend to enjoy a comfortable lifestyle.

A handful of my clients have taken this approach of giving everything to charity, and nothing to their children. Others put a cap on the amount of the inheritance, for example $4 million per child.

Another approach is to leave the child’s inheritance in a trust that makes matching distributions to the beneficiary based upon a percentage of the beneficiary’s earned income. This type of trust is sometimes referred to as an Incentive Trust.

You will have to decide for yourself whether you might be doing harm to your child by leaving them a large inheritance. In my experience, a person’s “work ethic” has been fairly well determined by the time he or she attains age 30. If they already have a good work ethic when they receive their inheritance, they do not become lazy or irresponsible.

On the other hand, attempts to motivate lazy children through a meager inheritance or a restrictive trust have generally been unsuccessful. I have concluded that a person’s work ethic is more heavily influenced by their upbringing, especially the example set by their parents, than it is by the amount or structure of their inheritance.