DEAR TRUST OFFICER:
Do you think home prices have reached a bottom? Is a house a good investment again?
—HOPEFUL HOMEOWNER
DEAR HOPEFUL:
One key measure that many experts look to for gauging the health of the housing market is the S&P/Case-Shiller 20-city home-price index. Data for the latest available month, August 2009, showed an overall increase of 1.2% from month-earlier levels, the fourth straight monthly rise. That’s good news.
Sunday, November 1, 2009
Year-end planning: Questions for you and your financial advisor
As another year comes to a close, you will have the chance to make many decisions that affect your financial well-being in the year ahead. In particular, these last months are the last chance that you will have for moves that will alter your 2009 tax obligations. This year’s financial market roller coaster may make this unusually complicated for some taxpayers.
• Should you take additional capital gains or losses? As you review your investment activity for 2009, note any additional sales that seem appropriate from an investment standpoint—then check with your
• Should you take additional capital gains or losses? As you review your investment activity for 2009, note any additional sales that seem appropriate from an investment standpoint—then check with your
Munis still looking good, despite new risks
Historically, municipal bonds have been the Mr. Rogers of investment options: a gentle, risk-free, tax-exempt way to protect wealth.
Then came the fourth quarter of 2008, with its stock market crash and Round One of fed-eral government bailouts. Distressed institutional investors pulled out of the muni market, mak-ing the problem worse.
A rocky road
This year, rising unemployment derailed state income tax revenue streams, and the resulting con-sumer cutback has harmed sales tax flows. California headlines have declared that the state is teetering on
Then came the fourth quarter of 2008, with its stock market crash and Round One of fed-eral government bailouts. Distressed institutional investors pulled out of the muni market, mak-ing the problem worse.
A rocky road
This year, rising unemployment derailed state income tax revenue streams, and the resulting con-sumer cutback has harmed sales tax flows. California headlines have declared that the state is teetering on
The “Jewish clause”
Americans are free to dispose of their property at death in any manner that they see fit, as a general rule (with the exception that a surviving spouse may not be disinherited). There is no requirement, for example, that children or grandchildren be treated fairly, or even rationally. On the other hand, conditions on an inheritance that have the tendency to induce spouses to get divorced or live apart are void because they are against public policy, and so will not be enforced. The Illinois Supreme Court was recently called upon to balance these two competing interests.
Max Feinberg’s will established two trusts for his wife, Erla, for her life. By so doing, he secured for the family the benefit of two exemptions from the federal estate tax. At Erla’s death the trusts were to
Max Feinberg’s will established two trusts for his wife, Erla, for her life. By so doing, he secured for the family the benefit of two exemptions from the federal estate tax. At Erla’s death the trusts were to
Thursday, October 1, 2009
Should your IRA take a tax haircut?
In the debate over which is better—the immediate tax deduction for contributing to a traditional IRA or the potential for tax-free income from a Roth IRA—the answer tends to turn on one’s assumptions about tax rates. Conventionally, one expects to be in a lower tax bracket during retirement, perhaps dramatically so. That favors the traditional IRA. These days, however, those at higher income levels have been told repeatedly that their tax rates will be going up in the future, perhaps sharply. If so, the advantage shifts to the Roth IRA.
Those who are convinced that they will face higher tax rates in the future may want to consider converting their traditional IRAs to Roth IRAs, locking in at today’s relatively lower income tax rates. Conveniently, Congress has made that possible for everyone, beginning January 1, 2010.
For 2009, only those whose adjusted gross income does not cross the $100,000 barrier (single or married filing jointly) are eligible to convert to Roth IRA status. The income cap comes off January 1, 2010.
What’s more, taxpayers who make the conversion during 2010 have an additional choice. The amount of the conversion may be reported as taxable income for the 2010 tax year, or 50% may be reported in 2011 and the remaining 50% in 2012. Normally, deferring the payment of a tax obligation is greatly to be desired. However, the 2011 and 2012 tax rates will be the ones applied to the deferral, so if those rates are raised, the delay could boost the ultimate tax obligation.
In addition to the possibility of tax-free account growth, the Roth IRA is exempt from the required minimum distributions at age 70½ that apply to traditional IRAs. Roth accounts give the retiree maximum flexibility in shaping and controlling income tax obligations during the year.
