Welcome, everyone to the abundance group trusted advisor training for August 9 2020. To better my right, this is week seven. Awesome. So today we're gonna finish up on the personal trusts instructions and move into the business trusts instructions. But before I do that, anybody have any celebrations as a trusted advisor?
Okay, I'll let you off the today, guys. But only today, Samantha as a scenario she would like to bring to the group and see who would like to advise on it. So Samantha, take it away.
Okay, so the client has an LLC, and they have a personal trust. So they needed to know how much percentage the LLC can own. I mean, the the trust can own for the LLC. And then they wanted to know what it's called to connect the two, I know what it's called, but I'm just bringing it up on the topic. So there's a document to connect the two. And so I wanted to see if we all were on the same page with that, that that's to start. I can ask my question afterwards. More.
Awesome. So he's got a good answer.
So I think it's a 90% trusted becomes a 90%. limited partner, and the LLC and I did the LLC operating agreement.
It's an amendment to the operating agreement, the file name is called LLC operating agreement. Okay, but if you open it up, it's actually two documents. Anybody know, two documents, those are.
without cheating. There are meeting minutes, and a statement of membership interest in management. And David and I just met on that particular document the other day, we're going to change the title to make it statement of membership interest, partnership, interest, and management, just to make it abundantly clear, because membership interest and partnership interest are not one in the same. So up to 90% limited partner is what the trust can become. If somebody wants to make the trustee 40% limited partner, they're welcome to do so. In a state other than Wyoming and Tennessee, the trust cannot ever been a member. Because statutes state that members have management rights and voting rights and the trust can't ever have either. As a limited partner, it is not the equivalent of an owner. It is the equivalent of an investor. And there's a drastic difference between the two.
So okay, okay. And so Alright, so this other scenario is that the person has a home in Florida, but they're not the only owner. So they're trying to figure out how to put it into the personal trust, and then they have two other homes and the other two homes, one is rented. So we understand what to do with that. But the other one has not been rented out. And the one that okay, let me back up the one. The second one that is rented is a what do you call that? The it's like an Airbnb. What's the technical term for
Toronto?
Yeah, part time rental. And then the third one, no one is in there. So
is the intention to rent the third one?
Yeah, but they haven't found anyone. And
on the first one, is it a primary residence?
It was their primary. Their name is still on the mortgage, but they're not in that place. And they there's three owners on that and they are trying to figure out how to get that home into the trust and have the other two owners agree to that.
And so it's owned by three individuals or an LLC, three individuals
If I hit enter that property that two of them are beneficiaries of the trust. If this is what I'm thinking it is, and the one that wants to transfer it in is the trustee. Is that correct? Yep.
Okay, so it's not held in an LLC, it's held on land trust.
Now, it's held personally in three names, right? It's held by the trustee. There are two, there are three persons that hold title to it. And the person who wants to transfer it into the her trust is a trustee of her trust. And then the other two individuals are beneficiaries of the trust.
Right. Gotcha. Okay, complex, but exists, I know the answer. So who else has an answer for me?
The the Julie bearish, the issue is, is she believes that the brother and sister which I think they are, are not are having issues with putting it into the trust. Gotcha. And as a as a beneficiary of the trust, they really have no control over the property. they've consulted with their attorney. And by having no control, only the trustee will have control of the property.
Yep, that is true. Anybody want to take a stab? This is here for learning, guys. There's no judgment, take a stab somebody,
when we bring a business trust into this
is certainly good. Yeah. But that's gonna cost them.
Right. So if they're not ready to get that business trust, we have to figure out the scenario as is. Yeah.
Can they all be partners of the LLC along with the trust?
There's no LLC right now it's owned by three individuals?
Just that house. Right. Right, exactly. So
you're thinking along the right lines there. But you've got a couple of different choices. If we use just the personal trust, and we want to convey 100% of the assets of the personal trust, so that we get the asset protection that the trust can provide, then each of the three individuals can receive a demand note for their interest in that property. Because the other two are beneficiaries, there's no problem with securing their interest by a promissory note called a demand note. And if those two want even more security, don't make it a demand note, make it an actual promissory note, with periodic payments, with an amortization schedule, cetera. Now, if they're actually going to get paid out through a promissory note, that's a distribution to a beneficiary, and to the beneficiaries, it's going to be taxable, to the trustee who's controlling everything, she could leave it in her interest in the trust, and have 100% tax deferral on it. So that is an option. I don't love the option, especially if they are really not loving the idea of the property being in the trust. But that is an option for certain. What may be more amenable is to put the property in an LLC. If we set it up so that whatever they're injured on the property, let's just call it 33 And a third times three. If we set it up that way, so that there's an LLC that's owned by each one of them as a member, each one having 33, and a third percent interest in the LLC, the one who is currently the trustee can take 90% over 33 And a third percent and make the trust a 90%. limited partner in her share. She'll end up with 3.3% Personally, so her trust with them or not own or just would then be a limited partner in the other what would that be? 29.71 I think We can do it that way. And at least for the individuals who's the trustee, she doesn't have to worry about as much of a tax liability on her part of it. And for her two siblings, nothing's really changed, it gives them a little bit of asset protection, not a lot of it just a little bit. But it's better than what they've got now. And the client that has a personal trust, is still able to benefit from the tax mitigation. Without setting up a business trust, that is a much higher expense, that really is the best option.
So the three individuals would do an LLC, that's totally separate from the LLC, the trustee already has Correct, correct, yeah, okay. And then that trustee would become 90 personal trust, we get 90% ownership of that 33rd and 33, and a third percentage, which makes them liable for 3.3%. Personally,
okay, and so this is why we're gonna change the name of the statement of membership interest document, let me go pull that up. So I can show it to you guys. Okay, right now, in that document, it only has in it the membership interest in the management interest, it does not have in it, the partnership interest. And clients get really confused by that. So, it's going to say statement of membership interest.
partnership as if only I could take right and identification of Manat. So, we have the members here and the membership interest
then we are going to copy this and then we are going to make this one partners.
And this one partnership.
