When title to property is held between two or more people as “joint tenants with rights of survivorship” (often abbreviated on documents as “JTROS”), the surviving joint owners automatically own 100 percent of the property when one owner dies. An interest that someone has in a JTROS property title is not part of the person’s probate estate. Whatever interest the decedent had in the property automatically reverts to the survivors. Consequently, many families mistakenly use this strategy to remove assets from a parent’s estate to avoid estate taxes on the property. Unless the children can prove they contributed to the formation of the joint tenancy, or the joint tenancy was formed as a result of a long-term, tax-exempt gifting strategy, the full value of the JTROS title is included in the decedent’s estate. In other words, simply changing the property title to include children is not a valid strategy to lower estate value. Also, when you share title as joint tenants, you give up control of the property, and a joint tenant cannot sell his interests without consent of the others (state laws vary in this matter). Fortunately, a joint tenant’s share is usually not very marketable.
Another, more acceptable way to share title with children and lower estate values at the same time is discussed in the sections on family partnerships and limited liability companies.
A gift to a qualified charitable organization can also be deferred. The deferment can be specified many different ways. For instance, the gift can be effected immediately but with a provision that you (and your survivors, if you wish) receive income from the property even though the title of the property has passed. A gift of a remainder interest means you continue to own and enjoy the benefits of the property while you are alive. When you die, whatever is left of the property (i.e., the remainder) goes to a charitable organization. A testamentary gift is any gift effective on death. When made to a qualified charitable organization, the value of the gift is fully deductible when figuring the total taxable estate. The testamentary gift has estate tax advantages but does not have current income tax savings because the donor can change his or her mind (rewrite the will) before death.
A gift of a remainder interest does have income tax advantages as well as estate tax savings. Figuring the income tax advantages of a remainder interest, however, is very complicated and requires the services of a qualified estate planner or accountant.
A variation on the gift of a remainder interest is a present gift of a future interest in property. This is an especially useful technique when the gift involves real property, such as woodlands. The charitable organization that accepts the gift usually wants to have a large degree of control as to how the property is used during the lifetime of the donor (or the other beneficiaries if the future interest extends beyond the lifetime of the donor). In exchange for control, the charitable organization—usually a land trust—will hold the property in trust and pay the donor an annual fixed or variable annuity that is based on a percentage of the fair market value of the assets. When the donor or designated beneficiaries pass away, the property belongs to the charitable organization. These types of gifts must be irrevocable, so they require careful thought and planning. Gifts of a remainder interest are often used when the donor does not have any direct descendants and he or she is concerned about the cost of elder care and/or a protracted illness. Organizations that accept present gifts of future interests are usually very flexible about the terms of the annuity. They are more than willing to design support arrangements that ensure the donor that costs will be met during his or her lifetime, and will usually also accept the donor’s conditions about how the land is to be managed and used by future owners. This type of arrangement – usually with a land trust – is very appealing to single woodland owners with no children. In exchange for a future interest in well-managed forest lands, the trust will agree to bear the responsibility of elder care and also sees to it that the donor dies with the dignity he or she deserves.
Internal Revenue Service rules allow farm and forest lands to be evaluated for estate tax purposes using special valuation. These procedures allow lands to be assessed at current-use values rather than fair market value, at the discretion of the executor but only if all family members agree. If it is the family’s intention to keep forest lands intact, but the parents never got around to doing the necessary paperwork, special valuation may be an option. Recapture rules apply, however, if the land is used for purposes other than what was specified in the special valuation. The services of a qualified estate planner and an independent appraiser are necessary to claim special valuation of forest resources.
Closely-Held S Corporation
A corporation is an entity set up under four primary conditions:
- Limited liability for the owners
- Centralized management
- No restrictions on ownership interests (anyone can hold stock)
- Continuity of existence (a corporation exists in its own right)
As a separate entity, it is taxed as such and this is one of the primary disadvantages of the corporate structure: profits are taxed twice; first as corporate income, then as income when profits are dispersed to the owners. Congress created the S-corporation to allow small businesses and non-profits to incorporate providing owners protection from liability while eliminating double taxation. But – as is the case with most things involving the IRS – it is not as simple as that. There are many rules an S-corporation must abide by in order to maintain its status. For example, an S-corporation can not have more than 100 shareholders (increased from 75 as of January 2005) and it can have only one class of stock. In 2004, the American Jobs Creation Act allows family members – representing up to six generations – to be treated as one shareholder but only United States citizens can hold stock. Also, when a shareholder is sued for personal reasons (not related to the business of the S corporation), his or her shares are viewed as assets that can be seized by court action.
