Our offices will be closed on 12/22, 12/25 and 1/1 in observance of the Holidays.
Our offices will close at 3pm on January 11th for an internal event.
Our offices will be closed on 12/22, 12/25 and 1/1 in observance of the Holidays.
Our offices will close at 3pm on January 11th for an internal event.
The full impact of COVID-19 is unknown. While we wait for questions to be answered many are asking what can we do right now? What’s next for our families? What’s next for family businesses and the people who work for them? Planning for our future generations is the greatest gift we can give, particularly during times of uncertainty.
Many closely-held businesses have been impacted by the COVID-19 pandemic, leading to depressed company valuations. The current federal estate, gift, and generation-skipping transfer (GST) tax exemption is $11.58 million per person. That, coupled with the low AFR and Section 7520 rates, provides an opportune time to transfer wealth out of estates without using up exemptions.
There are estate tax planning techniques that can be implemented which transfer the greatest amount of value from an estate while using the least amount of exemption. Transferring assets while they have a low value is a technique that is used to lock-in or freeze those low values in anticipation the asset will one day significantly increase in value. This transfers the appreciation in excess of the frozen value out of the estate with the added benefit of preserving the exemption for additional transfers.
Estate Planning Strategies
A grantor retained annuity trust (GRAT) is a powerful technique that allows a transfer of assets to a trust, in exchange for an annuity over a fixed term of years. After the annuity is paid off the assets transferred are owned by the trust for the benefit of the trust beneficiaries, normally the children.
A transaction can be structured to create a “zeroed-out” GRAT, where the annuity is structured in a manner so that the transaction does not produce a taxable gift. The calculation of the GRAT annuity payment is based on the Section 7520 rate in effect at the time of the transfer (for June 2020, the Section 7520 rate is 0.6%), thereby allowing more value to be transferred to the trust without using the exemption.
When transferring assets to the next generation, families are concerned about transferring too much to the younger generation, creating cashflow constraints and transfers that do not use their exemption in an effective manner. The zeroed-out GRAT can achieve financial stability, optimal estate tax results and flexible estate planning options. This simple, effective and time-tested strategy can achieve:
An intentionally defective grantor trust (IDGT) is an effective and efficient technique to transfer assets to a trust for future generations. Once the assets are gifted to the trust, they are considered taxable gifts and property of the trust. Those assets can remain in trust for multiple generations, allowing the gift to benefit both children and grandchildren, if desired.
The transaction can be structured as a sale of assets to an IDGT in exchange for a promissory note. This structure is typically an alternative to the aforementioned GRAT. However, this sale is not considered a taxable gift and does not create any gain for income tax purposes. The IDGT promissory note payment is based off the AFR in effect at the time of the transfer (for June 2020, the long-term AFR is 1.01% for promissory note terms longer than nine years), allowing more value to be transferred without using your exemption.
A sale to an IDGT is typically more successful than funding a GRAT as the AFR rate used as the interest rate in the promissory note is generally lower that the Section 7520 rate used to value GRATs. The promissory note can also be structured as an interest-only note with a balloon payment upon maturity, whereas a GRAT must be structured as an annual annuity. Moreover, sales to an IDGT allow for the immediate allocation of GST exemption. With a GRAT, the grantor cannot allocate GST exemption until the end of the GRAT term.
The sale to an IDGT can achieve financial stability, optimal estate tax results, and multigenerational estate planning options. This efficient, effective and time-tested strategy can achieve:
Giving money to a family member in excess of the annual exclusion ($15,000 in 2020) will be a taxable gift. A simple way to provide cash to a family member is to make a loan to them. Historically, if the loan has an interest rate of at least the AFR, the IRS will respect the loan and not claim the transaction to be a gift. With the historically low AFR, cash can be loaned to a family member without creating a burden from charging the family member a high interest rate. June 2020 AFR rates are at historic lows (June 2020 short-term AFR is .18% which applies for terms less than three years, mid-term AFR is 0.43% for terms three years through nine years, and long-term AFR is 1.01% for terms longer than nine years).
The intra-family loan achieves financial stability, optimal estate tax results, and cashflow. This simple, effective and time-tested strategy can achieve:
Planning for the future is not a task to be taken lightly, even in the best of times. During times of uncertainty it becomes even more important. The three estate planning strategies summarized above provide options.
