Special Issues in Estate Planning

Written By: Stephanie R. Yates

“Incentives, Charitable Donations and the Estate Tax: Clarifications” by W. Beranek and D. R. Kamerschen (International Journal of Business, 2016)

In estate planning, a taxpayer must decide between giving to charity and giving to heirs. This paper develops a model for that decision in order to determine if the monetary benefits of giving drive this decision. This paper therefore tests the value of the federal estate tax and effectively the financial-incentives hypothesis.

The financial-incentives hypothesis suggests that taxpayers favor more donations as tax rates increase. Historically, researchers have pointed to this hypothesis, arguing that the federal estate tax encourages charitable giving due to the deductibility of donations from the taxable estate. By extension, researchers have historically argued that giving rates would decline if tax rates decrease.

Another factor in the giving decision though, is the ‘utility’ one receives from the gift. That is, giving makes people feel good regardless of the tax benefit. Thus, another possible driver of charitable giving is altruism.

Beranek and Kamerschen used a theoretical model based on the notion that net financial benefits to the estate are the difference between monetary benefits of the donation and the opportunity costs of foregoing the benefits of distributing the donated funds to heirs instead. They found that the benefits to giving actually decrease with increases in the estate tax rate. Thus, the primary driver of charitable giving is altruism and wealth as opposed to the tax benefit.

“What Do We Know About the Behavioral Effects of the Estate Tax?” by D. Joulfaian (Boston College Law Review 2016)

The article reviews literature on the behavioral effects of the estate tax and presents key findings. The literature shows that, with respect to saving, there is a negative correlation between wealth and estate tax rates, suggesting that the wealthy save less when tax rates are high. Studies of heirs suggest a similar trend where wealth declines with the size of inheritance. Other studies of heirs show a labor effect linking large inheritances with early retirement.

The article discusses other tax consequences regarding the choice between lifetime gifts and bequests. Tax treatment appears to be a significant factor in this decision. A 2005 study provides evidence suggesting that, without estate and gift taxes, gifts may decline by more than 64%. Further evidence on lifetime gifts shows that these transfers are highly responsive to changes in gift tax rates.

Despite some concerns over the measurements used, studies have estimated that a repeal of the federal estate tax would decrease charitable bequests from anywhere between 12 to 37%. The literature also shows the potential for a similar impact on lifetime contributions suggesting that lifetime contributions may decline by 12% in the absence of the estate tax.

There is also evidence that the estate tax influences when taxpayers realize capital gains. Based on observed behavior, it appears that some wealthy taxpayers realize capital gains in order to lessen the estate tax burden. A 2001 study suggests that, without the estate tax, capital gain realizations may decline by 30%.

Research also indicates a link between estate taxes and life insurance ownership. Here, the link is not between the tax and the demand for insurance but the form of ownership. That is, should the parent or the children own the policy? This is due to the fact that life insurance proceeds are subject to estate tax if owned by the insured. Evidence suggests that as tax rates rise, the form of ownership tends to revert from the insured to others.

“Premarital Agreements for Seniors” by P. Walzer and J. M. Riemer (Family Law Quarterly, 2016)

This article details the unique circumstances of seniors that may lead to a greater number of seniors needing premarital agreements than their younger counterparts. Estate planning factors are prominent in drafting premarital agreements. Older adults may have significant assets as well as heirs from previous relationships.

Both parties should consider whether or not to include the section called “Rights on Death of Party” in the agreement. At question is whether or not the party with the smaller asset base will be allowed to live in the family residence upon the death of the spouse.

Detailing how to settle assets between a surviving spouse and heirs is a prudent undertaking given that both spouses may have little or no working life remaining yet are expected to live for many years. This extended life expectancy on a fixed income with the potential for multiple heirs and even prior spouses makes detailed planning important. The article discusses the importance of a strong collaboration between the family lawyer and estate planner to ensure that the unique issues of the seniors are adequately addressed.

When drafting a premarital agreement for seniors, it is key for the lawyer and planner to consider the chances of the marriage ending with the death of a spouse may be greater than with younger couples. Therefore, special care must be given to various end-of-life issues such as estate taxes, disputes among heirs, Social Security, Medicare, etc.

Dr. Stephanie Yates earned her B.S. in Marketing, M.B.A. in Accounting and M.A. in International Economics from the University of Cincinnati. She earned her Ph.D. in Finance from Louisiana State University in Baton Rouge.