Category Archives: Estate Planning

College Tuition: Discover How Grandparents Can Help Their Grandchildren and Save Taxes Too

College-Tuition-Tax-Breaks

With college tuition coming due, families should consider tax efficient ways to pay for these expenses. Grandparents who wish to help their children with tuition costs can take advantage of some special gift tax breaks.

Grandparents have the usual annual present interest gift tax exclusion (now $14,000) and a lifetime exclusion (now $5,340,000). When a spouse joins in the gift (the called “spousal joinder”), these amounts double .

But these are not the only tax breaks available to a grandparent who wants to help the family. In addition, grandparents have an unlimited gift tax exemption for amounts paid for tuition. By using this special educational exclusion, such payments do not count against the annual gift tax or lifetime exclusions.

Here are the basic rules to qualifying these gifts for such unlimited educational exemption:

Unlimited Exclusion For Tuition Only

This exclusion from the gift tax for gifts of tuition is unlimited in amount. However, the scope of the exclusion applies to tuition only.

Books, Supplies and Other Items Not Covered

There is no exclusion for amounts paid for the following:

  • Board or other similar expenses that are not direct tuition costs.
  • Books
  • Supplies
  • Laboratory fees
  • Dormitory fees

See Treasury Regulations 25.2503-6(b)(2) for more details.

While Only Tuition Qualifies, This Educational Exemption Can Be For Part-Time or Full-Time Tuition

The gift tax is not imposed on amounts paid as tuition for a student to a qualifying domestic or foreign educational organization for the education or training of such person. See Code Section 2503(e)(1) and (2)(A).

Tuition payments for the student qualify where enrollment is part-time or full-time.

Qualifying Educational Organization

A qualifying educational organization is one which:

  • Normally maintains a regular faculty and curriculum and
  • Normally has a regularly enrolled body of students in attendance at the place where its educational activities are regularly carried on.

See Code Section 170(b)(1)(A)(ii) and Treasury Regulation 25.2503-6(b)(2).

Direct Payment of Tuition to Educational Organization

The tuition payment must be made directly to the educational organization to qualify for this exclusion.

Critical Point:

Neither a payment to the student for delivery to the organization nor a payment Continue reading

Summer Weddings: Quick and Easy Tax Guide For Those Getting Married and Newlyweds

My Loving In-Laws-RITA AND JOE circa 1950

Rita and Joe, My Wonderful In-Laws, On Their Wedding Day, June 23,1950

The excitement, joy and anticipation of getting married can be almost overwhelming.  With the planning that goes into the wedding it is easy to overlook the tax implications of marriage.  Although taxes are probably not high on your summer wedding plan checklist, it is important to be aware of the tax changes that come along with marriage. Here are some basic tips that can help keep those issues under control.

Name Change:

The names and Social Security numbers on your tax return must match your Social Security Administration (SSA) records. If you change your name, it is imperative to report it to the SSA.

Change Income Tax Withholding:

A change in your marital status means you must give your employer a new Form W-4, Employee’s Withholding Allowance Certificate.

If you and your spouse both work, your combined incomes may move you into a higher tax bracket. Use the IRS Withholding Calculator tool at IRS.gov to help you complete a new Form W-4. See Publication 505, Tax Withholding and Estimated Tax, for more information.

To avoid problems and to get specific advice speak with your tax adviser.

Changes In Circumstances:

Marriage can have an impact on insurance. It is important that you report changes in circumstances, such as changes in your income or family size, to your health insurance company (or Health Insurance Marketplace).  You should also notify your insurance company when you move out of the area covered by your current insurance plan.

Address Change:

Let the IRS know if your address changes.

You should also notify the U.S. Postal Service. You can ask them online at USPS.com to forward your mail. You may also report the change at your local post office.

Change In Filing Status:

If you’re married as of December 31, that’s your marital status for the entire year for tax purposes. You and your spouse can choose to file your federal income tax return either jointly or separately each year.

Note: Once married, neither of you can file using single status.

Generally and in most cases, married filing jointly results in a lower amount of taxes due.  However, you may want to figure the tax both ways to find out which status results in the lowest tax.