The estate planning dimension
Paying income tax on a large account all in one year is quite a haircut, one that will present an understandable psychological hurdle to many. One way to get over the hurdle may be to consider the estate tax savings that go with the conversion to the Roth IRA.
Imagine that Doris has a $500,000 IRA, that her income puts her in a 40% combined federal and state income tax bracket, that she is unmarried (so her estate won’t get a marital deduction) and that she will be in the top federal estate tax bracket at her death. The IRA will pass to a grandchild.
If Doris does nothing, the federal estate tax on the IRA will be $300,000. State death taxes may apply as well, depending upon where Doris lives. Despite that reduction in account value, distributions from the IRA to the grandchild will be taxable income,
further reducing the financial benefit of the account.
If Doris converts the IRA to a Roth IRA, paying $200,000 in income taxes, her taxable estate will be reduced by that same amount. That’s a $120,000 reduction in estate tax exposure. What’s more, the Roth IRA distributions to the grandchild will be tax free for life.
Think of it this way. If you paid your child’s income taxes, you’d be making a taxable gift. When you prepay the income tax by converting a traditional IRA to a Roth IRA, you are making an enormous tax-free gift to the account beneficiary. And there’s no limit on how large the gift can be.
Downsides
The conversion of a traditional IRA to a Roth IRA triggers a new five-year holding period to avoid tax penalties, so those with an immediate need for the money may want to consider partial conversions instead. A wide variety of credits and deductions may be affected by the conversion decision, so it’s important to get professional tax advice before moving ahead.
Still, it’s not too soon to be looking at your choices and developing a plan that meets your needs and those of your family. N
(October 2009)
© 2009 M.A. Co. All rights reserved.
Those who are convinced that they will face higher tax rates in the future may want to consider converting their traditional IRAs to Roth IRAs, locking in at today’s relatively lower income tax rates. Conveniently, Congress has made that possible for everyone, beginning January 1, 2010.
For 2009, only those whose adjusted gross income does not cross the $100,000 barrier (single or married filing jointly) are eligible to convert to Roth IRA status. The income cap comes off January 1, 2010.
What’s more, taxpayers who make the conversion during 2010 have an additional choice. The amount of the conversion may be reported as taxable income for the 2010 tax year, or 50% may be reported in 2011 and the remaining 50% in 2012. Normally, deferring the payment of a tax obligation is greatly to be desired. However, the 2011 and 2012 tax rates will be the ones applied to the deferral, so if those rates are raised, the delay could boost the ultimate tax obligation.
In addition to the possibility of tax-free account growth, the Roth IRA is exempt from the required minimum distributions at age 70½ that apply to traditional IRAs. Roth accounts give the retiree maximum flexibility in shaping and controlling income tax obligations during the year.
The estate planning dimension
Paying income tax on a large account all in one year is quite a haircut, one that will present an understandable psychological hurdle to many. One way to get over the hurdle may be to consider the estate tax savings that go with the conversion to the Roth IRA.
Imagine that Doris has a $500,000 IRA, that her income puts her in a 40% combined federal and state income tax bracket, that she is unmarried (so her estate won’t get a marital deduction) and that she will be in the top federal estate tax bracket at her death. The IRA will pass to a grandchild.
If Doris does nothing, the federal estate tax on the IRA will be $300,000. State death taxes may apply as well, depending upon where Doris lives. Despite that reduction in account value, distributions from the IRA to the grandchild will be taxable income,
further reducing the financial benefit of the account.
If Doris converts the IRA to a Roth IRA, paying $200,000 in income taxes, her taxable estate will be reduced by that same amount. That’s a $120,000 reduction in estate tax exposure. What’s more, the Roth IRA distributions to the grandchild will be tax free for life.
Think of it this way. If you paid your child’s income taxes, you’d be making a taxable gift. When you prepay the income tax by converting a traditional IRA to a Roth IRA, you are making an enormous tax-free gift to the account beneficiary. And there’s no limit on how large the gift can be.
Downsides
The conversion of a traditional IRA to a Roth IRA triggers a new five-year holding period to avoid tax penalties, so those with an immediate need for the money may want to consider partial conversions instead. A wide variety of credits and deductions may be affected by the conversion decision, so it’s important to get professional tax advice before moving ahead.
Still, it’s not too soon to be looking at your choices and developing a plan that meets your needs and those of your family. N
(October 2009)
© 2009 M.A. Co. All rights reserved.
Is it over?
