ABA Presentation_Game of Thrones

Robert Baratheon is the King of the Seven Kingdoms and Ruler of the Iron Throne. Robert’s wife, and the Queen of the Seven Kingdoms, is Cersei Baratheon (formerly Cersei Lannister). Together, Robert and Cersei have three children: Joffrey, Myrcella and Tommen. However, unbeknownst to Robert, the father of these children is another man. Robert himself has also frequently engaged in adultery, producing an illegitimate child of his own named Gendry with the maid.

Robert and Cersei’s marriage is a loveless one and neither is particularly fond of the other. Behind the scenes, Cersei’s father (Tywin Lannister) and brothers (Jaime and Tyrion Lannister) are jockeying for influence and power. Robert and Cersei’s eldest son Joffrey is power-hungry and desperately wants to become king.

Surrounded by individuals plotting his demise, Robert has enlisted Ned Stark as hand of the king. As hand of the king, Ned is appointed as a director of the Seven Kingdoms. Ned is the man whom Robert trusts most and Robert has brought him into the seven kingdoms as a business partner and minority shareholder. As hand of the king, Ned has also been appointed as executor and trustee of Robert’s estate.

CAROLINE ABELA: Once Robert dies, who among his family members will be his heirs? Please tell us how your jurisdiction will deal with Robert’s empire.

Kelly Charlebois: In Ontario (and Canada generally) the succession of a deceased’s estate is dependent upon whether he or she dies testate or intestate. If the deceased dies leaving a valid will, the provisions of the will determine who has authority to administer the estate, and to whom the deceased’s property shall be distributed. In the case of an intestacy, the manner of distribution of the deceased’s estate is prescribed by statute. In Ontario, the Succession Law Reform Act specifies the order of succession of a deceased’s estate to his or her next-of-kin. A married spouse and the children of the deceased share the deceased’s estate subject to the wife’s preferential share. In the absence of a wife and/or children, the estate is distributed in the order set forth in the Act.

American Bar AssociationSection of

International LawFALL MEETING

Montreal, CanadaOctober 20-24, 2015

Game of Thrones:

ADVISORS ROUNDTABLE on the Planning and Litigation of Closely Held Corporations

JOUSTING for Power in the Family Enterprises

MODERATOR:Caroline Abela,WeirFoulds LLP

PANELLISTS:

Agnès Proton,Cabinet PROTON

Kelly A. Charlebois,Miller Thomson LLP

Thomas Rohner,Pestalozzi

Carmina Y. D’Aversa,Attorney at Law

In addition to the right to direct the distribution of assets on death in a will, an individual can provide for the transfer of certain property on death by way of beneficiary designation. A beneficiary designation is a written direction specifying the person to whom the property should pass on death and has the effect of transferring the property outside of the estate. Beneficiary designations are commonly made in respect of life insurance proceeds, registered retirement plans, and pension plans.

Even if a deceased has left a valid will, his or her testamentary intentions may be frustrated by the rights of dependants who have an entitlement to claim support from the Estate. These claims are founded on statutory rights which effectively operate as a first charge on the Estate. While a dependant’s relief claim would appear to suggest that an individual must demonstrate some degree of financial dependence on the deceased prior to death, moral claims have been advanced, and given recognition, in some jurisdictions in Canada. It is only once the dependants’ relief claims have been satisfied that the balance of the Estate can be distributed.

Thomas Rohner: As a preliminary remark, in potentially international cases, one would – from a Swiss law perspective – first look at the conflict-of-law rules provided by the Swiss Federal Act on Private International Law of December 18, 1987, to determine the applicable law. However, the following considerations are limited to Swiss domestic law and without taking into account any conflict-of-law rules. Moreover, when it comes to the division of King Robert’s estate, one would, as a first step, need to determine the scope and the property of the estate. In particular, in the event Robert dies while being married to Cersei, Robert’s estate would be determined by taking into account the rules of marital property first. Only afterwards, as a second step, the rules provided by Swiss inheritance law would be applied to King Robert’s estate.

Swiss inheritance law, which is regulated in the Swiss Federal Civil Code of December 10, 1907 (“CC”), generally sets forth who the heirs are and to which extent they inherit. The Swiss statutory order of inheritance provides specific rules in art. 470 CC to determine the division of an estate. The closest relatives of the testator are so-called statutory heirs (art. 457 et seqq. CC) and protected by compulsory portions and quotas (so-called “Pflichtteil”; art. 471 CC), which cannot be amended by the testator (e.g. in a will, art. 470(1) CC). Under the compulsory portions right, the testator has a reduced quota of his estate, which he can freely dispose of and make other arrangements (if he so wishes; art. 481 CC).