A closely-held or ‘closed’ S corporation is a special variation that allows the corporation to restrict ownership (contrary to the third condition of a corporation mentioned above). For this reason, the closely-held S corporation is a favorite of small family businesses even though ownership interest is limited to 30 shares. Being able to control ownership, along with all the other advantages of a corporation, made the closely-held S corporation a popular method for keeping well- managed forest lands in the family. It still is, but the limited liability company (llC) is proving to be a far more flexible.
land trusts often identify parcels that are important for connecting wildlife travel corridors, for protecting water resources or prominent vistas, or for adding to an existing block of protected land. When owners of these lands are approached, often they are unwilling or financially unable to donate an easement. For instance, even a willing owner may not have enough current income to take full advantage of the tax savings when an easement is donated, and may be expecting profits from a sale of the land at retirement. An unwilling potential donor may not want to lose the economic potential of the land for crops, timber, or future development. For both willing and unwilling potential donors, a like-kind exchange with a land trust may prove acceptable.
A like-kind exchange is a tax-free transaction, usually initiated by a land trust but not necessarily, whereby an owner exchanges his or her property for qualified, like-kind property. As long as the like-kind property qualifies under IRS rules, there is no taxable gain. The advantage to a landowner is the ability to defer the capital gain that would otherwise be due with an outright sale, and to obtain property of like-kind that allows fulfillment of financial goals with minimal impacts on important landscape features. The advantage to the land trust—and society—is protection of significant lands from development. For more information on like-kind exchanges, contact your local land trust. like-kind exchanges are not unique to land trusts even though they are a common method that trusts use to protect land. Any taxpayer has the right to exchange property held for investment or for other productive purposes under Title 26, sub-section 1031 of the Internal Revenue Code. By following the rules of such an exchange, the taxpayer avoids having to pay capital gains on the theory that the gain from the sale of one property is being used to purchase another property of equal or greater value and for similar purposes. Thus an owner of forest land in Connecticut can sell the land and use the proceeds to purchase forest land in Idaho. To qualify, the purchaser must use an intermediary, such as a lawyer, to handle the exchange. Within 45 days of the sale of the property in Connecticut, for example, the owner must locate a property of similar value in Idaho and notify the intermediary. Then the purchase of the Idaho property must be consummated within 180 days of the sale of the Connecticut forest. If handled properly, there are no capital gains on income from the Connecticut land. A like-kind exchange is the perfect tool for a family that is forced to relocate. Or in situations where development pressures have dramatically inflated forest land values for a family that has no intentions of developing land. They simply sell the land that is doomed for development and use the proceeds to acquire productive forest lands in an area that is less threatened.
Forming a Local Land Trust
Creating a land trust requires three things: people, money and land – usually in that order. locating like-minded people in a community who are willing to invest time in the significant effort required to form a land trust is probably the easiest of the three. But locating financial support and convincing local farm and forest owners that it is a good idea to donate easements from their lands is more challenging.
In order to meet IRS standards that maximize the amounts donors can deduct when they make gifts (of cash, easements or of land outright), the trust must achieve status as a public charity. It must also obtain status as a private operating foundation (which means no (or limited) political lobbying among other things), and it must obtain status as a supporting organization (meaning that it is contributing to the efforts of one or more parent organizations). It is also critical for a land trust to obtain – and protect – a tax-exempt status with the IRS. Doing so triggers a host of IRS requirements having to do with where it gets its money, recordkeeping and – once again – restrictions on lobbying.
The initial leg work to form a local land trust is considerable and without question requires the service of an attorney, preferably one who is well-versed in IRS rules that govern non-profits. Nevertheless, it is possible to form a land trust that suits the needs of local people. An excellent source on the subject is: Starting a land Trust – A Guide to Forming a land Conservation Organization, published by the land Trust Alliance. To obtain a copy, or for more information on land trusts in your area, contact The land Trust Alliance, www.lta.org.
The Forest Legacy Program
The Forest legacy program was introduced in the 1990 Farm Bill to “protect environmentally sensitive forest lands.” It represented a first attempt to use federal dollars to purchase conservation easements on private lands. Generally, the purpose of easements is to restrict development on productive forest lands and to protect forest ecosystem while also requiring owners to employ sustainable practices. First funded in 1992, the program now encompasses conservation easements in 26 states and territories. To date the U.S. Forest Service has spent $132 million to obtain conservation easements on more than 600,000 acres of forest land with a market value of nearly $270 million. In addition to the states and territories where legacy lands are located, 16 additional states have either been authorized to establish Forest legacy projects or authorization is pending. Decisions are made by state forester-appointed Forest legacy committees in authorized states. Although specific criteria vary between states, decisions are usually based on a combination of: local needs, the degree to which proposed forest lands are threatened, public support for projects, and how well any given project complements other nearby conservation efforts. The U.S. Forest Service and state Forest legacy committees underscore that the program is intended to support private ownership of forest lands and participation is completely voluntary. As with conservation easements that are sold or given to local land trusts, the owner still owns the forest and can sell or bequeath the land to prospective owners who agree to abide by the terms of the easement. The program is open to any private forest owner in authorized states. Contact your state extension forester or the state forester to find out if your land is in a Forest legacy authorized area, and if so, how to apply.