October 1, 2009. Speaking on the anniversary of the collapse of Lehman Brothers, Fed Chairman Ben Bernanke said that from a technical perspective, “The recession is very likely over at this point.” He cautioned, however, that the economy may remain weak. In its final meeting of the quarter, the Fed seemed to confirm that view, suggesting that economic activity had “picked up.”
Still, short-term interest rates were left unchanged. Stock markets were in agreement, as the recovery in the Dow Jones Industrial Average off its March low has been spectacular.
Unemployment
Employment tends to be a lagging indicator for economic recoveries, which is why no one expects much good news on this front for the rest of the year. But the bad news just seems to keep on coming.
• Nationally, unemployment hit 9.7% in August, the highest level in 26 years.
• Teen unemployment was at 25.5%, the highest rate since the Bureau of Labor Statistics began breaking out this figure in 1948.
• California’s unemployment reached a 70-year high. El Centro, California, recorded an astounding 30.2% jobless rate in July.
• The broader measure of unemployment, one that accounts for those who have given up on looking for work, reached 16.8% in August. That’s the highest since this measure was adopted in 1994.
Hopefully, the lag between the end of the recession and a return of job growth won’t be too long, or the recovery will be short-lived.
Given these grim statistics, it’s not surprising that the housing market continues to struggle. Some 7.58% of home mortgages were at least 30 days late on payments in August, a record. About 1.5 million mortgages are in the early stages of foreclosure, and another 1.2 million are in limbo—the borrower is in serious default, but the bank hasn’t begun foreclosure proceedings.
Inflation
In the fiscal year that ended September 30, the federal government issued a total of $7 trillion in bonds. Net borrowing needs were $1.7 trillion, nearly $1 trillion more than in the final year of the Bush presidency.
Many observers expected that the borrowings would have an inflationary impact, but there is no sign of that to date. Perhaps the poor employment numbers and slack in the economy are responsible. For the 12 months that ended August 31, the Consumer Price Index (CPI) was down 1.5%. Health care costs are rising relentlessly, but otherwise inflation remains tamed.
Some CPI components:
% change
Food at home -1.6
Food away from home 3.0
Gasoline -30.0
New vehicles 0.5
Used cars and trucks -5.4
Medical care services 3.2
Energy
The upside of higher oil prices is that it stimulates more exploration. Good news—more than 200 discoveries of oil and gas deposits already have been announced this year. Roughly 10 billion barrels of oil were discovered in the first half of the year. At that pace we could reach the best rate of discoveries since 2000.
However, much of the newly found oil is only worth recovering when the price of oil is $60 per barrel or more. The fact that the price fell to $34 per barrel last December worries some oil executives, especially when coupled with continuing U.S. economic weakness.
(October 2009)
© 2009 M.A. Co. All rights reserved.
Still, short-term interest rates were left unchanged. Stock markets were in agreement, as the recovery in the Dow Jones Industrial Average off its March low has been spectacular.
Unemployment
Employment tends to be a lagging indicator for economic recoveries, which is why no one expects much good news on this front for the rest of the year. But the bad news just seems to keep on coming.
• Nationally, unemployment hit 9.7% in August, the highest level in 26 years.
• Teen unemployment was at 25.5%, the highest rate since the Bureau of Labor Statistics began breaking out this figure in 1948.
• California’s unemployment reached a 70-year high. El Centro, California, recorded an astounding 30.2% jobless rate in July.
• The broader measure of unemployment, one that accounts for those who have given up on looking for work, reached 16.8% in August. That’s the highest since this measure was adopted in 1994.
Hopefully, the lag between the end of the recession and a return of job growth won’t be too long, or the recovery will be short-lived.
Given these grim statistics, it’s not surprising that the housing market continues to struggle. Some 7.58% of home mortgages were at least 30 days late on payments in August, a record. About 1.5 million mortgages are in the early stages of foreclosure, and another 1.2 million are in limbo—the borrower is in serious default, but the bank hasn’t begun foreclosure proceedings.
Inflation
In the fiscal year that ended September 30, the federal government issued a total of $7 trillion in bonds. Net borrowing needs were $1.7 trillion, nearly $1 trillion more than in the final year of the Bush presidency.
Many observers expected that the borrowings would have an inflationary impact, but there is no sign of that to date. Perhaps the poor employment numbers and slack in the economy are responsible. For the 12 months that ended August 31, the Consumer Price Index (CPI) was down 1.5%. Health care costs are rising relentlessly, but otherwise inflation remains tamed.
