Q on irrevocable and revocable trust 2011 AM exam

J

janakisri

New member
Joined
Jun 18, 2026
Messages
0
Reaction score
0
I did not nderstand the answer for Objective 1 .
My way of solving this puzzle was this:
The irrevocable trust had no estate taxes but would be charged a cost basis of $100 k on the remaining $1 million.
The revocable trust would be charged 20% estate taxes buts its cost basis would rise to market value ,i.e. no capital gains tax.
So the revocable trust would be charged $0 in capital gains tax and $200k in estate tax upon Becker’s death
The irrevocable trust would be charged $180k in capital gains tax and $0 in estate taxes upon Becker’s death.

So why does the answer choose revocable trust ? What am I doing wrong?
 
Current Capital gains tax 20% is the same for both trusts.
So now the question becomes about Estate taxes are paid…
if 1000K is sold.
Case 1: from revocable trust.
1000 R + 2000 IR -> Estate Tax: 1000 * .2 = 200
Case 2: From Irrevocable trust Sale
2000 R + 1000 IR -> Estate Tax: 2000 * .2 = 400
assuming that the market price remained its value itself… 1000 or 2000 as the case might be.
So Revocable Sale wins.
 
Somehow I was assuming that when you dies your estate had to pay capital gains first and then pay estate taxes on what remains if applicable. Are you saying that Becker ‘s estate can avoid capital gains altogether when he dies ?
In my calculation , on he R portion you didn’t have to pay capital gains ( cost basis=market value) , while on the IR portion you were hit with capital gains .
In my estimation , the Irrevocable trust was more attractive for carrying out the sale because you had to pay only 180K ( capital gains) while the Revocable trust had to pay estate tax of 200 K on the balance at death ( assuming the estate did not grow , as you said).
But you are right and I am wrong in thinking that capital gains would be payable by a beneficiary other than Becker after Becker dies
 
addiionally the capital gains are now, while the estate tax is much later. Remember the question asks for IMMEDIATE SALE. At the time of death - there is no capital gains either ways. [in the case of revocable the value becomes market value).
So there is a immediate capital gains tax - same in both cases, while there is an estate tax at the time of death. If you sold stuff from the revocable trust now, there would be less to pay taxes on at the end…
 
I don’t think I would get it in the heat of the exam. and even now, only after reading the answer a few times over…. :(
 
This one didn’t bother me, whats confusing is the ridiculousity (yes, i made that up) that is question 3.)B.)ii. where it says that an INCREASE in EXPECTED inflation INCREASES risk tolerance because the endowment would demand a higher real return, and holding nominal spending rule constant, this would increase the value of the endowment and increase risk tolerance.
Ok, whatever… and then not two pages later on question 3.)E.) where it asks for 3 factors that suggest that the SU endowment has greater risk tolerance than WU endowment, it fucking lists the LOWER expected inflation. They are referring to the operating budget inflation versus just general inflation, but even then the exact phrase is “forecasts the inflation rate of SU’s operating budget at 1% below the growth of the HEPI. The HEPI is EXPECTED to grow at 4% annually”.
To me these are contradictory, sure one is general inflation, one is operating budget inflation, but both are expected, and both could theoretically lead the endowment to seek higher real returns and therefore achieve a greater value and increased risk tolerance judging by their guideline answer for the first part (bahahhahaha).
I am far more inclined to go with the explanation in 3.)E.) than the bullshit “seek higher real returns” joke.
Oh, and on the part about what they could have done better in the Monte Carlo analysis, i had noooo clue wtf they were talking about there. Is that shit even in the book?
Other than a few ridiculous answers i thought it wasn’t bad actually, afternoon was far more difficult to me.
 
In the grand scheme of things, there are going to be 2-5 questions that just suck and that are obscure. I’ve learned to accept this with the CFA and do your best and move on. Everyone struggled with these. I remember leaving the revocable trust questions blank and returned to it after I went thru the exam once. Bottom line is, if you master a majority of the info, don’t let your nerves get you, you’ll be in good shape to pass. Maybe not ace it, but pass.
 
Thanks, Cpk.
I’m sure that I failed on this very first question last year.
1: If selling 1m from revocable trust. 1000 R + 2000 IR
Estate Tax: 1000 * .2 = 200
Capital Gain Tax: (2000-200)*.2 = 360
2: If selling 1m from irrevocable trust: 2000 R + 1000 IR
Estate Tax: 2000 * .2 = 400
Capital Gain Tax: (1000-100)*.2 = 180
Revocable still wins.
 
may I ask what is the -100 and the -200 you are doing for the Capital Gains part?
and I am pretty sure I failed this one too. It is just a measure of the minutae to which the CFAI can test us….
 
Correct me if I’m wrong. It’s the Cost Basis.
Case 1: $200,000 is the cost basis for the $2m irrevocable trust.
Case 2: $100,000 is the cost basis for the $1m irrevocable trust.
In the exam, I thought $1m (sold shares) would stay in its account, then in revocable trust, he may have to pay extra 1m*0.2=200,000 estate tax at his death if no growth.
You are right, $1m sold shares should be treated equally in two cases… Besides, a loss 3-minute question in AM is equal to a multiple-choice question in PM items, but this Q1.A.i is definitely over-weighted.-:)
 
markCFAIL said:
3.)B.)ii. where it says that an INCREASE in EXPECTED inflation INCREASES risk tolerance because the endowment would demand a higher real return, and holding nominal spending rule constant, this would increase the value of the endowment and increase risk tolerance.
I got the part that increase in exp inflation would demand a higher real return but how does it increase risk tolerance & value of endowment? Also other part of th answer?
Oh, and on the part about what they could have done better in the Monte Carlo analysis, i had noooo clue wtf they were talking about there. Is that shit even in the book?
Ques 2.D.i)
Beckers wants to leave atleast $ 5 mil. MCS shows on percentile basis. If you see that Portfolio B whose value is 5.016 mil that lies in 25th percentile (means 75% probaibility that value would be above it) should have been the answer. Instead of Portfolio which atleast has a + ve value.Any help?
Click to expand...
 
rahuls]</p> <p>
markCFAIL[/I said:
wrote:
3.)B.)ii. where it says that an INCREASE in EXPECTED inflation INCREASES risk tolerance because the endowment would demand a higher real return, and holding nominal spending rule constant, this would increase the value of the endowment and increase risk tolerance.
I got the part that increase in exp inflation would demand a higher real return but how does it increase risk tolerance & value of endowment? Also other part of th answer?
Oh, and on the part about what they could have done better in the Monte Carlo analysis, i had noooo clue wtf they were talking about there. Is that shit even in the book?
Ques 2.D.i)
Beckers wants to leave atleast $ 5 mil. MCS shows on percentile basis. If you see that Portfolio B whose value is 5.016 mil that lies in 25th percentile (means 75% probaibility that value would be above it) should have been the answer. Instead of Portfolio which atleast has a + ve value.Any help?
Click to expand...
I think that in case of inflation increase, the risk tolerance decrease,
inflation increase -> higher required nominal rate of return ( = infla + op exp +..) -> decrease risk tolerance…
this also match ques 3E
2Di : i think the first goal is ” not willing to run out of money..” so portf A should be the choice ?
Click to expand...
 
The cost basis is 200,00 for both of them ,however,for revocable the cost basis will=market value at his death while for irrvocable still cost basis i s 200,000 vs market value of 2,000,000 so recovable is the right choice to mimize taxes
 
You must log in or register to reply here.
Back
Top