Family Financial Structuring

Following on from my Estate Planning Docs post.

Trust vehicles can be useful to your family and I will illustrate with a couple of stories.

First thing to remember => trusts work best if you set them up long before you “need” them.


Grantor Trust

Part One: Around the time I turned 40, I found myself in a situation where I had joint & several liability with a business partner who’d made poor choices. As fate would have it, these choices were made inside an insolvent group with over $100 million of borrowings.

Now, the banks were not going to be getting their money back by suing me but (even the remote possibility of) being wiped out late in life was highly unattractive.

Part Two: Long time readers will remember that I used to do bike-focused training camps with top age-group athletes. I would ride, on open roads, with doctors and CEOs who were completely exhausted. If an athlete was killed, or permanently disabled, then it would be easy to prove a large financial cost to their family.

As a business, we dealt with this risk through waivers, event-specific insurance and a family-level umbrella insurance policy.

When I added up the cost/time/worry of this approach it was expensive, even more so once I had my own family to protect.


Take the two parts together => I was working in two fields. The first field was similar to being a director/fiduciary of a company. The second field is similar to being a professional exposed to allegations of malpractice.

One day, I was talking to a tax accountant about what was going on in my life, and the changes that were expected in Estate Taxation. He recommended I speak with a local trust attorney.

An initial meeting showed me that the cost to set up a new structure would be the same as one year’s insurance bill. Because I have the skills to run the fiduciary aspects, the ongoing cost would be a fraction of what I was paying my insurance company.

Step One was setting up something called an Intentionally Defective Grantor Trust. From a layman’s perspective, I put my share of my house and rental property into a trust that benefits my spouse and kids. I retain the tax liability for the trust, for my life.

From my point of view, the main asset I am left with is my earning capacity, balanced against future tax liabilities. I’m a much less attractive target to any potential litigant.

From my family’s point of view, the trust is similar to an annuity, tied to my life. When I die, they can sell assets and/or move into a small rental property, while living off the rental income produced by the larger rental property.

The specifics are technical, there’s a bunch of tax considerations and you should take expert local advice.

This change gave me a more secure feeling than the insurance policies.

Over time, I exited the disaster-prone aspects of my life and that helped too.


Irrevocable Family Trust

I’ll illustrate with a recent example – my brother-in-law died and his balance sheet will flow into my wife’s family.

What follows isn’t what is going to happen, but it could have => check with an expert in your jurisdiction if this seems useful.

Here’s a story… assume Andy had a brother called “Dude” (he didn’t).

Andy had planned ahead and wanted to leave assets to Dude. However, Dude didn’t need the money, or Andy didn’t like Dude’s wife, or any number of reasons Andy might not want to support Dude’s personal balance sheet.

So Andy set up an Irrevocable Trust. Let’s call it The Dude’s Trust => Dude, and Dude’s descendants are the beneficiaries.

Andy then drafted his will, or his Living Trust, to leave everything to Dude, but gave Dude a specific power of appointment to nominate The Dude’s Trust in his place.

Before Andy dies, he would also have the ability to make gifts to The Dude’s Trust.

Did you see what happened? Andy was able to achieve what he wanted => money to Dude. Dude is left with a choice to inherit directly, or into a family trust.

In a world with an unknowable future, this is a valuable option.


The current Estate Tax Threshold is $11.58 million per individual, double for married couples. I’m far, far below that threshold.

However, that limit sunsets in 2025 and who knows what tax regime will be in place when I turn 75 (some time after 2040), or beyond 2080 when my kids age up.

I can imagine we shift to a regime I’ve worked with outside the US => deemed sale at death, zero personal exemption, no step-up in basis, the estate pays capital gains tax and the net flows to the beneficiaries of the estate. It’s simple and I like tax simplification.

In that scenario, trusts that were established prior to the change in rules could be grandfathered, particularly if they already own assets. To get around assets sitting in a trust “forever,” the IRS might create a rule for the deemed sale of trust assets, this rule exists in jurisdictions outside the US.

Even if everything stays the same… given the asset protection benefits of a trust, and the ability to “finance” the structure through reduced insurance payments, it made sense for my family.


This is not legal, tax or accounting advice – seek local experts.

Combination article, with chart, from 2013 is here.

Effective Wealth – Legal and Strategic Considerations

alvinIn my first piece on effective wealth, I laid out…

  • Individual wealth => 5 to 10 years cost of living
  • Generational wealth => 10 to 25 years cost of living
  • Multi-generational wealth => 25 to 40 years cost of living
  • Surplus (excess?) wealth => beyond 40 years cost of living

We hold our individual wealth in Living Trusts – these have the benefit of being fully revocable (assets in and out easily) and transparent to the IRS (easy for taxes and administration).

