Category: Asset Protection

Considering Medicaid Asset Protection Trusts?

Considering Medicaid Asset Protection Trusts?

Medicaid, a joint state and federal program, provides health coverage to low-income individuals of all ages. Qualifying for Medicaid requires meeting strict income and asset limits, which vary by state and the type of Medicaid coverage sought. If you are considering Medicaid Asset Protection Trusts, there are a few things to know.

These limits pose a significant hurdle for many, especially those needing long-term care. According to an ElderLawAnswers article, this is where Medicaid Asset Protection Trusts (MAPTs) come into play. MAPTs offer a legal avenue to protect assets, while preserving eligibility for Medicaid benefits.

A MAPT is an irrevocable trust established during your lifetime that transfers ownership of assets to a trust, so Medicaid excludes them from the resource limit during eligibility qualification. Once transferred, you no longer own the assets directly, which helps you to meet Medicaid’s eligibility criteria. Appoint a trustee other than yourself to manage the trust and to transfer the assets, such as real estate or stocks, into the trust’s name correctly.

Key Considerations:

  • Timing is Crucial: A MAPT must be created and funded with Medicaid’s 60-month lookback period in mind. Assets transferred into the trust within this period may penalize your Medicaid eligibility.
  • Living Arrangements: Transferring your home into a MAPT doesn’t mean you have to move out. You can still reside in your home, although the trust technically owns it.
  • Income and Benefits: You can receive income from the trust’s assets. However, this income may affect your Medicaid eligibility.

Medicaid Asset Protection Trusts are a valuable strategy for individuals looking to qualify for Medicaid without sacrificing their assets. If you are considering Medicaid Asset Protection Trusts, work with an attorney to understand how these trusts work and the financial considerations involved, so you can make informed decisions about your long-term care planning. If you would like to learn more about elder law, please visit our previous posts. 

Reference: ElderLawAnswers: What Are Medicaid Asset Protection Trusts?

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The Complexities of Co-Owning a Vacation Home

The Complexities of Co-Owning a Vacation Home

Dreaming of a vacation home you can escape to at any moment is wonderful. However, the reality of co-owning that slice of paradise with friends or family might be more complicated than you think, explains Better Homes and Garden’s article, “What You Need to Know Before You Buy a Vacation Home with Friends or Family.” Let’s dive into the complexities and considerations of co-owning a vacation home, inspired by insights from experts in the field.

Co-owning a vacation home often starts with a dream shared among friends or family. It’s an appealing idea, especially when the cost of owning a vacation spot on your own seems out of reach. The idea of pooling resources to afford a better, more luxurious property in a prime location is tempting. It promises a place to stay and a shared investment, potentially increasing in value over time.

The main attraction of co-owning is financial efficiency. You can access better properties in desirable locations without shouldering the entire financial burden alone. It allows more frequent visits to your favorite vacation spot and turns an otherwise unreachable dream into a tangible reality. Owning a property with others can also create deeper bonds and shared memories that last a lifetime.

However, with the benefits come significant risks and potential pitfalls. Co-ownership can lead to financial disputes, disagreements over property use, maintenance responsibilities and even conflicts about the property’s future. What happens if one owner wants out of their part of the property or if one owner passes away unexpectedly? What if personal circumstances change, affecting

Before jumping into co-ownership, having detailed conversations about every aspect of the property’s future is crucial. Discussing and agreeing on a budget, usage schedules, guests, pets and even decor can prevent misunderstandings down the line. It’s also wise to consider legal structures, like becoming tenants in common or forming an LLC, to manage the property, ensuring that all agreements are in writing to protect everyone involved.

Getting legal advice from an estate, real estate, or business attorney when considering purchasing joint-owned property is essential. A trusted attorney can help draft a comprehensive co-ownership contract with your friend or family member that outlines each owner’s rights, responsibilities, financial commitments and the procedures for resolving disputes or selling shares in the property. This agreement safeguards your financial interest in the vacation home, ensuring that it remains a source of joy rather than a cause of strife.

