Aggressive planning for Florida's annual intangible tax.
Basic Rules Government the Annual Intangible lax
Under F.S. [sections] 199.032, an annual tax of 2 mills is imposed "on each dollar of the just valuation of all intangible personal property which has a taxable situs in this state . . . ." The typical assets covered within the definition "intangible personal property" are stocks, bonds, mutual funds, and other securities which are not otherwise exempted by the Florida Statutes.
In order for intangible personal property to be taxed, it must have a "taxable situs" within the State of Florida. The rules governing taxable situs provide that intangible personal property has a taxable situs in Florida when it is owned, managed, or controlled by any person domiciled in Florida on January 1 of a given tax year.(1) This rule applies regardless of where the evidence of the intangible property is maintained, the business giving rise to the intangible asset is conducted, and the intangible asset is created, approved, or paid. A person will be considered domiciled in the State of Florida if he, she, or it is 1) a natural person who is a legal resident of Florida, 2) any company, corporation, partnership, bank, business, trust, insurance company, or other artificial entity organized or created under the laws of Florida, except a trust, or 3) any person, including a trust, who has established a commercial domicile in Florida.(2) Under these rules, a business entity is deemed to have a commercial domicile in Florida when it maintains its chief or principal office in this state or executive or management functions are performed in Florida.(3)
In addition, intangible personal property is deemed to have a taxable situs in Florida when the property has a "business situs" in Florida, and the property is owned, managed, or controlled by a person transacting business in Florida, even if the owner, manager, or controller has a domicile which is outside of the State of Florida.(4) When intangible assets receive the benefit and protection of Florida laws and they are derived from, arise out of, or are issued in connection with business transacted in Florida with a customer in Florida, they are deemed to have a "business situs" in Florida.(5) Business is considered to be transacted in Florida when any occupation, profession, or commercial activity is regularly conducted with customers in Florida 1) from an office, plant, home, or any other business location in Florida, or 2) by or through agents, employees, or representatives of any kind in Florida, whether or not such persons have discretionary authority.(6)
With respect to trust arrangements, there are certain critical rules which must be examined. F.S. [sections] 199.175(1)(a) provides that a trust is considered to be domiciled in Florida if it has established a commercial domicile in the state. This would require that the business situs of the assets be in Florida or that the trustee be a Florida resident. In addition, F.S. [sections] 199.052(6) provides that a Florida resident with a "beneficial interest" in a foreign situs trust is primarily responsible for paying the annual intangible tax on assets held in such trust. Under F.S. [sections] 199.023(7), a "beneficial interest" in a foreign trust is defined as an interest where the Florida resident has a vested interest (even if subject to divestment) which includes at least a current right to income, and either a power to revoke the trust or a general power of appointment, as such term is defined for federal income tax purposes. As will be further discussed below, these trust rules provide the inner framework within which the IITT concept has been designed.
As mentioned, certain property is altogether exempt from the annual intangible tax, which exemptions have been, for many, the primary focus of planning to avoid the tax. Cash, certificates of deposit, and the cash equivalents of annuities and life insurance policies are exempt from the assessment of the annual intangible tax as are debt obligations issued by the State of Florida and the U.S. Government.(7) In addition, any interest owned as a partner in a partnership (whether general or limited), other than limited partnership interests registered with the Securities and Exchange Commission, are exempt from the tax.(8) However, it must be remembered that the partnership itself is not provided with an exemption from the intangible tax.(9) Finally, intangible personal property which is owned by,a retirement plan, individual retirement account, or simplified employee pension plan which is qualified under other [sections] 401 or [sections] 408 of the Internal Revenue Code is exempt.(10) The only other significant exemptions for individuals are the dollar value limits provided under F.S. [sections] 199.185(2). Under these rules, every natural person is entitled to an exemption of the first $20,000 of taxable property ($40,000 for a husband and wife filing jointly), with respect to the first mill of tax. With respect to the, second mill, the exemption is $100,000 ($200,000 for joint filing). Accordingly, for a single individual, the first $20,000 is totally exempt of tax and the next $80,000 is subjected only to 1 mill of tax. Everything over $100,000 is taxed at the full 2-mill tax rate.
Other than the planning opportunities available with an IITT or a limited partnership, the standard type of planning to avoid the intangible tax has typically involved a manipulation of the various exemptions discussed above. For example, prior to January 1 of a given year, a taxpayer may convert his or her investments to an exempt form, such as cash or Florida debt securities, in order to avoid assessment and, thereafter, convert the assets back into other types of investments. Some major disadvantages associated with this type of planning are the liquidation costs and potential capital gains taxes which would have to be paid on asset liquidations.
