Division of Agricultural Sciences 
 UNIVERSITY OF CALIFORNIA 
 
 ESTATE 
 PLANNING 
 FOR 
 FARMERS 
 
 . -.-•, 
 
 
 CALIFORNIA AGRICULTURAL 
 Experiment Station 
 Extension Service 
 
 CIRCULAR 461 
 
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 Ask yourselves 
 Husband: 
 
 l.How is my property held? Joint tenancy? Community 
 property? Separate property? 
 
 2. Is this the safest, most efficient way to hold that property? 
 
 3. Could my farm operation be more efficient from a tax 
 standpoint, and offer greater security for my family, if I 
 used a partnership or corporate business organization? 
 
 4. How can I arrange the disposition of my property so that 
 I provide lifetime security for myself and future security 
 for my wife and children? 
 
 5. Is my will in proper form? 
 
 If you can answer all these questions 
 to your own satisfaction, you are in 
 good shape at present and you have 
 
 Estate planning is merely the forming of a plan for the 
 economic management of your property so that it will pro- 
 vide present enjoyment for you and future security for your 
 heirs. 
 
 Whether the property you own is large or small, it must be 
 disposed of in some way in the event of your death, and if 
 it is valued over a certain amount, it will be taxed. The 
 state inheritance tax must be met by the person receiving 
 the property; the federal estate tax must be met by the estate 
 of the deceased person. Both taxes tend to reduce the prop- 
 erty in the hands of future generations. Legal arrangements 
 to save taxation are not wrong nor immoral. In fact, both 
 federal and state governments encourage the taxpayer to use 
 the law in his favor, but he must take the first steps in so 
 doing. 
 
these questions: 
 Wife: 
 
 1. How much property do we have — land, equipment, in- 
 surance, cash — and how is it owned? 
 
 2. What are the terms of my husband's will, and where is 
 the document kept? 
 
 3. Should I make a will, too? 
 
 4. Who is our attorney? 
 
 5. How much do I know about our farm business, records, 
 debts, bank affiliations, and the like? 
 
 a sense of security for the future. 
 If you are in doubt about some of the 
 answers, you probably need help. 
 
 But taxes are not the sole concern in planning the estate. 
 Preservation of the property as a continuing, functioning 
 unit following disability or death of its owners, and transfer 
 of that property to the advantage of its future owners must 
 also be considered. 
 
 This circular outlines the various ways of owning property, 
 and suggests methods by which you can legally reduce the 
 tax burden on your estate. It also presents examples of five 
 different types of estates, with recommendations for their 
 disposition. The information is not intended as a substitute 
 for sound legal advice. Rather, its purpose is to make you 
 think about your own individual estate problems and take 
 the necessary steps to solve them. 
 
 MAY, 1957 
 
The California farmer spends time and money to in- 
 crease the value of his estate by good management 
 practices. Unfortunately, in some instances what he 
 has built up is often devaluated at his death because 
 he failed to plan for the future. 
 
 The aim of this circular is to make the California 
 farmer and his wife aware of the problems involved 
 in the ownership and disposition of property, and to 
 suggest some ways by which those problems can be 
 solved. It is not intended as a substitute for competent 
 legal counsel, and should not in any circumstances be 
 so construed. It cannot be emphasized too strongly 
 that estate planning is an ever-changing legal concept 
 which must be viewed not only in the light of the ap- 
 plicable tax and general laws, but also from the stand- 
 point of human relations. This circular should be 
 used only as a possible source of ideas for the Cali- 
 fornia farmer in securing advice from his legal 
 counsel. 
 
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 The circular was prepared as a joint effort in which 
 the Agricultural Extension Service is happy to share, 
 together with the University of California's School 
 aw, the California Farm Bureau Federation, and 
 of practicing estate attorneys. 
 
 + 
 
 Director, Agricultural Extension Service 
 
 r ^T 
 
 
WAYS OF OWNING 
 FARM PROPERTY 
 
 Before you can plan your estate from an income and 
 death tax point of view, you will need to understand the 
 types of property ownership. In California, there are four 
 usual ways of holding title to property: (1) tenancy in 
 common; (2) joint tenancy; (3) separate property; and 
 (4) community property. 
 
 Tenancy in common ownership between a husband and 
 wife is not used to any large extent in estate planning at 
 the present time. Its use in estate planning was adopted 
 by tax lawyers and consultants because of the Revenue 
 Act of 1942, wherein it was attempted to tax all of the 
 community property to the husband's estate in case of his 
 death. This law was changed in the Revenue Act of 1948, 
 and as a result, tenancy in common property is now of 
 little importance except possibly in connection with stock 
 certificates of eastern companies, in which case a com- 
 munity property agreement is desirable to identify the 
 property as community property. This type of owner- 
 ship will not be discussed further. 
 
 Joint tenancy applies to property that is held by more 
 than one person (generally by a husband and wife). On 
 the deed of conveyance or in the agreement between the 
 spouses it is provided that such property is held by the 
 husband and wife as joint tenants. In addition, in some 
 instances there is added the phrase, "with right of sur- 
 vivorship." The main incidence of joint tenancy property 
 is the fact that where there are two such persons, each 
 
 [5] 
 
 You must know 
 how property 
 is owned 
 
 Joint tenancy 
 property is held by 
 more than one 
 person 
 
Separate property 
 
 belongs to 
 
 one person only 
 
 and does not become 
 
 community property 
 
 when you marry 
 
 joint tenant owns an undivided, equal one-half interest, 
 and that on the death of the first joint tenant, all of the 
 property goes to the surviving joint tenant without neces- 
 sity of probate administration. In some counties, court 
 proceedings are required to terminate joint tenancy own- 
 ership of real property; in others, a mere affidavit of the 
 surviving joint tenant is sufficient. The procedure depends 
 upon the practice acceptable to the title insurance com- 
 panies in a particular area. 
 
 Separate property is that which is owned by a spouse 
 prior to marriage or which arises after marriage by gift 
 or inheritance. It includes also all the rents, issues, and 
 profits from such property. In case either spouse dies leav- 
 ing separate property, it is necessary to administer the 
 same in the probate court of the county of residence. 
 
 Community property is all property that arises out of 
 the earnings and efforts of the husband and wife, and the 
 rents, issues, and profits from such property. Where the 
 spouses own only community property, no probate ad- 
 ministration is required in case of the death of the wife 
 if she dies without a will. If she should leave a will, it has 
 been the general practice to probate her half of the com- 
 munity property. There is some question regarding this 
 probate phase. However, in case of the death of the hus- 
 band, there is no question that the whole of the com- 
 munity property is subject to probate administration. 
 
 One common misunderstanding should be corrected 
 here. Separate property does not become community prop- 
 erty upon the marriage of two individuals. 
 
 An estate can be hit hard by death taxes. 
 
 6] 
 
DEATH TAX IMPACT 
 
 Two death taxes are imposed upon residents of Cali- 
 fornia, the California inheritance tax, and the federal 
 estate tax. 
 
 The state inheritance tax is imposed upon the people 
 who inherit property. It is not imposed on the gross estate 
 except under peculiar circumstances not important here. 
 In other words, it is a graduated tax that is assessed against 
 particular individuals who inherit from the decedent. The 
 table on page 8 will give you some idea of this tax. 
 
 Note that the surviving widow has an exemption of 
 $24,000; a minor child, $12,000; and an adult child, 
 $5,000. The husband has an exemption of $5,000 also, in 
 addition to which he receives all of the community prop- 
 erty free from inheritance tax. 
 
 The federal estate tax is an entirely different tax. The 
 federal government is interested primarily in the size of 
 the gross estate. It is not interested in who inherits a par- 
 ticular property, except in the case of charitable bequests 
 and in the case of a marital deduction, to be mentioned 
 later. For purposes of computing the federal estate tax 
 liability, the entire estate of the decedent is thrown into 
 a common pot. Many people believe that insurance is not 
 taxable for federal estate tax purposes. This is not true. 
 In case the decedent has an ownership interest in the 
 policy, the proceeds of the policy are included in his estate 
 for federal death tax purposes. (It is true that there are 
 provisions, under the federal Internal Revenue Code, 
 
 [7] 
 
 When you inherit 
 property, you pay a 
 state inheritance 
 tax on part . . . 
 
 and a federal estate 
 tax on all the 
 property involved 
 
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which would exempt life insurance under certain circum- 
 stances where the ownership of the policy has been trans- 
 ferred out of the hands of the decedent, but space does not 
 permit discussion of these provisions here.) 
 
 The federal estate tax is a graduated tax also. In order 
 to be taxable, the decedent's estate must be in excess of 
 $60,000. This estate then moves into higher brackets as 
 follows: 
 
 Taxable estate 
 
 $ 60,000 
 
 70,000 
 
 80,000 
 
 100,000 
 
 120,000 
 
 150,000 
 
 200,000 
 
 300,000 
 
 500,000 
 
 Minimum tax 
 
 
 
 500 
 
 1,600 
 
 4,800 
 
 9,340 
 
 17,500 
 
 31,500 
 
 59,100 
 
 116,500 
 
 As can be seen, this tax is extremely heavy after $100,000 
 is reached. The tax on the first $100,000 is only $4,800, 
 whereas, on the next $50,000, it jumps to $17,500, an 
 increase of approximately $13,000. On $200,000, it jumps 
 to $31,500. Thus, on the second $100,000, the tax is 
 roughly $27,000, and this situation continues as the tax- 
 able estate value rises. 
 
 Under both state and federal law, it is well established 
 that only one half of the community property is taxable 
 in case of the death of either the husband or the wife. 
 That is to say, if the husband and wife have a $100,000 
 community property estate, only $50,000 is taxable on the 
 first death. If they have a $200,000 community property 
 estate, only $100,000 is taxable on the first death. The 
 table above shows that, in case of a $100,000 community 
 property estate, there would be no federal tax on the first 
 death because of the $60,000 exemption; in case of a 
 $200,000 community property estate, the federal tax 
 would amount to $4,800 on the first death. The federal 
 estate tax on a $300,000 community property estate would 
 amount to $17,500 on the first death; on a $400,000 com- 
 munity property estate, $31,500 on the first death. 
 
 If the decedent owned separate property, all such prop- 
 erty is taxable to his estate. However, if there is be- 
 queathed to a surviving spouse, or if she receives, by oper- 
 ation of law, such property, or other property up to one 
 half the value of such property, a marital deduction is 
 allowed. Simply stated, if a husband and wife marry late 
 in life, and the husband has $100,000 of separate property, 
 and if he leaves all such property to his wife, there would 
 be a marital deduction of approximately $50,000, and 
 approximately only one half of the $100,000 would be tax- 
 able. The same would be true if such property went to the 
 
 [9] 
 
 But you pay the 
 federal tax only if 
 the estate is over 
 $60,000 
 
 Only one half of 
 community property 
 is taxable at 
 death of one owner 
 
 But all his separate 
 property may be 
 taxable to his estate 
 
 unless there is a 
 marital deduction 
 
The marital 
 deduction of up to 
 one half the estate 
 
 may be claimed only 
 
 if the property is 
 
 willed to the 
 
 surviving spouse 
 
 However, 
 
 "aggregation of the 
 
 estate" in the hands 
 
 of the surviving 
 
 spouse 
 
 may result in 
 
 very heavy estate 
 
 taxes upon his or 
 
 her death 
 
 wife because of joint tenancy ownership. In other words, 
 the surviving widow gets a marital deduction equal to 
 roughly one half of the separate property. The marital 
 deduction is a complex legal concept, but in general it 
 may be stated that the wife will get a deduction up to one 
 half of the separate estate if it is left to her in a will, but 
 if the husband should leave all of his property to someone 
 other than his spouse, then there would be no marital 
 deduction. The wife has to inherit or receive some prop- 
 erty from the deceased spouse in order to be entitled to 
 the benefit of the marital deduction. If she does not, as 
 stated above, then the property would be taxed in its en- 
 tirety, in the decedent's estate, as separate property. 
 
 A word of caution is necessary here. Merely leaving the 
 surviving spouse a life estate in particular property will 
 not authorize tax saving by the marital deduction. The 
 full fee title or its equivalent must be left to her. 
 
 From the analysis above, it can be seen that there is 
 not a great deal of difference between the taxation of com- 
 munity property and separate property for death tax pur- 
 poses when each spouse, in effect, is the heir of the other — 
 the normal, natural condition. In other words, on the first 
 death, only one half of the property will be taxable. Con- 
 sequently, on smaller estates, no great problem is pre- 
 sented because the tax impact is relatively light. Until an 
 estate of $120,000 is reached, no federal estate tax is due, 
 and the impact of the state inheritance tax is not very 
 great. It is on this basis that some attorneys have recom- 
 mended the placing of smaller estates in joint tenancy 
 ownership. On the other hand, if there are other factors, 
 such as a low cost basis, or if the decedent wants to protect 
 children of a prior marriage, the property should not be 
 in joint tenancy. 
 
 When the $60,000 figure is reached, however, other 
 problems are presented that require more detailed dis- 
 cussion. These problems arise mainly out of what might 
 be called the "aggregation of the estate" in the hands of 
 the surviving spouse. In most cases, the wife generally 
 outlives the husband. Therefore, she will collect any in- 
 surance that the husband may have carried, together with 
 the other estate that both spouses may have accumulated. 
 