Conclusion: The zeroed-out GRAT is an effective strategy to take advantage of the increased exemption, low Section 7520 rate, and current economic environment. These three factors significantly increase the amount of wealth a family can transfer to the next generation while using a minimal amount of their exemption. Alternatively, a sale to an IDGT can be an effective strategy to transfer wealth to multi-generations and take advantage of the extremely low AFR. Finally, low interest intra-family loans allow families to provide liquidity to various family members without overburdening the family with onerous interest payments.
The idiom “one person’s trash is another person’s treasure,” rings true when dealing with collectibles – those seemingly innocuous objects for which people will pay good money. Interestingly, the value of these collections comes with tax consequences when you transfer them to the next generation, donate them or sell them at a profit. It is beneficial to explore the tax implications for these three ways of distributing collectibles.
Transfers of collectibles to family members or other loved ones, whether during life (gifts) or at death (bequests), may be subject to gift or estate tax if your estate is large enough. And you may be required to substantiate the value of the collectible.
For estate tax purposes, if an item, or a collection of similar items, is worth more than $3,000, a written appraisal by a qualified appraiser must accompany the estate tax return. Gifts or bequests of art valued at $50,000 or more will, upon audit, be referred to the IRS Art Advisory Panel.
Even if your estate is not large enough for gift and estate taxes to be a concern (or the federal gift and estate taxes are repealed, as has been proposed), it’s important to include all of your collectibles in your estate plan. Even an item with little monetary value may have strong sentimental value. Failing to provide for the disposition of collectibles can lead to hurt feelings, arguments among family members or even litigation.
If you want to donate a collectible, your tax deduction will likely depend both on its value and on the way in which the item will be used by the qualified charitable organization receiving it.
For you to deduct the fair market value of the collectible, the donation must meet what is known as the “related use” test. That is, the charity’s use of the donated item must be related to its mission. This probably would be the case if, for instance, you donated a collection of political memorabilia to a history museum that then puts it on display.
Conversely, if you donated the collection to a hospital, and it sold the collection, the donation likely would not meet the related-use test. Instead, your deduction typically would be limited to your basis.
There are a number of other rules that come into play when making donations of collectibles. For instance, the IRS generally requires a qualified appraisal if a deduction for donated property tops $5,000. In addition, you’ll need to attach Form 8283, “Noncash Charitable Contributions,” to your tax return. With larger deductions, additional documentation often is required.
The IRS views most collectibles, other than those held for sale by dealers, as capital assets. As a result, any gain on the sale of a collectible that you have held for more than one year generally is treated as a long-term capital gain.
While long-term capital gains on most types of assets are taxed at either 15% or 20%, capital gains on collectibles are taxed at 28% (or your ordinary-income rate, if lower). As with other short-term capital gains, the tax rate when you sell a collectible that you have held for one year or less typically will be your ordinary-income tax rate.
Determining the gain on a sale requires first determining your “basis” — generally, your cost to acquire the collectible. If you purchased it, your basis is the amount you paid for the item, including any brokers’ fees.
If you inherited the collectible, your basis is its fair market value at the time you inherited it. The fair market value can be determined in several ways, such as by an appraisal or through an analysis of the prices obtained in sales of similar items at about the same time.
The tax implications are difficult to sort out. Your tax advisor can help you determine how to properly handle these transactions.
Among the taxes that are being considered for repeal as part of tax reform legislation is the estate tax. This tax applies to transfers of wealth at death, hence why it is commonly referred to as the “death tax.” Its sibling, the gift tax — also being considered for repeal — applies to transfers during life. Yet most taxpayers will not face these taxes even if the taxes remain in place.
Exclusions and exemptions
For 2017, the lifetime gift and estate tax exemption is $5.49 million per taxpayer. (The exemption is annually indexed for inflation.) If your estate does not exceed your available exemption at your death, then no federal estate tax will be due.
Any gift tax exemption you use during life does reduce the amount of estate tax exemption available at your death. But every gift you make will not use up part of your lifetime exemption.
What is your estate tax exposure?
A simplified way to project your estate tax exposure is to take the value of your estate, net of any debts. Also subtract any assets that will pass to charity on your death.
Then, if you’re married and your spouse is a U.S. citizen, subtract any assets you will pass to him or her. (But keep in mind that there could be estate tax exposure on your surviving spouse’s death, depending on the size of his or her estate.) The net number represents your taxable estate.
You can then apply the exemption amount you expect to have available at death. Remember, any gift tax exemption amount you use during your life must be subtracted. But if your spouse predeceases you, then his or her unused estate tax exemption, if any, may be added to yours (provided the applicable requirements are met).
