BILL NUMBER:S5519

TITLE OF BILL:
An act
to amend the estates, powers and trusts law, in relation to certain
formula clauses to be construed to refer to the federal estate and
generation-skipping transfer tax laws applicable to estates of
decedents dying after December 31, 2009 and before January 1, 2011

This is one in a series of measures being introduced at the request of
the Chief Administrative Judge upon the recommendation of her
Surrogate's Court Advisory Committee.

This measure would amend section 2-1.13 of the Estates, Powers and
Trusts Law ("EPTL"), which was added in 2010 in response to the
repeal of the Federal estate tax for decedents dying in 2010 and the
repeal of the generation-skipping transfer ("GST") tax in 2010. L.
2010, c. 349. In the view of our Advisory Committee, chapter 349
needs clarification in light of Federal election options.

According to the bill summary accompanying the 2010 enactment:

"Many wills, trusts and beneficiary forms prepared prior to 2010 were
based on formula dispositions in the case of married testators. The
aim was typically to leave as much as possible on the first spouse's
death to a trust or to individuals other than the surviving spouse
              

(typically issue of the decedent) without causing estate tax on the
first spouse's death. This was commonly referred to as a "credit
shelter bequest", since the amount involved ($3.5 million for
decedent dying in 2009) would be sheltered from estate tax on the
first death by a "unified credit" allowed under the Internal Revenue
Code. The credit shelter bequest is not subject to estate tax at the
surviving spouse's death. "The credit shelter bequest is usually
phrased in terms of the maximum amount that can pass free of Federal
estate tax on the first death, or in terms of like effect. The same
results were obtained with formulas leaving a spouse outright or in a
form qualifying for a marital deduction against the Federal estate
tax, the minimum amount necessary to avoid imposition of an estate
tax on the first spouse's death. With repeal of the estate tax, these
formula clauses could be interpreted to leave the entire estate in a
credit shelter disposition and nothing to the spouse or in a form
qualifying for a marital deduction. This conclusion is reached since
the entire estate and not just the part formerly sheltered by
statutory credits can now pass under a credit shelter disposition
without there being any estate tax.

The Federal generation-skipping transfer tax is also temporarily
repealed for transfers in 2010. Many wills and testamentary
instruments also left to grandchildren (or to trusts that would
eventually pass to grandchildren) maximum amounts allowable without
imposition of a Federal generation skipping transfer tax. With

repeal, this amount is now unlimited, and may pass to grandchildren
to the detriment of the decedent's children."

Thus, in order to prevent unintended consequences of estate and GST
tax repeal in the form of distorted formula dispositions, the EPTL
was modified to construe certain formula bequests or other
dispositions of property as if they were made pursuant to the
provisions of the Internal Revenue Code of 1986, as amended, as those
provisions were in effect on December 31, 2009.

The bill summary also indicated that (at the time the summary was
prepared) there was still a possibility that Congress might reinstate
an estate tax or a GST tax for 2010 retroactively. As a result, the
EPTL was modified to contemplate a retroactive estate or GST tax by
providing that the statutory rules of construction would not apply if
the Federal estate tax "becomes applicable" before January 1, 2011.

As noted, our Advisory Committee believes that the 2010 legislation
should be clarified. The Tax Relief, Unemployment Insurance
Reauthorization, and Job Creation Act of 2010 (the "2010 Act:),
retroactively reinstates the Federal estate tax, with a $5,000,000
estate tax exemption amount and 35% estate tax rate for 2010. The
2010 Act also includes an option to elect out of estate tax treatment
and be subject to a carry-over basis regime. The GST tax is also
retroactively reinstated, with a $5,000,000 exemption amount and 0%
tax rate for 2010.

Pursuant to EPTL section 2-1.13(a)(4), the statutory rules of
construction will not apply if the Federal estate tax or GST tax
"becomes applicable" before January 1, 2011.
Accordingly, if an estate is subject to estate tax under the 2010 Act,
the statutory rules of construction will not apply, and formulaic
provisions will be keyed to the $5,000,000 exemption amount However,
the result is unclear if an election is made not to have the federal
estate tax apply. In such a case, the estate tax would not "be
applicable" to the particular estate at hand.