Some CPI components:
% change
Food at home -1.6
Food away from home 3.0
Gasoline -30.0
New vehicles 0.5
Used cars and trucks -5.4
Medical care services 3.2
Energy
The upside of higher oil prices is that it stimulates more exploration. Good news—more than 200 discoveries of oil and gas deposits already have been announced this year. Roughly 10 billion barrels of oil were discovered in the first half of the year. At that pace we could reach the best rate of discoveries since 2000.
However, much of the newly found oil is only worth recovering when the price of oil is $60 per barrel or more. The fact that the price fell to $34 per barrel last December worries some oil executives, especially when coupled with continuing U.S. economic weakness.
(October 2009)
© 2009 M.A. Co. All rights reserved.
GRATs
The Grantor Retained Annuity Trust (GRAT) has been getting quite a bit of attention from estate planners recently. The reason is that low market interest rates create a window of opportunity for passing assets to heirs without incurring much, if any, estate or gift tax.
The GRAT is established for a set number of years. During the term of the trust, the grantor is paid an annuity, a fixed dollar amount, every year. When the trust terminates, the assets left in the trust pass to the grantor’s heirs. A gift tax, due when a GRAT is funded, is imposed upon the actuarial value of what the heirs will receive when the trust terminates. Estate planners can use two factors to reduce that tax exposure almost to zero: They can lengthen the term of the GRAT, or they can increase the annuity retained by
the grantor.
The value of the retained income interest and the value of the remainder for the heirs must take current interest rates into account. If the trust earns more than the IRS tables predict it will earn, the excess will pass to the heirs free of estate or gift tax. During a period of very low interest rates, such as we have today, the chance of beating the IRS interest rate is very good.
On the other hand, if the trust’s investments underperform, it may be exhausted before the end of the term, leaving nothing for the heirs. Finally, if the grantor dies before the trust comes to an end, the assets will be included in the grantor’s estate, defeating the estate planning objectives.
Future considerations
The advantages of GRATs have become so pronounced in the current market environment that the President’s tax proposal to Congress earlier this year included a new restriction for such trusts in the future. They will have to have a trust term of at least ten years in order to be effective for federal tax purposes.
If such a change to the tax code is made, it very likely will be part of a larger estate tax reform plan that keeps the federal exempt amount at $3.5 million, freezing the estate tax rates at 2009 levels. For married couples, that means $7 million can be sheltered from federal estate tax with some basic planning. Such a move could limit the need for more sophisticated strategies, such as GRATs, for wealthier families.
(October 2009)
© 2009 M.A. Co. All rights reserved.
The GRAT is established for a set number of years. During the term of the trust, the grantor is paid an annuity, a fixed dollar amount, every year. When the trust terminates, the assets left in the trust pass to the grantor’s heirs. A gift tax, due when a GRAT is funded, is imposed upon the actuarial value of what the heirs will receive when the trust terminates. Estate planners can use two factors to reduce that tax exposure almost to zero: They can lengthen the term of the GRAT, or they can increase the annuity retained by
the grantor.
The value of the retained income interest and the value of the remainder for the heirs must take current interest rates into account. If the trust earns more than the IRS tables predict it will earn, the excess will pass to the heirs free of estate or gift tax. During a period of very low interest rates, such as we have today, the chance of beating the IRS interest rate is very good.
On the other hand, if the trust’s investments underperform, it may be exhausted before the end of the term, leaving nothing for the heirs. Finally, if the grantor dies before the trust comes to an end, the assets will be included in the grantor’s estate, defeating the estate planning objectives.
Future considerations
The advantages of GRATs have become so pronounced in the current market environment that the President’s tax proposal to Congress earlier this year included a new restriction for such trusts in the future. They will have to have a trust term of at least ten years in order to be effective for federal tax purposes.
If such a change to the tax code is made, it very likely will be part of a larger estate tax reform plan that keeps the federal exempt amount at $3.5 million, freezing the estate tax rates at 2009 levels. For married couples, that means $7 million can be sheltered from federal estate tax with some basic planning. Such a move could limit the need for more sophisticated strategies, such as GRATs, for wealthier families.
(October 2009)
© 2009 M.A. Co. All rights reserved.
Ask a trust officer: Federal estate taxes
DEAR TRUST OFFICER:
What’s up with the federal estate tax? I heard that it’s suspended next year, for one year only? Should I review my will?
