What Is the Proposed IRS Anti-Clawback Provision?

IRS Anti-Clawback Provision – The proposed amendment is designed to fix some loopholes in a 2019 regulation passed in response to the 2017 Tax Cuts and Jobs Act. The 2017 law doubled the value of the estate and gift tax exemption until December 31, 2025, when it goes from $12.06 million to $5.49 million. According to this recent article from Financial Advisor titled “Amending The IRS’s Anti-Clawback Provision on Gifting,” the law generated concern among those who wanted to make large gifts to take advantage of the historically high federal estate and gift tax exemption.

The concern was whether the IRS would attempt to clawback the taxes, if the taxpayer died after 2025. This is when the estate tax reverts back to a much lower number. A regulation was issued in 2019 to reassure taxpayers and explain how they could take advantage of the high exemption as long as they made gifts before 2026, regardless of the exemption at the time of their death.

The IRS recognized this as a good step. However, it had a loophole and hence the new proposed amendment. The amendment provides clarity on what constitutes an actual gift. If the donor garners a benefit from the gift or maintains control over the gift, is it really a gift?

Giving the gift of a promissory note worth $12.06 million to lock in the high exemption and leaving it unpaid until death, for instance, is not a gift. The person is not actually giving anything away until after death. Therefore, the note is part of the taxable estate and bound by the estate tax exemption amount in place at the day of death.

The same goes for a person who gives ownership interests in a limited liability company, while continuing to serve as the company’s manager. Taxpayers must be very careful not to mischaracterize their gifts to stay on the right side of this regulation.

Another example: let’s say a person puts a $12 million vacation home into an LLC, with clear directions for home to be kept in the family, and then makes gifts of the LLC ownership interests to the children. If the donor wants those gifts to max out the current $12.06 million exemption, rather than be subject to the lower exemption in place at the date of death, the owner should not be the manager of the LLC. The same goes for the owner living rent-free in any property he’s gifted to anyone, if the wish is to take advantage of the gifting exemption.

In the same way, a mother who places money into a trust fund for a child may not serve as a trustee and control the assets and distributions, if she wishes to take advantage of the tax benefit.

If your estate plan uses grantor annuity trusts (GRATs), Grantor Retained Income Trusts (GRITs) and qualified personal residence trusts (QPRTs), speak with your estate planning attorney. If you die during the annuity period or term of the trust, your estate may lose the benefit of the anti-clawback regulation.

If the amendment is approved, which is expected in late summer, make sure your estate plan follows the new guidelines. If you are truly giving gifts before 2026, you will likely be able to take advantage of this substantial tax benefit and pass more of your estate to your heirs.

Reference: Financial Advisor (May 27, 2022) “Amending The IRS’s Anti-Clawback Provision on Gifting”

 

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Is a Roth Conversion a Good Idea when the Market Is Down?

A stock market downturn may be a prime time for a Roth IRA conversion, reports CNBC’s recent article titled “Here’s why a Roth individual retirement account conversion may pay off in a down market.” This is especially true if you were considering a Roth conversion and never got around to it.

A Roth conversion allows higher earners to sidestep earnings limits for Roth IRA contributions, which are capped at $144,00 MAGI (Modified Adjusted Gross Income) for singles and $214,000 for married couples filing jointly in 2022.

Investors make non-deductible contributions to a pre-tax IRA, before converting funds to a Roth IRA. The tradeoff is the upfront tax bill created by contributions and earnings. The bigger the pre-tax balance, the more taxes you’ll pay on the conversion. However, the current market may make this a perfect time for a Roth conversion.

Let’s say you own a traditional IRA worth $100,000, and its value drops to $65,000. Ouch! However, you can save money by converting $65,000 to a Roth instead of $100,000. You’ll pay taxes on the $65,000, not $100,000.

According to Fidelity Investments, the first quarter of 2022 saw Roth conversions increase by 18%, compared to the first quarter of 2021. That was before the second quarter’s market volatility, which has been more dramatic.

The decision to do a Roth conversion can’t take place in a vacuum. Consider how many years of tax savings it will take to break even on the upfront tax bill. Weigh combined balances across any other IRA accounts, because of the “pro-rata rule,” which factors in your total pre-tax and after-tax funds to determine your tax costs.