Co-owning a vacation home offers a unique opportunity to make your dream of a getaway spot a reality. However, it’s not without its challenges. By prioritizing open communication, financial clarity and professional legal advice, you can navigate the complexities of co-ownership. Remember, the goal is to create a space that enhances your life and relationships, not one that leads to unnecessary stress or conflict. Your estate planning attorney will help you fully grasp the complexities of co-owning a vacation home. If you are interested in learning more about managing real property in your estate plan, please visit our previous posts.

Reference: Better Homes and Gardens (June 29, 2023) “What You Need to Know Before You Buy a Vacation Home with Friends or Family”

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Adjustment in Cost Basis is a Crucial Tax Consideration

Adjustment in Cost Basis is a Crucial Tax Consideration

The adjustment in cost basis is a crucial tax consideration. The adjustment in the cost basis is sometimes overlooked in estate planning, even though it can be a tax game-changer. Under this tax provision, an inherited asset’s cost basis is determined not by what the original owner paid but by the value of the asset when it is inherited after the original owner’s death.

Since most assets appreciate over time, as explained in the article “Maximizing Inheritance With A Step Up” from Montgomery County News, this adjustment is often referred to as a “step-up” basis. A step-up can create significant tax savings when assets are sold and is a valuable way for beneficiaries to maximize their inheritance.

In most cases, assets included in the decedent’s overall estate will receive an adjustment in basis. Stocks, land, and business interests are all eligible for a basis adjustment. Others, such as Income in Respect of the Decedent (IRD), IRAs, 401(k)s, and annuities, are not eligible.

Under current tax law, the cost basis is the asset’s value on the date of the original owner’s death. The asset may technically accrue little to no gain, depending on how long they hold it before selling it and other factors regarding its valuation. The heir could face little to no capital gains tax on the asset’s sale.

Of course, it’s not as simple as this, and your estate planning attorney should review assets to determine their eligibility for a step-up. Some assets may decrease in value over time, while assets owned jointly between spouses may have different rules for basis adjustments when one of the spouses passes. The rules are state-specific, so check with a local estate planning attorney.

To determine whether the step-up basis is helpful, clarify estate planning goals. Do you own a vacation home you want to leave to your children or investments you plan to leave to grandchildren? Does your estate plan include philanthropy? Reviewing your current estate plan through the lens of a step-up in basis could lead you to make some changes.

Let’s say you bought 20,000 shares of stock ten years ago for $20 a share, with the original cost-basis being $400,000. Now, the shares are worth $40 each, for a total of $800,000. You’d like your adult children to inherit the stock.

There are several options here. You could sell the shares, pay the taxes, and give your children cash. You could directly transfer the shares, and they’d receive the same basis in your stock at $20 per share. You could also name your children as beneficiaries of the shares.

As long as the shares are in a taxable account and included in your gross estate when you die, your heirs will get an adjustment in basis based on the fair market value on the day of your passing.

If the fair market value of the shares is $50 when you die, your heirs will receive a step up in basis to $50. The gain of $30 per share will pass to your children with no tax liability.

Tax planning is part of a comprehensive estate plan, and the adjustment in cost basis is a crucial tax consideration. An experienced estate planning attorney can help you and your family minimize tax liabilities. If you would like to learn more about tax planning, please visit our previous posts.

Reference: Montgomery County News (Dec. 20, 2023) “Maximizing Inheritance With A Step Up”

 

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Retirement Planning Mistakes to Avoid

Retirement Planning Mistakes to Avoid

Planning for your golden years is no small feat. A robust retirement plan is a treasure map to comfort and security in your later life. However, the road to a stress-free retirement is often littered with potential mistakes. Identifying common retirement planning mistakes and knowing the mistakes to avoid can save future retirees from headaches and financial instability.

Are You Underestimating Health Care Expenses When Your Retire?

One retirement mistake made often is underestimating health care costs. It’s easy to overlook long-term care and other health expenses, especially if you’re currently in good health. However, healthcare expenses can deplete your retirement savings faster than anticipated.

As you age, healthcare becomes an integral part of your expenses. Considering potential needs like long-term care, which Medicare does not usually cover, is crucial. Working with a financial planner can help you factor these costs into your retirement plan, ensuring your nest egg is equipped to handle future medical expenses.

Is Your Investment Portfolio Too Aggressive or Conservative?