 As can be seen from the above, before any federal tax 
 is incurred, there must be an estate of $120,000. Let us 
 assume that such an estate is held in joint tenancy owner- 
 ship. In the case of the first death, there is no tax. In case 
 of the second death, however, there is a tax of $9,340. If 
 the estate is $200,000 on the first death, the tax is $4,800, 
 and on the second death, $31,500. On a $300,000 estate, 
 the tax is $17,500 on the first death, and $59,100 on the 
 second. These figures indicate that it would not be wise 
 
 [10] 
 
to leave these larger estates to the surviving spouse be- 
 cause of the heavy impact of death taxes on the second 
 death. Note that, on a $120,000 estate, there is an addi- 
 tional cost of roughly $4,700 on the next $20,000. If that 
 $20,000 could be removed, the tax due would be only 
 $4,800, or if some device could be worked out whereby 
 the second $60,000 (or perhaps $40,000 of it) were held 
 back in some manner, there would be practically no death 
 tax impact. As the brackets become higher, the death tax 
 impact becomes very great. Consequently, attorneys have 
 recommended breaking up these larger estates to prevent 
 an aggregation of estates. This is especially true in view 
 of the many common accidents and disasters that occur 
 today. If a husband and wife are driving along the high- 
 way and both are killed, and if one survives the other by 
 a period of an hour, a day, a month, et cetera, it would 
 be necessary to probate the estate of each, and to pay the 
 heavy tax burden set forth above on the second death. 
 (There is some previously taxed property credit, which 
 may make a slight difference in the above figures.) 
 
 Accordingly, if the estate is over $100,000, it would be 
 preferable to establish a trust device under the will of the 
 spouse first to die whereby the surviving spouse is trustee, 
 for himself, of the deceased spouse's share of the com- 
 munity property. In that way, there is no aggregation of 
 estates. The trust that is set up is one that enables the 
 surviving spouse to treat the property much as his own 
 except that he cannot use any of the principal. He is 
 entitled to all of the income from it so long as he lives. In 
 this way, on a $200,000 estate, there are only two taxes of 
 $4,800 each on the first and second deaths, instead of 
 $4,800 on the first and $31,500 on the second. On a $300,- 
 000 estate, the saving is even more marked. If the estate is 
 divided through the trust device, there would be two taxes 
 of $17,500. If the estate went in its entirety to the sur- 
 viving spouse, however, the tax on the second death would 
 be $59,100. In this case, there is a possible tax saving of 
 approximately $41,600. 
 
 Another, non-tax factor must be considered with regard 
 to these larger estates if children are involved. Each spouse 
 would like to be sure that, in case anything should happen 
 to him, his one half would go to the children. In many 
 instances of a second marriage, the children of the first 
 marriage have been cut off from the will or have lost 
 their father's or mother's share of the property. The trust 
 device mentioned above is a vehicle for preventing such a 
 happening. Under this device, the surviving spouse has a 
 life interest only in the income, and cannot use the corpus, 
 or principal, of the deceased spouse's one half. This means 
 that the corpus, or principal, under the terms of the de- 
 
 It is therefore 
 advisable 
 to break up 
 large estates 
 
 This may be done 
 by establishing 
 a trust device 
 
 Such a device also 
 protects the 
 children 
 
 [in 
 
A bank is a good 
 trustee because 
 
 it can effect tax 
 savings 
 
 A "spendthrift 
 
 trust" protects 
 
 the survivor's 
 
 old age security 
 
 Joint tenancy 
 
 ownership is not 
 
 a good idea for 
 
 large estates 
 
 because . . . 
 
 cedent's will, goes directly to the children upon the death 
 of the surviving spouse. This does not imply suspicion be- 
 tween the spouses, but merely takes care of something of 
 which all are cognizant. 
 
 The paragraph above has explained the trust device in 
 an oversimplified manner in order that it might be more 
 easily understood. Many tax and non-tax problems arise 
 when the surviving spouse is named both as trustee and 
 as beneficiary, and it is for this reason that the use of 
 banks as trustees is widely accepted. There are also sub- 
 stantial advantages from a tax standpoint. For instance, 
 if the surviving spouse were the trustee, he could not 
 be given any discretion as to how to pay out income 
 without having to pay all of the income tax on all of 
 the income. A bank, on the other hand, can be vested 
 with this discretion to divide income as it is needed in 
 any particular year, and thus can divide the income 
 tax among the beneficiaries to whom it is allocated. 
 Also, a bank may be given a discretion to invade the 
 principal to pay any unusual expenses, such as doctor's 
 bills or hospital bills; but this discretion may not be 
 granted in an unlimited manner to the surviving spouse 
 where he is also a beneficiary without the danger of hav- 
 ing the entire principal of the trust taxed in his estate on 
 his death, thus nullifying the benefit of the trust from an 
 estate tax standpoint. 
 
 Another factor of importance in some instances is that 
 the trust set up in the decedent's will for the surviving 
 spouse is known as a "spendthrift trust," both the prin- 
 cipal and income of which are exempt from the attach- 
 ment of creditors. This means that the deceased spouse is 
 really protecting the surviving spouse so that if any un- 
 toward event or accident should occur, subjecting the 
 surviving spouse to liability, the creditors of the surviving 
 spouse cannot reach this property. Thus, the surviving 
 spouse is protected and will have enough to live on in 
 old age. 
 
 When property of the deceased spouse is separate prop- 
 erty, the problem of setting up a trust for the surviving 
 spouse may create some difficulty if it is also desired to 
 secure the marital deduction. The life income trust de- 
 scribed above will not entitle the surviving spouse to the 
 marital deduction on separate property. However, this 
 matter can often be worked out by making certain out- 
 right bequests to the surviving spouse and then placing 
 the balance of the estate under the lifetime trust. 
 
 Where property is held in joint tenancy, it must be 
 remembered that the will of the first joint tenant to die 
 is of no effect with respect to the joint tenancy property. 
 The characteristic of joint tenancy property is that it auto- 
 
 [12] 
 
matically goes to the surviving joint tenant regardless of 
 the provisions of the will of the deceased joint tenant. In 
 such instance, the surviving joint tenant is the absolute 
 owner of the entire estate, whether it originally was com- 
 munity or separate property. From this factor, the aggre- 
 gation of estates problems described above can arise. 
 There is no means of preventing such aggregation of 
 estates when property is held in joint tenancy. This is 
 one of the reasons why tax counsels advise against the 
 placing of large estates in joint tenancy ownership. An- 
 other factor against joint tenancy is that there is no pro- 
 tection to the children of the deceased spouse. Automati- 
 cally, the surviving joint tenant receives the entire estate 
 and it is his to will away, to give away, or to treat in any 
 manner that he so desires. For these two reasons, joint 
 tenancy should not be used in large estates except as a 
 vehicle in the estate planning if there is a particular item 
 of property that should go to the surviving spouse. 
 
 it results in the 
 aggregation of 
 estates 
 
 it does not protect 
 the children 
 
 How you own property affects the income tax you pay. 
 
 [ 13 ] 
 
THE INCOME TAX ASPECT 
 OF PROPERTY 
 OWNERSHIP 
 
 Every item of 
 
 property has a cost 
 
 basis for tax 
 
 purposes 
 
 This is usually 
 
 original cost plus 
 
 permanent 
 
 improvements 
 less depreciation 
 
 Under the income tax law, both state and federal, each 
 item of property has a cost basis for tax purposes. This 
 cost basis, in general, is the cost of acquisition, plus per- 
 manent improvements, less depreciation. In case of death 
 of one of the spouses, an appraisal has to be made by 
 agents of the state and federal governments. This ap- 
 praisal is based upon the fair market value of the property 
 as of the date of death of the decedent or, in the case of 
 the federal government, if so desired, one year after the 
 date of death. Under the income tax law, it is provided 
 that a new cost basis is acquired on property at the value 
 set forth in the Federal Estate Tax Return or the In- 
 ventory and Appraisement that are set up in the estate of 
 the decedent for federal and estate tax purposes, respec- 
 tively. This cost basis is in varying amounts depending on 
 type of ownership existing between the spouses at time of 
 death. 
 
 In the case of community property, there is a new cost 
 basis equal to 100 per cent of the value at which such 
 property is appraised in the estate of the decedent. This is 
 true in spite of the fact that only 50 per cent of the com- 
 munity property is taxable in the decedent's estate. In the 
 case of joint tenancy property, the decedent's share only 
 receives a new cost basis. In the case of separate property 
 of decedent, 100 per cent of the separate property would 
 receive a new cost basis. 
 
 To clarify this situation, the following is a specific ex- 
 ample. Suppose that, many years ago, a husband and wife 
 acquired a 40-acre vineyard at a cost of $10,000, and that 
 
 [14] 
 
the improvements and depreciation about equaled each 
 other, so that net cost basis of the husband and wife as of 
 the date of the husband's death aggregated $10,000. As- 
 sume that this 40-acre tract is now worth $50,000 and is so 
 appraised for federal and state death tax purposes. If the 
 property is held as community property, the surviving 
 spouse will get a new cost basis on the 40-acre piece up to 
 $50,000. This means that if she wants to sell the property, 
 she will have no capital gains tax to pay unless she receives 
 in excess of $50,000. If she decides that she does not wish to 
 sell, but wants to retain, develop, and continue to farm 
 the property, she will set up her vines, trees, wells, pump- 
 ing plants, and other permanent improvements on a rea- 
 sonable value and start redepreciating the property. This, 
 of course, would have a very decided effect upon her an- 
 nual income tax. 
 
 If the property were held in joint tenancy and had been 
 derived from community funds, so that only one half is 
 taxable in the estate of the decedent, the surviving spouse 
 would receive a new cost basis only on the decedent's one 
 half of the property — in this instance, $25,000 — and re- 
 tain the cost basis on her half of $5,000. This means 
 that she would have a capital gains tax to pay in the 
 event that she sold the property for more than $30,000. 
 Also, the total value upon which the property could 
 be set up for depreciation would be $30,000 as contrasted 
 with $50,000 under a community property arrangement. 
 
 On this new cost basis, another important factor arises 
 in connection with any crop that is on the property. In 
 the instance above, if the decedent spouse should die any 
 time after May 1, when the grape crop is set, an appraisal 
 can be secured of the crop as distinguished from the land 
 and improvements. A new cost basis is thereby secured on 
 the crop, which becomes a cost item just like any other 
 item of expense of the surviving spouse, and she would 
 be able to offset such expense against her gross income. 
 In other words, if the crop on the 40-acre piece held as 
 community property amounted to a net of $10,000, the 
 surviving spouse would pay only a very small death tax 
 liability on $5,000, and by so doing, would secure a new 
 cost basis of $10,000 on the crop. If, however, the property 
 were held in joint tenancy, the surviving spouse would 
 still pay a death tax on $5,000 of the $10,000 crop, but 
 would have a cost basis of only $5,000 against the crop, 
 and would have to pay an income tax on the second $5,000. 
 
 In larger estates, another factor also points up why it is 
 preferable to hold property as community property rather 
 than as joint tenancy. This arises out of the graduated na- 
 ture of the income tax law. It is well known that the 
 higher the income, the higher the tax bracket; the lower 
 
 The cost basis for 
 community property 
 is more advanta- 
 geous than . . . 
 
 that for joint 
 tenancy property 
 
 especially where a 
 crop is involved 
 
 [15] 
 
To summarize: 
 
 for large estates, 
 
 and perhaps even 
 
 for smaller ones, . . . 
 
 community property 
 ownership 
 
 is better than 
 
 joint tenancy 
 ownership 
 
 the income, the lower the tax bracket. In other words, the 
 more taxpayers in any particular situation, the lower the 
 tax. A husband and wife are two taxpayers. When prop- 
 erty is held in joint tenancy ownership, and the husband 
 dies, the wife is automatically entitled to the entire joint 
 tenancy estate and she is taxed on all of the income aris- 
 ing after the date of the husband's death. A joint return 
 can be filed in behalf of the husband and the wife in the 
 year of his death, splitting the income, in effect, between 
 the two of them. However, in the next year, the wife is a 
 sole taxpayer, and is taxable upon the entire amount. 
 
 When property is held as community property, and a 
 will is left by the decedent spouse, the husband and wife 
 can file a joint return in the first year with respect to her 
 income and to his income down to date of his death. After 
 the date of his death, the estate of the decedent husband 
 would be taxable on his share of the income from his one 
 half of the community property. The estate is also a tax- 
 payer in the second year, and under the law, one half 
 would be taxed to the wife. The estate can be kept open 
 for a period of two years without any great additional cost 
 to the surviving widow, and in this way can assure her of 
 the income tax splitting benefits of the state and federal 
 laws. 
 
 From the above, it can be seen that joint tenancy owner- 
 ship of property under the present law is something to be 
 avoided except in smaller estates. Even in the latter, joint 
 tenancy should be used only when the estate picture is not 
 complicated by other factors, such as low cost basis, or by 
 non-tax problems, such as family relationships. In these 
 cases, as with the larger estate, a will is mandatory in terms 
 of protection for both tax and non-tax problems. 
 
 You can lessen the impact of taxes on your estate. 
 
 [16] 
 
WAYS TO REDUCE 
 
 THE IMPACT 
 
 OF DEATH TAXES 
 
 So far the farmer's estate problem has been viewed from 
 the standpoint of the consequences of holding the farm 
 property in various ways. In this section some attention 
 will be given to the devices which might be used to reduce 
 the impact of death taxes (estate and inheritance taxes) 
 by disposing of property in a certain manner. Admittedly, 
 some ways of "holding" property can be accomplished 
 only by disposing of that property to others, but that is 
 not the central purpose of disposal devices. 
 
 As you read this section, remember: The disposal de- 
 vices suggested are not difficult to understand . . . BUT 
 because of the details of their operation, and their far- 
 reaching effects, it is absolutely necessary that you consult 
 a competent attorney before deciding to use such devices. 
 
 Obviously, estate and inheritance taxes can be reduced 
 by reducing the amount of property which will be in- 
 cluded in the estate at death. It is equally obvious that one 
 of the easiest ways to reduce the estate is to give away part 
 of one's property during life. This is easier said than done. 
 The individual must figure his financial needs for the re- 
 mainder of his life and make provision for the many un- 
 certainties of later years. Such predictions are not simple, 
 and the giver takes a calculated risk on the future. 
 
