Do you watch “Modern
Family?” Jay Pritchett is the family
patriarch, age 60, a wealthy man presiding over his large family. He has a young wife, a baby son, a gorgeous
home – and two of the most classic estate planning challenges.
First, he is married for the second time and has children by both his current and his prior marriage. That is a classic estate planning issue. Fulgencio (“Joe’) is his young son with second wife Gloria. Claire and Mitchell are his adult children from his first marriage. A complicating factor is that Gloria is much younger than Jay -- in fact Gloria is about the same age as Claire and Mitchell. And as if that wasn't enough, Gloria also has a minor child, Manny, from her prior marriage. Manny lives with Jay and Gloria and Jay considers Manny in all ways to be his son (although as far as we know Jay has not legally adopted Manny). That is a complicated family situation
Second, Jay is apparently the sole owner of his successful closet business, but only one of his children, Claire, works in that business. Although she only recently started working there after taking time off to raise her children, Jay seems to be planning for Claire to succeed him in running the business.
Jay definitely needs to consult a good estate planning lawyer! Maybe we will see that episode someday. In the meantime, we can speculate about what his estate plan might look like.
Make sure documents treat Manny as a Descendant. First of all, Jay would provide in his planning documents (Will/trust) that Manny is to be treated as his descendant for all purposes.
Set things up so Claire can run the business, but the whole family can own it. Jay would then probably take steps to separate the control of the business from the economic benefits, so that Claire can continue to run the business after his death even as Gloria and other family members also benefit economically. One way to accomplish that is to restructure the business (via an LLC or LP) to create two classes of ownership interest, one with control rights and one without, and with the control piece representing only a small part of the economic value. Jay can then gift or bequeath the control piece to Claire.
And maybe get a little fancy. If Jay wants to give up control during his lifetime, this can be even further refined. For example the control piece itself might be held by an LLC owned 1/3 by Jay, 1/3 by Claire and 1/3 by Mitchell. The advantage of this type of structure is that during Jay’s lifetime Claire and Mitchell would have to act together in order to overrule Jay (we can just see the TV episode when Jay tries to convince Mitchell to side with him). Seriously, Jay has invested a lifetime in the business, has been successful, and has a commanding personality, so this type of structure would probably be more comfortable for him and would also reflect the family dynamic. Mitchell is a lawyer and Claire and Mitchell get along quite well, so it is suitable for Mitchell to have some voice in the business; in fact, we suspect Claire would welcome his involvement especially after Jay’s death. Jay would then leave his 1/3 to Claire, so that she would control the business after his death.
However, there is also a major tax planning issue here because if the business is restructured so that Jay does not own a controlling interest at his death, then the business should also be worth less in his estate. If we assume Jay’s estate is well into the taxable range (north of $20 million) that may be a beneficial result. In fact, Jay might consider making lifetime gifts of non-controlling interests to a discretionary trust for the family, in order to take advantage of valuation discounts and other benefits of lifetime giving. Weighed against that is the fact that a lower estate tax value also means a smaller step up in basis for income tax purposes, and there is a carryover basis for gifts made during lifetime. We need to also consider that a large portion of Jay’s estate will likely be marital and Gloria is much younger than Jay and so can be expected to live for a long time after his death. Suffice to say this is a complicated analysis!
Leave Property to the kids in trust - and create the Pritchett Dynasty? . Jay would probably take advantage of the $5,340,000 federal exemption to give or leave property in trust for Mitchell and Claire, their children, and possibly their husbands (as Mitchell and Cam are soon to be married). Since Gloria is roughly the same age as Mitchell and Claire, they will likely not receive any benefit from Jay’s estate if they have to wait until after Gloria’s death. Because family relations are good, Claire and Mitchell and their husbands are self-supporting, and there are no special needs, a discretionary trust for the entire family would be a good option for this piece. Joe and Manny should also be included as beneficiaries of this trust, and Gloria can be included as well for maximum flexibility. Such a trust could serve as a “Dynasty Trust” to establish a long-term pool of protected wealth for the family which might well appeal to Jay.
Take Advantage of the Marital Deduction to leave property to Gloria. Jay would presumably use the marital deduction to leave the balance of his wealth to Gloria. She is young and has two children to care for, so she will likely have significant support needs after his death. Jay might consider leaving the bulk of that wealth in a QTIP trust, but also a part outright. Although there are many advantages to trusts, emotional factors are important, and Gloria may well feel that Jay didn’t trust her (no pun intended) if she does not receive a fairly sizeable outright bequest, perhaps 1-2 million dollars. That would not be inappropriate given what appears to be Jay’s significant level of wealth, and would also permit Gloria to benefit her own mother and other family members.
Watch the Retirement Assets. If Jay has any retirement accounts, those should pass to Gloria at his death. Because retirement accounts are IRD and Gloria is so much younger than Jay, Gloria will likely benefit from rolling those accounts into her own retirement account and deferring the payout.
Community Property? We should note that California is a community property state and there is no indication that Jay and Gloria have a prenuptial agreement, so Gloria would be deemed to own ½ of the community property in any case. With regard to Jay’s business in particular, some part of the business reflecting the earnings during the marriage is presumably community property. However, Gloria would likely be willing to transmute property or otherwise engage in any planning steps that would benefit the family overall. On the plus side, the entirety of the community property would receive a step up in basis at Jay’s death.
Avoid Probate & Plan for Incapacity with a Living Trust. Finally, Jay would almost certainly use a living trust to avoid probate, ensure continuity of management for the business and incorporate planning for incapacity.
Pay for Alex to go to college & Lily to go to pre-school. And by the way, Jay should be paying school tuition for all the grandkids, from Lily’s pre-school all the way to Hayley’s community college. Paying school tuition is one of the best ways to transfer wealth and benefit a modern family.
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business prior to marriage and continue to
