Private Annuity Trusts Are Not Tax Shelters

The other day I had an interesting conversation with a lawyer I know about private annuity trusts. She’s an estate planning lawyer, so she knows something about trusts, but she was having the hardest time with private annuity trusts. She, like many attorneys who don’t specialize in PATs, was having a hard time believing in the legitimacy of PATs. As we talked more and more about her concerns, it occurred to me that she was having the same problem with PATs that a lot of people who encounter them do: she had been bamboozled by some tax shelter salesman. When I asked her what her experience with PATs was, she said that she had never used them in practice and had only encountered them when slick “financial planners” had cornered her for a meeting and were trying to set up some deal where they would supply her with clients if she would draft PATs and sign off on their authenticity.

Why, you might be wondering, would a lawyer have to sign off on the authenticity of a PAT? The I.R.S. has approved its use as a tax-deferral vehicle. Well the problem that I see most commonly, and that this lawyer had apparently seen too, is that too often, PATs are marketed by over-eager financial planner types as tax-shelters. Often, to reassure clients that they will not face any personal liability when using tax shelters, tax shelter promoters provide letters from attorneys documenting the legality of the particular shelter. This is why my lawyer acquaintance was wary of PATs, and, well, she should have been. When you try to use PATs in that way, you’re looking for trouble with the I.R.S.

Somewhat related to this is another problem I often see with PATs which is too many advisors and no accountability from those advisors. I mean, if you have a financial planner to guide your decision to use a PAT, a lawyer to create it, an administrator to manage the investments and paperwork, and a CPA to handle any tax issues, you are paying a lot of expensive professional fees. Sound crazy? There are plenty of PAT promoters out there who will lead you into just such a den of thieves. OK, maybe that’s too harsh, but still, PATs can require a lot of maintenance, and paying several professionals to keep up with that maintenance can eat up a lot of your principal.

The way I get around these two problems is easy. First, I make sure that my clients understand that PATs are, primarily, a way to convert a relatively illiquid asset into a lifetime income stream. Tax deferral is an added bonus to that purpose, a big bonus, but a bonus nonetheless. The old saying about taxes being the tail that wags dog holds true here; i.e. if you’re just in this for the tax benefits you’re in it for the wrong reason. Second, I am associated with a group that keeps financial planners, CPAs, attorneys and administrators on staff. Basically, they pay these people so you don’t have to. I like that because it helps preserve more of the client’s principal.

So, if you’re considering a PAT or you come across one in your financial planning, just be careful of what you’re getting into and be sure you’re working with someone you can trust. If a lawyer who works with trusts and tax planning every day can be misled about PATs, it can happen to anyone.

Paula Straub
Save Gains Tax


This material is not intended as an offer or solicitation for the purchase or sale of any security or other financial instrument. Securities, financial instruments or strategies mentioned herein may not be suitable for all investors. Any opinions expressed herein are given in good faith, are subject to change without notice, and are meant for informational use only. The information contained on this site does not constitute advice on tax or legal issues. This material does not take into account your particular investment objectives, financial situations or needs and is not intended as a recommendation of particular securities, financial instruments or strategies to you. Before acting on any recommendation in this material, you should consider whether it is suitable for your particular circumstances and, if necessary, seek professional advice.

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