 [17] 
 
 Sometimes it is 
 better to dispose of 
 property than to 
 hold it 
 
 But... 
 
 before you act, 
 consult an attorney 
 
You may give away 
 varying amounts 
 
 zvithout paying 
 gift taxes 
 
 Gifts made within 
 
 three years of 
 
 the giver's death 
 
 may not necessarily 
 
 be tax free 
 
 The first concern is that of how much the giver may give 
 without subjecting himself to gift taxes — both federal and 
 state. (The giver usually pays the tax.) While the gift tax 
 is designed to keep a person from escaping estate taxes, he 
 is allowed to make a certain amount of gifts before the 
 gift tax applies. The federal law allows the donor (the 
 giver) to make tax-free gifts of $3,000 per year per donee 
 (the person receiving the gift). This means that a husband 
 and wife together may make gifts of $6,000 per year to as 
 many different donees as they wish without incurring any 
 gift tax liability. In addition, the federal law allows each 
 donor a lifetime gift exemption of $30,000, so that a hus- 
 band and wife together may make lifetime gifts of $60,000 
 plus annual gifts of $6,000 per donee. The married donor 
 may give $60,000 to his spouse, using his $30,000 exemp- 
 tion, and he may give her $6,000 annually, using his $3,000 
 exclusion, because the federal gift tax law permits the 
 deduction of one half of any gift to a spouse, under cer- 
 tain circumstances. This is called the gift tax marital de- 
 duction. The California gift tax law permits an annual 
 exclusion of $4,000 per donee and a lifetime exemption of 
 varying amounts depending on the relationship of the 
 donor to the donee. 
 
 Under some circumstances, lifetime gifts may not be ex- 
 cluded from the impact of estate taxes. Such an instance 
 is one in which the gift is made "in contemplation of 
 death." While often called the "deathbed gift," "in con- 
 templation of death" is not restricted to deathbed situa- 
 tions. Any gift made less than three years before the death 
 of the giver will be considered to have been made in con- 
 templation of death, and that amount will be included in 
 the giver's estate for tax purposes unless it can be proved 
 that the giver actually made the gift for a "life motive." 
 Motives which have been regarded as "life motives" in- 
 clude the following: to save income tax; to help estab- 
 lish relatives or friends in business or to make them 
 financially independent; to induce a son to remain at 
 home; to provide funds for education of the donee; to 
 equalize the financial condition of children. Gifts made in 
 all these instances were held not to be in contemplation of 
 death and were excluded from the donor's estate. Any gifts 
 made more than three years before the death of the giver 
 are not regarded as having been made in contemplation 
 of death, and will not be included in the giver's estate for 
 tax purposes. 
 
 Some consideration should also be given to the selec- 
 tion of the person to receive the gift. If gifts are made to 
 the giver's spouse, they will be included in the receiving 
 spouse's estate unless he (or she) has disposed of the prop- 
 erty before death. This enlarges the receiving spouse's 
 
 [18] 
 
estate, and the saving realized by the giving spouse in 
 making the gift may be offset by the tax on the enlarged 
 estate of the receiving spouse. (Of course, if the receiving 
 spouse lives for some time after the death of the giving 
 spouse, or after the gift, he or she may, during that time, 
 dispose of the property so that it will not be included in 
 his or her estate.) That is why it is generally desirable to 
 make gifts to one's children rather than to the spouse. As 
 stated before, the use of the gift device requires the giver 
 to take a calculated risk unless he is a flawless predictor of 
 the future. 
 
 Certain practical considerations are involved in the use 
 of the lifetime gift. Naturally, no advantage will come 
 from making lifetime gifts to the extent of disposing of all 
 property. Nor will the lifetime gift device be especially 
 useful to the person with limited property, who would not 
 be affected by the estate tax. The question of whether a 
 particular person would be wise to begin giving his prop- 
 erty away is one which he should decide only with the aid 
 of a competent attorney. It should also be remembered 
 that the gift may be in the form of cash, stocks, bonds, 
 land, anything — the value for gift tax purposes being de- 
 termined by the fair market value of the property at the 
 time of the gift. 
 
 For the farmer desiring to retire or enter semiretire- 
 ment, the private annuity or "support contract" has been 
 suggested as a solution which, while providing for the 
 transfer of the farm property to the next generation with- 
 out probate, can result in tax savings. Under this device, 
 he transfers the farm property to the next generation in 
 return for a promise that the son (in the usual case) will 
 support the parents for the rest of their lives. Alterna- 
 tively, the agreement may call for cash payments. 
 
 Such a plan has, perhaps, some benefits to commend it. 
 There are, however, many dangers. If the agreement calls 
 upon the son to pay the parents' living expenses, it auto- 
 matically follows the cost of living. Probate expense is 
 saved, that is, if the farm property is the sum total of the 
 parents' property. The son is assured the property and will 
 have more years to enjoy and improve it. The need for 
 liquid assets is reduced. The property will be removed 
 from the parents' estate and freed from estate taxes. To 
 the unwary and unrealistic this support contract plan 
 would appear to be the perfect solution to his estate prob- 
 lems, but he should not be misled. 
 
 There are some very real disadvantages to the plan. It 
 is sad but true, and often tragic, that such support agree- 
 ments can lead to family friction. Disagreements between 
 the parent and son about the management of the farm 
 commonly arise. Other heirs resent the favoritism. The 
 
 From a tax 
 standpoint, gifts 
 to the children 
 are better than 
 gifts to a spouse 
 
 A "support contract" 
 has some advantages 
 and . . . 
 
 many disadvantages 
 
 [19] 
 
It may cause 
 family squabbles 
 
 Parents are made 
 
 completely 
 
 dependent upon 
 
 their children 
 
 The tax status 
 is not always clear 
 
 The trust is a 
 
 good solution 
 
 for some estates 
 
 parents are made to depend completely on the children; 
 the property can be sold or conveyed away by the son, and 
 is subject to the claims of his creditors. In addition to 
 these intangible disadvantages, there are monetary pitfalls 
 in this "perfect solution." If the parents are long-lived, 
 the son may end by paying out much more than the 
 property is worth. The son must pay income taxes on the 
 income from the property, yet he can take no deduction 
 for the payments he makes to the parents. During periods 
 of declining farm income the son may have some difficulty 
 maintaining support or payments. The tax consequences 
 of a sale by the son after the death of the parents are 
 difficult to determine. If the parents die before the son 
 has paid the equivalent value of the property, the "wind- 
 fall" may be taxable as ordinary income or the son may 
 not have to pay a tax until he sells. In so far as the tax 
 effect on the parents is concerned, they would pay an in- 
 come tax each year, calculated by using a special formula 
 designed to set aside a portion of the annual income as 
 repayment of their investment. They would pay no tax on 
 the portion set aside. Any consideration of this annuity 
 or support plan should be tempered by the fact that there 
 is a chance the taxing authorities will regard the plan as 
 a sale of the property by the parents to the son, and assert 
 a capital gains tax at the beginning in addition to the 
 yearly tax on the income. Further gift tax problems arise 
 if there is a difference between the value of the annuity 
 and the fair market value of the property. Moreover, the 
 private annuity agreement will not effect a saving on state 
 inheritance taxes. 
 
 Clearly, the use of the private annuity or support plan 
 should not be made hastily. As with any estate plan, a de- 
 cision should be made only after careful examination of 
 all the factors, not just those concerned with dollars and 
 cents. 
 
 The trust represents another means of disposing of 
 property in such a way that substantial tax savings can be 
 realized, but this is not its only purpose. The trust will 
 also provide a way to protect property and assure contin- 
 ued income to the family of the settlor (the person placing 
 property in the trust). In the typical trust, the settlor trans- 
 fers property to the trustee (holder of the trust property) 
 who is under a duty to preserve the trust property and use 
 it for the benefit of the trust beneficiaries (persons for 
 whose benefit the settlor sets aside the trust property). For 
 example, Brown may transfer 100 shares of stock to Jones 
 with instructions for Jones to pay the income from the 
 stocks to Brown's son for 10 years and, after 10 years, to 
 give the shares to the son. This is an express private trust, 
 Brown being the settlor, Jones the trustee, and Brown's 
 
 [20] 
 
son the beneficiary. If this arrangement is made to take 
 effect during Brown's life the trust is called a living trust. 
 Brown may set up the trust in such a manner that he can- 
 not change it, or he may retain the power to change it or 
 to destroy it. By making the trust unchangeable, Brown 
 creates what is termed an irrevocable trust. Reserving the 
 power to make changes in the trust results in a revocable 
 trust. In California, all trusts are revocable unless the 
 terms state otherwise. Trust law, and the tax laws con- 
 nected with trusts, make up some of the more complicated 
 sets of rules in the law — too complex to be discussed here 
 in detail. But some general observations may be made. 
 
 Aside from the tax aspects, while the trust is flexible, it 
 is best limited to certain types and quantities of property. 
 Placing farms in trust gives rise to managerial difficulties 
 because land management is a job calling for full atten- 
 tion. Personal property, such as cash, stocks, bonds, and 
 the like, is more easily managed. Some types of personal 
 property, such as jewelry, clothing, family silverware, heir- 
 looms, family automobile, and the like, are obviously un- 
 suited as trust property. These things are best disposed 
 of by will. Certain types of trusts would not be in the best 
 interest of the person with only moderate means. Where 
 the trust is used, however, it can be formed to provide for 
 the needs of several persons (beneficiaries) with a mini- 
 mum amount of effort, or none at all, on the part of the 
 settlor. 
 
 A number of tax savings are available through the use 
 of the trust. In the case of the irrevocable living trust, for 
 example, the property placed in the trust will not be in- 
 cluded in the settlor's estate — if the trust is well planned. 
 The settlor must pay a gift tax on the property given to 
 the trust, subject, of course, to the exemptions or exclu- 
 sions discussed in the section on the gift device. It should 
 be remembered that even if the gifts to the trust exceed 
 the exemptions and exclusions, gift tax rates are usually 
 lower than estate tax rates. The settlor also obtains in- 
 come tax savings with the living trust. The income from 
 the trust property is not taxed to him, but is taxed to the 
 beneficiaries and is made available to them. In this way 
 the income of the property is split into more parts, result- 
 ing in a lower total income tax paid by all the beneficiaries 
 than would be paid if the income from the property were 
 taxed all in one piece. Estate tax savings are possible since 
 the settlor of a living trust can remove property from his 
 estate, thus avoiding death taxes and keeping the trust 
 property out of the beneficiary's estate while still giving 
 the benefits of the trust to him during his life. 
 
 Obviously the trust is not a simple device but, when 
 carefully planned, it can be a real benefit to all concerned. 
 
 The trust is 
 flexible and 
 complex 
 
 It is best applied 
 only to certain types 
 of property 
 
 When properly 
 planned it can result 
 in numerous tax 
 savings 
 
 [21] 
 
Planning a trust 
 
 requires skill and 
 
 imagination 
 
 Cross deeds between 
 
 spouses are not 
 
 legal 
 
 Deeding property to 
 
 a spouse for a life 
 
 estate is impractical 
 
 Insurance is good 
 
 but it's not the 
 
 only answer 
 
 Insurance can 
 
 provide cash for 
 
 death expenses 
 
 Setting up the plans for a trust calls for great skill and 
 imagination as well as recognition of the practical factors 
 of family needs, personalities of the parties concerned, and 
 so on, without undue emphasis on the tax saving aspects. 
 Like other estate planning devices, the trust plan must be 
 reviewed from time to time to take into account changes 
 in the family circumstances and changes in the law. 
 
 It has been common practice in farming communities 
 for husbands and wives to make cross deeds to each other 
 and then, in the case of the death of either, for the survi- 
 vor to record the deed which he or she holds. It should 
 be mentioned that these cross deeds are really not legal, 
 and have been disregarded by the California Supreme 
 Court. Title companies have taken the position that such 
 deeds are of no use and effect, and consequently the prop- 
 erty still would have to be probated. Because of the trou- 
 ble they cause, cross deeds should not be used between the 
 spouses. 
 
 It should also be mentioned that, under either the deed 
 method or the will method, some people believe that they 
 should use an ordinary life estate for the disposition of 
 real property. In other words, the decedent spouse would 
 make a deed outright to the other spouse, wherein he or 
 she would have a life estate, or, under the terms of the 
 will, would directly provide that the surviving spouse 
 have a life estate in the property. This is impractical in a 
 farming community because of the difficulty of securing 
 any financing where an individual has only a life estate. 
 The bank or other financing institution would require the 
 signatures of both the life tenant and the remainderman, 
 that is, the ultimate owner, to be sure of protection under 
 all circumstances, and this, in some instances, has proved 
 to be impossible for various reasons. Furthermore, the sur- 
 viving spouse should never be placed in this position. 
 
 Various types of insurance form the basis for almost 
 every family's plan for security. Often insurance is the 
 only planning. What too few people realize is that insur- 
 ance is not a cure-all for their estate problems. Insurance 
 purchased without proper attention to the total family 
 needs and the total estate plan can do more harm than 
 good. 
 
 The intricate workings of insurance contracts and the 
 variety of insurance plans prevent a complete discussion 
 here, but some general observations can be made. To a 
 great extent, insurance can protect against forced sale of 
 property by providing "liquidity" — cash to pay tax, ad- 
 ministrative, and other expenses at death — and so pre- 
 serve the estate. To a lesser extent, proper use of insurance 
 can result in tax savings. Payments made to the beneficiary 
 under the usual life insurance policy are not subject to 
 
 [22] 
 
income tax, although the proceeds of the policy may be in- 
 cluded in the taxable estate of the deceased insured. This 
 inclusion can be avoided, however, if the insured takes 
 special precautions. Thus, by careful planning, funds may 
 be set aside for family security without payment of income 
 tax by the beneficiary or estate tax by the insured. In the 
 case of the endowment policy, the insured faces some spe- 
 cial problems, but he can meet these by careful selection of 
 his policy provisions. 
 