Your investment strategy plays a pivotal role in your financial security. One of the common retirement mistakes is maintaining an inappropriate investment risk level. As you approach retirement, financial advisors often recommend gradually shifting towards more conservative investments to preserve capital. However, being overly cautious can also impede the growth of your retirement savings.

Discussing your risk tolerance and retirement timeline with a financial advisor is essential. They can help rebalance your portfolio to protect your assets, while still capitalizing on market opportunities.

Have You Neglected Tax Planning?

Tax planning is often overlooked in retirement planning, which can lead to unexpected tax burdens on your retirement income. Without proper planning, everything from social security benefits to withdrawals from your retirement account could be taxed, significantly shrinking your usable income.

Strategies like investing in Roth IRAs, where qualified withdrawals are tax-free, or setting aside funds to handle tax obligations, can be beneficial. It’s advisable to consult with a financial advisor or someone who can provide tax or legal advice to optimize your retirement plan for tax efficiency.

Do You Rely Solely on Social Security Benefits at Full Retirement Age?

A common mistake is assuming that social security benefits will be sufficient as your sole source of income. However, these benefits are designed to supplement your retirement savings account and usually don’t suffice for a comfortable retirement on their own.

It’s essential to have additional sources of income. Strategies like investing, setting up annuities, or continuing part-time work can help ensure a steady income flow throughout retirement, enhancing your financial security.

Are You Withdrawing Too Much, Too Soon?

Careful planning for how much you withdraw in the early years of retirement ensures that you don’t outlive your savings. Retirees sometimes start by withdrawing larger amounts. However, this approach can compromise their financial health in the later stages of retirement.

Setting a sustainable withdrawal rate as part of your retirement plan, considering factors like life expectancy and inflation, is prudent. Financial planners recommend the “4% rule” as a starting point, adjusting as necessary based on individual circumstances and market conditions.

Have You Failed to Consider Inflation?

Inflation can erode the purchasing power of your retirement savings over time, a reality that retirees cannot afford to ignore. A common retirement mistake is failing to factor inflation into retirement planning.

Investing in inflation-protected securities or assets that tend to increase in value over time can help your savings grow in step with or outpace inflation. Regular consultations with your financial advisor can help adjust your strategies to mitigate inflation’s impact.

Did You Forget to Plan Your Estate?

Beyond securing your lifestyle post-retirement, it is also essential to consider how your assets will be distributed upon your death. Without an estate plan, your heirs may not receive the assets you intend to leave them, and legal complications could arise.

Estate planning involves setting up wills, trusts and designating beneficiaries, ensuring that your wishes are honored. Discussing your desires with an experienced estate planning attorney will help ensure that your estate plan is comprehensive and legally sound.

Summary: Key Takeaways to Remember

To wrap up, here are the essential points to remember to avoid these common retirement planning mistakes:

  • Plan for health care costs: Factor in expenses like long-term care and unexpected medical bills.
  • Balance your investment portfolio: Ensure your investments align with your risk tolerance and retirement timeline.
  • Don’t neglect tax planning: Understand potential tax obligations on your retirement income.
  • Supplement social security benefits: Identify additional income sources to bolster your social security income.
  • Adopt a sustainable withdrawal rate: Use strategies like the “4% rule” to avoid depleting your savings prematurely.
  • Protect against inflation: Invest in assets that can counteract the rising cost of living.
  • Establish an estate plan: Prepare the legal mechanisms for asset distribution after your death.

Incorporating these strategies can help you avoid these common mistakes as you plan for retirement and set you on a path to a comfortable and secure retirement. If you would like to learn more about retirement planning, please visit our previous posts.

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RLT can Help with Planning for Incapacity

RLT can Help with Planning for Incapacity

Planning for potential disability and mental incapacity is part of a comprehensive estate plan. Women, in particular, are at a higher risk of becoming disabled, with 44% of women 65 and older having a disability. Most people understand the value of an estate plan. Nevertheless, few know how to that a Revocable Living Trust, or RLT, can help with planning for incapacity, as explained in the article “Incapacity Planning: The Hidden Power Of A Revocable Trust” from Financial Advisor.

Revocable Living Trusts are highly effective tools to protect assets against failing capacity. Although everyone should have both, they can be more powerful and efficient than a financial Power of Attorney. An RLT offers the freedom and flexibility to manage your assets while you can and provides a safety net if you lose capacity by naming a co-trustee who can immediately and easily step in and manage the assets.