If your taxable estate is equal to or less than your available estate tax exemption, no federal estate tax will be due at your death. But if your taxable estate exceeds this amount, the excess will be subject to federal estate tax.
Be aware that many states impose estate tax at a lower threshold than the federal government does. So you could have state estate tax exposure even if you do not need to worry about federal estate tax.
If you’re not sure whether you’re at risk for the estate tax or if you’d like to learn about gift and estate planning strategies to reduce your potential liability, please contact your business advisor.
With baby boomers — the largest and wealthiest generation in U.S. history — expected to transfer trillions of dollars worth of assets in the next few decades, this could be the right time to launch an endowment. Nonprofits have long turned to endowments for help providing the necessary financial resources to carry out their mission, now and into the future.
All endowments are not created equal. With a permanent endowment, the original gift is usually intended to be held into perpetuity, with only certain income available for use in operations. With a term endowment, you are generally allowed to also use the principal after the designated term has ended. Either way, though, you need to consider several key issues before making the move.
Endowments appeal to nonprofits for several reasons. For example, the funds provide financial stability and can help ensure that programs stay focused on areas your board and donors rank as most important. An endowment also can reduce the headaches and uncertainty often experienced when you are forced to rely solely on work-intensive annual campaigns, special events and fundraising. Moreover, less event planning often equals more time to devote to your actual mission!
Endowments can help you attract additional donors, too. They demonstrate that your not-for-profit has earned the trust of other donors and will be around for the long haul. Endowments may also provide the added benefit of approaching donors from a position of strength and confidence, rather than neediness.
Be forewarned, however: An endowment can turn off potential donors, who might think your organization does not really need their contributions. Administrative tasks also could consume staff time, diverting it from the organization’s current needs.
Not surprisingly, endowments come with some restrictions. The Uniform Prudent Management of Institutional Funds Act (UPMIFA) lays out the standards for managing and investing endowments. You wil need to establish a written investment policy for your endowment that satisfies those standards by addressing, among other things, asset allocation and spending.
Your board’s investment committee, with input from an investment advisor, should determine the best allocation across asset classes (for example, stocks, bonds and real estate) to earn your desired return on investment. If board members do not have expertise in this area, consider hiring an investment manager to advise you. Each investment decision must be made in the context of the endowment’s total portfolio, taking into account the risk and return objectives of the endowment and the organization.
When it comes to spending, UPMIFA lets you spend or accumulate at a rate the board determines is prudent for the endowment’s uses, benefits, purposes and duration — subject to seven specific criteria. These include the purposes of the organization and the endowment, general economic conditions and the organization’s other resources. And UPMIFA lets you base spending on the expected total returns of the endowment, including earnings on original principal and appreciation.
If a traditional endowment does not seem like a good fit, do not worry — you are not necessarily out of luck. You can establish a “quasi endowment,” also known as a board-designated endowment or funds functioning as endowments. A quasi endowment could work well if your organization isn’t quite ready for a full-blown endowment campaign but wants the financial stability and other benefits associated with endowments, and has the funds to set aside for this purpose.
Unlike traditional endowments, quasi endowments are established by the board — not a donor. They are usually funded by unrestricted donor gifts or excess operating funds, and are not subject to UPMIFA. A quasi endowment may be more flexible than permanent or term endowments because the board can change its designation(s) at any time and for any reason.
If you decide to pursue an endowment of any kind, keep in mind that the arrangements are more complicated than for funds raised through ordinary fundraising or capital campaigns. You will need to make sure you have, or can acquire, the requisite expertise in areas such as drafting investment policies, managing the investments and related financial reporting.
Individual taxpayers who have come close to triggering the alternative minimum tax (AMT) in the past should start planning to minimize 2016 taxes as early as possible. This article will define AMT, how it is calculated, and ways to minimize your AMT liability.
The AMT – a separate tax system that doesn’t allow certain deductions and income exclusions – initially was put in place to prevent wealthy Americans from taking so many tax breaks that they eliminated their tax liability. But even taxpayers who don’t normally consider themselves “upper income” can trigger the AMT. For example, you could be vulnerable if you exercised incentive stock options this year.
AMT calculations can be complicated, but the system basically has two tax rates (26% and 28%) and inflation-adjusted income thresholds for them. An exemption is also available, but it phases out based on income. For 2016, the AMT exemptions are $53,900 for single filers and heads of households and $83,800 for joint filers. The phase-out ranges are $119,700 to $332,100 for single filers and heads of households and $159,700 to $493,300 for joint filers. If AMT income is within the applicable range, a partial exemption is available; if it exceeds the top of the range, no exemption is available.