—DEATH TAX TARGET
DEAR TARGET:
You heard correctly. As of January 1, under current law, the federal estate tax will be suspended, replaced by a complex new tax regime with the shorthand name “carryover basis.” In effect, greater capital gains tax receipts would offset, to some extent, the loss of estate tax revenue at the death of wealthy individuals. After one year of that experience, the federal estate tax roars back in 2011, with a $1 million exemption and a top tax rate of 60%. (In contrast, this year the exemption is $3.5 million, and the top rate is 45%.)
This roller-coaster ride was built in 2001 for political and budgetary reasons. Unfortunately, the focus on health care reform has left precious little time for Congress to devote to estate tax reform. Consequently, the emerging scenario considered most likely is a one-year patch, extending the 2009 tax rules into 2010 only. That would permit the Congress to take more time next year to work out a comprehensive plan for taxation at death.
Cynics point out that it also gives Congress the opportunity to allow a major tax increase to be implemented through simple inaction. As resistance to deficit spending has mounted, the need for new tax revenue has grown.
What does all this mean for your estate plans? Vigilance will remain important, but a one-year patch will be less disruptive than the alternative of implementing carryover basis. Given the near-term revenue loss associated with doing nothing, Congress seems very likely to push something through late in the year.
Do you have a question concerning wealth management or trusts? Send your inquiry to [trustofficer@bankname.com].
(October 2009)
© 2009 M.A. Co. All rights reserved.
What’s up with the federal estate tax? I heard that it’s suspended next year, for one year only? Should I review my will?
—DEATH TAX TARGET
DEAR TARGET:
You heard correctly. As of January 1, under current law, the federal estate tax will be suspended, replaced by a complex new tax regime with the shorthand name “carryover basis.” In effect, greater capital gains tax receipts would offset, to some extent, the loss of estate tax revenue at the death of wealthy individuals. After one year of that experience, the federal estate tax roars back in 2011, with a $1 million exemption and a top tax rate of 60%. (In contrast, this year the exemption is $3.5 million, and the top rate is 45%.)
This roller-coaster ride was built in 2001 for political and budgetary reasons. Unfortunately, the focus on health care reform has left precious little time for Congress to devote to estate tax reform. Consequently, the emerging scenario considered most likely is a one-year patch, extending the 2009 tax rules into 2010 only. That would permit the Congress to take more time next year to work out a comprehensive plan for taxation at death.
Cynics point out that it also gives Congress the opportunity to allow a major tax increase to be implemented through simple inaction. As resistance to deficit spending has mounted, the need for new tax revenue has grown.
What does all this mean for your estate plans? Vigilance will remain important, but a one-year patch will be less disruptive than the alternative of implementing carryover basis. Given the near-term revenue loss associated with doing nothing, Congress seems very likely to push something through late in the year.
Do you have a question concerning wealth management or trusts? Send your inquiry to [trustofficer@bankname.com].
(October 2009)
© 2009 M.A. Co. All rights reserved.
Tuesday, September 1, 2009
Estate tax reform options
The federal estate tax needs to be changed, that much everyone agrees upon. Today the federal estate tax exemption is $3.5 million, which means that with some careful planning married couples can shelter $7 million from taxation over two deaths. President Obama has proposed freezing those rules, as it would keep this tax targeted to the most affluent Americans.
If Congress does nothing, current law calls for the complete elimination of the federal estate tax for 2010 only. Then in 2011 the tax comes back with only a $1 million exemption. This “nightmare scenario” has been in place since 2001, and many observers expected it to be corrected before now.
In August the nonpartisan Congressional Budget Office presented a comprehensive review of tax and spending choices to the Congressional Budget Committees. The 284-page document included an analysis of four alternatives for restoring certainty to the federal estate tax. The “cost” of each of the alternatives, in terms of projected revenue loss, was estimated based upon a comparison to current law.
Exemption Top tax rate Carryover basis? Taxable estates (in 2014) Five-year revenue cost
Alternative 1 $5 million 20% No 5,300 $128 billion
Alternative 2 $5 million 30% No 5,300 $117 billion
Alternative 3 $3.5 million 45% No 9,400 $65 billion
Alternative 4 No estate tax N.A. Yes None $163 billion
Source: Congressional Budget Office, Budget Options Volume 2, August 2009
Alternative 1 boosts the exempt amount to $5 million, adds inflation indexing, and drops the deduction for state death taxes (and does not restore the state death tax credit). In 2014, under this scenario, only 5,300 estates would be required to pay federal estate tax, compared to 58,000 under current law. The tax rate would be set equal to the top rate on capital gains, 15% through 2010 and then 20%. This approach reduces revenues by just $128 billion over the next five years.
