A bill has been introduced in the South Carolina Legislature, which is intended to help interpret wills and trust agreements with certain formula clauses. These formula clauses were designed to determine the amount of assets needed to fund certain types of trusts after death. Unfortunately the formulas were based upon an estate tax law that does not currently exist.
The law ended on January 1, 2010. However, the law will likely come back into existence on January 1, 2011, as part of the sunset of the Bush Tax Cuts from 2001. However, they may be significant differences from the law as it existed at the end of 2009.
We sent out an emergency newsletter in January to our clients and have included the issue in all subsequent client newsletters. We have also been routinely reminding our clients through our newsletters since 2001 of the potential issues and the need to update their estate planning documents in order to avoid the problems.
We avoided many of the problems by using Disclaimer Trusts, which allows a post mortem decision up to nine (9) months after the decedent’s date of death to determine how much goes into the credit shelter trust. These credit shelter trusts are designed to save estate taxes upon the death of the surviving spouse, at the cost of some restrictions on the surviving spouse’s ability to access funds. In other cases, we defined the trust funding clause so as to try to avoid the problems.
The proposed South Carolina law, as of the first week in May, was designed to fund the credit shelter trust with the formula clause being construed under the federal estate tax law as it existed on December 31, 2009 rather than the actual 2010 date of death of the settlor of the trust or the testator of the will. As a practical matter, if passed, this would mean that the more restrictive family or credit shelter trust, which we often refer to as a Trust B, will be funded with up to $3,500,000 of the decedent’s assets.
The vast majority of our married clients would not choose this option unless the estate tax exemption is allowed to go back to $1,000,000, which may happen in 2010; although, there are many commentators who believe that it will be changed back to the 2009 amount of $3,500,000. The reason why most would not choose the option is because of the restrictions imposed upon the surviving spouse by a typical credit shelter trust and if there is an estate tax exemption that exceeds the value of their assets, then there may not be an estate tax in any event. If there is no estate tax, then there is no need for the more restrictive credit shelter trust.
However, this logic will not necessarily apply to a QTIP Trust for second marriages with children from a previous marriage or relationship. These are often created to prevent the surviving spouse from doing as he or she pleases with the funds. Nor does the logic necessarily apply if the beneficiary is a spendthrift or disabled person who needs to be protected.
For large estates, the decedent may in fact want to place as much as possible into a credit shelter trust, probably with generation skipping transfer tax provisions, to protect the family wealth from future estate and generation skipping transfer taxes, especially given the uncertainty of recent years.
The proposed legislation also has a provision which will allow an interested person to petition the court for a different interpretation, if desired. The proposed law is somewhat straight forward and could solve the problem for those who did not have their estate planning documents updated.
The proposed law apparently also creates a legal presumption that the trust or will provision should be interpreted as of December 31, 2009. This presumption makes it more difficult on the party trying to achieve a contrary interpretation.
From talking with other practitioners around the state, there is some opposition to the proposed law. Many attorneys would prefer a facts and circumstances approach to the problem; whereby, if an interested party wants to go to court for a different construction, then there should be no presumption to overcome. It is believed by many that this will provide a more equitable result.
These concerns have gained some support. The latest proposal is simply to allow a petition to the court to construe the formula clause based more or less upon facts and circumstances without any presumption being imposed. I also understand that even this proposal is being reviewed by numerous individuals and committees and is likely to be changed even further.
Another proposal being discussed is to allow the trustee or personal representative to make an election as to how to interpret the funding clause and then leave it up to the beneficiaries to bring a petition seeking a different interpretation without any presumption being imposed. This would be one of the least expensive proposals.
No matter which law is enacted, it will have the tendency to increase legal fees and costs for those who did not or do not update their documents. It should also be kept in mind that the real problem has been created by the inaction of a dysfunctional United States Congress. However, clients should have their documents reviewed and where necessary updated to avoid the problems.
We will keep you posted on our blog, if the legislation or similar legislation passes, so please check back for updates.