So the trustee is going to be a member, and it'll be 33.3% or 33.4%, then the second person is going to show up as 33.3%. And there would be a third person at 33.3%. Then under partners, the trustee would be here, it would show as 3.3%. And that would say general partner. And the next one would be the trust as a 29.7% limited partner. And the other two people would be listed there with 33.3% general partner. And then the manager is whoever the manager is and it would get signed by the manager and member but not by the trustee. That makes sense.
Okay, and not by the trustee manager and member but not by the trustee and why not by the trustee.
Is it signed by the members in the managers, it's not signed by those who have only limited partnership interest. Okay, so if they don't have any management
rights, so that means that the trustee can't be a manager because you said not the trustee
trustee cannot be a manager. Well, in their individual capacity the trustee can be a manager in their capacity as trustee they cannot be a manager because the trust cannot have management or voting rights in an LLC.
Okay, no voting rights. Okay, so Okay, gotcha. So they will come in as their selves and not comma t te. Okay. That makes sense. Okay. Um, and so from, because we were talking about bookkeeping. When that type of thing comes in is Anthony on, let me see. Oh, yeah. Yeah. Anthony, how would you do that? When it comes in that type of way?
dividuals each of the three individuals are conveying to the LLC as a capital contribution. So you're going to account for it in their capital accounts in the LLC. Okay,
yes.
And it would be for whatever amount of equity they initially put into the basis.
Okay. All right. And anything else? Anthony, from a bookkeeping point of view for that type of scenario?
No, I miss part of the question. I wouldn't add, I think Gina answered it perfectly correctly. If you're changing the the equity ownership in a business, what you'll want to do is track contributions and distributions. And and yeah, that's, that's, that's mainly it. You can create the equity account and any any cash or whatever assets they contribute, keep track of versus distributions. The same? Yeah. Gina?
Okay, awesome. So, Julie, that would help you out because you know, who we're referring to the situation. So then that means that
if, if we have an operating agreement for the LLC, and in it, we issued two classes of units. And we indicate in the operating agreement, the amount of capital contributed by each of the members, then the individual who's the trustee can actually have a distribution of 90% of her equity as an income distribution to her so that she can then convey that to her trust on a bill of sale, and then get out of door to 65 account.
Okay, so that that's a whole different one. So that's not an addition to what you were saying you're saying.
If it's the accounting side of
it, right, so two classes of units, is that what you say? On the units, correct me on the LLC part? Okay, gotcha. Ship units, though. See,
they have class A units in Class B units.
Okay. Okay, so that's another option. So those two because the bill of sale, that would be better for the trustee.
Now, it is still a related party transaction. Right. So technically, the difference between FMV and basis may have to be filed on a gift tax return. Okay. But for what it's worth, at least she gets the option of doing.
Exactly, exactly.
Okay, Lily is editing this for me right now. But in the business trust folder, there is now a Word version of amended operating agreement. Just so you guys are aware that it's there.
Oh, cool. But does that include your units? You were talking about what that's going to be in those
two, two classes of units.
Awesome. Okay, so that this scenario that person can use that?
Yeah. Like I said, Emily is editing for me right now. We hope to have it done by the end of the day. Maybe tomorrow because it is along agreement.
Okay, and so, so good. We took care of that one house. And so that other scenario is that there's the third house that's been conveyed to the trust already. However, no one's renting it and they do have intention on renting it so when they are making their monthly payment, it's, you know, it's coming out of the trust, but it's a rental property. So how does that At work with the budget on the bookkeeping side
it's a rental property, it's no different. Why would it be any different just because it's
because because they're paying for it. Like, it's not someone sending them. You know, normally I'll see a renters name coming out attended to name come in. And we know that's easy. Okay, that's the renter. So now that it's the trustee paying for the rental property. That's not a rental property yet, but it's with intentions to be so that's what are you? Are you keeping it as the regular mortgage and interest payments? So it's a 500. And whatever 200 account, or we're doing it as a rental, that's where I got confused.
Anybody?
If I understand the correct the question correctly, I think you're asking like expenses related to assets in the trust versus expenses for rental property, like Schedule E, is accurate. Yeah,
as a property that the client intends to be a rental property, but as of yet, has not had anyone rented. I don't understand why that changes the accounting one iota, it's still considered an investment property and not a primary residence. Unless you're telling me that the persons living in it
No, no. Yeah, I,
you may be able to do it both ways, I could see how it would be kept separately, because you have, you know, expenses taken on the Schedule E against rental expenses, versus, you know, their their other deductions for the trust against corpus, so, or, or both corpus and income. So I could see why you would keep the book separately and just track all the expenses related to the property as rental expenses, as soon as the rentals happens. And until that time, then they're just other trust expenses. Related to that, you know, the maintenance provision of the of the hands provision?
Oh, no, I would definitely disagree with you on so.
So if you Gina is as well. So if you think about it, I mean, it's as if, let's say a renter moves in there, and then a year they move out, you don't move it back, it stays there. If you have to do any work to it, that work is still part of the trust. It's just because you buy it and you haven't rented it yet doesn't mean it's not a rental property. Especially we renovate a property and it's still,
you know, and especially if they're attempting to rent it.
Correct. So you're saying any advertising or marketing money that you do to a rental, you're saying you're not going to attribute it as a rental. That's also what you're saying as well. So it doesn't make sense
to me to do that, it is very much the intention that counts, as long as they're not physically living in it. And everything along the way. is crystal clear that the intention is it is a rental property, then it's still a rental property.
Okay, so on the bookkeeping side, when they pay it, it's just paid as a rental expense.
No different. Okay.
Yeah. All right. That's what happens when you deal with numbers, you have all these options. So, right. Okay, good.
So I just wanted to point out that in this section of the operating agreement, you'll see that there's preferred class a member units and common Class B, member units. That's the whole point. The Class A units have voting rights management rights, class B units, only get a share of the profit and the equity.
Okay. But thank you, that was fun. Yeah, I think we figured it out. When it comes. Anybody else
have questions or comments about the scenario?
I was gonna make a comment, Gina, and forgive me, I had a meeting and came in late. So maybe you've covered this idea. That's the thought is, let's say that this scenario that I heard, they have concerns about not being able to access the funds that could get axed out because of the trustee. And that's very true. And the option could be, and this would be unrecorded and it's a it's a little bit dangerous, but it's an idea and that Is that an entity that they own and control could be a personal property trust comes in and puts a lien against the property as a loan. And if they had deep concerns that at some point, they could get axed out, then they could record their loan at that time, and access the money through a lien against the property.