Cognitive decline manifests in various ways. Incapacity is not always readily determined, so the trust must include a strong provision detailing when the co-trustee is empowered to take over. It’s common to require a medical professional to determine incapacity. However, what happens if a person suffering cognitive decline resists seeing a doctor, especially if they feel their autonomy is at risk?

Do you need an RLT if you already have a financial Power of Attorney? Yes, for several reasons.

You can express your intentions regarding the management and use of trust assets through the trust. A POA typically authorizes the agent to act on your behalf without specific direction or guidance. A POA authorizes someone to act on your behalf with financial transactions, such as selling a home, representing you and signing documents. The co-trustee is the only one with access to assets owned by the trust, while the POA can manage assets outside of the trust. Having both the POA and RLT is the best option.

Trustees are often viewed as more credible than a POA because RLTs are created with attorney involvement. POAs are often involved in lawsuits for fraud and elder abuse.

Suppose there is an instance of fraud or identity theft. In that case, RLTs provide another layer of protection, since the trust has its own taxpayer ID independent of your taxpayer ID and Social Security number.

Your co-trustee can be the same person as your POA.

Adding a trusted family member as a joint owner to accounts and property provides some protection without the expense of creating a trust. However, it does not create a fiduciary obligation, enforceable by law, for the joint owner to act in the original owner’s best interest. Only POAs or trustees are bound by this requirement.

Once a POA is in place, it is wise to share it with all institutions holding accounts. Most of them require a review and approval process before accepting a POA. Don’t wait until it’s needed, when it will be too late because of incapacity, to have a new one created.

If you know that planning for incapacity is in your family’s future, consider how an RLT can help. Talk with your estate planning attorney about planning to create an RLT and POA to ensure that your assets will be protected in case of incapacity. If you would like to learn more about incapacity planning, please visit our previous posts. 

Reference: Financial Advisor (Oct. 18, 2023) “Incapacity Planning: The Hidden Power Of A Revocable Trust”

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Strategies to minimize Taxes on Trusts

Strategies to minimize Taxes on Trusts

Dealing with trusts and the tax implications for those who create them, and their beneficiaries can seem confusing. Nevertheless, with the help of an experienced estate planning attorney, those issues can be managed, according to a recent article, “5 Taxes You Might Owe If You Have a Trust,” from Yahoo! Finance. There are strategies to minimize taxes on trusts.

Trusts are legal entities used for various estate planning and financial purposes. There are three key roles: the grantor, or the person establishing the trust; the trustee, who manages the trust assets; and the beneficiary, the person or persons who receive assets from the trust.

Trusts work by transferring ownership of assets from the grantor to the trust. By separating the legal ownership, specific instructions in the trust documents can be created regarding using and distributing the assets. The trustee’s job is to manage and administer the trust according to the grantor’s wishes, as written in the trust document.

Trusts offer control, privacy, and tax benefits, so they are widely used in estate planning.

There are two primary types of trusts: revocable and irrevocable. Revocable trusts are adjustable trusts that allow the grantor to make changes or even cancel during their lifetime. They avoid the probate process, which can be time-consuming and expensive, especially if assets are owned in different states. However, the revocable trust doesn’t offer as many tax benefits as the irrevocable trust.

Think of irrevocable trusts as a “locked box.” Once assets are placed in the trust, the trust can’t be changed or ended without the beneficiary’s consent. In some states, irrevocable trusts can be “decanted” or moved into another irrevocable trust, requiring the help of an experienced estate planning attorney. However, irrevocable trusts are not treated as part of the grantor’s taxable estate, making them an ideal strategy for reducing tax liabilities and shielding assets from creditors.

Trust distributions are the assets or income passed from the trust to beneficiaries. They can be in the form of cash, stocks, real estate, or other assets. For instance, if a trust owns a rental property, the monthly rental property generated by the property could be distributed to the trust’s beneficiaries.

Do beneficiaries pay taxes on distributions from the principal of the trust? Not generally. If you receive a distribution from the trust principal, it is not usually considered taxable. However, the trust itself may owe taxes on any income it generates, including interest, dividends, or rental income. The trust typically pays these before distributions are made to beneficiaries.