King Robert Baratheon’s wife, Cersei, and the three children, Joffrey, Tommen and Myrcella, are statutory heirs of the late Robert’s estate (as Robert is legally deemed to be the father of the three kids, although he is not the biological father; art. 255 CC).

Gendry, who is an unacknowledged son of Robert, is not statutory heir to Robert, so long as he is not officially recognized by Robert or by authorities by means of a court proceeding (art. 261 CC). If King Robert were to die before he could officially recognize Gendry as his legitimate son, Gendry could nevertheless bring an action to establish the existence of the parent–child relationship between him and Robert. Such a claim is brought (in order of priority) against the legitimate children, the parents or siblings of the testator (art. 261(2) CC). Hence, in case Robert dies without officially recognizing Gendry, Gendry would need to bring action against Joffrey, Tommen and Myrcella as the legitimate children of Robert. If Gendry would be acknowledged by Robert as his legitimate son, or if Gendry’s claim against Joffrey, Tommen and Myrcella would be successful, Gendry would be considered as statutory heir and his inheritance would be protected under the compulsory portions right.

Agnès Proton: One of the main characteristics of a Civil Law jurisdiction is the institution of “forced heirship” within its succession domestic law. This is thus the case in France as it is in Switzerland.

If Robert were to die being domiciled in France instead of in King’s Landing, without leaving a will, his statutory heirs would be his wife and his legitimate/recognized children (art. 734 & 757 CC combined).

P A G E | 2 G A M E O F T H R O N E S : J O U S T I N G F O R P O W E R I N T H E FA M I LY E N T E R P R I S E S

Like in Switzerland, first the liquidation of the matrimonial regime must be done in order to determine the nature and the content of the succession estate.

After that mandatory prerequisite, Robert’s Estate would then be distributed as follows:

• Cersei, being the surviving spouse, could elect either a right of usufruct over the entire estate, or ¼ in full ownership; however, if Gendry were to eventually enter the succession, there would be no choice, she would merely get ¼ of the estate (art. 757 CC). In France the surviving spouse also gets a lifelong right of residence in the family dwelling (764 CC). I would say that under that provision she could stay in Red Keep and live in the royal apartments in Maegor’s Holdfast, using all included furniture, heirlooms, etc. She could also claim for alimony against the Estate (art. 767 CC), namely, against the other statutory heirs since in France the Estate is not a legal entity;

• Joffrey, Myrcella and Tommen would then get the remainder, in undivided equal shares (art. 734 & 735 CC), that is, again, if Gendry is not to be considered.

Since August 17th 2015, due to the implementation of the new EU regulation in International Successions (N° 650/2012), this devolution governs all assets, no matter where they are located. Now, if King Robert executed a (valid) Will, which he most likely did, he certainly would have cut Cersei out of his Estate, since their marriage was a failure.

He can do so under French law.What he cannot do (of course) is deprive Joffrey, Myrcella and Tommen of their compulsory share; here 1/4th each. This means that the (free) disposable portion of his Estate is (only) a remaining 1/4th.

But of course, there is a possibility that Gendry will claim a right of inheritance as well, but for this he will have to prove his filiation first. Obviously, to that end, he cannot come forward with a birth certificate, or with Robert’s official recognition of fatherhood. However, Gendry could judicially establish his filiation by bringing a suit against Robert’s heirs, be they statutory and/or testamentary.

To be successful, he has to prove his “possession d’état d’enfant”: he must show that he was considered and treated by Robert as his son (art. 310-1, 310-3, 317, 327, 328, 330 CC). This is the “parent-child relationship” to which Thomas is referring above, when mentioning Switzerland’s comparable court proceeding. The fact that Gendry was born out of adultery is of no consequence here. When established, filiation triggers the exact same rights, whether the child is legitimate or not.

The Estate would then be partitioned as such (art. 913 CC):

• The disposable portion when there are 3 children and more: 1/4th• The compulsory portion when there are 3 children and more: 3/4th

The 3/4th of the Estate would devolve to 4 children this time, again in undivided and equal shares. If there are not enough assets left to fulfill Gendry with his forced heirship share, he will be entitled to ask for financial compensation to third parties and/or siblings to whom assets were wrongly devolved/bequeathed. It is what Thomas calls “action in abatement” under Swiss succession law, which we call in French “action en réduction”.