And would that still be okay, if there's a mortgage on the property, though, already,
I'm thinking about equity over and above the mortgage. So let's say we got a $200,000 loan, but it got a $300,000 property, there's 100,000, that could be accessed by the the beneficiary. And, you know, just thinking outside the box, that in order to assuage their fears, which could be founded fears, could be unfounded fears. But in any case, having a an escape hatch is not a bad idea.
Good idea. And you can do that with a personal property, just you could also do that with an LLC controlled just by the chief beneficiaries. works both ways. If they really don't understand trusts, which is the reason they're fearful of the property being put into the trust, they might not just a personal property trust anymore than they trusted the personal trust. Well, the difference and the distinction, though, is with a grantor trust versus a non grantor trust
exactly that that is control. I mean, for the purposes of everybody else on here. And the beneficiary has control in a Personal Property Trust, and with the elite trust the it's the trustee that has the control, right. So with the
difference between a grantor trust and a non grantor trust,
exactly. Gina, this, Bruce, just on a slightly different twist on what what this, what we've been discussing. And I think it's one that a lot of the advisors are encountering is multiple owners, let's just keeping it simple, say, two partners that own and they currently rather than having a loose structure, which is pretty unusual unless they're loose student. But what a much more common one that we see on a daily basis is to people who have been advised to create a partnership. Utilizing a s, LLC, an S selected or an S corp. And now we want to undo that. So you don't
see that very often at all with real estate investors first CLL C's but not US elections was real estate investors. I can't think of a single one of our clients. That's an S corp. As a real estate investor, they may have as corpse that are different types of businesses, but they're not real estate investing businesses.
Okay, look, then let's spin it to having a LLC. Then, what would the steps be to put exactly
what we just went to? Okay, that the individuals now on the property, and the second suggestion that I made was if they don't want promissory notes or demand notes as beneficiaries, then conveyed the entirety of the property to an LLC owned by the three individuals. And whatever proportion, they contributed capital. So if it's equal, then it's 33.3% for each of them.
Okay, and because it's already been recorded, you're just making an amendment to the existing LLC. So therefore, there's no title change. Right
now. There's no LLC in place. Now, it's three individuals, the three individuals are conveying to a single LLC.
I'm talking about if there is an LLC that's currently in place, you're just making it so if
the property is owned by an LLC already, which we had in one of the other scenarios that Samantha posed, then all you're doing is an internal amendment of the operating agreement by completing the statement of interest of membership interest, partnership and management, and the meeting minutes.
Got it. Anthony and I were on a call yesterday at I think Anthony was even thinking about bringing it up. And we got into this issue. And I think it's something that that everybody could benefit by the answer and or structuring of the notion that the individual new trust client can use the payment on the trust, as a trust expense when it comes to tax time, and they liked that, Anthony, jumped in, when we were on with the client, or when I was on with the client or prospect, I should say, and said, No, you can't do that. Unless the trust has been set up. And then you can, because now you're telling me about something that has happened after the fact. And without getting into it, because we wanted to, of course be on an on an Allied side, I suggested that payment be held until the EIN was issued, in which case, Anthony was very comfortable with that, which is exactly what we did. However, many times a client is going to have a proposal, they're going to send in the money, there has not been any e i n created. And after the call Anthony, I had an I had a discussion that this is to me, and I'd like to get your take on this. Very similar to even if you're creating an LLC, and not even utilizing a trust and taking your business startup components before the entity is actually created. And the payments for those startup startup components. And utilizing that as a deductible expense as a business, I see no difference, because you're you whether it's a couple of days, or, or several or a week, or what have you. Before you get started. I'd like to get your take on that.
So first of all, there are three different roles within the abundance group. There are trust consult, which our salespeople are trusted advisors are advising on implementation, and operation of the trust, and then their trust tax advisors who advise on tax consequences. The question you're asking really isn't a question. I want trust advisors answering. Okay. And my trust consultants are instructed to say? That's a great question. It's treated as a startup cost of your trust. But that's something you're going to want to discuss with your tax advisor. Once you've got them. I got it. Now, what the tax advisor is going to tell them is that it is a startup cost to the trust. And as a startup cost, it is a deduction on the 1041 return for the inception year of the trust, it cannot be deducted on a 1040 return ever. So what that does is it adds whatever amount they paid for the trust to the clients, just 65 or 260 account depending upon whether they're a trustee or beneficiary. So it gets added to the demand No, basically. And because it got added to the demand, no, it's basically you selling the trust to the trust, right? It's a startup cost. So you're contributing capital to the trust in the form of a trust. And therefore it's an expense to the trust as a deduction on the 1041 return for your of inception. And you don't have to play games with getting the EIN number issued. Before that can be taken can be done after the fact. That makes me question for the tax advisor.
Makes complete sense. Yeah. Thank you.
Okay, so, Samantha, are we complete with your hypothetical?
Yes, that was fun. Awesome.
Anybody else have any questions or comments about hypothetical? Was that helpful for you guys as advisors? Yes. Awesome. So for next week, I would love to have somebody bring us another hypothetical that everybody can talk about. And it needs to involve a business trust, a personal trust in an entity. I don't care what kind of entity it is. But it needs to have a three unit structure, entity business trust, personal trust, because we're going to move into the business trust by the end of today's call. So I wanted to talk a little bit about numbers 5678. On the personal trust instructions, before we wrap up, Anthony did a great job last week of walking us through the Chart of Accounts and assets, liabilities, expense, income and expenses. But I think it's also helpful to go through some of the notes at the end of the instructions. In the personal trust, the only kinds of income that can go directly into the personal trust are what anybody remember. Asif is one, what else?
Capital gains?
Yeah. And what constitutes passive income?
Anybody?
Rental rental income? Yeah, really is income is the most obvious type of passive income. What other passive income do you have Lou?
royalties.