It gets a little complicated when beneficiaries receive distributions of trust income. In many cases, the income is taxable to the beneficiaries at their own individual tax rates. This can create a sizable tax wallop if you are in your peak earnings years.

There are strategies to minimize taxes on your trust. One approach is to structure trust distribution with a Charitable Remainder Trust, where income goes to a charity for a set number of years, and the remaining assets are then distributed to beneficiaries. An estate planning attorney will be a valuable resource, so grantors can achieve their goals and beneficiaries aren’t subject to overly burdensome taxes. If you would like to learn more about tax planning, please visit our previous posts. 

Reference: Yahoo! Finance (Sep. 27, 2023) “5 Taxes You Might Owe If You Have a Trust”

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What You Should Know about Inherited IRAs

What You Should Know about Inherited IRAs

Here’s what you should know about inherited IRAs. Inheriting an Inherited IRA can be even more complicated than the already complex world of inherited Individual Retirement Accounts (IRAs). Understanding the rules and regulations about inheriting an inherited IRA is critical to avoid major tax pitfalls, according to a recent article from yahoo! finance, “What Happens When I inherit an Annuity?”

After the passage of the SECURE Act, the rules concerning inherited IRAs became quite restrictive. Working with an estate planning attorney knowledgeable about IRAs can be the difference between a healthy inheritance or an unexpected huge tax liability.

An inherited IRA is an IRA left to a beneficiary following the death of the original account owner. The beneficiary who inherits the IRA can pass it to a successor beneficiary upon death. This creates the “inheriting an inherited IRA” scenario.

If the line of succession is not set up correctly, there is the potential for inherited assets to go through probate for a judge to rule on the rightful owner.

The original beneficiary is the first person to inherit the IRA. Once they have inherited the account, they may name their successor beneficiary. There are rules for the original beneficiary and the successor beneficiary.

The SECURE Act changed the timeline for inherited IRAs. It eliminated the “stretch” IRA strategy, which allowed beneficiaries to take distributions over their lifetime, stretching out the tax-deferred growth of the IRA over decades. Now, most non-spouse beneficiaries must withdraw all assets from an inherited IRA within ten (10) years of the original account holder’s death. This change presents new implications with regard to taxes, especially if the beneficiary is in their peak earning years.

Inheriting an inherited IRA can involve complex tax rules and pitfalls. There are timelines for taking required withdrawals and zero flexibility for mistakes.

You’ll also need to be sure the inheritance is documented correctly to avoid potential probate.

The rules differ for spouses inheriting an IRA since they shared assets with their deceased spouse. The SECURE Act allows spouses to treat the IRA as their own, providing more flexibility in distributions and potential tax implications.

Understanding the concept of Year of Death Required Distributions is essential. Let’s say the original owner was over a certain age at death. In this situation, a Required Minimum Distribution (RMD) may need to be taken in the year of death, which could impact the heir’s taxes for that year.

Knowing potential tax breaks related to inherited IRAs will also help with financial management. Non-spouse beneficiaries can deduct the estate tax paid on IRA assets when calculating their income tax.

These are complex issues requiring the help of an experienced estate planning attorney. Ideally, the attorney will help you understand what you should know about inherited IRAs. This conversation should occur while creating or revising your estate plan. If you would like to learn more about IRAs, please visit our previous posts. 

Reference: yahoo! finance (Sep. 5, 2023) “What Happens When I inherit an Annuity?”

 

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Estate Planning can be a Powerful Part of a Financial Strategy

Estate Planning can be a Powerful Part of a Financial Strategy

Estate planning can be a powerful part of a financial strategy to ensure the smooth transfer of assets to the next generation while yielding significant tax savings, as explained in a recent article, “Maximizing wealth: The power of strategic estate planning in tax savings” from Thomasville Times-Enterprise.

Estate planning generally involves arranging assets and personal affairs to facilitate an efficient transfer to beneficiaries. However, there’s a tax angle to consider. Estates are subject to various taxes, including estate, inheritance and capital gains taxes. Without a good estate plan, taxes can take a big bite out of any inheritance.