Lastly, there is no problem with King Robert appointing Ned Stark as his testamentary executor in a French will; since 2006 the executor’s powers have been enlarged and are now governed under art. 1025 – 1034 CC.


Carmina D’Aversa: In the United States, state law controls intestate succession. For example, in Pennsylvania, because Robert would be survived by a child unrelated to Cersei, Cersei’s intestate share is limited to one-half of Robert’s intestate estate. Whether Joffrey, Myrcella, Tommen and/or Gendry, as children born out of wedlock, are entitled to the other half generally is dependent upon (1) whether during the lifetime of the child, Robert openly holds the child to be his and receives the child into his home or provides support for the child, or (2) clear and convincing evidence exists that Robert is the biological father of the child.

Robert can alter or affect intestate succession by execution of a Will, agreement, (e.g., marital agreements, business agreements, trust agreements), beneficiary designation and/or deed. Nonetheless, Cersei, as the surviving spouse may elect to take one third of statutorily identified property (e.g., property conveyed by the decedent within one year of death exceeding $3,000 per donee), but must disclaim or release other statutorily identified property (e.g., proceeds of insurance on decedent’s life attributable to premiums paid by the decedent, his employer, partner or creditor). Finally, although most states, including Pennsylvania, are not community property jurisdictions, community property may retain its character in a non-community property jurisdiction. Assuming Robert’s estate includes community property, Robert has additional limitations in passing property to someone other than his spouse.

CAROLINE: Would you advise Robert to undergo an estate freeze? How would the use of a holding company or the creation of different classes of shares reduce the tax implications for his children upon succession?

Thomas: In Switzerland, inheritance and gift taxes are levied at cantonal level and each of the 26 cantons has its own inheritance tax legislation. An attempt to federalize Switzerland’s inheritance tax system has been declined in a popular vote just recently. Since the effective tax burden varies among the cantons, sometimes considerably, taxes may be mitigated by changing the place of residence to a more attractive location. In particular, with a few exceptions, cantons typically exempt children and close relatives from inheritance taxes. As a general rule under Swiss domestic tax law, the last place of residence of the testator determines the place where inheritance taxes are levied (expect for real estate).

Hence, King Robert could by choosing his place of residence “opt” into a specific inheritance tax regime that would then apply to his heirs (with the exception of real estate).

Agnès: Unless international tax treaties provide otherwise as to assets located abroad, taxes are owed and paid in France. They would be calculated on all assets devolved according to French Law (art. 750 ter CGI) For the time being the surviving spouse is not taxable, so no matter what Cersei gets, it would be free of charge for her from that perspective. As for the children, however, estate planning should be done during Robert’s life to alleviate the burden of taxation, which could amount to up to 45% (when the value of the Estate > 1 805 677 €)!

However, there are efficient schemes and vehicles to be implemented here, including donations inter vivos combined with separating usufruct from naked property as to the donated assets/company shares. This would be left to King Robert’s estate planner (French) advisors to handle.

Carmina: If the estate of Robert is subject to United States federal transfer taxation, it may be advisable for Robert to consider various estate tax planning tools to minimize tax consequences during his lifetime and at his death. Post-mortem recapitalization of the company, resulting in voting and nonvoting stock, may allow Robert to ensure the company, after his death, is controlled by Ned and other engaged managers and employees instead of uninvolved family members.

Assuming Robert has no other assets to transfer to Cersei or the company is unable or unwilling to engage in a stock purchase with Cersei, the recapitalization also may allow Robert’s estate to secure a federal estate tax benefit,


namely, a marital deduction, without Cersei having direct control of the company. Because of the restrictions of section 2701 of the Internal Revenue Code, recapitalization, during Robert’s lifetime, and subsequent inter vivos transfers of the stock may not be tax efficient. Section 2701, however, does not preclude application of minority discounts to the value of inter vivos gifts of stock.

CAROLINE: Myrcella does not really care about the Seven Kingdoms. Can she disclaim the inheritance or promise to do so?