Alternative 2 is exactly the same, but with higher tax rates. Only the first $25 million would be taxed at the capital gain tax rate, everything over that at 30%. That shaves the revenue cost to $117 billion.
Alternative 3 is similar to the President’s proposal, outlined in the budget. The exemption would be left at $3.5 million, indexed for inflation, the deduction for state death taxes would be retained, and the tax rate set at 45%. With this approach the number of taxable estates in 2014 increases by more than 50%, to 9,400, and the revenue reduction falls to $65 billion.
Alternative 4, probably the least likely to be adopted, would make the changes for 2010 permanent. That is, repeal the federal estate tax, keep the federal gift tax with a $1 million exemption, and implement carryover basis for inherited assets. This approach costs $163 billion over five years.
So what will Congress do? The leading solution, according to The Wall Street Journal, is a one-year patch, as is done with the AMT, extending the 2009 rules only into 2010. Given the politics of health care, there may not be time for deliberation on permanent estate tax reform. At least one commentator has suggested that a revenue-hungry Congress might then let the exempt amount fall back to $1 million in 2011.
(September 2009)
© 2009 M.A. Co. All rights reserved.
If Congress does nothing, current law calls for the complete elimination of the federal estate tax for 2010 only. Then in 2011 the tax comes back with only a $1 million exemption. This “nightmare scenario” has been in place since 2001, and many observers expected it to be corrected before now.
In August the nonpartisan Congressional Budget Office presented a comprehensive review of tax and spending choices to the Congressional Budget Committees. The 284-page document included an analysis of four alternatives for restoring certainty to the federal estate tax. The “cost” of each of the alternatives, in terms of projected revenue loss, was estimated based upon a comparison to current law.
Exemption Top tax rate Carryover basis? Taxable estates (in 2014) Five-year revenue cost
Alternative 1 $5 million 20% No 5,300 $128 billion
Alternative 2 $5 million 30% No 5,300 $117 billion
Alternative 3 $3.5 million 45% No 9,400 $65 billion
Alternative 4 No estate tax N.A. Yes None $163 billion
Source: Congressional Budget Office, Budget Options Volume 2, August 2009
Alternative 1 boosts the exempt amount to $5 million, adds inflation indexing, and drops the deduction for state death taxes (and does not restore the state death tax credit). In 2014, under this scenario, only 5,300 estates would be required to pay federal estate tax, compared to 58,000 under current law. The tax rate would be set equal to the top rate on capital gains, 15% through 2010 and then 20%. This approach reduces revenues by just $128 billion over the next five years.
Alternative 2 is exactly the same, but with higher tax rates. Only the first $25 million would be taxed at the capital gain tax rate, everything over that at 30%. That shaves the revenue cost to $117 billion.
Alternative 3 is similar to the President’s proposal, outlined in the budget. The exemption would be left at $3.5 million, indexed for inflation, the deduction for state death taxes would be retained, and the tax rate set at 45%. With this approach the number of taxable estates in 2014 increases by more than 50%, to 9,400, and the revenue reduction falls to $65 billion.
Alternative 4, probably the least likely to be adopted, would make the changes for 2010 permanent. That is, repeal the federal estate tax, keep the federal gift tax with a $1 million exemption, and implement carryover basis for inherited assets. This approach costs $163 billion over five years.
So what will Congress do? The leading solution, according to The Wall Street Journal, is a one-year patch, as is done with the AMT, extending the 2009 rules only into 2010. Given the politics of health care, there may not be time for deliberation on permanent estate tax reform. At least one commentator has suggested that a revenue-hungry Congress might then let the exempt amount fall back to $1 million in 2011.
(September 2009)
© 2009 M.A. Co. All rights reserved.
IRAs and bankruptcy
In personal bankruptcy proceedings, the general rule is that IRAs and other qualified retirement assets are protected; they not subject to the claims of the individual’s creditors. However, a recent Florida court case showed that every rule has its exceptions.
