The 1970s: planning for instability

The 1970s brought an assortment of political turmoil and instability. Inflation was rising and had approached 15% by the end of the decade. The US still utilized the gold standard until 1973. There were multiple wars — most notably the Vietnam War, notwithstanding the détente period between the US and the Soviet Union, and normalized relations between the US and China. Henry Kissinger¹ was popular. Most countries had very high tax rates, and everyone knew that enforcement was very low. Undeclared funds were the norm, and the "black" cash economy was still the mainstay. Governments in the West were often very liberal leaning with fear of a communist/ socialist takeover.

The most common planning for global families during the 1970s was preparing for an exit. It was not uncommon for affluent families to fly their wives to the US during their eighth month of pregnancy to give birth, believing it would enable the family to move to the US if an exit became necessary. Families prepared to move quickly and often maintained alternative citizenships and residencies, as well as banking relationships, in other stable countries. While this concern heightened over the next 30 years, by the early 2000s it ceased to be at the forefront of most people's thinking.

Fast forward 50 years, the geopolitical instability of the 1970s has come back with a vengeance. Savvy clients are again exploring alternative citizenship and residency options - and maintaining readily accessible cash in more stable jurisdictions is a paramount concern. Some of this thinking reemerged in the aftermath of the COVID-19 pandemic, but the events of the war in Ukraine have also caused people to ask questions. What if my country of residence gets hit with sanctions? What should I be thinking about now and planning to avoid in advance? Should I open and diversify a banking relationship? Should I form a trust or migrate an existing trust? If so, where? None of these planning techniques are new. These current ideas are just a recycling of prior planning concepts that were common during the 1970s.

The 1980s: planning for inflation

When one asks most people about the 1980s, they will remember it as the era of Ronald Reagan and Margaret Thatcher and the fall of the Soviet Union's hegemony over Eastern Europe. Yet 40 years later, many seem to have forgotten that hyperinflation was a major issue throughout most of the West. For instance, inflation peaked in the US in March 1980 at close to 15%.² Although current interest rates are not on the same level as interest rates during the 1980s, the recent rate hikes to curb inflation following the COVID-19 pandemic have generated similar concerns.

Inheritance taxes were also super high during this era. For example, in the US, the federal estate and gift tax rate remained at 70% during the early 1980s, with the basic exclusion amount set at less than USD 200,000. Clients sought ways to shift appreciating assets to younger generations in a manner that avoided these taxes. It was 1984 when Richard Covey pioneered a technique known as a grantor retained income trust³ (GRIT) to minimize or even avoid these high inheritance taxes caused by a devaluation of currencies. With the typical GRIT, the grantor would transfer property to a trust and retain an income interest for a number of years, which typically was shorter than the grantor's life expectancy, and the remainder would then pass to the grantor's descendants. The value of the remainder gift to the children would equal only a small portion of the value of the original principal, and, if the grantor survived the term, post-transfer appreciation escaped transfer tax. Congress found this estate planning strategy abusive, and six years later enacted Internal Revenue Code Section 2702, which curbed its use by valuing the grantor's retained interest at zero and thereby increasing the value of the transferred remainder interest.

Forty years later, a spin-off of this technique (the grantor retained annuity trust (GRAT)), discussed below, is still being used to divest assets from older, wealthier generations and transfer them to younger generations so that the appreciation occurs in the hands of the younger generations.

1990s planning: the first tech boom

The 1990s was a relatively quiet time. Although the Asian financial crisis gripped much of East and Southeast Asia during the mid-to-late 1990s, it was eclipsed by the first tech bubble during the same time frame. Geopolitically, the UK returned Hong Kong to China following the end of the 99-year lease under the idea of "one country — two systems".⁴

The world also experienced the inklings of the first war on terror (i.e., the 1993 bombings of the World Trade Center in New York and the 1998 bombings of the US Embassies in Africa), but, all in all, it was a relatively quiet time.

The 1990s was also when the GRAT became widely used with the blessing of Congress in the form of statutory enactment. Although the GRAT concept had originated with Richard Covey in 1984 with the GRIT, and the explosion of its use occurred in the 2000s, the GRAT as a mainstay tool started in the 1990s after Congress enacted legislation that it deemed would curb abusive practices with GRITs. Richard Covey found a major loophole in the legislation that paved the way for GRATs.^₅ This planning technique, particularly for US persons, was a very effective way of shifting wealth at a low cost to future generations or, to quote Richard Covey, "make a big gift look small".