Thomas: Yes, indeed, this is admissible under Swiss inheritance law. Pursuant to art. 566 CC, both the statutory and named heirs are entitled to disclaim an inheritance passing to them. In particular, if at the time of his death the deceased had been officially declared insolvent, art. 566(2) stipulates that there is a presumption of a disclaimer. The statutory time limit to perform such a disclaimer is three months (art. 567 CC). However, Myrcella needs to be careful in dealings concerning the estate before she makes such declaration of disclaimer. According to art. 571 CC, an heir is no longer entitled to disclaim the inheritance where an heir has interfered in the affairs of the estate before expiry of the time limit. Moreover, if the heir has acted in a manner not conducive to administering the estate or maintaining the deceased’s business activities, or where she has appropriated or concealed objects belonging to the estate, then she may have forfeited her right to disclaim the inheritance (art. 571(2) CC).

Moreover, pursuant to art. 495 CC, an heir may renounce to the inheritance prior to the testator’s death. The heir needs to conclude an inheritance renunciation contract with the testator, which can provide, but not necessarily needs to provide valuable consideration. As a consequence, the renouncing heir is no longer deemed to be an heir on the succession (art. 495(2) CC).

Agnès: Yes, of course she may disclaim the inheritance (art. 768 CC). But she cannot do it partially: disclaiming is an “all or nothing” option (art. 769 CC).

She cannot disclaim it before Robert’s death though (art. 770 CC). What she can do is waive her rights to claim for damages if and when deprived of her forced heirship share after Robert dies (art. 929 till 930-5 CC).

Like in Switzerland, she must be careful not to act upon her heir’s quality, or she could be deemed as having implicitly accepted the Estate (art. 782 CC).

Carmina: Assuming Myrcella is an heir of Robert’s estate, Myrcella may disclaim her inheritance in full or in part under Pennsylvania law. A disclaimer also may be used to achieve certain federal transfer tax objectives. State and federal requirements, however, may differ and require strict adherence. One significant bar to a “qualified disclaimer” under federal law is the failure to meet the nine-month deadline under section 2518(b)(2) of the Internal Revenue Code. Instead of relying on Myrcella to meet state and/or federal requirements, Robert may want to disinherit Myrcella expressly by Will or employ other methods (i.e., buy-sell agreement) to ensure that Myrcella does not inherit the Seven Kingdoms. Another option may be partial disinheritance of Myrcella by limiting her inheritance to assets (e.g., life insurance) other than the Seven Kingdoms.


CAROLINE: Myrcella wants to marry someone from the House of Martell – an enemy of the Kingdom. Robert does not want her to marry the enemy. He disinherits Myrcella based on her marrying someone of another race. Does she have any options to gain her wealth back before or after her father dies?

Kelly: In Canada, testamentary freedom is not absolute. In other words, there are limits on an individual’s right to dispose of his or her estate as he or she wishes. Public policy considerations can operate to interfere with the manner in which a deceased’s estate is distributed. The support obligations which take precedence over a testator’s intentions have been discussed above. Courts have also taken into account other public policy considerations in setting aside provisions in a will which are determined to be contrary to recognized human rights on the basis that there are unacceptably discriminatory and contrary to public policy.

Historically, these public policy grounds operated to prevent offending provisions in a will from being enforced. In other words, if the will contained an explicit statement which was found to be contrary to public policy, a court could intervene to find the provision void and decline to enforce it. More recently, in Ontario, the court has taken this approach a step further in declining to enforce the provisions of a will where external evidence suggested that the testator’s reason for disinheriting a daughter was a direct result of her having had a mixed-race child. Even though there was no provision on the face of the will which offended public policy, the court went behind the terms of the will to scrutinize evidence of the testator’s intention. The court concluded that the testator was motivated by a “racist” principle which not only offended “human sensibilities” but also public policy. The entire will was set aside. (Spence v. BMO Trust Company, 2015 ONSC 615).

While the Spence case is currently under appeal, this line and level of inquiry into a testator’s motivations could open the door to increased will challenge litigation on public policy grounds, even where the issue is not evident on the face of the will.

Thomas: Under Swiss inheritance law, disinheritance is admissible in two circumstances only (art. 477 CC):

• if the heir has committed a serious crime against the testator or a person close to him; or • if the heir has seriously breached her duties under family law towards the testator or the latter’s dependants.