Attractive features of the Roth IRA are the freedom to take—or not take—distributions when you want, and there are no taxes on the withdrawals. However, there is an exception, and it pertains to conversions—the five year rule.

If you do a conversion from a traditional IRA to a Roth IRA, you have to wait five years before making any withdrawals of the converted balance, regardless of your age. It’s an expensive mistake, with a 10% penalty. The clock begins running on January 1 of the year of the conversion. If you are close to retirement and will need funds within that timeframe, you’ll need other assets to live on.

However, there’s more. If the conversion increases your Adjusted Gross Income (AGI), it may create other issues. Medicare Part B calculates monthly premiums using Modified Adjusted Gross Income (MAGI) from two years prior, which means a higher income in 2022 will lead to higher Medicare bills in 2024.

Before doing a Roth conversion, evaluate your entire financial and retirement situation.

Reference: CNBC (May 10, 2022) “Here’s why a Roth individual retirement account conversion may pay off in a down market”

 

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Read more about the article Is Succession Planning Necessary for Family Business Entities?
Colleagues Applauding Senior Businessman ca. 2003

Is Succession Planning Necessary for Family Business Entities?

Failing to have a succession plan is often the reason family businesses do not survive across the generations. Creating, designing and implementing a succession plan can protect the family’s legacy, according to the article “Planning for Success: How to Create a Suggestion Plan” from Westchester & Fairfield County Business Journals.

Start by establishing a vision for the future of the business and the family. What are the goals for the founder’s retirement? Will the business need to be sold to fund their retirement? One of the big questions concerns cash flow—do the founders need the business to operate to provide ongoing financial support?

Next, lay the groundwork regarding next generation management and the personal and professional goals of the various family members.

Several options for a successful exit plan include:

  • Family succession—Transferring the business to family members
  • Internal succession—Selling or transferring the business to one or more key employees or co-workers or selling the company to employees using an Employee Stock Ownership Plan (ESOP)
  • External succession—Selling the business to an outside third party, engaging in an Initial Public Offering (IPO), a strategic merger or investment by an outside party.

Once a succession exit path is selected, the family needs to identify successors and identify active and non-active roles and responsibilities for family members. Decisions need to be made about how to manage the company going forward.

Tax planning should be a part of the succession plan, which needs to be aligned with the founding member’s estate plan. How the business is structured and how it is to be transferred could either save the family from an onerous tax burden or generate a tax liability so large, as to shut the company down.

Many owners are busy with the day-to-day operations of the business and neglect to do any succession planning. Alternatively, a hastily created plan skipping goal setting or ignoring professional advice occurs. The results are bad either way: losing control over a business, having to sell the business for less than its true value or being subject to excessive taxes.

Every privately held, family-owned business should have a plan in place to establish what will happen if the owners die or become incapacitated.

An estate planning attorney who has experience working with business owners will be able to guide the creation of a succession plan and ensure that it works to complement the owner’s estate plan. With the right guidance, the business owner can work with their team of professional advisors to ensure that the business continues over the generations.

Reference: Westchester & Fairfield County Business Journals (March 31, 2022) “Planning for Success: How to Create a Suggestion Plan”

 

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What are the New IRA Distribution Rules?

Many of the proposed distribution rules, which will be subject to further action in late spring, depend upon whether or not the original IRA owner died before or after the appliable required beginning date for distributions. As explained in the article “The Internal Revenue Service (IRS) Issues Proposed Minimum Distribution Rules” from The National Law Review, the age changed as a result of the SECURE Act, to 72.

Spousal Beneficiaries. If the spouse of the deceased IRA owner is the sole designated beneficiary and elects not to rollover the distribution, the surviving spouse may take RMDs over the deceased’s life expectancy. However, if the owner died before their required beginning date and the spouse is the sole beneficiary, the spouse may opt to delay distributions until the end of the calendar year in which the owner would have turned 72.

If the decedent died after turning 72, the annual distributions are required for all subsequent years and the spouse may take distributions over the longer remaining life expectancy.

Minor Children Beneficiaries. If the beneficiary of the IRA is a minor child, under age 21, annual distributions are required using the minor child’s life expectancy. When the minor turns 21, they must take annual distributions and the account must be fully distributed ten years after the child’s 21st birthday.