 Examine the policies you have or the policies you plan 
 to buy. If you cannot fully understand their provisions, 
 ask the advice of a competent attorney. Check the settle- 
 ment provisions, the cash surrender provisions, the sav- 
 ings features, the renewal clauses, the reliability of the 
 company and its agents. Find out how the insurance pro- 
 gram you are considering fits in with any other security 
 plans you have — social security and others. 
 
 A good insurance program forms an important part of 
 the estate plan, but the limitations of insurance should be 
 recognized. The few tax saving features of insurance are 
 secondary in most instances, the principal function of in- 
 surance being to accomplish some degree of security as 
 well as to provide cash reserves for expenses arising as a 
 result of death. 
 
 It can result in tax 
 savings if the policy 
 has been chosen 
 carefully 
 
 Review the 
 insurance you 
 now hold . . . 
 
 Get competent 
 advice on any you 
 may be planning 
 to buy 
 
 To make a will is to do something about the future. 
 
 [23] 
 
HOW TO MAKE A WILL 
 
 By making a will, 
 
 you decide how 
 
 your estate is to be 
 
 distributed . . . 
 
 othemvise, the law 
 
 will do so, perhaps 
 
 to your heirs' 
 
 disadvantage 
 
 As stated earlier, the purpose of estate planning is more 
 than the reduction of tax liability. The property owner — 
 farmer or otherwise — is also concerned with providing for 
 the welfare of his family while at the same time avoiding 
 as much conflict and confusion as possible. This can be 
 achieved only if the property owner does something about 
 the disposition of his property himself. There are laws 
 which provide for the distribution of property when no 
 action has been taken by the property owner before his 
 death. While these laws generally protect the surviving 
 spouse and children, they may operate contrary to the 
 owner's desires. 
 
 Every property owner has the right to control the dis- 
 tribution of his property after death, with some limita- 
 tion. He exercises this right by the preparation and execu- 
 tion of a will. If one child needs more help than another, 
 if the wife would rather have a cash income than the farm 
 property, if the grandchildren hold an important place in 
 the family plans for farm operation, if any of a number of 
 special situations is present in your family, then you must 
 take the steps to meet it. Otherwise the law provides for 
 distribution according to a set plan, a plan which, in the 
 light of special circumstances, may not be fair to those 
 concerned. This distribution often splits property hold- 
 ings to such an extent that the over-all efficiency is reduced 
 and any single heir may have difficulty uniting the parts. 
 
 Too many people think that the preparation of a will 
 is an omen of impending death. This is foolish. The will, 
 
 [24] 
 
like life, health, or accident insurance, is merely an expres- 
 sion of present intention to do something about the fu- 
 ture. Many people also think that the making of a will is 
 complicated. This is not true. With the assistance of an at- 
 torney, making a will can be a relatively simple affair. The 
 preparation of a will is not something which should be left 
 until later years. In fact, the family of the young farmer 
 needs protection and security to a greater degree than any 
 other. The costs of probate when there is a will can be less 
 than when there is no will. The cost of drawing a will is, 
 in all instances, minor, compared with the advantages to 
 be gained. 
 
 You can help your lawyer to draw an adequate will by 
 taking certain preliminary steps. First, arrange to have a 
 conference with your attorney. Bring to that conference 
 the deeds to all real property, insurance policies, and a 
 general statement of assets and liabilities. Also, be pre- 
 pared to give the attorney a statement of the income from 
 
 With competent 
 legal advice, making 
 a will is fairly 
 simple 
 
 PdntCZS for estate planners 
 
 It cannot be emphasized too strongly 
 that an estate plan is a very individual- 
 ized plan. What fits one family situa- 
 tion will not necessarily fit another. 
 The preceding discussion has been in 
 general terms. Consequently, the plan 
 to fit a particular person or family 
 cannot be devised solely on the basis 
 of that information. Always consult a 
 competent attorney. Good legal advice 
 is not cheap, but the advantages — both 
 in money and in a feeling of security — 
 will more than outweigh the expense 
 involved. 
 
 The estate plan and the family eco- 
 nomic situation should be known to 
 the wife as well as the husband. It is 
 tragic but true that most widows know 
 nothing of the financial and business 
 affairs of their husbands. Husbands 
 should give their wives the following 
 information: 
 
 1. The location of valuable docu- 
 ments, such as deeds, leases, con- 
 
 tracts, insurance policies, wills, 
 military service papers, social se- 
 curity records, and the like. 
 
 2. The business records for the farm 
 and any outside employment or 
 business. 
 
 3. Any outstanding debts, notes, and 
 mortgages, and who holds them. 
 
 4. The banks in which savings and 
 checking accounts are kept, and 
 the location of the bank books. 
 
 5. The names of persons who act as 
 business, personal, or legal ad- 
 visors. 
 
 6. The nature of any retirement 
 plans, including social security. 
 
 The wife's knowledge of the farm 
 and family business will ease her bur- 
 dens and give her some assurance of 
 being able to cope with the many prob- 
 lems of widowhood. The handling of 
 the estate will be considerably simpler 
 if she knows something of the prob- 
 lems involved. 
 
 [25] 
 
Keep your will in 
 a safe place 
 
 Never change it 
 
 without legal 
 
 advice 
 
 such property. The attorney will then draw a preliminary 
 version of the will, which you should take home and read 
 carefully. When you are satisfied that the will expresses 
 your intention, return it to the attorney. He will have the 
 final version prepared, and make sure that the proper 
 steps are taken in the signing of the document. Do not 
 attempt this last step yourself. Certain legal requirements 
 must be met to make the will effective. Keep the will in a 
 safe place where it is not likely to be destroyed or tam- 
 pered with. Your attorney will probably retain a copy in 
 his files. Never make changes in the will without consult- 
 ing an attorney. It is possible to change the will, but the 
 changes must be made in a certain manner — not by eras- 
 ing or crossing out portions or by writing between the 
 lines or in the margins. Whenever there is an important 
 change in the family situation, such as a birth, death, or 
 marriage, or a change in the general economic situation, 
 re-examine the will in the light of such happenings. You 
 are always free to change your will or to draw a new one, 
 but you must do it correctly. 
 
 Preserve your estate by taking the family into the business. 
 
 [26 
 
FAMILY BUSINESS 
 ORGANIZATIONS 
 
 In contrast to the individual ways of owning property 
 discussed above, there may be a joint or group operation 
 of the farm. Such an arrangement allows the pooling of 
 capital and of labor and management abilities, and gives 
 more assurance of continuity in the operation of the enter- 
 prise in the event of the death or disability of one member. 
 There may also be tax savings. Several kinds of joint busi- 
 ness operations are possible, but the partnership form 
 and the corporate form are the most widely used. Since 
 many factors must be considered, it is wise to seek compe- 
 tent legal advice before you make a choice. 
 
 Bear in mind, also, that although a business may be in 
 the form of a partnership or a corporation, the partner- 
 ship interest itself, or the corporation stocks, may be held 
 in joint tenancy, or community property, or by some other 
 form of ownership. For example, if a father, mother, and 
 son are equal partners in the farming business, the one 
 third partnership interest held by the son may be the com- 
 munity property of the son and his wife. If the father, 
 mother, and son are corporate stockholders of the incorpo- 
 rated farm, the stock certificates might be held in joint 
 tenancy as between the father and mother or between the 
 son and his wife. Thus, the preceding discussion relating 
 to community property, joint tenancy, or tenancy in com- 
 mon also applies to family business organizations. 
 
 [27] 
 
 The partnership 
 and the corporate 
 form are most 
 widely used 
 
 The property 
 involved may be 
 owned in several 
 ways 
 
Joint operation 
 of a farm 
 
 helps prepare 
 
 younger family 
 
 members for later 
 
 responsibilities 
 
 Both income and 
 estate tax savings 
 are often effected 
 
 The Family Partnership 
 
 The family partnership is probably the most popular 
 device for the joint operation of a farm. A partnership is 
 a legal relationship; it is an association of two or more per- 
 sons who will carry on, as co-owners, a business for a profit. 
 This does not necessarily mean that the property used in 
 business must be owned by the partnership; it may be 
 leased. Usually profits and losses are shared, and all par- 
 ties participate in the management. Often there is a firm 
 name and a single set of business records. 
 
 The farming partnership is often helpful in preparing 
 younger members of the family to assume management 
 responsibilities when the father retires. It also tends to 
 promote interfamily harmony. However, if there are dis- 
 putes within the family, the success of the farming enter- 
 prise may suffer. If the partnership must be dissolved be- 
 cause of such disputes, some of the assets may have to be 
 sold, and may bring prices that are far less than the actual 
 value of those assets in the operating business. 
 
 When the sole proprietor decides to form a partnership, 
 he may be required to give up some control over the farm 
 assets. For example, if a father decides to take his son into 
 the farming business, he may make a gift of capital to the 
 son, to be contributed to the proposed partnership. In- 
 come and management of the enterprise may also be 
 shared. Because of doubts about his own financial inde- 
 pendence and security under a joint enterprise in later 
 years, a father may hesitate to enter into any such arrange- 
 ment. 
 
 From a tax standpoint, the family partnership is often 
 a good device for saving both income and estate taxes. 
 Although a husband and wife may file a joint return to 
 split their income, and the community property system 
 may divide (and thus reduce) the assets owned by one 
 spouse at his death, the family partnership allows further 
 tax savings beyond those to the husband and wife alone. 
 If sons, daughters, and other members of the family join 
 in the partnership, by splitting the farm income among 
 them, the partners as individual taxpayers will pay lower 
 total taxes than if all the income were taxed to the parents 
 alone. The estates of the parents will also be reduced as a 
 result of giving property to their children as partners, 
 possibly to the extent of having to pay no estate or inheri- 
 tance taxes at all. 
 
 To obtain a reduction in income taxes, the formation 
 of the partnership must be handled with considerable 
 care. The partnership may not be a mere sham for the pur- 
 pose of evading taxes, but must be a genuine business 
 transaction with contributions of capital and labor by 
 
 [28] 
 
each of the partners. Often children to be included in the 
 partnership do not have capital to contribute. The tax 
 laws, however, allow a person to make gifts of money or 
 property to his children to contribute to the partnership, 
 provided the formation of the partnership is for a valid 
 business purpose. Gifts of rather substantial amounts may 
 be made, by the parents, free of any federal or state taxes 
 by reason of the gift tax exemptions and exclusions. Even 
 if a gift tax were payable, the cost would not be so great 
 as to outweigh the potential savings in estate and inheri- 
 tance taxes which would result from the reduction of the 
 parents' estates. (See the discussion on page 18.) 
 
 The children may be given either an undivided interest 
 in a partnership or they may receive directly gifts of 
 money and property which they then contribute to the 
 partnership as capital. Although the family partnership 
 might be formed without a capital contribution by the 
 children and still comply with the federal tax laws — 
 merely by having the children contribute their labors — 
 this would not serve to reduce the estates of the parents. 
 
 Of course, the parents could retain management and 
 control of the partnership property by the terms of the 
 partnership agreement. To provide for the parents upon 
 their retirement, the partnership agreement could state 
 that, after allowance for services rendered by the active 
 (nonretired) partners, the balance of the partnership prof- 
 its is to be distributed according to the share of the total 
 value of the partnership held by each partner. For ex- 
 ample, suppose that in a partnership consisting of the par- 
 ents and two sons, the parents contribute 60 per cent of 
 the total partnership assets and the sons each contribute 
 20 per cent. When the parents retire, reasonable salaries 
 may first be paid to the sons active in the partnership; 60 
 per cent of the remaining profits may be distributed to the 
 parents, and 40 per cent to the sons. In addition to pro- 
 viding for retirement, this provision would prevent the 
 loss of income which ordinarily accompanies the giving 
 away of property. The portion of the income distributed 
 to the retired partners (the parents) must be fairly close to 
 the amount of their capital left in the business. It cannot 
 be disproportionate to the capital interest and thereby an 
 evasion of income taxes. 
 
 The carefully drawn partnership agreement will pro- 
 vide for the contingencies of death or disability of a part- 
 ner and continuation of the business by others without 
 dissolution or liquidation of the partnership. Unless some 
 such provision is made, partnership will end, by law, at 
 the death of one of the partners. Continued operation of 
 the farm can prevent a forced sale of the farm assets. 
 
 Children may 
 receive tax-free gifts 
 to contribute to the 
 partnership 
 
 Provision can be 
 made for the 
 parents' retirement 
 
 A partnership 
 should be carefully 
 planned to insure 
 its continuation 
 
 [29] 
 
The surviving 
 
 partners may be 
 
 protected by a buy 
 
 and sell agreement 
 
 Or, a partner might 
 
 appoint an executor 
 
 or a trustee 
 
 Before 
 
 incorporating your 
 
 farm, get competent 
 
 legal advice 
 
 Through a "buy and sell agreement," an arrangement 
 can be made, before death, whereby the surviving part- 
 ners may acquire the interest of the deceased partner. 
 Under this arrangement, each partner agrees to sell his 
 interest to the surviving partners at a given price. A pur- 
 chase price can be determined by the original agreement 
 or by a later appraisal of the assets. 
 
 If a buy and sell agreement is made, some additional 
 thought must be given to financing the purchase of a de- 
 ceased partner's interest. To provide the necessary funds, 
 insurance is often purchased on the lives of the partners, 
 with the insurance proceeds payable to the surviving 
 partners. Instead of buying insurance, either the partner- 
 ship or the partners can set aside cash for this contingency. 
 The buy and sell agreement might also allow payment of 
 the purchase price in installments out of profits from the 
 business. 
 