The Irrevocable Intangible Tax Trust Alternative
If it were possible to develop a mechanism whereby an individual could retain a particular asset mix while also removing the assets from the taxable reach of the intangible tax on January 1 of each year, it would represent a planning vehicle which is superior to a simple manipulation of the various statutory exemptions. Of course, in order to achieve this, it must be expected that the individual would have to make certain choices which require a certain level of loss of control over his or her assets. However, if structured with the proper mix of cooperating parties, this author's law firm has found that this very result is achievable through the use of an IITT.
Based upon the taxable situs rules discussed above and the specific rules which are applicable to trust arrangements, the key components of the IITT concept are: 1) a trustee which is not a Florida resident; 2) a taxable situs of trust assets outside of the State of Florida; 3) trust provisions which are specifically designed to avoid beneficiary taxation under F.S. [subsections] 199.052(6) and 199.023(7); and 4) sufficient flexibility so that the individual does not lose an inordinate amount of control over the individual's intangible assets.
In order to achieve these objectives, the IITT has been developed with several key elements. First, the IITT is designed to be a foreign trust, meaning that there is an out-of-state trustee and the assets are actually managed in a state other than Florida. It is critical that the jurisdiction selected does not have an intangible tax of its own which would be assessed against the trust assets. The second key component of this plan is that, under the trust instrument, the individual who is the grantor of the trust is also the beneficiary, but this individual does not have a current right to the IITT income. A third component is that the beneficiary does not retain the right to revoke the IITT. Finally, the beneficiary does not retain a general power of appointment over the trust assets should the beneficiary die prior to the end of trust term.
Based upon numerous technical assistance advisements (TAAs) which have been obtained by this author's firm from the Florida Department of Revenue, it has been established that if an individual transfers intangible assets into a properly drafted IITT before the end of the year and, subsequent to January 1 of the following year, the assets are distributed by the trustee back to the beneficiary, then such assets will be treated as owned by the IITT as of January 1 and the assets will not be subject to the intangible tax.(11) Obviously, this provides tax avoidance without the need to disturb the client's portfolio mix. Near the end of the following year, the assets could then be recontributed to the IITT with the process continuing in future years. The department has expressed concern that a transfer into, and out of, an IITT should not be a "sham" and has proposed a 30-day test which would provide that this type of transaction would not be deemed to be a sham if the transfers in and out of the trust are more than 30 days apart. In the context of an IITT arrangement, it is clear that the grantor/beneficiary must have confidence that the trustee will make distributions to the beneficiary subsequent to the expiration of the 30-day period. There is necessarily an element of parting with dominion and control over assets in order to achieve a certain tax benefit. Essentially, it boils down to the willingness of an individual to part with control over their assets for a minimum of 30 days and leave those assets in the hands of a "friendly" trustee who: 1) is required by the trust instrument to utilize the trust assets solely for the benefit of the grantor/beneficiary, and 2) who can be relied upon to distribute the trust assets out to the grantor/beneficiary after the 30-day period (even though the trust instrument does not require such distribution). The benefit of obtaining a TAA from the department with respect to a specific IITT arrangement is that the TAA will be binding upon the department with respect to the particular individual, as long as the TAA is not specifically revoked and as long as there is not a change in the law.
Most clients will be concerned with a cost/benefit analysis in assessing whether to pursue this type of planning. A key factor in this analysis is the ability to make continued use of the IITT instrument beyond the initial year in which it is established. Again, assuming that the department does not revoke a particular TAA or the law is not changed, an individual can continue the "transfer in/transfer out" process each year in order to avoid the assessment of the annual intangible tax. It has been the experience of this author's firm that, for clients in excess of $3 or $4 million of intangible assets, the fees and costs associated with establishing the IITT arrangement (including a request from the department for a TAA) are essentially recovered through tax savings in the first year, leaving all future years as a "bonus" in terms of the cost/benefit analysis. Unless the law is changed in this area, the IITT concept will continue to be the most effective way in which to avoid intangible taxes while retaining flexibility in the composition of an investment portfolio.