To determine whether you owe the AMT, you’ll need to calculate your tax under both the regular and AMT systems. If your AMT liability is greater than your regular income tax liability, you must pay the difference as AMT, in addition to the regular tax. The federal AMT rate is 28%, compared to the top regular income tax rate of 39.6 %.
Under the AMT, you can’t take a personal exemption for yourself and your dependents. And you are not allowed to deduct such items as home equity debt interest not used to improve your home; state and local income and property taxes; and miscellaneous itemized deductions subject to the 2% floor.
Those with high incomes are more susceptible to the AMT than others, but AMT liability may also be triggered by:
Fortunately, strategies exist for minimizing your AMT. For example, you might want to delay sales of highly appreciated assets until the next year or use an installment sale to spread the gains over multiple years. You can also try to time the payment of state and local taxes and other miscellaneous itemized deductions for years that you do not expect the AMT to apply. Or you might want to recognize additional income this year to take advantage of the AMT’s lower maximum rate (28% vs. 39.6%).
There is also an AMT credit. If you pay the AMT in one year on deferral items (those that affect more than one tax year, such as depreciation) you might be entitled to a credit for a subsequent year. The credit, however, might provide only partial relief or take years before you can fully use it. Nonetheless, the AMT credit’s refundable feature can reduce the time it takes to recoup AMT payments.
Most taxpayers do not even realize that the AMT is looming until it’s too late to do anything to manage it. Failing to pay the AMT can lead to penalties and interest, so it’s best to determine ahead of time whether it will apply. Talk to your tax advisor now while you still have time to strategize for 2016.
If you’ve been bitten by the net investment income tax (NIIT) in the past three years, you may be ready now to get more serious about exploring strategies to avoid or reduce your exposure to this complicated 3.8% Medicare surtax on investment income. Below are ten strategies to minimize the bite of this surtax in 2016 and succeeding years.
Bottom-line, the NIIT is complex, and all strategies should be discussed with your tax and investment advisors before implementation to avoid other unintended tax consequences. Many of these strategies take time to implement as well, so start planning now. We can help you evaluate which strategies would be best for your particular situation, so give us a call soon to get started on your 2016 planning process.
If you have a financial interest or signature authority over a foreign financial account, you may be required to file FinCEN Form 114a, otherwise known as the Report of Foreign Bank and Financial Accounts (FBAR). A US citizen must file if the aggregate value of all foreign financial accounts exceeds $10,000 at any time during the calendar year. The deadline of June 30th may not be extended.
Most of us have more than enough to do. We’re on the go from early in the morning until well into the evening — six or seven days a week. Thus, it’s no surprise that we may let some important things slide. We know we need to get to them, but it seems like they can just as easily wait until tomorrow, the next day, or whenever.
A U.S. Supreme Court decision reminds us that sometimes “whenever” never gets here and the results can be tragic. The case involved a $400,000 employer-sponsored retirement account, owned by William, who had named his wife, Liv, as his beneficiary in 1974 shortly after they married. The couple divorced 20 years later. As part of the divorce decree, Liv waived her rights to benefits under William’s employer-sponsored retirement plans. However, William never got around to changing his beneficiary designation form with his employer.
When William died, Liv was still listed as his beneficiary. So, the plan paid the $400,000 to Liv. William’s estate sued the plan, saying that because of Liv’s waiver in the divorce decree, the funds should have been paid to the estate. The Court disagreed, ruling that the plan documents (which called for the beneficiary to be designated and changed in a specific way) trumped the divorce decree. William’s designation of Liv as his beneficiary was done in the way the plan required; Liv’s waiver was not. Thus, the plan rightfully paid $400,000 to Liv.
The tragic outcome of this case was largely controlled by its unique facts. If the facts had been slightly different (such as the plan allowing a beneficiary to be designated on a document other than the plan’s beneficiary form), the outcome could have been quite different and much less tragic. However, it still would have taken a lot of effort and expense to get there.
This leads us to a couple of important points.
One final thought regarding beneficiary designations: While you’re verifying that all of your beneficiary designations are current, make sure you’ve also designated secondary beneficiaries where appropriate. This is especially important with assets such as IRAs, where naming both a primary and secondary beneficiary can potentially allow payouts from the account to be stretched out over a longer period and maximize the time available for the tax deferral benefits to accrue.