 As a second possibility, the deceased partner's estate 
 could continue to participate in the operation of the farm 
 business, with the deceased partner's executor, trustee, or 
 some relative, as the new partner. Difficulties in maintain- 
 ing such an agreement can arise, especially if the executor 
 or trustee is not on good terms with the surviving partners. 
 It may be better merely to keep all the deceased partner's 
 interest in the business and to pay a share of the profits 
 to his beneficiary. 
 
 Written partnership agreements prevent questions 
 among the partners relating to allocation of gain or loss, 
 retirement, and other matters of special importance. They 
 may also provide easier proof, to the taxing authorities, of 
 the genuineness of the family partnership. 
 
 The Corporate Farm 
 
 The incorporated farm is another possible method of 
 joint operation. This device makes possible the amassing 
 of capital under centralized management for more effec- 
 tive production and marketing of farm products. A corpo- 
 ration is a legal unit for carrying on a business. It is an 
 entity or legal "person" separate from the legal capacity 
 of the corporation shareholders. Thus, for example, the 
 Jones Corporation is an entirely different legal unit from 
 Mr. Jones even though he organized the corporation to 
 conduct his farm, manages it, and owns all or practically 
 all of its shares. The desirability of incorporating a farm 
 is largely a matter for the individual farmer to decide 
 after seeking the help of a competent lawyer. 
 
 The advantages of the corporate device may be com- 
 pared with those of the partnership. For example, liability 
 of the shareholders of the corporation is limited to the 
 extent of their capital invested, as compared with unlim- 
 
 [30 
 
ited personal liability of partners. Continuity of existence 
 is generally unaffected by the death, disability, or bank- 
 ruptcy of a member, as compared with the normal dissolu- 
 tion of a partnership when the partner is no longer able 
 to carry on the business. Management by the officers and 
 directors of the corporation is centralized, as compared 
 with the power of any partner to act for the partnership 
 within the scope of the business. The corporation has 
 capacity to act as a legal unit separate from the indivdual 
 shareholders, whereas no such separation exists between 
 the partnership and the partners. These, however, are only 
 a few of the factors to be considered. 
 
 The costs of forming a corporation include those for 
 preparing articles of incorporation, filing, recording, stock 
 issuance, and others. They are, in general, greater than 
 those for a partnership. Furthermore, proper maintenance 
 of the corporate form involves an amount of paper work 
 which a small family enterprise may find burdensome. 
 
 The corporate form of ownership, from the tax stand- 
 point, is not recommended for the farm with less than an 
 annual net income of about $30,000. This is because of 
 the double tax. Corporations are taxed on their net earn- 
 ings whether distributed or not. If the earnings are dis- 
 tributed, the shareholders will generally be taxed on the 
 distributions (dividends). If the earnings of the corpora- 
 tion are unreasonably withheld from distribution, penalty 
 taxes may be imposed. Compare the taxation of the cor- 
 poration with that of the partnership. Partnerships do 
 not, as such, pay federal income taxes. Partners are indi- 
 vidually taxed on the earnings distributed or distributable 
 by the partnership; thus, there is no double tax. 
 
 Where the farm income is high and a large part is used 
 for reinvesting in the farm, a corporation is advisable. A 
 corporation may pay reasonable salaries to its shareholders 
 for services rendered, and all surplus earnings need not 
 be distributed to the shareholders and taxed to them in 
 dividends. A reasonable amount of earnings may be ac- 
 cumulated for business needs. Because of the legal separa- 
 tion of the corporation and the shareholder, there may be 
 a splitting of income which can result in tax savings. For 
 example, a corporation may rent land from a shareholder 
 and deduct the rent as an ordinary business expense, thus 
 shifting a part of the corporation income to the share- 
 holder owning the land while, at the same time, reducing 
 the taxable income of the corporation. 
 
 Other ways of saving taxes by use of the corporate de- 
 vice are possible. Problems I, III, and IV, which follow, 
 demonstrate, on a small scale, the comparative advantages 
 and disadvantages of the corporate and partnership forms 
 of operation. 
 
 In general, a 
 corporation can be 
 more costly than 
 a partnership 
 
 Incorporation is 
 usually advisable 
 only for large- 
 income farms — 
 $30,000 or over 
 
 Some tax savings 
 may result from 
 incorporation 
 
 [31] 
 
WITH SUGGESTED 
 SOLUTIONS 
 
 These problems were selected from 
 a group presented by practicing at- 
 torneys to a class in estate planning at 
 the University of California School of 
 Law. They do not represent actual 
 cases, and the names are fictitious. 
 Since each farmer has many individ- 
 ual and particular matters to consider 
 in his or her estate plan, "solutions" 
 to the problems are merely sugges- 
 tions. Each farmer should consult an 
 attorney about his own estate plan. 
 
 The farmer with a high income or 
 with a large estate may be able to 
 make greater tax savings than the 
 farmer with a small enterprise. For 
 
 this reason, the problems are con- 
 cerned with farmers having high in- 
 comes or large estates. The average 
 farmer may not realize that he, too, 
 has an estate of substantial size — but 
 his widow or family will realize it 
 when the executor or the taxing au- 
 thorities appraise the gross estate at 
 its present fair market value. Many 
 farmers who purchased their land be- 
 fore or during a period of inflation 
 find that they now have rather sizable 
 estates. Whether the estate is large or 
 small, estate planning is vitally im- 
 portant, both to the farmer and to his 
 family. 
 
 [32] 
 
I. THE TURKEY RANCHER 
 WITH INVESTMENT 
 PROPERTY 
 
 Tom and Lola Brown own and op- 
 erate a 40-acre turkey ranch consisting 
 of about 40,000 turkeys. When they 
 were married, neither owned any- 
 thing. Thus, under the California com- 
 munity property laws, all the property 
 they now own which they acquired by 
 their joint efforts and labors is com- 
 munity property. Mr. and Mrs. Brown 
 are both 53 years old; they have three 
 children. David is 25 years old, mar- 
 ried, and has a two-year-old child. Ted 
 is 22, divorced, and has a child by the 
 marriage. Gail is 16 and still in high 
 school. The eldest son has given every 
 indication of following in his father's 
 footsteps, and is now working on the 
 farm. Neither Ted, who is in the serv- 
 ice, nor Gail has any interest or ability 
 which indicates a desire to take over 
 or participate in the operation of the 
 farm. 
 
 As part of the turkey program, the 
 Browns have a brooder plant, and 
 hatch eggs commercially in addition 
 to their turkey producing operations. 
 In this program they have developed 
 a rather choice stock of birds. The in- 
 come from the turkey operations aver- 
 ages between $20,000 and $25,000 each 
 year. 
 
 Recently, 10 acres of the farm were 
 sold, and 60 acres of San Joaquin Val- 
 ley land were purchased. The prop- 
 
 erty is held in joint tenancy by the 
 Browns. Although the 60 acres are 
 being rented out, they are making no 
 net income returns, and the land will 
 require a considerable amount of de- 
 velopment. This property has a value 
 of $60,000, but is subject to a long- 
 term mortgage of $30,000. 
 
 The remaining 30 acres of the tur- 
 key farm are now being sold for sub- 
 division at $5,000 an acre, and profits 
 will probably be in excess of $100,000. 
 The homeplace will be sold with the 
 30 acres, and a new home will soon be 
 purchased. The brooder and turkey 
 operations have now been moved to 
 rental land which is on a five-year 
 lease. 
 
 The Browns wish to continue in the 
 turkey raising business as long as they 
 are able. Their present intention is to 
 "nest-egg" the proceeds from the sale 
 of the 30 acres. They want to make the 
 most economical use of their property 
 and to minimize taxation during their 
 lives and at death. They also want to 
 provide for their family in the event 
 of unforeseen contingencies. 
 
 Estimated Estate and Inheritance 
 Taxes without Planning 
 
 The first factor to be considered is 
 the extent to which the Browns are 
 willing to go in the direction of part- 
 
 [33 
 
ing with control over their assets, or 
 part of them, for estate planning, with 
 some emphasis on reducing taxes, is in 
 large part a matter of reducing one's 
 estate. Outright transfers of assets to 
 the eventual heirs during the lives of 
 Tom and Lola, to avoid estate taxes 
 at death, would be unwise if unfore- 
 seen events during their lives should 
 use up all the retained assets. There- 
 fore, it is necessary to determine what 
 assets could be expended without im- 
 pairing the Browns' financial inde- 
 pendence and security. 
 
 Taxes on the first deceased spouse. 
 The estimated present value of the 
 Brown estate is about $230,000. This 
 includes: a $30,000 equity in San Joa- 
 quin Valley land; $150,000 cash from 
 the sale of 30 acres; $50,000 in turkey 
 equipment and good will. Assuming 
 that the entire estate is the community 
 property of Tom and Lola, then, at 
 the death of either, the estate of the 
 deceased spouse would amount to one 
 half the total, or $115,000. Under 
 California community property law, 
 each spouse has a one-half interest in 
 all the community assets. 
 
 Under the present estate tax law, 
 after deducting an estimated $15,000 
 for final expenses (funeral, probate 
 costs, et cetera) and the $60,000 flat 
 exemption allowed, there is a taxable 
 estate of $40,000. The federal estate 
 tax on the taxable estate would be 
 approximately $4,800. Normally, the 
 California inheritance tax will range 
 from zero to about $1,080, depending 
 on the relationship of the deceased 
 owner to the person receiving the 
 property. 
 
 Taxes on the second deceased 
 spouse. If all the property were left by 
 the deceased spouse to the surviving 
 spouse, the estate of the surviving 
 spouse would be increased to nearly 
 $230,000. Upon the death of that sur- 
 viving spouse, he (or she) would have a 
 taxable estate of about $155,000, as- 
 
 suming the same deductions as noted 
 above ($75,000). On this second estate 
 there would be a federal estate tax of 
 $37,000 and a state inheritance tax of 
 between $7,000 and $12,000, again de- 
 pending on the relationship between 
 the deceased and the heir. The esti- 
 mated taxable estate in the case of the 
 surviving spouse does not take into 
 consideration the fact that the surviv- 
 ing spouse may spend or give away 
 part of his (or her) estate before he 
 (or she) dies. The estimated federal 
 and state tax figures given here do not 
 make any allowance for tax credits 
 permitted by both the federal and 
 state tax laws. For example, a tax 
 credit is sometimes given to the de- 
 ceased's estate which receives property 
 previously taxed in the estate of the 
 transferor (the person transferring the 
 property to the deceased). There are 
 also other tax credits. 
 
 In suggesting an estate plan for the 
 Browns, some thought must first be 
 given to coordinating their business 
 transactions and ownership with the 
 plan. The most desirable plan would 
 be one which preserves the turkey 
 ranch as an efficient farm unit and 
 provides for fair treatment of all the 
 children. 
 
 Alternative Forms of 
 Ownership and Operation 
 of the Farm Business 
 
 Since, at the present time, only the 
 eldest son, David, seems to have any 
 active interest in the turkey business, 
 the estate plan should provide for his 
 eventual ownership and operation of 
 a part, or all, of the business. To give 
 David an incentive to increase the 
 value of the farm and to prepare him 
 for eventual management and owner- 
 ship, it would be wise to give him a 
 present interest in the farm. This 
 would be a present gift of a share of 
 the parents' estate and, consequently, 
 would reduce their estate. 
 
 [34] 
 
A family partnership. A simple way 
 to give David a present interest in the 
 farm business would be to create a 
 family partnership consisting of Tom, 
 Lola, and David. Such a partnership 
 would be genuine and for a business 
 purpose, thereby meeting certain re- 
 quirements of the tax laws. 
 
 Although David may not have any 
 capital to contribute to the partner- 
 ship, this could be remedied in at least 
 two ways. First, a part interest in the 
 partnership, valued at up to $66,000, 
 could be given to him free of federal 
 gift tax. (See page 18 for a discussion of 
 the federal and state gift tax exemp- 
 tions and exclusions.) Another, or per- 
 haps an additional way would be to 
 have the Browns give him an annual 
 gift of a $6,000 interest in the partner- 
 ship property — $3,000 for each parent, 
 annually. Under either plan or a com- 
 bination of the two, Tom and Lola 
 could remove a large part of the assets 
 from their estates. A California gift 
 tax may be applicable (if there were 
 a gift of over $8,000 [$4,000 per donee] 
 in any one year), but such a tax is not 
 so great as to outweigh the savings in 
 the federal estate taxes which would 
 result from the reduction of the par- 
 ents' estates. 
 
 By making the son a partner, in- 
 come from the farm will be spread 
 among four individuals, Tom, Lola, 
 David, and his wife. David and his 
 wife will get a split in income because 
 of the joint return allowed under the 
 income tax law. The parents could 
 still retain management and control 
 over the partnership by the terms of 
 the partnership agreement. Provisions 
 for retirement income may also be 
 made. (See page 29 for how the retire- 
 ment income may be distributed.) 
 
 Some thought should be given to 
 the continuation of the business after 
 the death of one of the partners. A 
 buy and sell agreement, in which the 
 deceased partner would agree to sell 
 
 his interest to the surviving partners, 
 would work well. (See page 29 for dis- 
 cussion of business continuation.) 
 
 Thus, by the use of the partnership 
 form of operation the income can be 
 split and the income taxes lowered 
 during life. The parents also have an 
 opportunity to reduce their estates and 
 at the same time give David an interest 
 in the business, which will constitute 
 part of his legacy. 
 
 A family corporation. A partner- 
 ship form of operation has been 
 chosen in preference to that of a cor- 
 poration. The corporate form of own- 
 ership is not recommended for lower 
 income farms despite certain advan- 
 tages of corporate ownership. The use 
 of the corporation would result in a 
 double tax on amounts beyond the 
 reasonable salaries paid to the share- 
 holders for services rendered. The 
 double tax would mean that, first, 
 there would be an income tax on the 
 corporation's earnings, then a tax on 
 the shareholder's income from divi- 
 dends paid by the corporation. (See 
 also page 31 regarding the double tax. 
 For a discussion of the use of the cor- 
 porate device under a different set of 
 facts, turn to problems III and IV at 
 pages 42 and 45.) 
 