Yeah, you have intellectual property. Therefore, you have licensing agreements, royalties, lots of different types of intellectual property income. JV brokering creates intellectual property income. And there's actually a private letter ruling that the IRS put out back in the 90s. On that subject specifically. That's very interesting. It is to me too. I had lots and lots of income that was tax deferred as a JV broker. Any other kind of income that's treated as passive. Some investment income is also considered passive. So what kind of income cannot go directly into the personal trust?
Active income w two,
yeah, both of those, w two income has to go to the person first. And then they can turn around and convey the cash after tax do their trust. They can have some of it go to the trust they can have some of it donated it to a private family foundation, because it's a nonprofit. But it can't go directly in to the personal trust. For convenience sake, we do have a few clients that have their W two income paid directly to the personal trust. But in the books, there's journal entries accounting for it properly, so that the money flow is there going to personal first, taxed on a 1040 return after tax dollars are then sold to the trust as cash added to the 260 other 265 account. And now the money's in the Trust Bank account, they just journal entry it along the way, active and cannot go directly into the personal trust under any circumstances. It either goes first to the business trust, and then a distribution gets made to the personal trust as a beneficiary. And that's true whether the income is drawn directly in the business trust or in the Division of the business trust, or active income can go to an entity first. And from the entity, it can get to either the personal trust the business trust, or both, depending upon the structure. Everything always goes back to that all important structure, which is why I created those eight different structures for you guys to utilize in advising. I think that's going to be very, very helpful. The reason active income can Not go directly into the personal trust is because if it did that, and it's not that it can't, it can go directly into a personal trust, but it will end up getting taxed at trust tax rates, which is the highest individual tax bracket, plus three and a half percent. And I can't think of a single client that would be very happy. If we taxed all of their active income at those tax rates, they would be very upset with us. But by making use of the business trusts and entities, we have ways around having that active income taxed at the highest possible tax bracket plus three and a half percent. I've had a few clients over the years that have argued with me that active income can go directly into a personal trust, and then right it can, they just won't be happy with the outcome. So be careful with how you word things to the clients so that they don't get the CPAs that used to do their tax rules, and bring them back in to argue with you about it. Okay, trust expenses. Those things that are valid trust expenses, are those things that can be deducted on a 1041 return. There was a whole bunch of and the smaller list is what can't be deducted. It can't deduct the three F's food, fun and fashion. But you can deduct any expenses related to assets of the trust, or related to liabilities of the trust. So a mortgage payment is fully deductible by the trust, not just the interest portion, but all of it. utility payments, totally deductible.
And had one this morning, someone has a nanny. And they wanted their nanny gets a W two income from the individual. They wanted to know if the personal trust could pay the nanny on a W two. What's not that they can't, but just like we're going to talk about in the business trust, it's a very bad idea to make any of your trusts the withholding agent on payroll, because it turns that trust into a fiduciary choose between four and six governmental bodies. That's not a good thing to do. So a better way of handling it is to go and hire a payroll service. It's a specific kind of payroll service called a p e o a p e o is able to act as the withholding agent. And if the trust your personal trust now wants to pay a payroll service as a PEO, then go payroll for someone employed by the trust totally fine, and totally legitimate trust deduction on the other deductions schedule. So that nanny can get paid for all day long by the trust easy. What else qualifies as a valid trust expense?
Talk about medical insurance.
Medical Insurance life insurance for that matter to you as long as the insured is the trustee or beneficiary
collapse services cleaning services
as long as the asset is owned by the trust. So my personal trust owns my Lexus. I have a membership to my local carwash. We talked about it on the foundation's call yesterday Mr. carwash my trust pays for the cleaning service. Likewise it I trust also pays for my cleaning lady because my trust owns my property. Likewise gardeners no removal as long as the property is owned by the trust all of that deductible even the pool guys deductible. on real estate, a new roof as well as furnishings is able to be a valid trust expense.
Vehicles,
vehicles so a lease payment a car payment gasoline, oil changes repairs on the vehicle. New tires, new brakes all valid just expenses totally deductible by the trust on the other deduction schedule.
Can I throw in a monkey wrench? Only because I know that your dress probably has your puppy in it. But how does that work? If you add a puppy and for like someone wants to do dog walking services, as long as the trust with the puppy be the beneficiary or the owner,
the dog is the beneficiary. As long as the dog is under 21 years old, the dog's food, clothing, all deductible. Likewise, insurance because Popeye obviously has to have health insurance, right? His vet bills, his medication, all of that deductible as interest expense because he's the beneficiary. I just wanted to out there now, we actually do have a client, who will remain nameless, who actually sat down and named all 68 of her chickens, because she was making them all beneficiaries of her trust. Stop it. Now her chickens lay eggs that she sells. She wanted to be able to deduct their food and their upkeep their lights for them, et cetera, warming rents and whatnot. So what do you guys think? Is that legit as a trust deduction?
There they're beneficiaries.
No, no, yeah, they are assets used in the production of income. And that is very much not passive income. That is active income. Now that's a stretch. So if she wants to make them beneficiaries, she can do that. But I guarantee you if she ever got her trust return audited the IRS would have a field day with that. And she would have to claim the income from egg production and the egg sales as income to the trust which would be active income taxed at the highest tax bracket plus three and a half percent. Well, I don't want to do that that's a lot of money. Well, then you can't take the deduction for their food and their warming lights. It's an either or kind of thing.
Do you know what the chickens though be considered sort of like a almost like a rental property because they are passive eggs and you are up keeping them with food and stuff.
It's considered farming income, even though it's raising chickens and farming income as active not passive.
Would it be the same if you had let's say a dog or cat that did like dog shows or you made like you're a breeder or something like that?
Well, that's an interesting idea. It depends. Are they primarily your pet are primarily a source of income? Because that's how the IRS is gonna look at it. What is the primary source? Gotcha I like the way you think
I just have to step in here I never do. I'm just here to listen and learn. This is Jack. But as a podcaster I kind of dipped in on this chicken thing. And just thinking of having this recording, which I never maybe would ever do, but I just think Wow, the scenarios the crazy scenarios. This is brilliant. This is great content if if Gina you ever wanted to use it
I totally agree it is really good content and that's why it's a training for our trusted vice chairs right? Has to be but it's the kind of thing that we could certainly go out talking about that Swisher
weirdest things about trust podcast.