Locating an Estate-Planning Attorney
The best way to locate a suitable estate-planning attorney is to make inquiries about his or her practice. You want someone who devotes at least half-time to estate planning, which may entail preparation of five or more estate plans each month. Ask if they are involved in continuing education seminars. Because estate planning is constantly changing, active involvement in professional development in this area is essential, at least to the extent of ten or more hours per year.
Find out if the attorney has given presentations to groups on the subject and, if so, can provide you with a copy of the materials used. Most estate-planning attorneys are asked to speak a few times each year. A copy of the teaching materials will give you hints as to their focus and how well organized and experienced they are. The attorney may be able to provide references, but is bound by rules of confidentiality from revealing the identity of a client, let alone discussing the specifics of another client’s estate plan. However, you might ask if you may have permission to speak with at least one recent client.
Another key question: Does the attorney prepare his or her own standard forms for wills and trusts or obtain them from another source? How often are the forms revised or updated? Obviously, the attorney should have his or her own forms, and updates should be continuous to reflect changes in the tax law or changes in local probate procedures or statutes. Finally, ask if the attorney has had any experience working with forest owners, especially where the disposition of forest assets was a major consideration. Have they ever worked with a forester and, if so, on what types of projects? Finding a qualified estate planner will be a relatively easy task compared to finding one who has also had the experience of working with forest owning families that want to keep lands intact. yes, forests are assets that may contribute to a person’s wealth, but the analogy between forests and other types of wealth ends there. More often than not productive forests and healthy forest ecosystems require at least two generations to become sustainable and so good stewardship is the job of families not individuals.
People who own forest land have a special responsibility that extends beyond a lifetime. It is this responsibility, more than short-term financial gains, that make estate planning an essential exercise for all families owning and tending forest ecosystems.
Following are some points to remember about planning for forests in your estate:
- Do not rely on Congress to abolish the estate tax. Although it affects relatively few families, it is a significant source of revenue and thus will probably continue even after 2010.
- Do not be fooled into thinking the best way to avoid estate tax is to leave everything to your spouse. Eventually, the estate of one or the other may have to pay a tax.
- Obtain advice from a qualified estate planner on when to use joint tenancy with rights of survivorship for personal property, such as automobiles and bank accounts. Use JTROS to share woodland ownership only with the advice of an estate planner.
- Know the value of forest land in your area. It may be higher than you think—high enough to trigger an estate tax your family will not be able to pay.
- There are lawyers, and then there are lawyers who know estate planning, and then there are lawyers who know how to plan for woodlands in the estate. Choose the latter.
- Involve your children in estate planning; find out who is interested in maintaining the forest and who can carry on your traditions. But remember, it is not necessary to obtain permission from your children if your goal is to pass forests intact.
- Learn more about every angle of estate planning but don’t do it by yourself. Hire an experienced estate-planning attorney (preferably one who has experience with forests) to draw up the necessary documents.
- Assemble a team that includes a consulting forester, an attorney, an accountant, an insurance underwriter, and interested family members.
- If your total estate exceeds current estate tax credit limits, investigate ways to lower the estate value.
- Consider the advantages of living trusts (also known as an ‘A/B trust’) as a way to hold assets to avoid probate and to minimize estate taxes.
- Think about giving an easement to a local land trust to gain immediate income tax advantages, lower estate value, and ensure woodlands are protected from development.
- Finally, consider a like-kind exchange of land with a local land trust to forever protect an important feature of your forest.
Your forest estate plan should emphasize descriptive phrases and ideas you believe are important about forest values that should be recognized, managed for, protected, or celebrated in the future. This is your chance to create a living legacy by which people will remember you long after you have passed away. The plan should acknowledge uncertainty and be flexible. It should describe your visions, the principles behind decisions you have made in the past, and the conditions you believe are desirable for the future. Finally, the forest estate plan is your chance to leave behind something truly important.
McEvoy, T.J. 2005. Owning and Managing Forests – A Guide to Legal, Financial and Practical Matters. Island Press, Washington DC. 300p [Excerpted from chapter 9: Planning for Woodlands in Your Estate. I have included here less than a third of the entire chapter simply to backstop information presented in the other articles.]