If the estate tax must be applicable to the case at hand in order for
the statutory construction rules not to apply, there may be an
anomalous result if carry-over basis treatment is elected: in the
estate tax default treatment scenario, a $5,000,000 exemption would
apply in the interpretation of formula clauses. However, if carry-over
basis treatment is chosen and the statutory construction rules are
applicable, formula clauses may be interpreted with a $3,500,000
exemption (because the EPTL refers to Federal law as of December 31,
2009). This election option could present a very difficult dilemma
for a fiduciary, typically subject to duties of impartiality, if the
fiduciary's election might determine a funding amount.

The modifications to the EPTL enacted in 2010 were drafted to
anticipate a possible retroactive estate/GST tax; however, the issue
of an election about whether to have the estate tax apply was not

addressed. Our Advisory Committee believes that a modification to the
EPTL is necessary in order to effect consistency in the
interpretation of formula clauses (whether an estate is subject to an
estate tax or a modified carry-over basis regime), and to clarify that
formula clauses will be interpreted with reference to a $5,000,000
federal estate and GST tax exemption amount.

We believe that the statute should be clarified regarding its
beneficiary designations. EPTL 2-1.13(a)(1) and (2) both provide:

"If by reason of the death of a decedent property passes or is
acquired under a beneficiary designation, in the case of a will or
trust of a decedent...that contains a bequest or other disposition
based upon the amount of property that can be sheltered
from...tax..." (Italics added)

We believe the addition of the phrase "in the case of" leads to
ambiguity as to whether the statute applies to beneficiary
designations generally, or only those designations that are payable
to an estate or trust. The ambiguity regarding the statute's
application to beneficiary designations is compounded because the
reference to "beneficiary designation" does not consistently appear
in the statute with each reference to a "will or trust".
Accordingly, we recommend that the phrase "in the case of" be deleted
from the statute
and that the reference to "beneficiary designation" appear
consistently with each reference to a will or trust. These changes
are necessary to clarify that the statute applies generally to
beneficiary designations.

We recommend clarification of the statute regarding bequests and other
dispositions that refer to the GST tax exemption. In light of the
2010 Act, we believe that language in EPTL section 2-1.13(a)(2)
regarding direct skips to natural persons should be removed.
As a result of the clarification provided by the 2010 Act regarding
the GST tax regime, the EPTL provisions should reach all GST type
transfers. The reference to direct skips to natural persons is
therefore unnecessary and confusing and should be removed.

This measure also would extend the time for bringing a judicial
proceeding. The EPTL currently allows a judicial proceeding to be
brought within 12 months following the death of the testator or
grantor. Since Federal law was not clarified until December 2010, it
is urged that the time for bringing a proceeding be extended until
the end of the later to expire of (1) 24 months after death and (2)
six months from the date of enactment of this measure (i.e., the date
on which the Governor signs it into law). Indeed, with a 12 month
time-frame, the time to bring a proceeding may have already expired
with regard to decedents who died early in 2010. We also recommend
that the court have discretion to further extend the time for filing
a proceeding (parallel to the discretion granted to the court
pursuant to EPTL Section 2-1.11 "Renunciation of property interest").

Notably, other states, including Virginia, have introduced legislation
to clarify the operation of state formulaic construction statutes, in
light of the 2010 Act. The proposal introduced in Virginia on January
20, 2011 also seeks to effect consistency in the interpretation of
formula clauses (whether an estate is subject to an estate tax or a
modified carry-over basis regime), and to clarify that formula
clauses will be interpreted with reference to a $5,000,000 federal
estate and GST tax exemption amount. The Virginia bill also includes
a provision that will extend the time for bringing a judicial
proceeding, beyond the original time frame of within 12 months of
death.

This measure would take effect immediately and apply to wills and
trusts of decedents dying after December 31, 2009 and before January
1, 2011.

LEGISLATIVE HISTORY:
None. New proposal.