Myrcella marrying someone from the House of Martell hardly qualifies as a serious crime against the testator from a Swiss law perspective and thus, King Robert’s testamentary disposition to deprive Myrcella of her statutory entitlement would be subject to an action in abatement according to art 522 CC. However, even if Myrcella’s action in abatement would be successful, her inheritance would be limited to her compulsory portion and quota (art. 522(1) CC).

Agnès: Like in Switzerland, children must have committed heavy crimes or very serious breaches of familial duties to be legally stripped of their compulsory inheritance rights (art. 726 – 729-1 CC).

There is no way that such a discriminatory provision relating to Myrcella’s wedding could be upheld in France. No condition precedent can be imposed that would restrain constitutionally, statutorily and judicially recognized human rights. It would be contrary to public policy (and this is the same solution in all four jurisdictions here, which is good). Such illegal provision is deemed unwritten and thus automatically void.

Carmina: For planning purposes, a testamentary gift conditioned upon restraint on marriage may be unenforceable in Pennsylvania as against the state’s public policy.


ABOUT THE ADVISORS

Caroline Abela is a partner with WeirFoulds LLP and has been involved in leading business litigation and estate litigation cases. Focusing on commercial and corporate litigation and estates, trusts and capacity litigation, Caroline represents clients ranging from large corporations and institutions to small business owners and professionals. Caroline has appeared as counsel before all levels of courts in Ontario and the Federal Court of Canada.

In 2013, Caroline was recognized as one of Canada’s Lexpert® Rising Stars: Leading Lawyers Under 40. She was also selected as a Litigation Lawyer to Watch in Lexpert’s 2014 US/Canada Cross-border Litigation Guide.

As the former National Representative (Canada) for the International Association for Young Lawyers and a member of the current OBA Executive, Estates and Trusts Section, Caroline is actively involved in the legal community.

Agnès Proton started her own practice in Cannes in 1995, as the founding member of Cabinet PROTON. Her primary areas of expertise, targeted to International Private Clients, are litigation in inheritance and estate law, as well as litigation in civil and commercial contracts.

She is a member of several international lawyers’ associations (ABA SIL and RPTE sections, UIA, AEA-EAL). She has been ap-pointed AIJA’s Honorary General Secretary (2009), and prior to joining the AIJA’s Board she chaired AIJA’s International Private Client Commission (2005-2007). Within ABA-SIL, she currently co-chairs the International Private Client Committee, and she is also Vice-Chair of the Real Estate Cross Border Practice Committee.

As well, she has been elected to the Cannes City Council (2001-2014), where she was in charge of International Affairs. She is also an active member of PWN GLOBAL (Professional Women Network – section of Nice Côte d’Azur) since 2012.

Kelly A. Charlebois is an experienced commercial, estates and trusts litigator and practical problem solver at the Toronto office of Miller Thomson LLP. She persuasively and effectively advances her clients’ interests and achieves positive and cost effective results for them in a broad range of areas. Kelly’s clients praise her strategic approach in handling their files.

Kelly has particular expertise in matters relating to, among others, estates, trusts and capacity-related proceedings. Kelly has successfully represented both individuals and organizations in this area including in will challenges, will interpretations, guard-ianship applications, dependant support applications, passing of account applications, and proceedings involving breach of trust and breach of fiduciary duty. She also acts regularly for financial institutions in providing advice relating to estates, powers of attorney and capacity issues.

Drawing on her strong commercial litigation background, which has provided her with extensive advocacy experience at all court levels, Kelly is well-positioned to represent her clients in the most complex of estate disputes.

Thomas Rohner is a partner and member of Pestalozzi’s Litigation and Arbitration as well as Private Client groups in Zurich. He has represented corporations and individuals in numerous complex litigation and arbitration matters, both national and in-ternational, involving various industries such as banking, pharmaceuticals, insurance, IT, telecommunications, energy, health, commodities, and construction.

Thomas regularly sits as an arbitrator in proceedings under various rules. He also has a wide range of experience in inheritance and trust disputes and advises clients on succession and estate law. He also represents clients in international judicial assistance proceedings. Further, he is active in insolvency disputes and enforcement and asset tracing/freezing proceedings.

From 1997 until 2005, he served as a part-time judge at a District Court. In addition, he was a temporary vice-president of this Court on a full-time basis in 2001. Prior to joining Pestalozzi in 2002, Thomas Rohner worked as an international associate for Steptoe & Johnson LLP in Washington, DC.

