Vol. 72, No. 2, February 1999
Wisconsin: An Estate Planning Paradise
Sunbelt states may be popular retirement destinations
for us snowbirds, but Wisconsin's
estate planning advantages can make even subzero wind chills seem like paradise.
By Andrew J. Willms and Dean
T. Stange
Wisconsin is well known for its great vacation opportunities.
It also can be an estate planning paradise for Wisconsin citizens who benefit
from a variety of advantageous laws. This article describes various aspects
of Wisconsin law that attorneys should consider and emphasize to their estate
planning clients who are contemplating a change of domicile.
Wisconsin has no state inheritance tax
Most clients are surprised that Wisconsin no longer has an inheritance
tax. As of Jan. 1, 1992, Wisconsin replaced its inheritance tax with an
estate "pick up" tax that is limited to the credit allowed for
state death taxes under the federal estate tax system. 1
If a federal estate tax is imposed on the estate of a deceased Wisconsinite,
the state receives the amount of the credit for state death taxes and the
IRS receives the remainder. If there is no federal estate tax to pay, then
there also is no Wisconsin estate tax. Thus, Wisconsin's estate tax results
in no additional taxes.
Wisconsin does not recognize
the common law rule against perpetuities
The rule against perpetuities is an English law principle that has been
carried over to the United States. It requires a person's interest in property
to vest (or become absolute) within a certain period, typically within a
life or lives in being plus 21 years. When the rule applies, restrictions
placed on the transfer of property beyond that period will be invalid.
The rule against perpetuities can be an obstacle in estate planning in
connection with trusts that are intended to continue for many generations.
These trusts (sometimes called "Dynasty Trusts") will not be effective
in states that still follow the old English law rule. Wisconsin is one of
only a few states that does not recognize the rule against perpetuities
in its common law form. Instead, Wisconsin statutes provide for a rule against
suspending a power of alienation that voids a future interest or trust if
it suspends the power of alienation for longer than the "permissible
period," which is set by statute as a life or lives in being plus 30
years.2 The statute also provides
that a violation of the rule is avoided for trusts if the trustee has the
power to sell trust assets, or there is an unlimited power to terminate
the trust in one or more persons in being. Therefore, a trust established
in Wisconsin can continue indefinitely as long as the grantor grants the
trustee the power to sell trust assets.
Wisconsin Marital Property law
In 1986 Wisconsin adopted the Marital Property Act, which essentially
changed Wisconsin from a common law property state to a marital property
state.3As complicated as the marital
property law can be, it provides the foundation for significant estate planning
benefits for Wisconsin residents.
Transferring assets at death: will substitute agreements. The
Wisconsin Marital Property Act provides that married persons may agree that
upon the death of either spouse, either or both spouse's property, including
any after-acquired property, may be transferred without probate to a designated
person, trust, or other entity.4
As a result, a marital property agreement that directs how a married person's
assets are to be distributed can protect those assets from probate, if the
asset is located in Wisconsin.
Perhaps the most effective way to use this type of provision (sometimes
called "Washington Will Provisions" because a more limited version
of the concept originated in Washington state) is to direct that such assets
be transferred to a living trust upon death. Wisconsin is the only state
that permits a living trust to be funded after the grantor's death
while still avoiding probate.5
However, will substitute provisions in a marital property agreement often
are not appropriate as the primary asset transfer document at death. Section
766.58(3)(f) of the Wisconsin Statutes essentially provides a mechanism
for transferring legal title of an asset to those persons named in the marital
property agreement. Therefore, the statute offers no procedure for postmortem
tax or other planning that usually occurs within the guidelines and protections
of the probate process or a trust. Furthermore, absent specific provisions
in the agreement to allow unilateral amendment by one spouse, the will substitute
provisions may be revoked only by mutual consent of both spouses in a subsequently
executed marital property agreement.6
This raises potential gift tax issues.7
By using the will substitute provisions as the primary asset transfer document
at death, planners inadvertently may be locking one spouse into a nontestamentary
disposition that cannot be changed unless the other spouse consents.
"Double step-up" in capital gains tax basis.
Under the Internal Revenue Code, the basis of property received from
a deceased person receives an adjustment in basis (called a "step-up"
if the value of the asset has increased from the date of acquisition to
the date of death) equal to the property's fair market value at the date
of death.8 When a married person
who is a resident of a common law state dies, assets titled in the name
of the decedent will receive a new basis, but the basis of property belonging
to the surviving spouse is not adjusted, and the basis of property owned
jointly between spouses only receives a step-up in basis equal to one-half
of the fair market value of the asset on the date of the decedent's death.9
By comparison, in community property states all community property receives
a full adjustment equal to the value of the property on the death date of
either spouse.10 Since marital
property is treated as community property by the Internal Revenue Code,
all marital property receives a full step-up in basis upon the death of
either spouse.11 Furthermore, Wisconsin
statutes also provide this same "double step-up" result for state
tax purposes.12 Accordingly, marital
property can help a surviving spouse avoid both state and federal capital
gain taxes.
