I spent most of my money studying the long litany of tragedy that has met the Johnson & Johnson heirs and beneficiaries to the great healthcare fortune, and I came across the fact that Ned Johnson (who has a large chunk of his wealth in Fidelity Investments) moved his family office and trusts from Massachusetts to Salem, New Hampshire in October 2010.
That brings me to a topic not frequently explored on the site: For passing along wealth, New Hampshire is where you want to run your assets through. The Wall Street Journal went as far as to call New Hampshire’s trust laws “a mini-Switzerland.” You know how every corporation invariably runs through Delaware because of the favorable treatment? My guess is that over the coming twenty or so years, you’ll see New Hampshire become “the Delaware” of trusts.
These are the five big reasons why New Hampshire is becoming the go-to state for passing on wealth:
• The trusts can last forever. New Hampshire is one of the first states to repeal the rule against perpetuities, an old common law. The 2004 repeal allowed for the creation of “dynasty trusts,” which allow for wealth to pass from generation to generation while minimizing the federal estate tax. The trust does pay taxes on the transfer, usually through the generation-skipping tax, but the savings on large estates could be substantial.
• The trusts don’t pay income taxes. Generally, income from trusts isn’t taxed at the state level. And while New Hampshire doesn’t have an income or capital gains tax, it does have an interest and dividends tax, but last year the Legislature eliminated that tax for non-grantor trusts. New Hampshire beneficiaries still have to pay the tax, but only on what is distributed to them. Those wealthy families parking their money in New Hampshire don’t have to pay a penny.
• Thanks to various tools like non-judicial settlement agreements, parties in a trust can often work things out without court involvement or approval.
• Trusts can transfer assets to another trust. This can be used to improve an older trust with restrictive or ambiguous provisions by just moving it to a new one.
• Trustee duties can be split up. Under traditional trust law, the trustee is responsible for everything. Under “directed” trusts, an investment manager can invest, while someone else can prepare tax returns and be responsible for recordkeeping.
Some of these advantages are quite recent, inspired as countervailing maneuvers to the Dodd-Frank law. On the political side, it shows yet again that many of our legislators underestimate the extent to which people respond to incentives. We saw this with New Jersey’s passage of the millionaire’s tax a couple years ago, in which many affluent residents just hopped across the border to Connecticut, leading to New Jersey collecting less total tax revenue than before it passed the millionaire’s tax.
What’s the cognitive block among our legislators that is causing this? My guess is that legislators are generally slow to recognize that capital is much more fluid now than it’s ever been. In the 1950s, moving a family, a business, or a substantial sum of capital across a state line was not really a practical option. If taxes got raised or regulations increased, you might grumble about it for a bit, but you’d generally stay put and take it. To oversimplify the transformation, a Facebook world where million-dollar fortunes can be created without factories or even employees makes it a lot easier to not only say “buzz off”, but act on it as well. This happens when a new state tax or regulation reaches a point where the emotional and practical hassle of leaving is less than the economic harm of remaining (it’s the lowering of this threshold that makes tax increases less and less effective over time). If you’re rich enough, and if your state taxes become high enough, all roads will eventually lead to Texas.
Of course, there is an ethical side to this as well. If you’re loaded, do you have an ethical obligation to give back? The answer is yes, but there’s a catch. Most people arrange their loyalties in outward fashions—first loyalty is to spouse and kids, then close friends, then maybe alma mater or favorite cause or local community, then state, then nation, and so on. This is entirely speculative on my part, but my guess is that most people’s loyalty to their immediate family requires a higher net worth before the feelings of an obligation to give back kicks in.
In other words, someone with a $3.0 million net worth and three kids appears to the outside world and legislators as someone that “ought to give back.” But the perspective of the person with the fortune is going to be thinking, “That’s only giving me annual income of $120,000. That makes for a nice life, but doesn’t yet trigger a sense of duty to write the local symphony a check for $300,000.” And, more importantly, it still represents a point at which someone would respond to incentive shifts in the tax code, and that’s probably why New Jersey was unpleasantly surprised with the results of their millionaire’s tax.
Munger’s famous quip on the topic is this: “All my life I’ve been thinking about how people respond to incentives, and I still think I underestimate it.” If I were a state legislator, I’d be working hard to make trust laws more favorable. Yeah, I’d have to deal with people who have a shallow understanding of the issue and immediately respond, “Boo! You don’t care about the middle-class, you’re just trying to help the rich.” But it’s tolerable to deal with stuff like that when you know you’re right. The real tradeoff would be this: make trust laws in the home state more favorable, or slowly bleed all that business to New Hampshire.
Originally posted 2014-04-13 10:09:00.