Using tax-free thresholds and deductions effectively is one way to save on taxes. Depending upon your jurisdiction, there may be a state estate tax exemption in addition to the federal estate tax exemption. By strategically distributing assets to beneficiaries or using trusts, individuals can keep the value of their estate below these thresholds, leading to reduced or eliminated estate taxes.

Equally important is planning to take advantage of allowable deductions, further decreasing the tax burden facing heirs.

Trusts are valuable tools for estate and tax planning. They offer a legal framework to hold and manage assets to benefit individuals or organizations and provide asset protection and tax advantages. A revocable living trust transfers assets seamlessly to beneficiaries without passing through probate. Irrevocable trusts shield assets from estate taxes while allowing the person who created the trust—the grantor—to direct their distribution when the trust is established.

Strategic gifting during one’s lifetime is another way wealth is transferred. Using the annual gift tax exclusion, you may gift a certain amount per person yearly without triggering gift taxes. This allows for the gradual transfer of assets, reducing the taxable estate while helping loved ones. Gifting appreciated assets can result in significant capital gains tax savings for both the person making the gift and the recipient.

Estate planning is necessary for business owners to protect a family business from being stripped of capital because of hefty estate taxes. Different ownership structures, including a Family Limited Partnership (FLP) or a Limited Liability Company (LLC) can facilitate the smooth transition of the business to the next generation, while using valuation discounts to reduce estate tax liabilities further.

Estate planning can be a powerful part of a financial strategy. Given the complexity of estate and tax laws, working with an experienced estate planning attorney, accountant, and financial advisor is essential to ensure that all aspects of an estate plan meet legal requirements. Every situation and every family is different, so the estate plan needs to be designed to meet the unique needs of the individual and their family. If you would like to learn more about tax planning, please visit our previous posts. 

Reference: Thomasville Times-Enterprise (Sep. 3, 2023) “Maximizing wealth: The power of strategic estate planning in tax savings”

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Tools to Minimize or Avoid Estate Taxes

Tools to Minimize or Avoid Estate Taxes

The tax cuts of 2017 temporarily doubled the amount individuals could give away without paying taxes. However, those cuts are due to expire in 2026, pushing well-to-do Americans to move fast, says a recent article from The Wall Street Journal, “The Moves Wealthy Families are Making to Skirt Estate Taxes.” According to recently published stats from the Internal Revenue Service, wealth transfer began to escalate in 2021, with more than $182.6 billion given away. Nearly $100 billion went into trusts, some of which can last for generations. A total of roughly $14.8 went to charity. There are tools available to minimize or avoid estate taxes.

For Americans with a net worth over $10 million, it’s urgent to consider a range of moves before these tax cuts expire. There are a number of options, from simple gifts to heirs to setting up complex dynasty trusts to protect wealth over generations. The macabre alternative is to die before these cuts expire.

The $10 million figure in the Tax Cuts and Jobs Act of 2017 was indexed for inflation. For 2023, the combined gift and estate tax exemption is $12.9 million per individual, or $25.84 million per married couple. This is the amount you may give away during your life or at death tax-free.

Next year, the amount will be adjusted to $13.61 million. For 2025, it may be as high as $14 million per person. But in 2026, it will drop by half to about $7 million.

The tax cuts expire after December 31, 2025. Anyone facing an estate tax bill who hasn’t made any preparations will likely have a somber New Year’s Eve.

A couple who transfers their full exemption amount of $28 million by 2025, before the law sunsets, will benefit from $5.6 million in tax savings, if they die in 2026. If they make a gift to grandchildren, skipping a generation, there would be nearly $9 million in tax savings.

These tax savings might become significantly larger over time. The appreciation is exempt from the transfer tax system when money grows in trusts. Therefore, if the trust value goes up to $100 million at the time of death, the family could save $40 million in estate taxes at the current 40% rate. This is just the federal tax savings. There are also state estate-tax savings in states like New York that continue to levy their own estate taxes.

According to UBS and Credit Suisse’s global wealth report, about 1.5 million Americans have a $10 million to $50 million net worth, and nearly 125,000 worth even more.

Direct gifts of cash or securities are the simplest way to make gifts to reduce your estate. The limit on annual tax-free gifts is $17,000 for 2023. It is expected to increase to $18,000 in 2024. Anyone can make tax-free gifts of up to $17,000 to an unlimited number of people. These gifts don’t count against the larger $12.92 million combined gift and estate tax exemption. Gifts made over $17,000 require reporting to the IRS using Form 709.