Oh, and and as weird as the Chicken Story is that's not even the weirdest time.
I have a feeling that if we're talking seriously about chickens right now there's stuff that people are afraid to bring up.
Oh, you don't even want to know.
Anyway, I'll go back to my quietness.
I will not repeat some of them on a recorded call. I will blush.
No, no What if she had a foundation and she had her chickens and she wanted to work stuff out. How could could that work together? I'm just playing devil's advocate here.
Okay, now there's an idea. So, is she going to use the money for doing good work?
She might. Yeah.
If she did, then potentially those chickens could be Foundation assets instead of personal trust assets. And now she can use tax exempt dollars to pay for their feet. Okay, that would be a possibility. Interesting, okay. But she only has a personal trust, she doesn't have any other anything. No entities, no business trust, no purse, no foundation. So in her case, it thank you for playing but your chickens are definitely outside of this. I suggested that she set up an LLC and make her chickens assets of the LLC. But she didn't like that idea. I said, Hey, then we could at least have 90% of the net be a deduction, right? You're only taxed on the 10%. She didn't like that idea. Then I gave her what the chickens could be owned by the trust analyst to the LLC. And then we could do 97%. Now she wanted to get to the 100%, tax deferral. I'm like, but the way you're doing it, now it's gonna be taxed at like 40 Some percent. So I don't understand why 40 Some percent on the entire net profit is going to be the tax rate. And understand why getting taxed on 10% of the income in a much lower tax bracket would be a bad thing.
Well, I'm happy but I'm happy with those two up. So you mentioned, because I've heard you say that before 90%, and then 97%. So 97% only comes in when we're discussing lease. And then 90% comes in when the trust is the limited partners that correct?
Yes. So with the LLC tied to the personal trust, using the statement of membership, interest, partnership, interest and management, like we discussed at the beginning of the call. With that in place, the trust as a 90% limited partner is going to reduce the client's tax liability to just being taxed on 10% of the net income. But if we have the LLC, sell its assets to the personal trust, the personal trust can lease those assets back to the LLC for up to 70% of the net profit. So let's say there's $100,000 in net profit in the LLC 70,000 can be paid to the personal trust as a lease payment, which therefore converts active income to passive income 100% tax deferred on the $70,000 on the remainder, which is $30,000 90% of it belongs to the limited partner 10% of it to the general partner, which is the client. So on 30,010% is 3000. The other 27,000 goes to the trust as a limited partner on a k one. So now out of 100,000 net profit, the clients only paying taxes on $3,000 or 3% of the net profit. Got it. But it does require the assets to be held with in the personal trust. And that's all of the assets. So you can do that with desks, computers, customer list, prospect list. You can do that with the domain name their own for the website. They can do that with their brand. There's so many different things that can count for assets that can be sold to the personal trust and leaseback to the LLC. The only caution you want to give clients on that lease is they really should not make the lease payment something exorbitant. It needs to be done at a realistic amount for other assets of that type. Now when we're talking about intellectual property, like the customer list, the prospect list, the website, domain name, the brand all that stuff is intellectual property. It really is something extremely valuable. And it's a lot easier to get a high lease payment when you're dealing with the intangibles than it is when you're dealing with That's the tangibles. So make sure you don't say, Oh, just use 70% of the net profit. Because it's not just use 70% of the nonprofit, I do have clients where they're only getting 45 to 50% of the net profit on a lease payment. Because the asset value is just not high enough to justify more than that. It really needs to be something that the client goes out and does some research on, to make sure that it's a reasonable amount that's being paid for the lease payment, not just an arbitrary amount, they should document in meeting minutes, how they came to that amount as the lease payment. And make sure that within the meeting minutes, it has information about the reasonable standard they chose to use for determining the amount you can guide them on determining the amount of a lease payment, do not give them the answer. They need to do the research. I don't care who they are.
And how how is there a time limit? So if an LLC is connected to a personal trust, the LLC buys real estate, and they need to is there a time limit on when they should convey it to the personal trust? Be like so you know, when they do they buy flippin fix. So if they buy it, how does that work with them going into the person to trust holding it while it's being fixed and then putting it back out?
So they don't ever have to convey it to the personal trust? If they don't want to? They can leave it in the LLC, and still get 90% tax mitigation.
Interesting. Okay.
So why would they want to put it in a personal trust instead of the LLC?
You said so why would they? Or would not?
Why would they want to under that point?
Are convey or you mean bought in the personal trust?
Convey from the entity, LLC to the personal trust? Why would they want to
more liability protection? Yes, right. Right.
There was very little asset protection when it's owned by the LLC. There's way more when it's owned by the personal trust. And they get an extra 7% of the income that is going to be tax deferred, or up to an additional 7% I should say.
And so it goes. But when it when it's the LLC with the with the PT personal trust, it has to go LLC to trustee to PT, correct?
No, no, it doesn't. I thought, okay, if the member of the LLC is a beneficiary of the trust, it can be an income distribution of equity from the LLC to the beneficiary. And the beneficiary conveys to the trust. It can also be the trustee of the personal trust, that's the member of the LLC, and therefore it goes an income distribution of equity from the LLC to the trustee, than the trustee conveys to the personal trust. But in the second instance, if it's being done by the trustee, not by a beneficiary, then the conveyance at basis may require a gift tax return on the difference between the sale price to the trust and fair market value, because it's a related party transaction. Well, okay, good. Okay. So that's just expenses. And all of these notes talked about the other trust expenses. They're all still trust expenses to me, as long as they're valid trust expenses, then they can absolutely positively get put on as a deduction on the trust's 1041 return. The only difference between being a trustee and being a beneficiary. What is it Samantha, you mentioned it before we started our call today.
Oh, sorry, would say the question again.
What is the only difference between what a trustee can receive and what a beneficiary can receive
What is the difference? I mean, how would you say the 260 versus 265 account? The answer you're looking for, sort of,
but that's not quite it. Anybody else know what the difference is in being a beneficiary versus being a trustee? Yeah, it's a control over it. But it's bigger than
other than the gift tax or the related party.
Trustees can receive. All the same benefits from the trust that a beneficiary can receive, doesn't matter what that is health, education, maintenance support. But there's one difference between the two roles,
doesn't mean the Euro has no control whatsoever. Say that, again, beneficiary has no control whatsoever. True.