Carmina Y. D’Aversa is formerly of the International Group of the Internal Revenue Service Estate and Gift Tax Program. A full member of the international organization Society of Trust and Estate Practitioners (STEP), Carmina concentrates her law practice in international and domestic tax planning and compliance.


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©2015 Carmina Y. D’Aversa. All rights reserved.

Have your cake and eat it too? The availability of the marital deduction or credit for the estate of a closely held business owner with Canadian connections Carmina Y. D’Aversa INTRODUCTION Given the close geographical proximity between Canada and the United States, it is to be expected that Canadian residents and United States residents establish and/or engage in business in each other’s country. In addition, it is not surprising that a closely held business owner or co-owner may want to ensure post-death continuation of the business with engaged managers and without unnecessary reduction of value by taxes related to death. This article reviews and evaluates postmortem options for an estate of a Canadian resident who also is a United States citizen and owner of a closely held business established and operating in the United States and survived by a Canadian citizen and resident spouse. UNITED STATES FEDERAL ESTATE TAXATION OF US CITIZEN UNDER THE INTERNAL REVENUE CODE The value of the worldwide gross estate of a United States citizen (whether residing in or outside the United States at time of death), less allowable deductions, is subject to United States federal estate taxation.1 The marital deduction2 is allowed for the value of property passing to a surviving spouse if the requirements of Internal Revenue Code sections 2056 and/or 2056A are met. In computing any federal estate tax due, the Code also allows for reduction of the “tentative tax” by use of an applicable credit amount or unified credit3 equal to the federal estate tax imposed on a basic exclusion amount, indexed for inflation.4 For estates of decedents dying in calendar year 2014, the basic exclusion amount is $5,430,000 (i.e., $5,000,000 indexed for inflation),5 and the unified credit is $2,117,800.6 The maximum estate tax rate is 40%.7 MARITAL DEDUCTION UNDER THE INTERNAL REVENUE CODE Terminable interest rule Generally, the Code disallows a marital deduction for the transfer of a “terminable interest” in property to ensure that the property interest passing to the surviving spouse, if retained until his or her death, will be subject to federal estate taxation.8 “A ‘terminable interest’ … is an interest which will terminate or fail on the lapse of time or on the occurrence or the failure to occur of some contingency.”9 An example of a terminable interest in property is a life estate.10 One exception to the terminal interest rule is “qualified terminable interest property” (“QTIP”) under section 2056(b)(7). Property included in the decedent’s gross estate is QTIP if the following requirements are met:

1. The property passes from the decedent. 2. The surviving spouse has a “qualifying income interest for life.” 3. The executor11 of the estate timely and properly makes an irrevocable QTIP election on

the United States federal estate tax return.12

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A “qualifying income interest for life” requirement has the following two components:

1. “[T]he surviving spouse is entitled to all the income from the property, payable annually or at more frequent intervals, or has a usufruct interest for life in the property, and”

2. “[N]o person has a power to appoint any part of the property to any person other than the surviving spouse” during the spouse’s lifetime.13

In Estate of Rinaldi v. United States,14 the United States Court of Federal Claims disallowed the marital deduction because trust terms ran afoul of the second component of the “qualifying income interest” requirement. Per recited facts, the decedent, the company director, owned 52.06 percent of closely held company stock at the execution of his will and at his death. The decedent’s Will provided for the stock to pass to a trust if the decedent’s wife failed to survive his son (the company’s chief executive officer). In accordance with the first component of the “qualifying income interest” requirement, the trust terms provided for net income payable to the surviving spouse at least annually and included a prohibition against holding unproductive property without the surviving spouse’s consent.15 Additional trust terms, however, prohibited the stock from being sold without the son’s consent and, if the son no longer managed the company on a day-to-day basis, the trust fiduciary (i.e., the son) could offer to sell the trust’s stock to the son at book value, a value determined to be below fair market value.16 Agreeing with the Internal Revenue Service, the court found that the potential sale of assets at a bargain price to someone other than the surviving spouse effectively diminished the value of the corpus and, therefore, was an impermissible power of appointment of the stock to a person other than the surviving spouse during her lifetime. United States citizen requirement The Code also disallows the marital deduction if the surviving spouse is not a citizen of the United States (whether or not residing in the United States).17 If the surviving spouse is not a United States citizen, the Code provides an exception under section 2056A, allowing a marital deduction if the interspousal transfer occurs through the use of qualified domestic trust (“QDOT”).18 For a trust to qualify as a QDOT under section 2056A, the trust document must meet certain requirements that in effect ensure the collection of tax imposed by section 2056A(b).19 In addition, the executor is required to make timely an irrevocable QDOT election on the federal estate tax return.20 MARITAL CREDIT UNDER THE UNITED STATES-CANADA PROTOCOL In its negotiations of bilateral tax treaties, the United States typically requires a savings clause to ensure the negotiated treaty does not affect the United States’ ability to tax its current and former United States citizens. The savings clause that is part of the Convention Between the United States and Canada with Respect to Taxes on Income and on Capital signed at Washington on September 26, 1980, as amended by protocols signed on June 14, 1983, March 28, 1984, March 17, 1995, July 29, 1997 and September 21, 2007 (hereinafter “Convention”), however, contains exceptions.21 One exception is the application of the marital credit to United States citizens.22 Article XXIX B (“Taxes Imposed by Reason of Death”), introduced in article 19 of the 1995