Adult Children Beneficiaries. If the account owner dies after their required beginning date (age 72), an adult child who is a beneficiary must take annual distributions based on the beneficiary’s life expectancy. The account must be completely emptied within ten years of the original IRA owner’s death.

This applies only to adult children who are beneficiaries and are not disabled or chronically ill. Disabled or chronically ill adult children fall into a different category under the SECURE Act, with different distribution rules.

Special Rules for Roth IRAs. The benefits of Roth IRA accounts remain. There are no minimum distributions from a Roth IRA while the account owner is still living. After the death of the Roth IRA owner, the required minimum distribution rules apply to the Roth IRA, as if the Roth IRA owner died before their required beginning date.

If the sole beneficiary is the Roth IRA owner’s surviving spouse, the surviving spouse may delay distribution until the decedent would have attained their beginning distribution date.

If you own IRAs or other retirement accounts, speak with your estate planning attorney to determine if you need to update your estate plan. There are strategies to protect heirs from the significant tax liabilities these changes may create.

Reference: The National Law Review (March 25, 2022) “The Internal Revenue Service (IRS) Issues Proposed Minimum Distribution Rules”

 

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Can I Use a Roth IRA in Estate Planning?

There are a number of reasons to consider Roth IRA ‘s as part of your estate planning efforts, says Think Advisor’s recent article entitled “How and Why to Use Roth IRAs in Estate Planning.” Let’s take a look:

One of the biggest estate planning benefits of a Roth IRA is the fact that there are no required minimum distributions or RMDs. This is a big estate planning tool and lets the money in the Roth grow tax-free for the benefit of a surviving spouse or other beneficiaries. This also eliminates the taxes that would otherwise need to be paid on these distributions.

Because the rules for inherited IRAs for most non-spousal beneficiaries under the Setting Every Community Up for Retirement Enhancement (Secure) Act went into effect at the beginning of 2020, Roth IRAs have become a very viable estate planning tool because beneficiaries who aren’t classified as eligible designated beneficiaries must withdraw the entire amount of their inherited IRA within 10 years of inheriting it. The Act eliminated the ability to “stretch” inherited IRAs for IRAs inherited prior to 2020 for most non-spousal beneficiaries.

For inherited traditional IRAs, the whole amount will be taxed within 10 years of inheriting. The 10-year rule also applies to inherited Roth IRAs. However, if the original account owner satisfied the five-year requirement prior to his or her death, the withdrawals from the inherited Roth IRA are tax-free. It makes a Roth a beneficial estate planning tool because taxes that are bunched into a 10-year period can substantially erode the value of an inherited traditional IRA.

For those who already have a Roth, they’re set in terms of their spouse being able to inherit the account and use it as their own. For non-spousal beneficiaries, there’s a five-year rule. For those with a Roth 401(k), it’s important to roll this account over to a Roth IRA once you leave your employer to avoid RMDs.

For those who are eligible to do so, contributing to a Roth IRA each year can help you build a Roth balance to pass on to your beneficiaries. For those who have access to a Roth 401(k) account with an employer-sponsored plan or a solo 401(k) for the self-employed, contributing to a Roth 401(k) can offer a higher contribution limit with no income restrictions, when compared to a Roth IRA. The amount in the Roth 401(k) can later be rolled over to a Roth IRA with no tax consequences, which also avoids RMDs.

A Roth IRA conversion is a strategy to looking at for passing IRA assets to non-spousal beneficiaries, either directly or as contingent beneficiaries upon the death of a surviving spouse. It’s a good way for you to prepay taxes for beneficiaries. Beyond prepaying the taxes, the five-year rule can come into play if you didn’t previously have a Roth IRA.

Whether a Roth IRA conversion makes sense as an estate planning tool depends on several variables, including your current tax situation, your age and the taxes that would be incurred by the conversion. Roth IRAs have many potential benefits as a planning tool. With the Secure Act and the changing tax and estate landscape, a Roth IRA can play a key role in your estate planning in the right circumstances. Ask an experienced estate planning attorney about whether it’s right for you.

