Paul L. Caron

Monday, May 13, 2019

An Old Tax Dodge For The Wealthy Is Making A Comeback: 'Upstream Planning'

Barron'sBarron's, An Old Tax Dodge for the Wealthy Is Making a Comeback:

Advisors are dusting off an old tax-savings strategy after it got an enormous boost under the new tax law, enabling taxpayers to wipe out massive potential tax obligations on appreciated assets.

The maneuver is simple: You give a highly appreciated asset—such as stocks that have gone up in value—to a parent or trusted elder, with the understanding that it will be bequeathed back to you. At that point, it gets a step-up in cost basis—which means you can sell the shares immediately without owing any tax on the gains it accumulated since you initially bought the stock.

The key to the renewed interest in this strategy—called “upstream planning” because the assets initially flow from the younger generation to the older—is the new tax law, which doubled the amount anyone can give away in assets, while alive or after death, to $11.4 million. The exemption can be used to shield your estate from taxes upon death or during your lifetime to make tax-free gifts—such as appreciated assets using upstream planning. ...

“People [previously] didn’t want to use up their estate tax exemption, but the whole paradigm has shifted because of this new high exemption amount,” says Jere Doyle, an estate planning strategist at BNY Mellon Wealth Management. “When they doubled the exemption, everyone thought they’d do away with the step-up in basis at death, but that didn’t happen. So this creates a huge opportunity for taxpayers.”

Easy as this strategy sounds, there are a few caveats.

Be sure that the elder to whom you pass appreciated assets is also not concerned about being subject to the estate tax. “For this to work both parties have to be under the estate-tax exemption,” [Steve Parrish, adjunct professor of advanced planning at the American College of Financial Services,] says. “You don’t want your gift to increase your parents’ estate tax.”

If the elder dies within the first year of receiving your gift, the IRS will frown upon the transaction as a deathbed deal without any purpose other than to avoid taxes, and the transaction will be unwound, Doyle says [Section 1014(e)].

Also, be sure you wholly trust the elder to whom you’re gifting your assets. Parrish points out that after you transfer them your assets, you no longer control them, so your parent has the right to bequeath them to someone else. “If you’re that business owner trying to save $180,000 in taxes, but your dad lives for a long time, divorces, and leaves the business to someone he met in the retirement home—well, that would be a shame,” Parrish says.

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