Question

Montgomery has decided to engage in wealth planning and has listed the value of his assets below. The life insurance has a cash surrender value of $120,000 and the proceeds are payable to Montgomery’s estate. The Walen Trust is an irrevocable trust created by Montgomery’s brother 10 years ago and contains assets currently valued at $800,000. The income from the trust is payable to Montgomery’s faithful butler, Walen, for his life, and the remainder is payable to Montgomery or his estate. Walen is currently 37 years old and the §7520 interest rate is currently 5.4 percent. Montgomery is unmarried and plans to leave all his assets to his surviving relatives. (Refer to Exhibit 25-1, Exhibit 25-2 and Exhibit 25-4.)

			Adjusted
Property	Value		Basis
Auto	$	20,000	$	55,000
Personal effects	$	75,000	$	110,000
Checking and savings accounts	$	250,000	$	250,000
Investments	$	2,500,000	$	770,000
Residence	$	1,400,000	$	980,000
Life insurance proceeds	$	1,000,000	$	50,000
Real estate investments	$	10,125,000	$	2,800,000
Walen Trust	$	800,000	$	80,000

Required:

1. Calculate the amount of the estate tax due (if any), assuming Montgomery dies this year and has never made any taxable gifts.
2. Calculate the amount of the estate tax due (if any), assuming Montgomery dies this year and made one taxable gift in 2006. The taxable gift was $1 million, and Montgomery used his 2006 applicable credit to avoid paying any gift tax.
3. Calculate the amount of the estate tax due (if any), assuming Montgomery dies this year and made one taxable gift in 2006. The taxable gift was $5 million, and Montgomery used his $1 million 2006 applicable credit to reduce the gift tax in 2006. Montgomery plans to bequeath his investments to charity and leave his remaining assets to his surviving relatives.

Answer 1

Step 1 - Each part of the solution will need to determine the value of Montgomery's estate. Montgomery's estate includes the fair value (the adjusted basis of the assets is irrelevant) of all his assets except the trust because Montgomery only owns a remainder interest in the trust at his death. Hence, only the value of the remainder is included in his estate. The remainder is valued by identifying the discount factor given the 7520 interest rate (5.4%) and the age of the life tenant (37 years). The value ($123,600) is obtained by multiplying the discount factor (0.1545 from exhibit 25-4) times the value of the trust assets ($800,000). Hence the value of Montgomery's estate is calculated as follows -

Auto	$20,000
Personal effects	75,000
Checking and savings account	250,000
Investments	2,500,000
Residence	1,400,000
Life insurance proceeds	1,000,000
Real Estate Investments	5,125,000
Trust ($800,000x.1545)	123,600
Value of estate at death	$10,493,600

a. Montgomery's estate tax is calculated as follows -

Adjusted taxable gifts
Taxable estate	+ 10,493,600
Cumulative taxable transfers	$ 10,493,600
Tax on cumulative transfers		$3,653,560
Gifts taxes paid		0
Tax on taxable estate		$3,653,560
Unified credit in 2011		-1,730,800
Estimated estate tax due in 2011		$1,922,760

b. There will be no estate tax on gift of 1 million as it will be exempt from tax. Hence, the taxable income of Montgomery would be same as solution A

c. The tax will be levied on (5m -1m) 4million @ 40%. Hence the tax on gift would be 1.6m..