 If a large part of the farm income 
 were used for reinvesting in the farm, 
 or for expansion purposes, and if the 
 farm income were higher, a corpora- 
 tion might be used. In such a case, the 
 shareholders could draw only salaries. 
 No dividends would be declared, and 
 all the profits after salaries and ex- 
 penses would be used for expanding 
 the farm. Thus, the shareholders 
 would pay a tax only on their salaries, 
 and the corporation would pay a tax 
 on its profits after deducting the sal- 
 aries and other ordinary expenses. 
 There would be no double tax. A cor- 
 poration must be careful, however, not 
 to create unreasonable accumulation 
 of corporate surpluses for which it 
 
 [35] 
 
could be penalized by the taxing au- 
 thorities. 
 
 A further reason for not using the 
 corporate device is that the turkey 
 farm is now being operated on leased 
 land not owned by the Browns. If they 
 owned the land, the corporation 
 double tax could be minimized by re- 
 ducing the corporation's net income 
 through direct payment of rent to the 
 Browns for the use of the land by the 
 corporation. 
 
 Other Assets Held 
 by the Browns 
 
 In planning an estate it is wise to 
 examine not only the needs and ob- 
 jectives of the family, but also the 
 assets held by them, to see how each 
 asset can be used best in the estate 
 plan. 
 
 Proceeds from the sale of farm 
 land. The Browns were able to sell 30 
 acres of the farm for $150,000. These 
 proceeds would supply a sufficient 
 amount of liquid assets for this size of 
 estate. This money may be needed for 
 payment of debts, expenses, taxes, et 
 cetera, arising at the death of either 
 Tom or Lola. Their intention to 
 "nest-egg" a portion of the $150,000 — 
 say $50,000 — is good. The balance 
 could be used to purchase life in- 
 surance. 
 
 Of the $150,000 received from the 
 sale, a portion of it (25 per cent of the 
 net capital gain) will be paid to the 
 federal government in capital gains 
 tax. However, the Browns indicate 
 that they will purchase another home. 
 Under the present income tax law, a 
 taxpayer need not report a gain on the 
 sale of a residence if another home of 
 equal or greater cost than the sale 
 price of the old residence is purchased 
 within one year or if construction of a 
 new home is started within a year and 
 completed within 18 months. This 
 provision in the income tax law allow- 
 ing nonrecognition of gain applies 
 
 only to a taxpayer's sale of a residence. 
 When the farm residence is used both 
 as a home and as the center of farm 
 operations, some allocation between 
 the two uses would seem to be neces- 
 sary. Thus, the capital gain may be 
 reduced in part by the purchase of an- 
 other residence. 
 
 Investment property in the San 
 Joaquin Valley. This land purchase is 
 apparently a speculative venture, for 
 a great amount of development will be 
 needed in order to render the prop- 
 erty income-producing. If a large 
 amount of money is needed to develop 
 the land, this would seem to be incon- 
 sistent with the plan to "nest-egg" the 
 money received from the sale of the 30 
 acres. If the value of the land is ex- 
 pected to go up in the next few years, 
 the land should be retained as an in- 
 vestment. 
 
 Subdivision of rural land. In recent 
 years, because of the expansion of sub- 
 urban areas, much rural land has been 
 subdivided for housing. When a per- 
 son subdivides land, it is important for 
 him to avoid being classified by the 
 tax authorities as a real estate dealer. 
 If he is so classified, ordinary income 
 tax rates apply to his profits. Recent 
 changes in the income tax law allow a 
 subdivider to report his gains as long- 
 term capital gains under certain con- 
 ditions; capital gains tax rates are sub- 
 stantially lower than ordinary income 
 tax rates. The manner of sale is very 
 important, and any subdivision of 
 property should be attempted only 
 after competent advice. 
 
 Form in Which Property 
 Should Be Held 
 
 Joint tenancy or community prop- 
 erty? If land values have gone up since 
 the date of purchase, holding land in 
 joint tenancy is not recommended. If 
 property has been held as community 
 property and the land value has in- 
 creased, at the death of one spouse, 
 
 [36] 
 
the surviving spouse or anyone else re- 
 ceiving the property has the benefit 
 of a new, increased (stepped-up) basis 
 for the whole property. If the property 
 remained in joint tenancy, a stepped- 
 up basis would be allowed only on 
 that portion of the property included 
 or taxed in the deceased tenant's 
 estate. 
 
 Tom and Lola own San Joaquin 
 land for investment purposes, antici- 
 pating an increased value after some 
 improvements. This land is said to be 
 held in joint tenancy. If Tom died, the 
 land would pass to Lola as the surviv- 
 ing tenant. Only one half of the prop- 
 erty would get a stepped-up basis. If 
 the land were held as community 
 property, the entire piece of land 
 would get the increased basis. Ob- 
 viously, an attempt should be made to 
 establish the community property 
 status. 
 
 Proof of community property. An 
 acknowledged deed or agreement 
 should be filed with the Recorder in 
 the county where the land is situated. 
 An informal mutual agreement be- 
 tween Tom and Lola to hold the joint 
 tenancy property as community prop- 
 erty is recognized in California regard- 
 less of the record title, but, for pur- 
 poses of easier proof of community 
 property status, the recorded agree- 
 ment is recommended. 
 
 The Browns' Wills 
 
 Under the plan thus far outlined, by 
 the use of lifetime gifts to David, and 
 possibly to Ted and Gail, the estates 
 of Tom and Lola have been reduced 
 to minimize the estate and inheritance 
 taxes. Under the federal estate tax law, 
 they could have at least $120,000 in 
 community property without paying 
 any estate taxes at the death of the 
 first spouse. The California inherit- 
 ance tax law exempts varying amounts, 
 depending on the relationship of the 
 deceased to the person receiving the 
 
 inheritance. For example: $12,000 ex- 
 emption to a minor child; $5,000 to an 
 adult child; $2,000 to a brother or 
 sister; $50 to a stranger in blood. In 
 general, the tax is inconsequential. 
 
 Since, in most instances, the federal 
 estate taxes have the higher rates, they 
 are the taxes for which a reduction is 
 sought. Therefore, if both Tom and 
 Lola die with estates of about $60,000 
 individually, or $120,000 combined, 
 they will be able to escape completely 
 the federal estates taxes. 
 
 Several other things could be done 
 to reduce the estate taxes in the second 
 estate. First, both Tom and Lola could 
 will each of their halves of the com- 
 munity property directly to the chil- 
 dren. This would have the advantage 
 of not increasing the estate of the sur- 
 viving spouse. If, however, it is ex- 
 pected that a large part of the assets 
 will be expended by Lola, or dis- 
 tributed to the children before Lola 
 dies, an outright bequest of Tom's 
 one-half to Lola may not increase her 
 estate, at death, to the taxable amount. 
 
 As a second possibility, Tom could 
 devise (give by will) to Lola a life in- 
 terest in his one-half interest in the 
 community property, and at Lola's 
 death the property would pass directly 
 to the children. Since Lola has only a 
 lifetime interest in Tom's half of the 
 community property, this interest can- 
 not be included in her estate, for the 
 lifetime interest ends when Lola dies. 
 Thus, the life estate device gives eco- 
 nomic security to Lola for her life, but 
 it does not enlarge her estate upon her 
 death. (See also Problem II, page 38, 
 discussing the trust device which 
 would allow Tom to put his half of 
 the community property in trust, giv- 
 ing Lola use of that property and its 
 income for her life, the remaining 
 property, on her death, to pass to the 
 children.) 
 
 Since David will have received al- 
 most all of his share of the parents' 
 
 37] 
 
estate during their lives, the bulk of 
 the remainder of the property would 
 go to Ted and Gail. This, of course, 
 depends largely on the wishes of Tom 
 and Lola. 
 
 In all cases a will should be made. 
 If none was made and Tom died first, 
 his half of the community property 
 would go to Lola automatically, thus 
 increasing her estate. On Lola's death 
 
 without a will, the property would go 
 in equal shares to the three children. 
 This might be unfair to Ted and Gail, 
 if David already had received part of 
 the parents' wealth. Also, without a 
 will, no provision would be made for 
 the grandchildren or for other rela- 
 tives to whom Tom and Lola might 
 wish to give. 
 
 II. THE YOUNG FARMER 
 
 Harold and Wilma Smith are 45 and 
 46 years of age, respectively. They 
 have two sons, 18 and 20, neither of 
 whom has shown any particular in- 
 terest in farming. The Smiths have the 
 following estate, all of which was ac- 
 quired subsequent to their marriage in 
 1928, and all the realty of which is 
 held in joint tenancy: 
 
 1. Three hundred acres of land 
 planted in Thompson Seedless 
 grapes. Basis, $100,000; fair mar- 
 ket value, $150,000. This year's 
 grape crop is past the frost danger 
 and will be ready for harvest in 
 another month. The crop's value 
 is not included in the value of the 
 
 land. It is valued, however, at 
 $60,000. 
 
 2. Home. Basis, $25,000; fair market 
 value, $25,000. 
 
 3. Personal property, $5,000. 
 Harold has life insurance of $20,000, 
 and Wilma has no life insurance. 
 
 The Smiths' Estates and Estimated 
 Estate and Inheritance Taxes 
 
 To determine the estimated taxes at 
 Harold's death, the form in which the 
 property is held must be examined to 
 see what the tax authorities might in- 
 clude in Harold's estate when he dies. 
 
 Joint tenancy and community prop- 
 erty. All the land owned by Harold 
 
 [38 
 
and Wilma is held in joint tenancy. 
 For many years it was the practice of 
 land title companies to have buyers of 
 land take title in joint tenancy if the 
 buyers were husband and wife. Where 
 the land has increased in value, as 
 here, the form of holding the property 
 is very important for tax purposes. 
 (Some of the disadvantages of joint 
 tenancy are discussed beginning on 
 page 15.) 
 
 Harold and Wilma have, at this 
 time, about $260,000 of assets. Regard- 
 less of whether the property was de- 
 rived from separate or community 
 property, only one-half of the value 
 of the joint tenancy property will be 
 included in Harold's taxable estate. 
 (See discussion above, page 9, as to 
 marital deduction and taxability of 
 community property.) 
 
 Harold's taxable gross estate is 
 $130,000. Deducting $10,000 for fu- 
 neral and other deductible expenses 
 and then subtracting $60,000, allowed 
 by the federal estate tax law, leaves 
 $60,000. The federal estate tax on 
 $60,000 is $9,340. 
 
 The personal property and the in- 
 surance policy, if purchased out of 
 community funds, would be one-half 
 owned by Harold and one-half owned 
 by Wilma. Although the insurance 
 policy, like other community assets, 
 might be solely in the name of Harold, 
 still one-half belongs to him and the 
 other half belongs to Wilma. 
 
 If Harold does not make a will dis- 
 posing of his half of the community 
 property, it passes to Wilma under the 
 California law. There is no state in- 
 heritance tax on a transfer, at death, 
 when the community property goes to 
 the surviving husband. 
 
 Wilma's estate and estimated estate 
 and inheritance taxes. If Wilma dies 
 after receiving all the community and 
 joint tenancy property from Harold 
 upon his death, both halves of the com- 
 
 munity property less, of course, the 
 depletion due to taxes, probate, and 
 funeral expenses, will be included in 
 her gross estate. Assuming that the 
 values of the property remained the 
 same, Wilma's estate would be valued 
 at $230,000. Allowing $20,000 for de- 
 ductible expenses in Wilma's estate, 
 and $60,000 for the standard exemp- 
 tion, there would be a federally tax- 
 able estate of $150,000. The tax on 
 $150,000 is $34,260. The California in- 
 heritance tax would take another 
 estimated $7,000. (The estimated fed- 
 eral and state taxes do not make any 
 allowance for tax credits permitted by 
 both the federal and state tax laws. 
 See discussion, page 11.) 
 
 Because of this aggregation of estates 
 and the resultant large estate tax on 
 the second death, it would be advis- 
 able for Harold and Wilma to file an 
 acknowledged agreement in the Re- 
 corder's office, stating that the prop- 
 erty now held in joint tenancy is to be 
 community property and to use the 
 trust device for the distribution of 
 their property as hereinafter described 
 under the heading "The Recom- 
 mended Will." In transmitting joint 
 tenancy property to community, some 
 attorneys prefer to use a recorded deed 
 to the spouse, referring to the property 
 as community property. Others use a 
 community property agreement be- 
 tween the spouses. An additional rea- 
 son for the change to community 
 property is that, after the death of one 
 spouse, the survivor will receive a 
 stepped-up basis on the whole prop- 
 erty. (See pages 14 and 15, where the 
 importance of basis for determining 
 capital gains is discussed.) 
 
 An Estate Plan for the Smiths 
 
 Harold and Wilma are still young. 
 Their sons are minors with their fu- 
 ture interests and needs as yet un- 
 settled. The estate plan should be 
 
 [39 
 
flexible, therefore, to meet possible 
 future changes in circumstances. 
 
 Purchase of life insurance. Al- 
 though a sizable amount of property 
 is in the Smiths' estates, there is little 
 ready cash or other source of ready 
 cash. The $20,000 in insurance on 
 Harold's life can be used in the event 
 of an emergency or death. In view of 
 the size of the estate and the expense 
 involved, the above does not appear 
 to be enough. It is therefore recom- 
 mended that Harold purchase addi- 
 tional life insurance. It would appear 
 that $20,000 to $30,000 more life in- 
 surance is in order. At death, creditors 
 usually seek quick payment of debts; 
 final expenses (funeral costs, probate 
 fees, and the like) take more cash, and 
 taxes may take still more. A forced 
 sale of property to pay these debts 
 and expenses seldom brings the full 
 market value of the property. 
 