Making gifts to a dynasty trust can preserve more wealth for children. The trust removes the assets from both your estate and your children’s estates, benefiting children, grandchildren, and future generations.

Trusts also offer asset protection. If assets are given to children directly, and they are sued or divorced, they could lose some or all of their assets. If gifts are made to a trust, it’s harder for a creditor to go after assets in the trust.

There are tools available to minimize or avoid estate taxes. Do a careful analysis with your estate planning attorney before you design a gifting program. Make sure that you have enough to maintain your lifestyle. There are instances where people are so eager to gift their assets they don’t plan for the impact of inflation or volatile markets. If you would like to learn more about estate taxes, please visit our previous posts. 

Reference: The Wall Street Journal (Aug. 19, 2023) “The Moves Wealthy Families are Making to Skirt Estate Taxes”

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Avoid a Tax Nightmare with your Trust

Avoid a Tax Nightmare with your Trust

The other message is to be certain that the person serving as a trustee has the knowledge to administer the trust properly or the wisdom to retain an experienced estate planning attorney who will know how to administer a trust. Avoid a tax nightmare with your trust with the correct forms. Not every CPA has detailed knowledge about trust taxation, reports the recent article, Trust’s Incorrect Tax Form Forfeited large Tax Refund Claim: A Lesson For Trustees,” from Forbes.

For income tax purposes, there are several types of trusts. “Grantor trusts” are those whose income is taxed to the person, the settlor, who created the trust. The trust at issue was a grantor trust. However, when the taxpayer who created the trust died, the trust became a non-grantor trust. These are also called “complex” trusts. The income is not reported by the person creating the trust. Complex trusts usually pay their own income taxes. The beneficiaries receiving distributions then report the income for tax purposes included in the income received from the trust. This is referred to as the trust’s Distributable Net Income or “DNI.”

In this case, the trust is the remainder trust after the termination of a Qualified Personal Residence Trust or “QPRT.” This is a trust used to transfer a valuable house from the taxpayer’s estate to descendants or to a trust for them at a discount from the trust’s current value.

The trust had income to report for income tax purposes, which will be done on Form 1041, U.S. Income Tax Return for Estates and Trusts. The trust felt it was entitled to a refund of some of the taxes it paid, so it filed for a refund. Refund claims are supposed to be filed by amending the trust income tax return, but the trust filed Form 843, a form to claim a refund. The wrong form led the Court to determine that the trust failed to take appropriate action, and the refund was lost. The trust’s filing did put the IRS on notice that the claim was the wrong action.

The IRS said the taxpayer’s filing of Form 843 was insufficient as a formal claim because an amended Form 1041 is the proper form. The Court found that the IRS is authorized to demand information in a particular form and to insist that the form is observed. The instructions on Form 853 advise that the form is for a refund of taxes other than income tax, while the instructions on Form 1041 indicate that it must be used to claim a refund.

What happened in this case? Someone managing the trust didn’t know enough about trust taxation. The family may not have had regular meetings with their estate and trust attorney who created the trust. The deceased taxpayer in this case was a judge, and the trustee was the son of the judge. The taxpayer died in 2015, and the house was sold for $1.8 million the next year. The IRS demanded $930,127 in taxes, penalties, and interest from the Trust. The Trust paid that amount assessed on September 24, 2021. The court opinion was handed down on August 7, 2023. The amount of costs in accounting and legal fees must have been enormous.

This is an excellent example of why families need to have regular, ongoing meetings with their estate planning attorneys and tax advisors to be sure everyone is on the same page. Annual reviews and an estate planning attorney focusing on trust taxation could avoid a tax nightmare with your trust. It would have saved this family money, time, and the stress of an unresolved IRS issue. If you would like to learn more about taxation in estate planning, please visit our previous posts. 

Reference: Forbes (Aug. 19, 2023) Trust’s Incorrect Tax Form Forfeited large Tax Refund Claim: A Lesson For Trustees”

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Information in our blogs is very general in nature and should not be acted upon without first consulting with an attorney. Please feel free to contact Texas Trust Law to schedule a complimentary consultation.
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