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protocol, provides an option for small estates of a United States citizen to elect a nonrefundable marital credit if the decedent and the surviving spouse meet residency23 and/or citizenship requirements. The executor also must make a timely election of the credit and waive the benefits of the marital deduction otherwise allowable under United States law.24 With the exception of making a QTIP election, the marital credit requirements under article XXIX B, however, do not override or modify the marital deduction requirements under section 2056(b)(7). For the estate of a United States citizen, the amount of the credit is the lesser of the unified credit25 (before reduction for any gift tax credit) and the amount of United States estate tax that would otherwise be imposed by the United States on the transfer of the property to the surviving spouse before allowable credits.26 Unlike the marital deduction under United States law, the credit reduces or eliminates the estate tax instead of deferring the tax.27 CALCULATIONS Calculations one and two illustrate the application of the marital deduction under United States law and the treaty marital credit, respectively. The third calculation shows the implications of ignoring United States law whether for purposes of the marital deduction or the credit. Each of the calculations assume the decedent is a United States citizen, the surviving spouse is a Canadian citizen and both are Canadian residents at time of the decedent’s death. No foreign tax credit is applied. All amounts are in United States dollars. #1: CALCULATION USING MARITAL DEDUCTION

#2: CALCULATION USING MARITAL CREDIT

#3: CALCULATION DISALLOWING MARITAL DEDUCTION AND MARITAL CREDIT

This calculation assumes compliance with United States law to qualify for the marital deduction (MD).

This calculation assumes treaty requirements are met, including compliance with United States law and timely treaty election and waiver.

This calculation assumes a Rinaldi type trust has been utilized in attempting to qualify closely held business stock for the marital deduction or the marital credit. Neither deduction or credit are allowed.

11,430,000 (6,000,000) 5,430,000 2,117,800 (2,117,800) 0

Gross estate MD Taxable estate Tentative tax Credit Estate tax

11,430, 000 ---------- 11,430,000 4,517,800 2,117,800 2,400,000 2,117,800 282,200

Gross estate ---------- Taxable estate Tentative tax Credit Tentative tax Marital credit Estate tax

11,430, 000 ---------- 11,430,000 4,517,800 2,117,800 2,400,000

Gross estate ---------- Taxable estate Tentative tax Credit Estate tax

Calculation #3 demonstrates that a closely held business owner’s non-tax objectives may create unfavorable tax consequences whether proceeding under the Code or under the Convention. In

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fact, the marital credit may have extremely limited application for a closely held business interest because the credit was designed primarily to reduce “the estate tax burden on transfers of personal residences and retirement annuities.”28 To achieve both non-tax and United States tax objectives, the closely held business owner or his estate, in the alternative and assuming no negative tax consequences in Canada, may want:

1. to employ pre-death estate planning methods to reduce the value of the business interest for United States federal estate tax purposes,

2. make use of a qualified marital trust funded with other assets other than business interests,

3. if the bulk of the estate is the business interest, rely on life insurance proceeds to provide for the surviving spouse who is not involved in the business,

4. to recapitalize the business postmortem in order to pass nonvoting stock to the uninvolved surviving spouse and provide voting stock to involved family members. In that way, active business managers retain control of the business.