Ernest Willis filed for bankruptcy in 2007. Among his assets were a $1.2 million Merrill Lynch IRA and two smaller IRAs of less than $150,000 each. The IRAs had favorable determination letters from the IRS, which created a presumption that they would be exempt from the claims of Willis’ creditors. However, the bankruptcy court ruled that the creditors had an opportunity to rebut that presumption, which they did.
In December 1993 Willis took a $700,000 distribution from the Merrill Lynch IRA to take care of a delinquent mortgage on property that he owned with his wife. The money was returned to the IRA in February 1994, 64 days later. Had the money been restored to the IRA within 60 days, there would have been no problem. However, because Willis crossed the 60-day line, the bankruptcy court ruled that the loan was a prohibited transaction, one that cost the IRA its tax-qualified status. The entire $700,000 should have become a taxable distribution, and the redeposit of the money should have been penalized as an excess contribution. However, the IRS never noticed the problem. Nevertheless, the bankruptcy court now holds that because the IRA ceased being a qualified retirement plan in 1993, it was no longer a protected asset in bankrupcy.
What’s more, in 1997 Willis made a series of eight transfers between his regular brokerage account and the Merrill Lynch IRA. Transfers from the IRA were all returned to it within 60 days, but the tax law allows for only one 60-day rollover per year. The Court held that this “check-swapping” scheme also amounted to prohibited borrowing from the IRA, so that if the IRA hadn’t become invalid in 1993, it certainly did become so in 1997.
The other two IRAs were traceable to funds received from the Merrill Lynch IRA after 1997, so they were similarly unprotected.
The statute of limitations has run for the 1993 and 1997 tax years, so the IRS isn’t likely to get the tax money that arguably came due then. But the shield created by the lapse of time with respect to the tax claims offers no protection in the bankruptcy context. Thus, it’s important to handle tax-qualified assets with utmost care, to be certain that they will be available during retirement.
(September 2009)
© 2009 M.A. Co. All rights reserved.
Ernest Willis filed for bankruptcy in 2007. Among his assets were a $1.2 million Merrill Lynch IRA and two smaller IRAs of less than $150,000 each. The IRAs had favorable determination letters from the IRS, which created a presumption that they would be exempt from the claims of Willis’ creditors. However, the bankruptcy court ruled that the creditors had an opportunity to rebut that presumption, which they did.
In December 1993 Willis took a $700,000 distribution from the Merrill Lynch IRA to take care of a delinquent mortgage on property that he owned with his wife. The money was returned to the IRA in February 1994, 64 days later. Had the money been restored to the IRA within 60 days, there would have been no problem. However, because Willis crossed the 60-day line, the bankruptcy court ruled that the loan was a prohibited transaction, one that cost the IRA its tax-qualified status. The entire $700,000 should have become a taxable distribution, and the redeposit of the money should have been penalized as an excess contribution. However, the IRS never noticed the problem. Nevertheless, the bankruptcy court now holds that because the IRA ceased being a qualified retirement plan in 1993, it was no longer a protected asset in bankrupcy.
What’s more, in 1997 Willis made a series of eight transfers between his regular brokerage account and the Merrill Lynch IRA. Transfers from the IRA were all returned to it within 60 days, but the tax law allows for only one 60-day rollover per year. The Court held that this “check-swapping” scheme also amounted to prohibited borrowing from the IRA, so that if the IRA hadn’t become invalid in 1993, it certainly did become so in 1997.
The other two IRAs were traceable to funds received from the Merrill Lynch IRA after 1997, so they were similarly unprotected.
The statute of limitations has run for the 1993 and 1997 tax years, so the IRS isn’t likely to get the tax money that arguably came due then. But the shield created by the lapse of time with respect to the tax claims offers no protection in the bankruptcy context. Thus, it’s important to handle tax-qualified assets with utmost care, to be certain that they will be available during retirement.
(September 2009)
© 2009 M.A. Co. All rights reserved.
Card check
The Credit Card Accountability, Responsibility, and Disclosure (CARD) Act of 2009 was signed by President Obama last May, after passing both Houses of Congress by wide, bipartisan margins. The law provides for a number of changes that credit card holders will welcome:
• When multiple interest rates apply to the same credit line, payments will apply first to the balance with the highest interest rate, the opposite of past practice.
• A minimum of 21 days must be allowed to pay a bill.
• Card contracts must be available online, not just sent as fine-print forms to cardholders.
• At least 45 days’ notice must be given before the APR is increased.