And therefore, the trustee can choose to allow a beneficiary to drive a trust on vehicle, beneficiary doesn't have to pay any of the expenses. Just he can also choose to allow a beneficiary to live in a trust on property. Beneficiary doesn't have to pay anything, trust pays for everything. In those juicy scenarios, if the trustee or driving a trust owned vehicle, and or the trustee is living in a trust owned property, the trust deed must pay personal use of both property and vehicle. In both cases, there is a personally use lease agreement that is to get completed by the trustee. In the case of the property, just do needs to go out and do some research to figure out for a property of that type in that area. How much are people charging for exclusive use of one bedroom, and shared use of a bathroom and a kitchen. It's not a huge sum, usually in most parts of the country. But absolutely, positively, the trustee must pay for personal use. The rest of the property is considered being used for trust business, but not the bedroom and the bathroom in the kitchen. That's considered personal use. The IRS has a field day, when you've got a trustee living in a trust on property, not paying for personal use of it. It's considered an abusive trust tax scheme. Likewise, the trustee must pay for personal use of the vehicle, it's a good idea for the trustee to actually track their mileage so that they can figure out what percentage of the use is personal versus business based on whatever that amount of usage is, if you figure what that type of car of that age in that condition is normally leased for, take that percentage times the amount it's normally leased for. And that's what the client would use for the personal use lease. The older the vehicle, far less the trustee would pay for personally years. Now we do have some clients who ended up being trustees who really don't use the vehicle for business at all. It's all personal use. In that case, they're going to pay a little bit more. But I think in most instances, we can make a good case for at least some of the usage of the vehicle being for trust business, even if it's just going to the bank to make deposits, going to the post office to mail the payments for the trust. That's trust business to a trust. So that's an important piece for clients. That's usually the very last step in their implementation of a personal trust. It's getting the personally use leases set up if they're going to act as trustee and not as beneficiary.
So I'm sorry
that Samantha Oh, so
Anthony one when I call. That's what I was referring to. And I wanted to make sure that we had went over that today. The personal use lease agreement with the trustee and a endep primary residence. That's what I was trying to describe but I wasn't quite able to discuss it with you well
So any questions about personal trusts before I move on to business trusts?
So Gina, can that be taken, I guess for the amount that your space to pay personally, can that be taken off the demand note?
It absolutely can't. But remember, let's say that the person will use lease of the residence and the vehicle comes out to $5,000 a year. When you take that $5,000 off for the demand note, remember that there is still a portion that needs to get attributed to interest. And it should report on a k one issued by the trust to that individual who is the trustee. So just remember that in year two, and beyond, all of that is going to be treated as interest income to the trustee because of the accrued interest.
So that will be on the 299. Is that what you mean?
No. Interest income reports on a k one.
Okay, gotcha.
Any other questions about personal trust before we move on to business trust?
Okay, so, business trust, Yay, we're finally here. I have rewritten the business trust instructions that you'll find in the accounting sub folder, I'm going to make a copy of them over to the business trust folder as well. I've rewritten them recently, based on what we learned in the trust advisor training in the first two weeks. So if you remember, just as a review, there were eight structures that we went over four of them, we did on the first call, then on the second call, we did the next four, I am using those same structures here in the business trust instructions. They'll make it easier on you guys. Now, what I did not do here is I did not add in the foundation. But I did go into the four different structures that involved a business trust. The first step of setting up the business trust is figuring out what is the structure going to be. There's two parts to that there's in what business entity, will business be conducted? Is it going to be conducted directly out of the business just is it going to be conducted out of an entity? second consideration is where are the assets can be held? Are they going to be held in the business trust, or they're going to be held in the personal trust. That's both of those considerations need to be discussed with the client, before the client can decide which structure they want to use. In number one, they operate strictly out of the business trust. All businesses done directly in the business trust might be done in divisions, but it's all done through the business trust and not at all through an entity. Under Options, two, three and four. It involves an entity in some way, shape, or form. So option number two is a business trust plus an entity with the business trust holding the assets. There's also a personal trust in all four scenarios. Option three is a business trust with the personal trust holding the assets, leasing those assets back to the business trust. And option number four is a business trust with an entity doesn't matter where the assets are being held, but the entity is being used strictly for payroll so that the business trust then leases the employees from the entity. Now in all three, I say LLC, but it really can be done with an LLC, an S corp, or C Corp. It doesn't have to be just LLC, and I'll make a note on here to that effect. There's just easier to say plus LLC than the list them all out. So we need to walk clients through the analysis to figure out what structure is going to work best for them. In figuring that out, always keep in mind that being strategic means having the greatest amount of leverage. Leverage means having the biggest possible results with the least amount of effort in the shortest amount of time. So if we're being strategic, getting a client, the greatest amount of leverage, that means doing it with the least number of entities necessary to accomplish the objective. If it is possible to operate just out of a business trust, that is always greater leverage than having an entity involved. The minute you have the entity involved, a there's additional annual costs, be there's additional risk. So if we can do it just out of the business trust, it's way better way better. Now,
one of the things that makes our trust unique is the fact that as a business trust, I don't know of any other Trust Company, that as a business trust structure that would allow the business trust to actually hold the assets, whether it's in the overall business trust, or in a division. I don't know of any other business trust that can allow that to work. Because so often, they're grantor trusts that are self settled, and there would be no asset protection. And in most cases, if assets are held in the business trust, and there's active business income, well, there's going to be no tax mitigation. The reason the business trust provides tax mitigation at all, is a if the assets are held in the business trust, and the assets create either capital gains income or passive income, well, it works exactly the same way as it doesn't the personal trust, capital gains taxes are eliminated. Income tax on passive income is deferred in perpetuity. So the only way that the business trust can hold the assets, and provide packs when negation is if the assets aren't producing either capital gains income, or passive income. If it is active business income in the business trust, then you really can't all the assets in the business trust, unless the client is willing to either a be taxed on 100% of the income, I doubt they're gonna like that idea. Or be they can take 100% of the active income and donate it to a foundation. That's allowed. But otherwise, if it's active income, it got to own the assets in the personal trust and release those assets to the business trust, or there will be no tax mitigation. It's through the lease that we're able to convert a good chunk of income from being active income to the business just to being passive income to the personal trust. Everybody clear on that. Any questions about it? Yeah,
just want to clarify one thing that you said. So you said if there's active income in the business trust directly, then you can donate 100% to a foundation
hmm. 100% of the net profit. Because both the business trust and the personal trust are complex trusts in complex trusts can deduct up to 100% of their net income as a charitable donation.