 It is recommended that some insur- 
 ance be bought on Wilma's life. The 
 insurance would provide her estate 
 with ready cash for payment of her 
 debts and final expenses. Since Wilma 
 is only 46 years old, an insurance 
 policy would probably not be too ex- 
 pensive. If it should be determined 
 later that she does not need the addi- 
 tional liquid assets and that her estate 
 should be reduced, the policy may be 
 given away. 
 
 The purchase of insurance, aside 
 from providing an estate with liquid 
 assets, has several advantages. First, 
 lump sum proceeds of a policy re- 
 ceived by a beneficiary by reason of 
 death of the insured are income tax- 
 free to the beneficiary; second, a policy 
 may, for example, be bought by 
 Wilma, and later given to her son. 
 Wilma could continue to pay the 
 premiums, but the policy would prob- 
 ably not be included in her gross estate 
 so long as the gift was not within three 
 years of her death. 
 
 Since the sons apparently have no 
 interest in the business, it is probably 
 not wise to take them into the farming 
 enterprise for purposes of reducing in- 
 come and estate taxes. If the children 
 actually do no work on the farm, a 
 partnership to split the income from 
 the farm may be found by the tax au- 
 thorities to be only a sham partner- 
 ship. (See, however, page 35, where the 
 partnership is recommended.) Since 
 Harold and Wilma are comparatively 
 young, it is probably too early to start 
 a program of lifetime gifts. Further- 
 more, when all the major assets are 
 tied up in land, a program of lifetime 
 gifts may be difficult to establish at 
 this time. 
 
 The Recommended Will 
 
 The trust device. It is suggested 
 that the wills of both spouses create 
 a trust out of the deceased's property. 
 (See page 20 for discussion of the defi- 
 nition and operation of a trust.) Under 
 the terms of the trust, the surviving 
 spouse might be a trustee, provided 
 her authority was not too closely iden- 
 tified with her interest in the trust. 
 For example, assume that Harold dies 
 first. In his will he would create a trust 
 with his half of the community prop- 
 erty. Wilma, as the surviving spouse, 
 would be the trustee. As trustee, she 
 would have broad powers to use the 
 property and the income from it as she 
 sees fit and to manage the property as 
 if she owned it. The trust would be 
 made to last during the life of the 
 trustee, Wilma, with the property to 
 pass to the children at Wilma's death. 
 
 This trust plan allows the surviving 
 spouse, Wilma, to use the family prop- 
 erty during her life. At her death, her 
 estate will not be enlarged by the prop- 
 erty given to her in trust by Harold; 
 thus, the estate taxes will not be too 
 great at her death. Her estate will be 
 around $130,000 when she dies, with 
 an estate tax of about $9,340. This 
 
 [40] 
 
compares with an estate of $230,000, 
 and an estate tax of $34,260, discussed 
 above, if she should receive the prop- 
 erty outright rather than in trust. This 
 latter figure again does not take into 
 consideration possible expenditures 
 and reduction in Wilma's estate be- 
 tween the time of Harold's death, 
 when she receives the property, and 
 the time of her death. 
 
 The life estate device and trust de- 
 vice compared. Almost the same result 
 can be reached by having the deceased 
 spouse (again assuming that Harold 
 dies first) give Wilma only a life estate 
 in his half of the community property. 
 This would eliminate the need for the 
 trust. Again, Wilma would have life- 
 time use of Harold's property without 
 its inclusion in her estate for tax pur- 
 poses when she dies. (See page 22 for 
 discussion of the life estate device.) 
 
 It is sometimes not advisable to 
 place farm property in a life estate 
 when a large amount of farming is 
 financed with production credit. The 
 banks hesitate to give loans to a life 
 tenant because there is no guarantee 
 of how long the borrower will live. 
 
 However, since Wilma owns one half 
 of the farm as her half of the com- 
 munity property, there is some col- 
 lateral for loan purposes. 
 
 Income Tax on the Sale of the Farm 
 
 Since neither of the boys shows any 
 particular interest in farming, Wilma 
 may find that she does not want to con- 
 tinue operation of the farm after 
 Harold's death. In the trust instru- 
 ment, Wilma, as trustee, should be 
 given power to sell the trust property. 
 The proceeds from the sale might 
 then be invested to provide her with 
 income for her life. After her death, 
 the remaining trust property would 
 pass to the sons. 
 
 Under the present income tax law, 
 a farmer can obtain capital gains 
 treatment on the sale of land and the 
 unharvested crops. A farmer need not 
 value his unharvested crops and the 
 land separately in order to report the 
 sale of the unharvested crops at the 
 higher ordinary income tax rates. 
 Both the land and the crops now re- 
 ceive capital gains treatment if they 
 are sold or exchanged at the same time 
 and to the same person. 
 
 [41] 
 
III. THE 65-YEAR-OLD FRUIT 
 AND VEGETABLE FARMER 
 
 John Elliot, now 65, was a widower 
 when he married Tina 15 years ago. At 
 the time of his marriage, John's estate 
 consisted of an interest in a farming 
 partnership composed of himself and 
 his son, Frank; this partnership in- 
 terest consists of land and other assets, 
 and has a cost basis of $150,000. At 
 the time of her marriage to John, 
 Tina's only asset was a savings and 
 loan account in the amount of $10,000. 
 John's interest in the partnership has 
 increased in value to $200,000. John 
 has been in ill health for the past five 
 years and the son, Frank, has been the 
 sole manager of the partnership. Profits 
 of the partnership have been shared 
 equally by John and his son. Neither 
 John nor his wife has a will. John de- 
 sires that upon his death his wife be 
 adequately provided for during the 
 remainder of her life, and that the 
 balance of his estate go to his son. 
 
 John's Estate If He Dies 
 Without a Plan 
 
 If John dies without an estate plan, 
 the California property and probate 
 laws will control. The farm would 
 probably be classified as his separate 
 property for it was owned by John be- 
 fore his marriage to Tina. It would 
 not be separate property if it was 
 mixed with community property or 
 
 was converted to community property 
 by a gift to Tina. As separate property 
 it would be distributed by law, one- 
 half to Tina and one-half to Frank. 
 This would be true even though John 
 wanted to provide for his wife for her 
 life and have eventual ownership go to 
 his son Frank. 
 
 Without an estate plan there may be 
 a shortage of ready cash or securities 
 to pay the necessary expenses and 
 taxes arising at John's death. A forced 
 sale of part of the assets could mean 
 a sale at less than the full market 
 value of the assets. Such a forced sale 
 might even remove control of the farm 
 from the son. 
 
 If John's wishes are to be fulfilled, it 
 would be undesirable for him to be 
 without some kind of estate plan. 
 
 Reducing John's Estate 
 
 If John should die with an estate of 
 $200,000, and one half of his property 
 were to go to Tina, the other half to 
 Frank, federal and state taxes would 
 amount to about $13,000. However, 
 this division of property would not be 
 consistent with John's wishes. If all the 
 $200,000 of property went to Frank, 
 with a life income to Tina, the federal 
 and state taxes might be as high as $42,- 
 000, depending on how the life income 
 to Tina was valued. The difference in 
 
 [42] 
 
the estate tax ($42,000 as compared 
 with $13,000) is the result of the so- 
 called marital deduction allowed by 
 the estate tax law. This marital deduc- 
 tion means that the deceased may give 
 to his spouse one half of his separate 
 property and deduct that amount from 
 his gross estate. With such a deduc- 
 tion the taxable estate is greatly re- 
 duced. 
 
 To reduce estate taxes, it would be 
 wise to reduce John's estate as much 
 as possible without threatening the 
 security of John and his wife. One way 
 to do this would be for John to make 
 lifetime gifts to Frank. John could, in 
 the first year, give Frank a $33,000 
 fractional interest in the farm without 
 paying any federal gift taxes. This 
 could be doubled by securing Tina's 
 consent. (See discussion, page 18.) The 
 California gift tax would be about 
 $560. In each subsequent year, a 
 $3,000 interest may be given to Frank, 
 free of any gift taxes. Even if some gift 
 taxes must be paid, the savings are 
 likely to be substantial when com- 
 pared with the potential estate taxes 
 payable if John's estate were not re- 
 duced. Similar gifts might also be 
 made to Tina. (See page 18 for a dis- 
 cussion of the marital deduction in 
 gifts to a spouse.) 
 
 Continuation of the Farm Business 
 
 John has been in poor health; his 
 death would end the partnership. Un- 
 less all of John's interest in the part- 
 nership is given wholly to Frank, and 
 Frank continues the business alone, a 
 forced sale of a part of the business 
 may be necessary in order to provide 
 for Tina and to meet some of the ex- 
 penses arising at John's death. If John, 
 Tina, and Frank wish the business to 
 continue after the death of John, so 
 that Tina may have a life interest in 
 a going concern, some arrangement in 
 advance of death must be made. The 
 advisability of continuing the business 
 
 may depend on the relationship of 
 Tina and Frank. 
 
 If Tina and Frank are not on good 
 terms, John could provide for Tina by 
 purchasing an annuity to provide in- 
 come during her life. Or, he might put 
 some income-producing property into 
 a trust for Tina, for her use during her 
 life, the remainder to go to his son. 
 Either plan may require liquidation of 
 some of the farm assets after dissolu- 
 tion of the farm partnership. John 
 might also make an outright bequest 
 of some property calculated, to the 
 best of his ability, to provide for Tina 
 for the rest of her life. On such an 
 outright gift of his separate property, 
 John's estate would be able to take a 
 marital deduction. (See discussion, 
 page 9.) 
 
 The family partnership. If Tina 
 and Frank are on good terms, continu- 
 ing the farm business may yield more 
 for John, Tina, and Frank. It is pos- 
 sible merely to continue to use the 
 partnership form of operation. An 
 agreement could be made between 
 John and Frank, in advance of death, 
 in which Frank (if he survives John) 
 could continue to use all the partner- 
 ship property and John's interest 
 would be left in the business. Under 
 such a plan, Tina would not become a 
 partner, but a share of the profits 
 would be paid to her for life. Upon 
 her death, the remaining interest 
 would pass to Frank. As an alternative, 
 John and Frank may agree that, on 
 John's death, his executor may name 
 Tina, or a trustee for Tina, to become 
 a partner in John's place. Generally, 
 plans of this type are only successful 
 when the surviving partner and the de- 
 ceased partner's beneficiaries are on 
 good terms. Should there be disputes 
 between Frank and Tina, difficulties 
 will arise in forcing Frank to operate 
 the farm and to share in the profits. 
 Another possibility is for John to will 
 Tina a substantial portion of his inter- 
 
 [43] 
 
est in the partnership, taking full ad- 
 vantage of the marital deduction, and 
 then have Tina and Frank join as 
 partners under a new agreement. This 
 would cause the least tax on John's 
 estate when he dies. To obtain a mar- 
 ital deduction, the devise to Tina may 
 not be a mere life interest; she must 
 receive a complete interest in the prop- 
 erty. A devise of this kind may defeat 
 John's basic aim, which is to provide 
 for Tina only for her life and to have 
 the remainder go to Frank. Such a gift 
 might still be made if it is likely that 
 upon her death, Tina will devise the 
 remaining property to Frank. 
 
 The family corporation. Rather 
 than continue the farm business as a 
 partnership, a family corporation 
 could be formed. Before doing so, 
 John and Frank must weigh the com- 
 parative advantages of the corporate 
 form as compared with that of the 
 partnership. (See discussion, page 30.) 
 The expense of forming and main- 
 taining the corporation, possibly in 
 addition to paying a double tax on 
 money earned by the corporation, may 
 be too costly if the partnership income 
 is not greater than $30,000 a year. The 
 effect of the double tax on corpora- 
 tion profits could be reduced by hav- 
 ing the corporation pay salaries to 
 John and Frank. By not incorporating 
 the farm land owned by John and 
 Frank, but only the other farm assets, 
 the corporation could lease the land 
 from John and Frank. The rent paid 
 by the corporation for the leased land 
 would be a deductible expense to the 
 corporation, and would be taxed as 
 income to John and Frank. Further- 
 more, all earnings of the corporation 
 need not be distributed in dividends. 
 (See discussion, page 31.) 
 
 Incorporation has additional ad- 
 vantages. Under the program of life- 
 time gifts by John to Frank, the gifts 
 could be made more easily by yearly 
 transfers of corporate stock rather than 
 by fractional interest in the business. 
 Furthermore, Frank could be given 
 control over the corporation by giving 
 him the greater portion of the corpora- 
 tion stock. Another advantage is that, 
 when John dies, the corporation could 
 probably buy back (redeem) some of 
 the stock from John's estate. As men- 
 tioned earlier, John's estate has very 
 little in ready cash for payment of 
 debts, expenses, and taxes at his death. 
 The money received by John's estate 
 from the redemption of stock would 
 be subject only to capital gains tax, 
 riot to ordinary income tax, if certain 
 requirements of the tax law are met. 
 The money received could then be 
 used to meet the expenses and taxes 
 arising at death. 
 
 To provide for Tina, a trust could 
 be created in John's will. The property 
 to be put in trust could be the corpo- 
 rate stock which John owned at his 
 death. John's interest in the farm land 
 could also be included in the trust. 
 The income from the trust would pro- 
 vide for Tina for her life, and the re- 
 mainder would go to Frank. 
 
 The final choice of the form in 
 which the business will operate re- 
 quires more than mere tax considera- 
 tions. The Smiths' situation illustrates 
 the significant effect of many individ- 
 ual and personal matters involved in 
 any estate plan. Even if one course of 
 action is chosen at present, changes 
 within the family or the business will 
 require a review of the estate plan 
 from time to time. 
 