• New restrictions apply to providing cards to those under 21. In many cases, a parent will be required to cosign for the card.
The restrictions for younger cardholders were included based upon evidence that many college students have been having trouble handling their debt, getting in over their heads. On the other hand, there is some concern that young people will have a harder time establishing their own independent credit histories once the new rules take effect.
That doesn’t happen until February 22, 2010. The delayed implementation date gives credit card companies time to adjust to the new requirements. Some of the adjustments include taking a much more conservative approach to issuing credit. Some cardholders have found their credit limits reduced, sometimes unexpectedly. A big decline in the use of “teaser rates” is expected.
These developments are a predictable response given the prospective curtailment of profit opportunities for the card issuers.
It will be important to monitor communication from card companies during the coming months. Best of all, implement a plan to pay down debt aggressively, strengthening your financial foundation and reducing your vulnerability to shifts in the economic winds.
(September 2009)
© 2009 M.A. Co. All rights reserved.
• When multiple interest rates apply to the same credit line, payments will apply first to the balance with the highest interest rate, the opposite of past practice.
• A minimum of 21 days must be allowed to pay a bill.
• Card contracts must be available online, not just sent as fine-print forms to cardholders.
• At least 45 days’ notice must be given before the APR is increased.
• New restrictions apply to providing cards to those under 21. In many cases, a parent will be required to cosign for the card.
The restrictions for younger cardholders were included based upon evidence that many college students have been having trouble handling their debt, getting in over their heads. On the other hand, there is some concern that young people will have a harder time establishing their own independent credit histories once the new rules take effect.
That doesn’t happen until February 22, 2010. The delayed implementation date gives credit card companies time to adjust to the new requirements. Some of the adjustments include taking a much more conservative approach to issuing credit. Some cardholders have found their credit limits reduced, sometimes unexpectedly. A big decline in the use of “teaser rates” is expected.
These developments are a predictable response given the prospective curtailment of profit opportunities for the card issuers.
It will be important to monitor communication from card companies during the coming months. Best of all, implement a plan to pay down debt aggressively, strengthening your financial foundation and reducing your vulnerability to shifts in the economic winds.
(September 2009)
© 2009 M.A. Co. All rights reserved.
Ask a trust officer: Blended families
DEAR TRUST OFFICER:
I’m planning to remarry, and I know that means I should take a look at my will. Right now I’ve left my property to my kids from my first marriage. I’d like to include my new spouse in my plan, yet I don’t want to cut out the children completely. Is there an easy solution?
—STARTING OVER
DEAR STARTING:
In situations such as yours, we’ve seen a lot of interest in the Qualified Terminable Interest Property Trust, or more commonly, QTIP Trust. The trust is “qualified” for the marital deduction from the federal estate tax, provided the surviving spouse is a U.S. citizen. The trust is “terminable” because it ends at the spouse’s death, and the spouse usually doesn’t have the right to change who gets the property at that point. In other words, the inheritance for your children is secure.
Another benefit of the QTIP trust is that the executor can elect a full or partial marital deduction, depending upon what’s best for tax purposes. That flexibility is especially welcome during these times when the federal estate tax may be undergoing major changes.
Do you have a question concerning wealth management or trusts? Send your inquiry to [trustofficer@bankname.com].
(September 2009)
© 2009 M.A. Co. All rights reserved.
I’m planning to remarry, and I know that means I should take a look at my will. Right now I’ve left my property to my kids from my first marriage. I’d like to include my new spouse in my plan, yet I don’t want to cut out the children completely. Is there an easy solution?
—STARTING OVER
DEAR STARTING:
In situations such as yours, we’ve seen a lot of interest in the Qualified Terminable Interest Property Trust, or more commonly, QTIP Trust. The trust is “qualified” for the marital deduction from the federal estate tax, provided the surviving spouse is a U.S. citizen. The trust is “terminable” because it ends at the spouse’s death, and the spouse usually doesn’t have the right to change who gets the property at that point. In other words, the inheritance for your children is secure.
Another benefit of the QTIP trust is that the executor can elect a full or partial marital deduction, depending upon what’s best for tax purposes. That flexibility is especially welcome during these times when the federal estate tax may be undergoing major changes.
Do you have a question concerning wealth management or trusts? Send your inquiry to [trustofficer@bankname.com].
(September 2009)
© 2009 M.A. Co. All rights reserved.
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