Okay, but then it's only 30%. If you only have a personal trust, well, you can't because there's no active income in the personal trust. And
it's only 30% on a 1040 return an individual return.
Got it? Okay.
Well, I have a follow up question, because you mentioned complex. What makes it what makes a trust considered complex other than I know in my mind and webs of connecting the two are what makes it complex?
Anybody know the answer. It's The funny answer let me get this way thing. That's
not a simple trust.
Yes.
Okay, so I was gonna say just adding the word to it makes it complex.
So, Lou is correct. The legal definition of a complex trust is anything that is not a simple trust. So in order to define complex trust, you must define a simple trust. Who knows what a simple trust is?
A land, I mean, a land trust is that it's no,
it is a type of simple trust. Yes, but why?
Because it's grantor.
It's a flow through entity, it ends
out flow through entity in a simple trust, a simple trust must distribute all income at least annually. And it is through the distribution of income that is taxed to the beneficiaries or to the trustees, depending. But 100% of the simple trusts income must be distributed at least annually. And therefore it's taxed annually. So if the trust instrument itself does not require 100% of the income to be distributed, at least annually, then it's not as simple just then you ask, okay, is it a complex trust? Well, if it's not a simple trust, it has to be a complex trust. There's no other way about it. There's only those two kinds of trusts.
Thank you that helps.
On a simple trust, they do not file a 1041 return, it is taxed on whatever return, the individual that received the income is filing a 1040 return or something else. Makes sense? Yes,
thank you. So
the conclusion I have come to with structure is there's really two kinds of businesses, and only two kinds of businesses that can hold assets in the business trust and still get tax mitigation. That is real estate investing businesses, and information based businesses, meaning speakers, authors, coaches, info printers, software developers, patent holders who are making money from licensing agreements, or royalties are the only two kinds of businesses intellectual property income businesses, or real estate investing income businesses, all the other businesses, more than likely cannot hold assets in the business just because they need the least out mitigate their taxes. I think that makes it easier for you guys, and for clients to wrap your heads around, than trying to think of all the various types of structures. The one thing that any type of business doesn't matter what it is, can do to get mitigation of taxes is to set up the private family foundation and plan on making a charitable contribution of some amount, don't mitigate taxes. Understanding that those are the only two kinds of businesses that can hold assets in the business trust. And knowing that the foundation can receive a donation of up to 100% of the net income and either the business trust or the personal trust, should have you guys realizing that we can literally get clients to nearly a $0 tax liability annually. But it requires a three trust structure in most cases to do it,
which is Bill Gates and Jeff Bezos and the rest of them don't pay any taxes,
right. And in some instances may even get refunds. Even though they paid no taxes, which is goofy. But because the foundation can pay for food, the only monies that a client may need outside of one of the three trusts is for fun in closing, and even clients that don't ever The biggest states, they've got enough in their state to cover taking money out through a demand note for fun and fashion, especially if they can get travel paid for by the Foundation. Guys, please recognize the power that that has, especially as we move into the business trust structure. I really want every client that gets a business trust, you also get a private family foundation. A, anyone who's in business today, they should be looking at how they can do more good works in the world, they just should. And be, it gives them a giant benefit, because we can sit down and do a planning session and get them a $0 tax liability every single year from from now until whenever their businesses die. That's in unbelievably huge benefit. If they didn't come in with a foundation, when you first started working with them, then you absolutely do need to have a conversation or two about it. Okay, next thing you need to look at with the business trust, that is part of structure is who will be the interest holder in the business trust. If you've ever sat down and read a business trust of ours, you will know that we don't call them beneficiaries in our business trust. We call them interest holders. We did that for a reason. By calling them interest holders, it makes it a lot easier for someone utilizing the business trust to get partners involved in their business or businesses. An interest holder is exactly what it sounds like. They hold units of beneficial interest in the business trust or in a division in the overall business trust. Usually, you're gonna have one beneficiary, maybe two, the first beneficiary is always the personal trust. It holds 100% of the interest in the overall business trust. Unless you also make the foundation and interest holder in the overall business trust. You don't need to make the foundation and interest holder in the business trust in order for the business trust to make a charitable donation to the foundation. So in most cases, I don't make the foundation and interest holder, I only make the personal trust and interest holder. Within the divisions. You may have one beneficiary or interest holder that is the personal trust. But there's no limit to how many interest holders you can have in either the overall business trust aren't any individual division. It's really up to the client's business as the who becomes an interest holder. And interest holder. It can be a personal trust, or IP personal trust. It can be a nonprofit, it can also be an individual or any type of entity. So if Lou and I are going to partner on something, and Lou is adamant that he wants his interest held by his LLC, even though I want my interest held by my IP personal trust, we can accommodate both of us no problem. And it's because in the business trust, we have created various classes of units, their units of beneficial interest. When any person or entity becomes an interest holder, whether in the overall business trust or in a division, they also get what we call a basis account.
You guys know it as a demand note account, a 260 account or 265 account. But in the business trust, we call it a basis account. And we do that because that's exactly what it is. It's tracking that interest holders basis in that division or in the overall business trust. Because it is a basis account. And because we are issuing units of beneficial interest. We do not need A demand note. And that's a very powerful thing. Because the demand notes system that is being built for the personal trust, it's a very complex beast. And in the event of an audit, a one of them minimize the use of the demand notes system, if at all possible, especially in the business trust. Done, the way that we're doing it with bases accounts, instead of needing a demand note makes so much sense. And any auditor from the IRS looking at the business trust, seeing a basis account, understanding units of beneficial interest, they are going to have a much easier time on the way we're operating out of the business trust than they would if the business trust positioning demand notes. And with demand notes. It would have created issues with partnering with other people in a business trust, if those other people didn't have personal trusts of their own. So making it into a basis account with interest holders holding units of beneficial interest. It's very unique. I don't know of anyone else that has a business trust that does that. And it's what gives our trusts so much power. And from the tax attorneys that have reviewed it. From what I'm told, it sets us apart from the crowd in a very good way.