Reference: Think Advisor (November 9, 2021) “How and Why to Use Roth IRAs in Estate Planning”

 

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What is the Purpose of an ILIT?

ILIT – Life insurance falls into two categories: life insurance and death insurance. Life insurance is used to take advantage of the tax-free returns that qualifying insurance products enjoy under federal income tax laws. There is a death component. However, the main purpose is to serve as a tax-deferred investment vehicle. Death insurance is used to provide financial security for loved ones after the owner passes, with little or no regard for tax and investment benefits.

Using both types of life insurance in estate planning can be a complicated process, but the resulting financial security is well worth the effort, as reported in a recent article “Keeping an Eye on ILITs” from Financial Advisor.

The Irrevocable Life Insurance Trust is a somewhat complex trust structured under state trust law and tax strategies under federal income tax laws. ILITs have been tested in court cases, audits and private letter rulings, so an estate planning attorney can create an ILIT knowing it will serve its intended purpose.

Life insurance in an ILIT is owned outside of the estate and enhances the after-estate tax wealth for the surviving spouse and heirs. Because the trust is irrevocable, the transfer of ownership is permanent.

The annual insurance premium is typically paid by the insured to the ILIT, subject to “Crummey” withdrawal powers, named after a famous case, which gives named people the power to withdraw all or a portion of the contributed premium amounts within specified periods. The time frame depends on the trust—usually it’s 30 or 60 days, but sometimes it’s annually.

There are many nuances and details.  The ILIT lets an insured buy life insurance “outside of their estate” for estate tax purposes, lets the person treat insurance premiums as non-taxable gifts under the annual exclusion provisions and provides safety and security to the beneficiaries.

The ILIT is often used as part of a buy-sell agreement for privately held family businesses to make it possible for the business itself or business partners to buy out the equity of a deceased partner. The payment obligations may be funded by the proceeds from life insurance. In some cases, each partner buys a traditional insurance policy in an ILIT. The estate planning attorney working on a succession plan can provide advice on the most effective way to use the ILIT.

Another use for the ILIT is for wealthy families with illiquid assets, like an art collection or a large real estate portfolio. An ILIT holding a life insurance policy with a death benefit lets the beneficiaries use the proceeds to pay estate tax liabilities, without dipping into their own or the estate’s assets. The investment returns of the ILIT increase the policy owner’s wealth substantially, without increasing their taxable estate.

Reference: Financial Advisor (December 1, 2021) “Keeping an Eye on ILITs”

 

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Caregiving – How Do I Handle Mom’s Healthcare Needs as She Ages?

Livestrong’s recent article entitled “5 Tips for Handling a Loved One’s Medical Needs as They Age” gives us direction on how to assume the medical caregiving of an aging parent or other loved one who can no longer make his or her own medical decisions.

  1. Prepare. Make certain that all your loved one’s legal affairs are in order, while they’re still healthy and able to make sound decisions. This means signing a health care proxy or power of attorney for health care. Ask an experienced elder law attorney to help them create a legal document that allows the proxy to talk to their loved one’s healthcare team and to access medical records, if the loved one can’t make medical decisions for themselves.

Your loved one should also create a living will that describes specific medical treatments he or she may or may not want.

  1. Go with Your Loved One to Their Medical Visits. Plan to attend their doctor appointments together, even for those who aren’t incapacitated.
  2. Make Certain that Info is Shared Among All Medical Providers. Don’t assume members of your loved one’s medical team are communicating with each other. Keep track of tests, diagnoses and treatments and share the information with your loved one’s health caregiving providers. Compile a complete list of all over-the-counter and prescription medications, supplements and vitamins your loved one is taking to each office visit.
  3. Keep Your Loved One Engaged. Make sure that you understand your loved one’s values and wishes in any situation, so you can make the best decisions about their care. That may entail asking them to write down questions for the doctor before an appointment and having honest conversations with them about their condition and how it’s impacting their quality of life.

This is especially important if you’re discussing hospice or palliative caregiving. In managing their health care, you need to respect their wishes.

  1. Switch Doctors if You Need To. If your loved one’s physicians don’t return calls, seem to be in hurry and distracted during appointments or they dismiss the concerns of either you or your loved one, get a second opinion. If you have a disagreement with a medical provider about your loved one’s treatment plan, schedule a separate appointment to discuss your issues.

