Bill and Cynthia May's estate transfer plan protects their land from falling into the hands of developers.
It's bone-chilling cold as Bill May hitches up the team. His Bay Percherons are antsy, knowing they're about to pull the hay sled through belly-deep snow to feed the herd. They've done it a hundred times, yet the anticipation is there as if it's the first.
It's a way of life that May's family has been accustomed to for 100 years. Now, however, it's become tough to justify the hard work for the financial payback of running 200 cows on land that's being re-valued and gobbled up by wealthy outsiders.
Some ranchers might agonize over whether to cash in and live "the good life." Others, like Bill and Cynthia May, believe they're already living the best life possible and have no intention of allowing their pristine mountain ranch to be overrun by development entrepreneurs. And even though they battle high-elevation ranching challenges and sometimes dismal cattle prices, they just can't give in.
"When I look down from heaven I don't want to see any houses on that meadow," says Cynthia, pointing toward the 200-acre hay field adjacent to Elk River which snakes along their S Bar S ranch. "When they started to build houses on Mr. Carver's meadow it about killed me. It's not as if they couldn't have built a house somewhere else. They could have."
Development Moves In The Mays live five miles west of Steamboat Springs, home of world famous Steamboat Ski Area. In the mid-1960s the bustling ski haven started developing and quickly introduced the world to the once-small ranching region. Soon, 35-acre plots of land were purchased all around the town and multi-million dollar houses built.
"The people kept coming and coming," Cynthia recalls. "They built all around us. Not just little modern houses; we're talking mega mansions."
As the development continued, the Mays became increasingly worried about land values and taxation. In 1993 they finally put their ranch into a revocable trust called the May Family Trust. They thought they'd be set for life. Not so.
"We thought our whole property would be appraised and taxed at agricultural values forever. But, it doesn't work like that," says Bill.
A revocable trust transfers ownership of assets from the owners to them as trustees of the trust to give each of them an opportunity to protect their federal estate tax exemptions. A revocable trust doesn't guarantee the land will be taxed at its agricultural value.
"Some of our neighbors didn't have an estate plan and when the dad died, all the sons together couldn't pay the taxes," Bill says. "They had to liquidate the entire cow herd and start over."
That was a wake-up call to the Mays that they needed to take a second look at their estate plan. Fortunately, they'd attended some estate transfer meetings and were in the planning mind-set. By the middle of '95 they were ready to put an actual plan in place.
Their process started by talking with each of their four children individually, followed by a family meeting. "Our kids' biggest concern is that Bill and I are taken care of when we get old and decrepit," says Cynthia.
"They'd (children) all like to ranch, but all have other jobs. Right now, since both Bill and I are actively ranching, there isn't enough income from the ranch to support more than one family. But, they all want to see the ranch stay in the family."
Besides the cow herd, the Mays also run yearlings. Deeded property is split between two locations: 400 acres at headquarters called River Ranch, plus 1,200 acres at the Mystic Ranch, 10 miles away. In addition, there are four 10,000-acre U.S. Forest Service grazing allotments that accompany the operation.
Starting The Estate Planning Process While attending estate planning meetings, the Mays met and now consult with estate planner Kathy Boyd from Limon, CO. (See "Family Matters," February BEEF, page 48.)
"The Mays have been passionate ever since I met them about keeping their place in agriculture," says Boyd.
Boyd was part of the team that helped the Mays set up a plan to follow their objective of keeping the ranch intact, in agriculture and in the family. The first thing the plan did was put the River Ranch (headquarters) into a conservation easement held by the Yampa Valley Land Trust.
A conservation easement is a legal agreement a landowner voluntarily makes with a qualified land conservation organization to restrict the type and amount of development that may take place on the property. So, the conservation values of a property (scenic, ecological, productive or open land resources) are permanently protected. The landowner still owns, operates and manages the property.
Because such restrictions reduce the marketable value of the land, the landowner's heirs are faced with a reduced estate tax liability upon the death of the owner. This facilitates the transfer of property to the next generation and allows for continuity of multi-generation farm and ranch family businesses.
"The intent is to protect the conservation values, including the productivity and scenic quality of the property," says Susan Otis, executive director of the Yampa Valley Land Trust in Routt County. "The May ranch has all of those."
Unfortunately, Otis points out, Colorado is losing over 90,000 acres of agricultural land a year to development. To combat the loss, ranchers and farmers can use land trusts when estate planning. Land trusts are recognized by the IRS as tax-exempt charitable organizations, so ranchers can claim tax benefits for qualifying land conservation transactions.
Value Of Conservation Easement The conservation easement accomplished a couple of things for the Mays. "They did a part sale, part gift of their development rights which provided them some much needed cash from several years of poor cattle markets," Boyd explains. "It also significantly reduced the value of their taxable estate because it holds the value of that land at agricultural value, not development value. The development rights are virtually gone and the land is held as agricultural in perpetuity (eternity)," Boyd says.
Appraisers estimate the agricultural value of the River Ranch at about $800/acre. If unrestricted, or destined for development, that same land would value at $7,000-12,000/acre or more. In return, the Mays were paid a considerable amount by the Yampa Valley Land Trust for eliminating any future development.
"The Mays then had to pay capital gains tax (20%) on the amount of the development rights they could keep income from," Boyd says. "They also had a donation which partially offset the capital gains, but they still had a fairly sizable capital gains tax.
"However," Boyd adds, "I think it's safe to say it reduced their taxable estate by several hundred thousand dollars. That's a significant advantage in reducing the amount of estate tax due."
Also, with part of the cash the Mays received from the conservation easement, they purchased a "second-to-die life insurance policy" that can be used to pay the taxes on the rest of the estate. Since taxes are due at the second death, that policy provides the money to pay that tax. "At the first death, basically the tax is just deferred to the surviving spouse until the surviving spouse dies," Boyd explains.
"The conservation easement was a very unselfish move," Boyd believes. "If the Mays were just interested in money, they could have taken the 400 acres and sold 10, 35-acre lots for millions. But because of their passion for their land, they forfeited that income to keep it in agriculture."
The Mays have also replaced their May Family Trust with two new revocable living trusts: the Cynthia May Trust and the William B. May Trust. "Those revocable living trusts will allow both of them to take advantage of their unified credit exemption of $625,000," Boyd explains.
In addition, since the Mays are actively ranching, they're eligible for a personal business exemption, Boyd says. As long as the ranch provides more than 50% of their income, they're allowed another $675,000 each ($1.35 million total) as personal business exemptions.
Review Of What They Did
To review, here's what the Mays have done with their estate:
* Negotiated a conservation easement on the River Ranch which reduces the value of the River Ranch land in their estate.
* Purchased a second-to-die insurance policy so their children could afford to pay the taxes at their parents' death.
* Implemented a revocable trust which allowed them both to take advantage of their unified credit. At their death, their personal representative is then entitled to apply for the additional business exemption.
* In addition, they're in the process of selling their cow herd and turning the ranch into a yearling operation, which the Mays say will make it easier for their children to handle if and when they take over.
"By taking installment payments on the herd over 10 years, it reduced the tax impact that we'd have had if we disposed of them all at once," Bill says. "Plus, the rancher buying the herd has to have ownership of the cows to be allowed to use his grazing allotments. We'll sell the cows now but hold a mortgage until all installments are paid."
Future Estate Plans What's still a bit uncertain for the Mays is the transfer of their 1,200-acre Mystic Ranch property. Besides using the ranch for grazing, the Mays also lease the land for hunting to generate much-needed income.
Boyd outlines options for the Mystic Ranch that could include an additional conservation easement or using some sort of charitable trust with a donation of part of the land. The actual plan is still underway.
Estate plans are never finished, says Boyd. She recommends a plan review every three to five years or if some major event occurs, such as a death, divorce, marriage, etc.
Boyd also suggests including experts in developing your plan. Include an accountant, attorney and even a family-life planning specialist. "If you need brain surgery, you don't see a chiropractor. You need qualified help," she says.
Each U.S. taxpayer has an estate and every estate is taxable. The government allows each taxpayer a credit against tax due. This credit, called the "unified credit," allows taxpayers to pass part of an estate to heirs without paying a federal estate tax. The unified credit amount for 1998 is $202,050 and increases through the year 2006 (see "New Estate Tax Exemptions," above).
At left is an example of a married couple's $1,250,000 estate with "No Estate Plan" vs. "With An Estate Plan."
Most farm/ranch spouses own property as Joint Tenants With Right of Survivorship (JTWROS). See definitions on page 32. The only thing that can happen to property owned as JTWROS at the first spouse's death is that all of it passes to the surviving spouse; the surviving spouse now owns the entire taxable estate.
Every taxpayer can pass the first $625,000 (in 1998) without being taxed. So, the total estate of $1,250,000 should pass with no tax due.
The "No Estate Plan" chart shows a couple owning assets as JTWROS where the entire estate passes to the surviving spouse at the first death. Now, the surviving spouse has a $1,250,000 estate. The surviving spouse only has a $625,000 exemption available at the second death to cover the entire estate, leaving $625,000 subject to a federal estate tax. The federal estate tax rate (about 43%) on $1,250,000 is $448,300. With the unified credit of $202,500 subtracted, payment to the IRS is $246,250 - due nine months after the second death.
"With An Estate Plan," using revocable living trusts, at the first death $625,000 owned by "first to die" passes into a "B" trust (sometimes called "By-Pass Trust" since the estate tax can be by-passed).
The living trust is designed for the benefit of the surviving spouse. The surviving spouse is entitled to the income, and has nearly all the advantages as if they inherited it outright. Since the estate was never actually owned, it cannot be taxed in a surviving spouse's estate. When the surviving spouse dies, their personal exemption is still available to cover their taxable estate of $625,000. So, no tax is due at the second death, either.
Revocable trusts are just one of many tools available. In this case it saved surviving heirs over $246,000 in federal estate taxes.
(To contact Kathy Boyd, please call 800/829-2808)
Estate planning is the orderly arrangement of assets and a plan for conveying them to heirs and others in a manner calculated to minimize taxes, expenses and delays. Here are some common terms:
Beneficiary - A person designated to receive income or assets in a will or living trust.
Buy-Sell Agreement - An agreement between partners or co-owners of a business that determines the conditions and price for a buy out by one or more of the owners at the death of one.
Conservator - A person appointed by the court to manage the estate of a protected person. A protected person is a minor or other person for whom a conservator is appointed or other protection order is made.
Durable Power Of Attorney - This continues to be in effect when the person giving the power is incapacitated or disabled.
Grantor - A person who transfers property to another (the grantee). The grantor is sometimes used with the trustor or settlor, the person who transfers property in a trust.
Intestate - Without a will
Joint And Survivor - Joint ownership is the shared ownership of property by two or more people. The most common types are:
* Joint Tenancy: Most of the property is wholly owned by each person and it passes on the death of one to the surviving owner(s). The entire value of the property is part of the decedent's estate and taxed as such.
* Tenancy In Common: Each person owns a part of the property and has no interest in (right to) the other's share. Each may sell, give or will their part as they wish. At the death of one owner, only the value of their share of the property is taxed on their estate.
Personal Representative - Another name for a person charged with managing an estate; the same as executor or administrator.
Probate - Court proceedings that can conclude all the legal and financial matters of the deceased. The probate court acts as a neutral forum in which to settle any disputes that may arise over the estate. The probate process is often expensive, time consuming and public. Most people prefer to avoid it if possible.
Taxable Estate - The gross estate less all debts, expenses (including attorney, accountant and appraiser fees), executor fees, and probate court costs and taxes, if any.
Testate - Having made a will
Trust - Property in trust is held and managed by a person or institution (the trustee) for the benefit of persons or institutions (the beneficiaries). The creator of a trust is commonly referred to as the settlor, grantor or trustor.
Trusts that are created and go into effect while the settlor is still alive are called "living" or "inter vivos" trusts. A trust established by a maker of a will that goes into effect at death is called a testamentary trust.
Living trusts are of two general types:
* Revocable Living Trust - is subject to amendment or revocation by the settlor.
* Irrevocable Living Trust - cannot be changed by the settlor. When you establish an irrevocable trust you give up a considerable degree of control over the assets within the trust.
When you set up a living trust you can usually transfer the title of all assets you wish to place in the trust from you as an individual to yourself as trustee of the trust. Technically, you no longer own any of the assets transferred in your own name - everything now belongs to the trust - so there is no longer anything to probate when you die. Your estate will still have to pay final income taxes, but your living trust can minimize estate taxes.
A testamentary trust is usually established by a will upon the death of the trustor. When you use a testamentary trust, the assets in your estate will still go through probate with all the costs and delays the probate process can bring. While these trusts do not bring about any immediate estate or income tax savings upon the death of the trustor, they can be useful in preventing estate taxes as the property passes to successive beneficiaries.