Gina, can I add an example here? Absolutely. We just got notification of a contract being accepted. A one of my Platinum level clients has bought a deal. That's 21 houses 21 properties. We're gonna partner on that meaning the trust is going to partner to purchase those properties. He is coming in as an elite trust purchaser has not yet but plans to. And so my thinking is that this would be a joint venture of trusts. And I've been thinking through, you know, what's the best way to really do that? Is it to bring it in under one trust and then have a agreement between the two beneficiaries? Or is it better to have both trust names on the deed?
Oh, no. One trusts Yeah, I thought so too. I it if you're buying them in bulk, and there's one deed 21 deeds, then one division of the business trust, if there's 21 deeds 21 divisions in the business trust. Because each division has its own corpus, its own trustee, and its own beneficiaries or interest holders. Each one is totally separate from anything else in the business trust, including any other division. So for asset protection purposes, the strongest thing you could do is to put each of the 21 properties in a separate division. Each of those divisions will have your personal trust as an interest holder, and his personal trust as an interest holder.
Excellent. That's exactly the path that was on. That was it includes a significant amount of seller financing. And so the complexity there is as people grow to the path to home ownership and purchase, then what I suggested is we're assigning a value to each one of those and assets in the total of the loan. And so as someone purchases, that amount of money would be paid. And it would be pre agreed that that would be the release amount. And you know, there couldn't be any distinctions of argument about that. The challenge is 21 mortgages versus one mortgage that has 21 properties in it with a release clause that's predetermined as the amount that would be credited to for the release.
Good luck on that mortgage. Wow. So you could even have the sellers that are doing the financing receiving units of beneficial interest that we call class. I think we call it class c units, if I'm not mistaken. There are units that just protect their equity interest in that division without necessarily giving them any share of the profits. It's like a lien basically. They're ponying up the dough for that purchase, and it gives them a protection, they can hold that individually, they can hold that in the name of an entity, however they want.
So you're suggesting don't put a mortgage against the property, put a lien against beneficial shares,
you can do it that way.
That's what we do in the Personal Property Trust, we have a collateral assignment of beneficial interest. Yeah, as exactly how I would lean protection. And
exact same thing in the division
to make them comfortable. And of course, I wanted to get it under contract before a pitch to them to trust. Now I plan to today literally pitch them the trust. Because it just makes perfect sense. They're about to get a sizable amount of cash, right? And everything's written down and written off. So they got a capital gain coming their way, plus, they've got a significant amount of cash flow that's going to come. And
just remember that if they aren't going to set up a trust, you're going to need to renew the contract in the name of the trust. In order for them to get tax benefits, just give them yes. And obviously, make that easy and painless for them to do. But I would suggest that you get them with Julie to get the property conveyed to the trust ASAP. So that as soon as that happens, then you redo the contract. Okay, and I would make a contract date, a date after inception of the tax ID number, not the original date.
Okay, got that.
Keep me posted on how that happens.
Okay, will do. Thank you.
Okay, so the one thing that you need to be aware of, and advise clients on if the client is a trustee in the overall business trust, and a trustee of the personal trust, there's two parts to the income. There's that portion of income that's either capital gains income or passive income that passes through from the person the business trust to the personal trust, and it's gonna stay in the same character that it was originally. So it'll be 100% tax deferred. But on active income, there's going to be a portion converted to passive income, and a portion that passes through as active income. If the client does not have a foundation, that portion that passes through as active income, that comes into the personal trust, a portion of it is going to end up getting taxed. If the client is acting as trustee, and both the business trust and the personal trust, it's going to report on a 1099 to the client. If the client is only trustee in one of the two trusts, and not both, then it reports on a k one. So what that's the difference? Well, if it reports on a 1099, it's subject to self employment tax. If it reports on a k one, it's not the small amount that's gonna end up getting taxed to the client that would report on a 1099 of 30. Trust in both trusts. Make sure they understand. Eat it, just live with it. Because the only other option is they've got to give up control of the trust and not act as a trustee in one of the two trusts. In a business trust, that's horrible. They need to be able to run the business and therefore need to be a trustee. But it's equally horrible. On the personal trust, you can't make a spouse, the trustee can't cross the fences, like we've discussed. So if that comes up with the client, either eat it, let it be okay, or set up a foundation, and then you don't have to worry about it your choice for most clients, the additional 15.3% for self employment tax justifies the cost of the foundation in the first year. So that's my advice to clients. And that's why such a large percentage of our clients that have business trusts also have foundations, it, they don't have to give up any of the control that way, they can still be trustee in both trusts, at least after they've played musical chairs for the long term of trusts. And they don't have to worry about self employment tax. Okay, let me look at our time, what time is it? So I don't want to take up any more of your time today. So we will pick up with step two, was executing the business trust opening a business Trust Bank account on week, eight next week. Who has takeaways for us today?
I learned lots.
Well, that's good.
I'm glad to hear that. Kyle.
One question. Go ahead. When you were referring to individuals being interest holders, were you referring to them being interest holders and divisions of the business trust, because I know when we're creating their business trust, we've been trying to deter their clients from having any beneficiary other than their personal or IP personal trust.
So I have a couple of clients who have business partners in all of their businesses, and their business partners don't want personal trusts in that is they may want an individual as an interest holder in the overall business just I try really hard not to make that happen. I can only think of two instances with all the business trusts we've done. Where that was true.
Okay, so somebody like a spouse should just be a beneficiary of their personal. Yeah.
Got it. Well, spouse can't be a beneficiary of the clients trustee.
It wouldn't be for spouses that you would have that happen. It's only with business partners. You don't want personal trusts. Okay. Goofy idea in the first place. But yeah, I agree. Anybody else will take away
now, next week, guys, I want takeaways, that was my most important part of the call. I'm gonna let jump up for today. Have a great week, everybody. We'll be back both Wednesday and Friday for our personal trust calls this week. Take care guys.