Limited Partnerships and the Florida Intangible Tax
The intangible tax rules provide that any interest owned as a partner in a general or limited partnership is generally excluded from the partner's taxable intangible assets.(12) However, if the ultimate goal is to avoid any payment of the Florida intangible tax, it is necessary to examine whether the partnership itself has a taxable situs in Florida. Obviously, if it is a partnership which is registered under the laws of the State of Florida, the partnership will be subject to the Florida intangible tax.(13) An out-of-state limited partnership will also be subjected to the Florida intangible tax if it is deemed to have a taxable situs within the State of Florida.(14) A foreign partnership would be deemed to have such a situs if the partnership maintains its chief or financial office in the State of Florida, if executive or management functions are performed in Florida, or if the course of business operations is determined in Florida.(15) As opposed to the situation involved in an IITT arrangement, assets contributed to a limited partnership would normally stay in the partnership indefinitely (i.e., not for a 30-day period). In the partnership context, the intangible tax analysis requires scrutinization of the management participation of Florida residents. If a Florida resident contributes assets to a foreign partnership and continues to actively manage those assets, the department would tax the partnership assets under the taxable situs rules.
Accordingly, in order to avoid the intangible tax, it would be critical to establish that the partnership is not only organized outside of the State of Florida, but also is managed outside of the state. In this regard, it would be necessary to locate the general partner outside of the State of Florida and to provide documentation which establishes that decisions regarding the activities of the partnership are made outside of the state. The department has analyzed this type of situation in TAA No. 95(C)2-002, which was issued on January 19, 1995. In this TAA, certain Florida residents transferred stock in a publicly traded corporation to a New York general partnership. The books, records, bank accounts, and offices of the partnership were maintained in New York and partnership meetings were held in New York. Based upon these facts, the department concluded that the New York partnership would not be deemed to have a taxable situs in Florida, and accordingly, would not be subjected to the Florida intangible tax.
Under the IITT scenario, whether, as of January 1 of a particular year, an individual has transferred his or her assets to an out-of-state trust which contains the appropriate provisions is essentially a question of law. Therefore, with an IITT, it is relatively easy to predict the planning results and the results of a request for a TAA from the department. However, in the partnership scenario, the analysis of where management functions are being performed is a question of fact which would be analyzed on a case-by-case basis by the department.
Under current law in Florida, the aggressive planner should consider the use of an IITT or a partnership for its high net worth clients in order to avoid the assessment of the annual intangible tax. These techniques would appear to be preferable to relying solely on the conversion of portfolios to exempt forms of assets as of January 1 of a particular year because of the detrimental tax effects and transaction costs associated with such moves. The IITT may be preferable to partnership planning for many clients because of the higher level of certainty involved in obtaining clearance from the department in the form of a TAA. The cost/benefit analysis associated with the use of an IITT arrangement would dictate that the first year of fees and costs associated with establishing the arrangement would likely be covered by the intangible tax savings achieved in the first year.
(1) FLA. STAT. [sections] 199.175(1).
(20 Id. [sections] 199.175(1)(a).
(3) Id. [sections] 199.175(1)(b).
(4) Id. [sections] 199.175(2).
(5) Id. [sections] 199.175(2)(a).
(6) Id. [sections] 199.175(2)(a)1.
(7) Id. [subsections] 199.185(1) and 199.023(2).
(8) Id. [sections] 199.185(1)(c).
(9) Id. [subsections] 199.023(3) and 199.175(1)(a).
(10) Id. [sections] 199.185(1)(e).
(11) See, e.g., Technical Assistance Advisements 96(C)2-03302-034, 2-035, 96(C)2-039 through 2-045, 95(C)2-008, 94(C)2-009, 93(C)2-009.
(12) FLA. STAT. [sections] 199.185(1)(c).
(13) Id. [sections] 199.175(1).
(14) Id. [subsections] 199.171(1) and (2).
Joseph T. Ducanis, Jr., is associated with Ruden, McClosky, Smith, Schuster & Russell, P.A., Ft. Lauderdale. Mr. Ducanis is a board-certified wills, trusts, and estates attorney and a certified public accountant. He is a graduate of the Wharton School and the University of Florida College of Law. His practice areas include estate and gift tax planning, probate, estate and trust administration, federal income tax, state tax, and business transactions.
This column is submitted on behalf of the Tax Section, Joel D. Bronstein, chair, and Michael D. Miller and David C. Lanigan, editors.
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|Author:||Ducanis, Joseph T., Jr.|
|Publication:||Florida Bar Journal|
|Date:||Jan 1, 1997|
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