CEA Asset Management & Wealth Transfer 3 — Questions and Answers
Question 1: A family limited partnership (FLP) is commonly used in estate planning primarily to:
- Avoid probate on all partnership assets
- Consolidate family assets and facilitate discounted transfers to heirs (Correct answer)
- Provide unlimited liability protection for all partners
- Qualify assets for the unlimited marital deduction
Correct answer: Consolidate family assets and facilitate discounted transfers to heirs
FLPs allow senior family members to transfer limited partnership interests at valuation discounts for lack of control and marketability, reducing the taxable estate.
Question 2: Which federal tax applies to transfers that skip one or more generations, such as gifts directly to grandchildren?
- Alternative Minimum Tax (AMT)
- Net Investment Income Tax (NIIT)
- Generation-Skipping Transfer (GST) Tax (Correct answer)
- Additional Medicare Tax
Correct answer: Generation-Skipping Transfer (GST) Tax
The GST tax is a flat tax (equal to the top estate tax rate) imposed on transfers to 'skip persons,' typically grandchildren or more remote descendants.
Question 3: A client with a large IRA wants to benefit a charity and heirs simultaneously. Which strategy accomplishes this most efficiently?
- Leave the IRA to a Charitable Lead Trust
- Name the charity as primary beneficiary and heirs as contingent beneficiaries
- Leave the IRA directly to the charity and use life insurance to replace the wealth for heirs (Correct answer)
- Convert the IRA to a Roth IRA and name the charity as beneficiary
Correct answer: Leave the IRA directly to the charity and use life insurance to replace the wealth for heirs
Because IRAs carry income-in-respect-of-a-decedent (IRD) tax, leaving the IRA to a tax-exempt charity avoids all income tax, while life insurance replaces that wealth for heirs income-tax-free.
Question 4: Under the 'prudent investor rule,' a trustee's investment decisions are evaluated based on:
- Each individual investment in isolation
- The overall portfolio and the total risk-return tradeoff in the context of the trust's purposes (Correct answer)
- Maximizing current income for income beneficiaries only
- Achieving the highest possible return regardless of risk
Correct answer: The overall portfolio and the total risk-return tradeoff in the context of the trust's purposes
The Uniform Prudent Investor Act (UPIA) requires trustees to evaluate investments as part of a diversified portfolio strategy consistent with the trust's goals and risk tolerance.
Question 5: Which of the following best describes an 'intentionally defective grantor trust' (IDGT)?
- A trust that is defective because it was improperly drafted
- A trust that is outside the grantor's estate for estate tax purposes but treated as the grantor's property for income tax purposes (Correct answer)
- A trust that loses its tax-exempt status due to prohibited transactions
- A trust in which the grantor retains too many rights, causing estate inclusion
Correct answer: A trust that is outside the grantor's estate for estate tax purposes but treated as the grantor's property for income tax purposes
An IDGT is deliberately structured so that the grantor pays the trust's income taxes, effectively making additional tax-free gifts to beneficiaries while the assets grow outside the estate.
Question 6: When a closely held business owner dies, which estate planning tool is specifically designed to allow installment payment of estate taxes attributable to that business interest?
- IRC §303 stock redemption
- IRC §6166 installment payment election (Correct answer)
- IRC §2032A special use valuation
- Qualified Small Business Stock exclusion
Correct answer: IRC §6166 installment payment election
IRC §6166 allows the estate to defer and then pay in installments the portion of estate tax attributable to a closely held business if it exceeds 35% of the adjusted gross estate.
Question 7: A trustee managing a trust with both income and remainder beneficiaries faces which fundamental tension?
- Choosing between U.S. and foreign investments
- Balancing current income distributions to income beneficiaries against capital growth for remainder beneficiaries (Correct answer)
- Deciding whether to file the trust as a grantor or non-grantor trust
- Determining whether the trust qualifies for S-corporation ownership
Correct answer: Balancing current income distributions to income beneficiaries against capital growth for remainder beneficiaries
Income beneficiaries prefer high-yield assets for current cash flow, while remainder beneficiaries prefer growth assets; the trustee must balance both interests equitably.
CEA Asset Management & Wealth Transfer 3
A family limited partnership (FLP) is commonly used in estate planning primarily to: