Research by two economists has alerted the financial services industry, government, and charitable organizations to the largest inter-generational transfer of assets in history, based on Census, Department of Commerce and IRS information.

Cornell University professors Robert Avery and Michael Rendall collected and analyzed demographic and economic data, leading them to an astonishing conclusion: Over $12 trillion dollars is in the hands of America’s mature population - the parents of the baby boomers who were born between 1946 and 1964.

The transfer of this accumulated wealth is likely to be the largest between generations that will ever take place, after adjustment for population growth and inflation. Several reasons explain the high-total dollars:

The result is that many parents have continued to add to net worth instead of spending down their assets - whereas in the past, it was fairly common for parents to become a financial burden to their children.

LINKING ESTATE PLANNING DECISIONS TO WEALTH TRANSFER

The projected timing of the wealth transfers is based on the work of Avery and Rendall as reported in the June 1994 issue of "Institutional Investor." It shows their projections of assets available annually for transfers at the death of the parents of the baby boomers.

During the prime period for financial and estate planning that we have now entered, the following currently available tools and techniques, particularly suited to those with high income/high asset totals, should be kept in mind.

A CRT can produce as many as three separate tax savings for a family. The first is an income tax charitable contributions deduction for the grantors of the trust, based on age, interest rate and income options. The tax deduction allowed and the resulting tax savings are greater for older donors.

When long-term capital gain property is used to fund the trust, the second savings come from the avoidance of the capital gains tax. If the assets would otherwise be sold for market reasons, avoiding the gains tax further reduces the net cost of the transfer; this, in turn, improves the effective rate of return. The trust itself is not subject to capital gains tax when it sells assets to reinvest proceeds more favorably.

The third possible tax savings is a reduction of estate taxes at, for example, the second death of a married couple when the marital deduction is no longer available. The value of the charitable remainder is not part of a taxable estate.

An irrevocable charitable remainder trust can be especially useful to grantors when it makes feasible the diversification of a single, large stock holding, without capital gains taxation.

Another use of a charitable remainder trust is to shift from equities with a modest return and market risk to fixed income investments at higher returns, which may be more comfortable for some older investors. The switch can be made with no erosion of principal from imposition of a capital gains tax.

Life insurance has always been a key element in estate planning. Its primary uses have been to provide an "instant estate" for young families without accumulated wealth, to increase the total estate at a favorable cost, and to provide liquidity for estate taxes and other costs.

In recent years the greatest increase in the use of life insurance as part of philanthropic plans, has been not to provide a direct gift to a charitable organization, but rather to provide death benefits for heirs which replace the asset values that have been given by other means to charitable organizations.

In its simplest form, a significant outright charitable gift may produce enough income tax savings for the donor to purchase additional life insurance where death benefits equal the after-tax amount the heirs would have received had the asset been left in the estate. For a married couple, a two-life, second-to-die policy can offer the most coverage per premium dollar.

When the donors’ estates are in the taxable range, ways to keep death benefits from the policy out of the estates should be considered. If one or two responsible adult children are the primary heirs, the most direct method is to make them owners of the policy or policies. Annual gifts within the gift tax exclusion amount ($11,000 per recipient, or $22,000 if a husband and wife join in the gifts) can be made to cover the owners’ premium costs. The annual exclusion is now subject to indexing.

For multiple heirs, an irrevocable life insurance wealth replacement trust may be the preferred policy, typically with a bank trust department or trust institution as trustee. An individual may also be trustee. By giving beneficiaries of the policy, the temporary right to draw out any contributions to the trust ("Crummey powers"), and the gifts for their benefit are considered present interests that qualify for the annual gift tax exclusion. Trusts have the additional benefit over individual ownership of asset protection (i.e., protection from creditors.)

Wealthy families with high incomes may wish to offset major charitable distributions at death. Transfers to the trust to cover the insurance costs can be sheltered from gift tax by lifetime use of unified estate and gift tax credits.

The distinguishing feature of a charitable lead trust is that the income interest belongs to one or more charitable organizations and comes first or "leads." The future remainder interest irrevocably benefits one or more individual heirs. It is, therefore, the opposite of a charitable remainder trust.

Lead trusts can play an important role in larger estates. When it is feasible, passing a portion of wealth intended for children or grandchildren can be delayed until a later date. Lead trusts can actually accelerate inheritance by children or grandchildren when funded during the donor’s lifetime. Of course, the donor must be willing to give up the assets during his or her lifetime and pay any gift tax due on the transfer of assets to the trust. For a set intervening period of years or the lifetime of an individual, a specified flow of income must go to one or more qualified charitable organizations. The present value of that flow is subtracted from the taxable value transferred to the young heirs. Another advantage is that the amount finally received by heirs can grow without additional transfer taxes resulting.

The reduction in the taxable valuation is even more beneficial under this combination of circumstances: the charitable lead trust used for the future benefit of grandchildren or great-grandchildren is in the form of a unitrust. (A fixed percentage of the yearly value of the trust is paid to charity.) These amounts could otherwise be subject to the generation skipping penalty tax - in addition to the estate and gift taxes!

Published reports on the estate plan of Jacqueline Kennedy Onassis indicate the use of a 24-year charitable lead trust. Two writers on gift planning each estimated the estate tax charitable deduction was 96.8% of the funding amount - a major savings.

The QTIP (qualified terminable interest property) trust was created by Congress primarily to enable an affluent spouse to provide full support for a surviving husband or wife, with the trust qualifying for the marital deduction in the first estate without giving the survivor the power of appointment over the trust assets.

QTIP trusts can be useful when each spouse owns substantial assets and has separate family obligations.

By law, if QTIP status is elected, all income from the trust must be paid to the surviving spouse, and all assets remaining in the trust must be included in the estate of the beneficiary spouse. There is no limit on the degree of access to principal provided by the trust agreement, since the entire amount in trust qualifies for the marital deduction.

It seems unlikely that drafters of the bill had in mind the possibility of a QTIP trust with a charitable remainder, instead of individual heirs desired by the grantor. However, charitable remainder QTIP trusts can work well when (1) total assets of a couple exceed the amount of the combined Unified Credit amount ($1MM each in 2002) , (2) the owning spouse or spouses have charitable interests, and (3) they feel that individual inheritances totaling the amount of the combined Unified Credit amount are sufficient.

When both spouses have assets and separate charitable interests, the estate plan of each can include a charitable remainder QTIP trust that, for whichever spouse is the first to die, will provide maximum support for the survivor while assuring the personal charitable objective. QTIP trusts can be combined with a marital share or other trust also qualifying for the estate tax credit of the first spouse to die. By such plans, all or any portion of combined assets in excess of $2 million can avoid the estate tax.

A sophisticated planning option is to place assets most desirable for retention by heirs in the marital share and credit shelter trust of an owner spouse. Assets less likely to be desirable for retention are placed in charitable remainder QTIP trusts that provide for invasion of principal if needed.

The new 2001 tax bill, H.R. 1836, was recently passed and it will increase the unified credit amount as follows:

In the past, a very important part of estate planning was planning for maximizing the use of the unified credit exemption and the proper titling of property to do so.  The new tax law will reduce the number of people who will be subject to estate tax.  Those people with significant assets still need to plan carefully to minimize potential taxes until (and if) the estate tax is finally repealed ten years from now.