While GRATs are a creature of statutory enactment in the US, creative practitioners have applied the GRAT concept successfully in other jurisdictions. The GRAT remains one of the most important planning techniques ever invented, and I have used GRATs, or some variation thereof, to shift wealth in more than 10 countries. Today, as the markets have started to turn again in favor of growth, GRATs once again have become very popular planning techniques to shift appreciating assets to future generations.

Other similar arrangements also evolved from the GRIT, including qualified personal residence trusts, grantor retained unitrusts, charitable remainder annuity trusts, charitable remainder unitrusts, charitable lead annuity trusts and charitable lead unitrusts.

The 2000s: the emergence of the large information reporting penalties

During the early 2000s, President Bush oversaw the largest tax reforms (commonly referred to as the "Bush tax cuts")⁶ since the Internal Revenue Code's last major overhaul in 1986. Despite the tax reductions, this legislation also included a revenue generator in the form of revised penalties for the failure to report foreign bank accounts (FBAR). The penalty for the willful failure to file an FBAR was increased to 50% of the unreported account on the date it should have been reported (previous violations were capped at USD 100,000 per account). Non-willful violations also became subject to a potential penalty, but it was capped at USD 10,000. Previously, non-willful violators were not subject to any penalties.⁷

These penalties were essentially irrelevant because enforcement was lacking. There were no information exchanges, and it would be another four years before the calls for transparency rose to the forefront. Nonetheless, this was the first instance where people started to think about the significance of information disclosure, which has since developed into a prevalent topic. Today, while tax issues are significant, the penalties for failure to properly disclose information to taxing authorities (even on a non-willful basis) can be even more harsh.

The 2010s: kindness before the instability

Looking back on this window of time, the first half of the decade is memorable as a period of economic recovery and regrowth following the 2008 financial crisis. The second half of the decade was marked by global instability, which has continued to increase. In 2016, there was the UK's exit from the EU (Brexit). The Arab Spring fizzled but left bloody civil wars in Syria, Libya and Yemen, as well as the Islamic State group in Iraq. The foreshadowing of the Russian invasion of Ukraine began.

The election of Donald Trump heralded in two contradictory items: (1) lower taxes in the US; and (2) consistent tax rates globally. As a result of FATCA and CRS, the automatic exchange of information became the norm. At the same time, values exploded as capital markets raced.

The confluence of these events changed the focus of planning away from tax minimization to asset protection as the world began to look more and more scary. Asset protection trusts in politically and economically stable foreign, trust-friendly jurisdictions quickly became popular.

Conclusion

Just as global events have tended to be circular in nature over the past five decades, so have the wealth planning ideas that relate to these events. I could have begun this article with any decade between the 1970s and the 2010s, but what is interesting is how in the past 40 years the confluence of many common planning ideas, some of which are inconsistent with each other, have reemerged simultaneously as part of what a global family must consider with modern wealth planning.

This confluence makes it quite challenging for families in different parts of the world to address their needs at the same time.

1 Henry Kissinger was the secretary of state under Presidents Nixon and Ford and is credited with fashioning the détente policy with the Soviet Union, initiating the opening of relations with China and negotiating the Paris Peace Accords that ended US involvement in the Vietnam War.

2 See "Federal Reserve History — The Great Inflation," by Michael Bryan, available here.

3 See "How the ultra-rich avoid paying taxes," Meghna Chakrabarti and Jonathan Chang, podcast available here.

4 See "Hong Kong and the UK: What's the History Between the Two?", available here.

5 Richard Covey created a pair of USD 100 million zeroed out GRATs for Audrey Walton, sister-in-law of Walmart founder Sam Walton, which the IRS challenged and lost in the US Tax Court. See Walton v. Comm'r, 115 T.C. 41 (2000).

6 See Economic Growth and Tax Relief Reconciliation Act of 2001, Pub. L. 107-16, 115 Stat. 100 (7 June 2001); Jobs and Growth Tax Relief Reconciliation Act of 2003, Pub. L. 108-27, 117 Stat. 752 (28 May 2003).

7 The statutes and regulations, however, did not specify whether the non-willful penalty was to be applied on a per report basis or on a per account basis; however, the US Supreme Court ruled last year in Bittner v. US, 598 US ___ (2023), that the non-willful penalty is to be applied on a per report basis and not for each unreported foreign account.