TIP – five years cost of living in a debt-free balance sheet will change your life and make you far less susceptible to corruption and influence. Once you hit ten years cost of living (in a debt free balance sheet) then you should consider cutting expenses and working part time. At a minimum, 5-10 years worth of wealth should trigger a sabbatical to consider personal wellness and how you allocate time.

Generational wealth is held in an irrevocable Grantor Trust that benefits my spouse and kids. I can’t get the assets back nor can any creditor or petitioner. In my lifetime, I retain the obligation to pay taxes on the trust as well as the ability to swap assets in/out for fair consideration. Admin is about the same as managing a partnership/LLC with similar assets/earnings.

TIP – once you are nearing 20 years cost of living in a debt-free balance sheet you are close to the breakout point where you can stop working, forever. Now is the time to shift towards personal wellness!

Multi-generational wealth – this is small part of my family balance sheet, because I followed my advice at each of the above segments. We use a Private Trust Company (in a state without income tax) that oversees a trust that benefits my descendants. We also use 529 (college) accounts.

TIP – the first time you realize that you might be making money for your adult children STOP and undertake a life review that focuses on how you allocate time and personal wellness.

+++

What does all this cost? Charging market rates for my work, I oversee the structure for less than $5,000 per annum. Living Trusts/Will were $5,000 to set up. Grantor Trust was $5,000. Private Trust Company and Family Trust was $10,000. These are Boulder, not New York, rates.

How does this give you peace of mind? My personal assets are the smallest of any adult in my family tree. By value, I own less than 1% of the above structure. I am free to give my family the gift of service.

I’ve said what needs to be said.

I’ve done what needs to be done.

I’m free to focus on loving those that love me.


 

The legal and tax consequences of an error in your family structure can be severe. Take expert, local advice. Nothing on this site should ever be considered professional advice.

Effective Wealth – Due Diligence Results

tulipsThis series started with a definition of effective wealth and a due diligence exercise for your family.

I’ll share the best tips that I received from my due diligence work:

A general liability umbrella policy can be an effective way to insure against ruin – in my life, hosting events (where athletes might die) was the source of my greatest liability. Due to my other insurance coverages, $5,000 per annum bought me $5,000,000 of coverage.

Have an expert read your insurance contract to ensure you’re covered for your key risks. I’ve reviewed draft policy documents that specifically ruled out the only reason I was buying the policy!

Paying $5,000 per annum got me thinking that there might be a better way to structure my life. There is a better way and I’ll share my family legal structure in a future post.

Hosting athletes is a low-margin business and my need for multiple insurance policies greatly reduced the profitability of the events. So I handed the events off and removed myself from their promotion and management.

In speaking with successful families, three things stood out.

#1 – the advice to share information widely and control the structure narrowly. As much as possible the family is involved and consulted on family matters. However, not more than two individuals from each generation are involved in governance. Write out the process for a family member to become a fiduciary, or trustee.

#2 – each generation must decide their own values. It’s impossible for elders of the past to influence third and fourth generation family members. The best tip here is a reminder that no matter what you do, what you decide, what you structure… there will be aspects of life that you find disappointing – in yourself, in your spouse and in your kids.

#3 – young family members should be given the opportunity to learn from mistakes early in life. No family member should be given the opportunity to bring down the entire family and individuals should experience the impact of their poor decisions.

Family Legal Structure

Was chatting with a doctor buddy and ran through a potential legal structure for an American family that contains one, or more, high earners.

It goes like this (picture at the bottom)…

Step One: Once you get married, you split the family balance sheet in half.

Step Two: As you have kids you:

  • set up 529 accounts for each kid 
  • set up minor accounts for each kid

Gift into kids 529 and minor accounts as desired and subject to gifting rules. 

Step Three: Main wage earner, often this is spouse with greatest potential for adverse legal judgements, gifts some, or all, of balance sheet to an irrevocable Grantor Trust that benefits other spouse and kids. Note – irrevocable. You can insert clause that spouses need to be together for a spouse to benefit else kids only. Look into lifetime gift and generation skipping tax exemptions for Settlor of the Grantor Trust. Never gift capital that you might need in your lifetime.

Step Four: Both spouses hold residual assets in name of revocable living trusts. Wills are structured to flow assets to Living Trusts. This makes it easier for your survivors to administer your affairs.

Step Five: Dynasty Trust receives any elder generation inheritance or gifting. This is to avoid taking capital directly that one generation is likely to pass to their kids or grandkids. Consult an expert about generation skipping taxes.

Step Six: All wills and living trusts flow funds to Dynasty Trust eventually.

Capacity to create, and implications of, the above structure vary by jurisdiction so take professional advice. This is a gross simplification but will point you, or your professional adviser, in the right direction.

A picture of the structure follows…

Family Legal Structure

This shows why people call the estate tax a voluntary tax and one way families structure around tax.