 [44] 
 
IV. THE HIGH- 
 INCOME FARMER 
 
 Mr. and Mrs. Henry Miller, aged 47 
 and 43, respectively, have two children 
 — a son, 16, and a daughter, 8. Mr. 
 Miller is a farmer and cattleman. The 
 estate consists of ranch properties val- 
 ued at approximately $250,000. This 
 includes, in addition to the ranch it- 
 self: livestock, $27,000; machinery, 
 equipment, and motor vehicles, $94,- 
 000; cash and securities, $9,000; house- 
 hold furnishings and miscellaneous 
 personal property, $5,000. Mr. Miller 
 has two life insurance policies total- 
 ing $20,000, and Mrs. Miller has two 
 life insurance policies totaling $10,000. 
 All the property is community prop- 
 erty. 
 
 Because of the high crop yields in 
 recent years, plus a favorable livestock 
 market, Mr. and Mrs. Miller have had 
 a net profit from their ranching opera- 
 tions varying between $32,000 and 
 $108,000, annually. This has resulted 
 in high income taxes which they 
 would like to reduce. 
 
 The Incorporated Farm 
 
 It is recommended that the Millers 
 incorporate the farm. This device 
 would still give them management and 
 control of the farm. It would also 
 allow the Millers flexibility to adjust 
 their estate plan according to changes 
 in their personal needs and desires as 
 well as to changes in economic con- 
 ditions. 
 
 A strong reason in favor of incor- 
 poration is the high income of the 
 Millers. In general, a corporation is 
 not recommended unless the annual 
 income averages $30,000 or more, be- 
 cause of the double tax on corpora- 
 tions and shareholders on any divi- 
 dends declared. (See page 31 for 
 discussion of the double tax.) 
 
 The Millers may incorporate what- 
 ever assets they wish. These assets 
 would be transferred to the corpora- 
 tion in exchange for stock issued to 
 Henry and Marie (Mrs. Miller). As the 
 principal shareholders, they would 
 have control over the affairs of the 
 corporation. The corporation assets 
 should include the livestock, machin- 
 ery, equipment, and vehicles, along 
 with a sufficient amount of cash to 
 operate the corporation. The insur- 
 ance policies and the household furn- 
 ishings should remain in the owner- 
 ship of Mr. and Mrs. Miller, apart 
 from the corporation. 
 
 As to the land owned by the Millers, 
 it would probably be better not to 
 incorporate it, but to lease it to the 
 corporation. For a tax saving, the cor- 
 poration could deduct the rent paid 
 for the land just as it would deduct 
 any other operating expense. The 
 Millers would be taxed on the income 
 from the rent without paying a double 
 tax. Under such a plan, the corpora- 
 tion would bear the risk of uncertain 
 
 [45] 
 
marketing conditions and, no matter 
 what happened, the Millers would still 
 have their land. 
 
 Reducing income taxes. The use of 
 the corporate device may reduce the 
 income taxes. Assume, for example, 
 that the ranch earned $100,000 in one 
 of the more prosperous years. The per- 
 sonal income taxes on $100,000, if di- 
 rectly earned, without the use of a 
 corporate device, are about $53,640 if 
 Henry and Marie file a joint return. 
 However, if the farm is incorporated, 
 and the Millers receive $30,000 in 
 salaries and rent, they would pay 
 $9,460 in taxes on $30,000; the corpo- 
 ration would then have a net income 
 of $70,000 ($100,000 less $30,000 in 
 expenses). On $70,000, the corporation 
 would pay $27,400 in taxes. Thus, by 
 the use of the corporate device, $16,780 
 in federal taxes is saved: 
 
 Personal taxes on $100,000 without 
 a corporation $53,640 
 
 Personal and corporate taxes: 
 Tax on $30,000 in salaries 
 and rent $9,460 
 
 Tax on $70,000 corporate 
 income 27,400 
 
 (based on 1957 rates) $36,860 
 
 -36,860 
 
 possible savings $16,780 
 
 The excess profits could be used by 
 the corporation for expansion or de- 
 velopment of the farm without any 
 tax on the shareholders. The accumu- 
 lations of surplus profits, however, 
 must not be unreasonable, for tax 
 penalties may be imposed by the tax- 
 ing authorities. 
 
 The corporation and the estate 
 plan. The corporation and the estate 
 plan has been discussed, in part, on 
 page 45. For example, if the Millers' 
 children show interest in the farming 
 operations, the parents could grad- 
 ually transfer stock in the corporation 
 to them. By use of periodic gifts the 
 parents could, without paying any gift 
 taxes, reduce their estates. At the death 
 of one of the principal shareholders, 
 the corporation could provide his 
 estate with ready cash for payment of 
 debts, expenses, and taxes, by having 
 the corporation buy back (redeem) 
 some of the stock. Thus the principal 
 shareholders need not have on hand a 
 large amount of liquid assets at their 
 deaths, provided the corporation has 
 sufficient funds to redeem enough stock 
 to meet these expenses. 
 
 An Estate Plan for the Millers 
 
 It is recommended that, in each of 
 their wills, Henry and Marie set up a 
 trust out of their share of the com- 
 munity property. The wills would pro- 
 vide that the surviving spouse would 
 be the trustee, provided the broad 
 powers to use and control the trust 
 property and income would not be too 
 closely identified with the trustee's 
 own interest as an individual. After 
 the trustee (the surviving spouse) dies, 
 the property would pass to the chil- 
 dren. Through the use of the trust 
 device, estate taxes would be greatly 
 minimized, and adequate provisions 
 would also be made for the deceased's 
 family. (See page 11 for a more com- 
 plete discussion of the operation and 
 application of the trust device.) 
 
 [46] 
 
V. THE RETIRED FARMER 
 
 Mr. George Hardy is 69 years of age. 
 He has been a farmer all his life, but 
 is now retiring from active farming. 
 He divorced his wife several years ago. 
 At the time of the divorce, he and his 
 wife entered into a property settle- 
 ment agreement in which all the prop- 
 erty was divided equally between 
 them. They have two adult children, a 
 son, William, and a daughter, Margie. 
 While Mr. Hardy is not estranged 
 from either of his children, he is more 
 favorably disposed toward his daugh- 
 ter, who sided with him in the family 
 dispute, than he is toward his son. His 
 daughter has three children; his son 
 has one child. 
 
 Mr. Hardy's estate consists of two 
 ranch properties, one — known as the 
 home place — valued at $54,000, and 
 another valued at $60,000. His farm 
 machinery and equipment is valued at 
 approximately $24,000. In addition, he 
 owns cash and various corporate secur- 
 ities valued at approximately $75,000. 
 He is in good health, but is not actively 
 engaged in farming any longer. His 
 son-in-law farms the home place; the 
 other ranch property is leased. 
 
 Mr. Hardy's estate consists of assets 
 totaling $213,000. When he dies, the 
 state inheritance tax and federal estate 
 tax will take about $40,000. Although 
 he has $75,000 in cash and securities 
 with which the tax could be paid, it is 
 
 possible to save some of that money by 
 reducing the taxes. The aim is to re- 
 duce Mr. Hardy's taxes without sacri- 
 ficing his own economic security or 
 threatening the security of his family 
 after his death. 
 
 Lifetime gifts to reduce estate and 
 inheritance taxes. Many older people 
 hesitate to make gifts, fearing that 
 they might be held to have made them 
 in contemplation of death. This fear 
 is baseless. In the first place, there is 
 no penalty for such gifts and, gen- 
 erally, tax savings are substantial. At 
 most, the property given away might 
 be included in the donor's estate at 
 death. Even if a gift is made within 
 three years of death, a "life motive" for 
 the gifts can be shown, rather than 
 contemplation of death. For example, 
 the motive might be to induce chil- 
 dren to enter or stay in business, or to 
 teach them to handle money. Such life 
 motives have been used to refute the 
 government's claim of a gift in contem- 
 plation of death. (See discussion, page 
 18.) 
 
 Mr. Hardy may take advantage of 
 the $30,000 lifetime exemption for gift 
 taxes allowed by the federal govern- 
 ment. A gift of $30,000 to his daughter 
 Margie would eliminate $9,000 of po- 
 tential estate taxes. It is advisable to 
 make the gift out of the $54,000 home 
 place. This could be done in either of 
 
 [47] 
 
two ways. First, the home place could 
 be sold to Margie for $24,000 which is 
 actually a gift of $30,000. A mortgage 
 note for $24,000 could be taken back 
 which Mr. Hardy could cancel over a 
 period of years, taking advantage of 
 the annual $3,000 exclusions allowed 
 by the gift tax law. (See discussion of 
 gift tax exclusions, page 18.) Second, 
 an outright gift of the whole ranch 
 could be made for which Mr. Hardy 
 would pay a federal gift tax of about 
 $450. This would result in a potential 
 federal estate tax saving of $15,000. 
 Savings in California inheritance taxes 
 would be realized by lowering the in- 
 heritance tax bracket. Since state 
 taxes as well as federal taxes are at 
 increasing rates in proportion to the 
 amount of the estate, reducing the 
 estate will reduce the tax bracket into 
 which Mr. Hardy's estate will be 
 placed. For example, the rate of the 
 California inheritance tax on an estate 
 of $150,000 is 7 per cent on the last 
 $50,000 in a legacy to a child; on a 
 $95,000 estate, the rate of tax is only 4 
 per cent on the last $45,000. 
 
 Gifts in trust to the grandchildren. 
 Using some of the corporate securities, 
 trusts could be created for the grand- 
 children. A gift of $3,000 in trust to 
 each grandchild could be made tax- 
 
 free each year. If it can be calculated 
 so that the trusts produce less than 
 $600 in yearly income to each grand- 
 child, no income tax would be paid by 
 them. For four grandchildren, almost 
 $2,400 in income each year would be 
 free of income taxes. Over a period of 
 years a sizeable amount of income and 
 estate taxes could be saved. 
 
 Insurance for the children. Another 
 way to remove assets from Mr. Hardy's 
 estate would be to purchase insurance 
 on the lives of Margie and William, 
 payable to their beneficiaries. The 
 policies would, of course, be given to 
 the children to be their property. This 
 would provide both children with val- 
 uable assets for ready cash or for loan 
 purposes. Gifts of the insurance premi- 
 ums, payable anually by Mr. Hardy, 
 would be tax-free if the amount is less 
 than $3,000 for each policy each year. 
 Proceeds of the life insurance received 
 by the beneficiaries would also be tax- 
 free. 
 
 Mr. Hardy's will. In any case a will 
 should be made. (See discussion, page 
 24). If Mr. Hardy wants to leave the 
 bulk of his estate to Margie, he should 
 express his intention in a will. If he 
 died without a will, the property 
 would go to his children equally. 
 
 [48] 
 
ACKNOWLEDGMENTS 
 
 A number of people and organizations 
 have contributed to the planning, subject 
 matter, preparation, and publication of 
 this circular. It has been a joint project 
 involving the cooperation of the California 
 Farm Bureau Federation, the University 
 of California's School of Law, and the 
 Agricultural Extension Service. 
 
 Special thanks are due the following: J. 
 Clayton Orr and Marion W. Heuring, 
 Oakland, Howard Thomas, Fresno, John 
 
 A. Montgomery, Sacramento, George A. 
 Tebbe, Jr., and J. P. Correia, Yreka, Harry 
 M. Halstead, Robert G. Taylor, and Leon 
 
 B. Brown, Los Angeles, Charles H. Frost, 
 Jr., Willows, Winthrop O. Gordon, Santa 
 Ana, Lawrence M. Parma, Santa Barbara, 
 John H. Moskowitz, Santa Rosa, James L. 
 Chapman, San Diego, and Haskell Tit- 
 chell, San Francisco — all of the State Bar 
 of California; Charles A. Rummel, Gen- 
 eral Counsel, California Farm Bureau 
 
 Federation and Cal-Farm Life Insurance 
 Company, Berkeley; Dean William L. 
 Prosser and Professor Covey T. Oliver, 
 University of California School of Law, 
 Berkeley. 
 
 The manuscript was prepared by Samuel 
 F. Pearce and Harry Low, research asso- 
 ciates in law at the University's School of 
 Law, and reviewed by Mr. Thomas, Mr. 
 Orr, Mr. Heuring, Mr. Brown, Mr. Rum- 
 mel, and Professor Oliver. The five sample 
 problems presented on pages 32 to 48 were 
 developed in Professor Oliver's advanced 
 senior law seminar. Problem I was pre- 
 pared by Mr. Gordon; problems II and 
 III by Mr. Thomas; problems IV and V 
 by Mr. Frost. Thanks are also due Mrs. 
 Robert Burr of the Farm Bureau Women, 
 who had much to do with the conception 
 of the project through her work in em- 
 phasizing the importance of estate plan- 
 ning to the farm women in California. 
 
 [49] 
 
Co-operative Extension work in Agriculture and Home Economics, College of Agriculture, University of California, and United States Department of Agriculture 
 co-operating. Distributed in furtherance of the Acts of Congress of May 8, and June 30, 1914. George B. Alcorn, Director, California Agricultural Extension Service. 
 
 20m-5,'57(C4310)LL 
 
:■■■:■■, . 
 
 TABLE OF CONTENTS 
 
 Page 
 
 Ways of owning farm property 5 
 
 Death tax impact 7 
 
 The income tax aspect of property ownership . 14 
 Ways to reduce the impact of death taxes . .17 
 
 How to make a will 24 
 
 Pointers for estate planners 25 
 
 Family business organizations 27 
 
 Five estate problems 32 
 
 I. The turkey rancher 33 
 
 II. The young farmer 38 
 
 III. The 65-year-old fruit and vegetable 
 
 farmer 42 
 
 IV. The high-income farmer 45 
 
 V. The retired farmer 47 
 
 ii§! '