1IRC §2001(a); §2051. Generally, a United States citizen and a United State domiciliary are taxed similarly. Ibid. See also Regulation §20.0-1(b)(1) (defining ‘resident’ decedent as having United States domicile for estate tax purposes). United States is the fifty states and the District of Columbia. See §7701(a)(9); §20.0-1(b)(1). 2Regulations under section 2056 specifically identify the “deduction allowed under section 2056” as the “marital deduction.” See Reg. §20.2056(a)-1(a) (italics in original). 3For purposes of this article, the term “unified credit” is used interchangeably with the term “applicable credit amount.” Although the term “unified credit” is replaced in section 2010, paragraph four of article XXIX B of the US-Canada Income Tax Convention refers to the “unified credit…under the law of the United States” in determining the allowable amount of a marital credit under the protocol. See Convention, art. XXIX B, para. 4. See also notes 21-26 and accompanying text. 4§2010(c)(3). In the case of the estate of a United States citizen or domiciliary, the basic exclusion amount also may be increased by a previous deceased spouse’s unused exclusion amount if the executor of the previous deceased spouse timely and properly elected portability of the unused amount. §2010(c)(2); §2010(c)(5)(A). 5Revenue Procedure 2014-61, 2014-2 C.B. 860 (October 30, 2014). 6§2010(a); §2001(c). 7§2001(c). 8§2056(b); §2044. 9Reg. §20.2056(b)-1(b).

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10Id. 11An executor appointed, qualified and acting within the United States makes the election, regardless of whether the property is in his or her possession. In the absence of a United States executor, a person in actual or constructive possession of the property (or, if not in possession and the person in possession has not made the election,) may make the election with respect to the property. See Reg. §20.2056(b)-7(b)(3). 12§2056(b)(7)(B)(v). See also Reg. §20.2056(b)-7(b)(4) (manner and time of making election). 13§2056(b)(7)(B)(ii). 1438 Fed. Cl. 341 (1997), aff’d, 178 F.2d 1308 (Fed. Cir. 1998) (without opinion), cert. denied, 526 U.S. 1006 (1999). 15See Reg. §20.2056(b)-5(f)(5). 16For purposes of United States federal estate taxation, “fair market value” is defined as “the price at which the property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or to sell and both having reasonable knowledge of relevant facts.” See Reg. §20.2031-1(b). 17§2056(d)(1)(A). United States domicile is not sufficient. See Reg. §20.2056A-1(a) (introductory sentence). The surviving spouse also meets the United States citizenship requirement if (1) the surviving spouse becomes a United States citizen before the day on which the United States federal estate tax return is filed and (2) the surviving spouse was a United States resident at all times after the decedent’s date of death and before becoming a United States citizen. See §2056(d)(4). See also Reg. §20.2056A(b) (referring to Reg. §20.0-1(b)(1) in defining “resident”) and note 1. 18§2056(d)(2). 19The tax imposed under section 2056A(b) may be triggered by a distribution of principal from the QDOT during the surviving spouse’s lifetime. See §2056A(b)(1)(A); Reg. §20.2056A-5(b)(1). The tax is tantamount to the tax that would have been imposed if the property had been included in the estate of the previously deceased spouse and not been deductible under section 2056. See §2056A(b)(2); Reg. §20.2056A-5(a). 20§2056A(d); Reg. §20.2056A-3(a). If property directly passes to a QDOT, both a QDOT election and a QTIP election must be made if relying on section 2056(b)(7) to ensure the QDOT trust complies with the terminable interest rule. See Reg. §20.2056A-2(b)(1). 21See Convention, art. XXIX (Miscellaneous Rules), as amended. 22See id. See also IRM 4.25.4.5.3 (01-06-2015) (explaining how to report marital credit on page 1 of Form 706, return utilized in calculating the estate tax of the estate of a United States citizen or domiciliary). 23For purposes of the Convention, residency is not necessarily domicile. See Convention, art. IV (Residence), as amended. 24Convention, art. XXIX B, para. 3. 25The current statutory term, “applicable credit amount,” is not used in the Convention. See notes 3 and 4 and accompanying text. Nonetheless, query whether the estate of a United States citizen may utilize a deceased spouse’s unused exclusion amount in determining the “unified credit…under the law of the United States” for purposes of calculating the marital credit amount. See id. 26Convention, art. XXIX B, para. 4. 27That is, there is no later inclusion of the property, subject to the marital credit, in the estate of surviving spouse under section 2044. See U.S. Treasury Department Technical Explanation (marital credit). 28See Joint Committee on Taxation, JCS-15-95 at 16.

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