Reference: Livestrong (Nov. 9, 2021) “5 Tips for Handling a Loved One’s Medical Needs as They Age”

 

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Handling Guilt When Moving Loved One to Assisted Living Versus Nursing Home

Just 5% said they wanted to be cared for in an assisted living community, and only about 13% actually moved into a community.

McKnight’s Senior Living’s recent article entitled “Family feels less guilt when loved one moves to assisted living versus nursing home: study” says that a family that moved an older adult into assisted living reported having greater feelings of guilt related to that move due to limits in their ability to provide assistance (35%) compared with providing care at home (22%), moving an older adult into a caregiver’s home (15%), or moving an older adult to an adult day facility (9%). However, the feelings of guilt were more for families with loved ones that moved into nursing homes(40%).

The pandemic increased the belief in the importance of early planning. About a third (29%) of respondents in 2021 said they believed in long-term care insurance, compared with 15% in 2018. However, the number of people who actually bought long-term care insurance hasn’t changed significantly (14% as in 2018). The study points out that insurance impacts where care is delivered. Owners of long-term care insurance (25%) were significantly more likely than non-owners (11%) to receive care in an assisted living community, where, researchers said, residents may have more space and better accommodations than what typically is provided in nursing homes.

Compared with 2018, family caregivers were more likely to use professionals when looking for support and knowledge about caregiving options. This included social workers (23% of respondents said they used them in 2021; compared to just 18% in 2018), financial professionals (20% from 17%), and attorneys or elder law specialists (11% up from 7%). The primary “helpful” resources for family caregivers in 2021 were television programs (70%), internet-based social networks (68%), attorneys or elder law specialists (66%), financial advisers (65%) and nonprofit groups (61%).

However, the average time families spent researching professional caregivers dropped from 7.6 hours in 2018 to 6.8 hours in 2021. Overall, the study found longer lifespans and more demand for complex care are complicating caregiving. Care needs are more severe and longer lasting compared with 2018 study results, the researchers found.

According to the most recent research, about half (49%) of care recipients need assistance with all activities of daily living. That’s an increase from 39% in 2018. And the average duration of care needed rose from 3 years to 3½ years.

Seniors also have more age-related limitations (47% had such limitations in 2021, up from 44% in 2018), cognitive impairments (32%, up from 26%) and accidents requiring rehabilitation (23%, up from 21%).

Reference: McKnight’s Senior Living (Nov. 2, 2021) “Family feels less guilt when loved one moves to assisted living versus nursing home: study”

 

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How Can I Conduct a Family Meeting about Family Wealth Planning?

Kiplinger’s recent article entitled “It’s Never Too Late for a Family Meeting – Here’s How to Do Them Well” emphasizes that no matter the amount of wealth that a family has, wealth education is crucial to overall financial education, preparing for the future and to becoming a good steward of an inheritance.

Family meetings are a great way of bringing members of a family together with a goal of facilitating communication and education. This allows for sharing family stories, communicating values, setting goals to help ensure transparency and helping members across generations understand their roles around stewardship and wealth.

Here are some ideas on how to have an effective family meeting:

Prepare. The host of the meeting should spend time with each participating family member to help them understand the reason for the meeting and learn more about their expectations. There should be a desire and commitment from the participants to invest time and effort to make family meetings a success.

Plan. Create a clear agenda that defines the purpose and goals of each meeting. Share this agenda with participants before the meeting. Select a neutral location that makes everyone comfortable and encourages participation.

Have time for learning. Include an educational component in the agenda, such as an introduction to investing, estate planning, budgeting and saving, or philanthropy.

Have a “parking lot.” Note any topics raised that might need to be addressed in a future meeting.

Use a facilitator. Perhaps have a trusted adviser facilitate the meeting. This can help with managing the agenda, offering a different perspective, calming emotions and making certain that everyone is heard and understood.

Follow up. Include some to-do’s and schedule the next meeting to set expectations about continuing to bring the family together.

Reference: Kiplinger (Sep. 1, 2021) “It’s Never Too Late for a Family Meeting – Here’s How to Do Them Well”

 

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