Unfortunately, this double step-up in basis is not automatic for Wisconsinites
by mere fact of residence; spousal assets actually must be classified as
marital property or survivorship marital property. Wisconsin's marital property
law took effect on Jan. 1, 1986.13
Property owned by a married couple prior to that date is not necessarily
classified as marital property.14Likewise,
property owned prior to marriage or received after marriage by gift or inheritance
may not be treated as marital property.15However,
Wisconsin's Marital Property Act allows married persons to reclassify all
assets titled in either spouse's name as marital property in a marital property
agreement.16 As a result, in many
cases a properly drafted estate plan will include a marital property agreement
classifying the assets of the married couple as marital property to ensure
the adjustment in basis on all marital property at the death of the first
spouse.17
Equalizing the spousal estates. Under the Internal Revenue Code,
every individual is entitled to an "Applicable Unified Credit Amount"
which can shelter a specified amount of assets from federal transfer taxes
for gifts during lifetime and transfers at death.18This
credit can shelter $650,000 of assets in 1999, but is scheduled to increase
to $1,000,000 of assets for persons dying in 2006 and beyond.19 If a married couple uses both spouse's unified
credits, the amount protected from federal transfer taxes can be effectively
doubled. For example, assume a married couple living in a common law state
has a combined net worth of $1.25 million. Assume further that $1 million
of these assets are held in the husband's name. The remaining assets are
held in both spouse's names as tenants by the entirety. If the wife dies
first, then the assets held in the husband's name will not be available
to fund the wife's unified credit. Likewise, the joint assets will pass
outright to the husband by right of survivorship. As a result, the wife's
unified credit will not be used. Instead, all of the assets will be includable
in the husband's estate for federal estate tax purposes at his death.20 In comparison, if the couple lived in
Wisconsin and had executed a marital property agreement that classifies
all of their assets as marital property, then half of the assets held in
the husband's name would be includable in the wife's estate for federal
estate tax purposes. As a result, those assets could be used to fund the
wife's applicable unified credit amount.
Often, a significant portion of a married person's assets will have been
accumulated inside an employer-sponsored qualified retirement plan. Even
though the assets inside such retirement plans may be classified as marital
property and owned equally by the spouses, federal law under ERISA21, which preempts state law, may prohibit
a married couple from using a surviving spouse's retirement benefits to
fund a deceased spouse's unified credit. 22
As a result, if one spouse has significantly greater qualified retirement
benefits than the other, it may be preferable in the marital property agreement
to classify some nonretirement plan assets (such as the couple's home) as
the individual property of the spouse who has fewer retirement benefits
in order to promote estate equalization.
Qualifying for the Family-owned Business Deduction. Newly created
I.R.C. section 2057 provides estate tax relief for "qualified family-owned
business interests" (Qualified Interests). If the deduction applies,
the estate tax liability is calculated as if the estate were allowed a maximum
family-owned business deduction of $675,000 and a unified credit exemption
equivalent of $625,000 regardless of the year in which the individual dies.
For a decedent's estate to be eligible for the deduction, the amount of
the qualified interests transferred by the decedent's death to "qualified
heirs,"23 both during life
and at death, must be greater than 50 percent of the decedent's gross estate.24
Wisconsin's Marital Property Act can be very helpful to ensure that a
married couple receives the maximum tax savings possible from the family-owned
business deduction. If the owner of a qualified interest is married, and
the qualified interest is classified as marital property, then both estates
are potentially eligible for the family-owned business exclusion. By the
same token, however, if both spouses own one-half of the qualified interest
because the qualified interest is classified as marital property, it may
be more difficult for either spouse's estate to satisfy the requirement
that the adjusted value of the qualified interest included in a decedent
spouse's estate (plus qualified interest gifted by the decedent during life
to family members) exceed 50 percent of the decedent's adjusted gross estate.
Therefore, the classification of family-owned business interests should
be considered carefully. If the value of the couple's marital property interest
in the family-owned business is worth greater than 50 percent of the sum
of the couple's interest in all marital property assets plus each spouse's
interest in individual property, then consider classifying the family-owned
business as marital property so that both estates will be potentially eligible
for the family-owned business exclusion. If the foregoing is not true, then
consider classifying part or all of the family-owned business as the individual
property of one of the spouses.21
Valuation discounts for marital property. The federal transfer
tax is imposed on the fair market value of assets that are transferred either
during life or at death for less than full or adequate consideration (that
is, on gifts and inheritances). When determining fair market value, a willing
buyer/willing seller test is used.26That
is, in a sale between unrelated parties, what would be the sale price for
the interest being transferred?
Applying the willing buyer/willing seller test to a partial interest
in property can result in a significant discount in the value of that interest
for federal estate and gift tax purposes. As a result, if a married person
dies owning a partial interest in an asset, the value of the deceased spouse's
interest should be reduced for federal estate tax purposes. For example,
the U.S. Court of Appeals for the Fifth Circuit approved a 45 percent discount
for estate tax purposes when valuing the husband's portion of properties
that were owned jointly by the decedent husband and a marital trust that
had been created for his benefit upon his wife's earlier death.27
Applying this rationale to marital property can mean big estate tax savings
for Wisconsin residents. Since marital property is considered to be owned
equally between husband and wife, one-half of marital property is transferred
at each spouse's death.28 As a
result, the value of most or all of the assets that belong to a married
or widowed Wisconsin resident may be eligible for discounts when determining
the amount of federal estate taxes that are payable.29
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