Filing Status For Same-Sex Couples:

If you are legally married in a state or country that recognizes same-sex marriage, you generally must file as married on your federal tax return. This is true even if you and your spouse later live in a state or country that does not recognize same-sex marriage. See Same-Sex Marriage Tax Guide: 16 Essential Tax Rules and Tips for a more detailed discussion. Continue reading

US Citizens Living Outside America: Streamlined Foreign Offshore Procedure Offers Tax and Compliance Relief

United States Citizens Living Abroad: New IRS Streamlined Procedure Offers Relief

United States Citizens Living Abroad: New IRS Streamlined Procedure Offers Relief

A couple of weeks ago, I had someone come in my office who has lived abroad since he was 7 years old. He is a citizen of the United States and Netherlands. He has never filed United States income tax returns. We discussed the general rule that US citizens must file returns and pay tax on their worldwide income. This meant that he should be filing a Form 1040 Return each year.  It also meant that he should have been filing for the last 20 years or so of his adult working years a Form 1040 even though he is not living or working in the US.  We discussed that although there may be a  Netherlands tax treaty with the United States it does not eliminate the need to file tax returns.  To add insult to injury, there could be taxes due, along with a whole host of penalties.

In addition to income taxes, having a bank account in the Netherlands could subject him to the Foreign Bank Account Reporting (FBAR) rules and penalties for failure to file for at least the last six years.

To help certain United States taxpayers, the IRS has previously put in place procedures to deal with many foreign bank account problems and to reduce compliance problems. These programs are explored  in some detail at Foreign Offshore Accounts: IRS Third Amnesty Program and Electronic Reporting of Foreign Bank and Financial Accounts (FBAR), and Quiet Disclosures of Offshore Foreign Accounts.  However, these programs did not adequately address the tax and compliance hardships of many United States citizens living abroad.  To make things easier for these taxpayers, the IRS announced yesterday, June 18, 2014, a new Streamlined Foreign Offshore Procedures under IR-2014-73.  Here are the details:

Benefits of the New Streamlined Program:

A taxpayer who is eligible to use these Streamlined Foreign Offshore Procedures and who complies with its requirements can avoid:

  • Failure-to-file penalties
  • Failure-to-pay penalties
  • Accuracy-related penalties
  • Information return penalties, or
  • FBAR penalties.

Even if returns properly filed under these procedures are subsequently selected for audit under existing IRS audit selection processes, the taxpayer will not be subject to failure-to-file and failure-to-pay penalties or accuracy-related penalties with respect to amounts reported on those returns, or to information return penalties or FBAR penalties, unless the examination results in a determination that the original tax noncompliance was fraudulent and/or that the FBAR violation was willful.

However, any previously assessed penalties with respect to those years, however, will not be abated.  Further, as with any U.S. tax return filed in the normal course, if the IRS determines an additional tax deficiency for a return submitted under these procedures, the IRS may assert applicable additions to tax and penalties relating to that additional deficiency.

Retirement and Savings Plan Deferral Elections: For returns filed under these procedures, retroactive relief will be provided for failure to timely elect income deferral on certain retirement and savings plans where deferral is permitted by an applicable tax treaty. The proper deferral elections with respect to such plans must be made with the submission.

Eligibility For The Streamlined Program

In addition to having to meet the general eligibility criteria of these offshore programs, individual U.S. taxpayers, or estates of individual U.S. taxpayers, seeking to use the Streamlined Foreign Offshore Procedures must:

  • Meet the applicable non-residency requirement described below (for joint return filers, both spouses must meet the applicable non-residency requirement described below) and
  • Have failed to report the income from a foreign financial asset and pay tax as required by U.S. law, and
  • May have failed to file an FBAR (FinCEN Form 114, previously Form TD F 90-22.1) with respect to a foreign financial account, and
  • Such failures resulted from non-willful conduct.

Non-willful conduct is conduct that is due to negligence, inadvertence, or mistake or conduct that is the result of a good faith misunderstanding of the requirements of the law.

Non-residency requirement applicable to individuals who are U.S. citizens or lawful permanent residents (i.e., “green card holders”):  Individual U.S. citizens or lawful permanent residents, or estates of U.S. citizens or lawful permanent residents, meet the applicable non-residency requirement if, in any one or more of the most recent three years for which the U.S. tax return due date (or properly applied for extended due date) has passed, the individual did not have a U.S. abode and the individual was physically outside the United States for at least 330 full days.

Under IRC section 911 and its regulations, which apply for purposes of these procedures, neither temporary presence of the individual in the United States nor maintenance of a dwelling in the United States by an individual necessarily mean that the individual’s abode is in the United States.

What Has To Be Done To Qualify Under This Program

U.S. taxpayers eligible to use the Streamlined Foreign Offshore Procedures must do the following:

  • Income Tax Returns:  For each of the most recent 3 years for which the U.S. tax return due date (or properly applied for extended due date) has passed, file delinquent or amended tax returns, together with all required information returns (e.g., Forms 3520, 5471, and 8938) and
  • FBAR:  For each of the most recent 6 years for which the FBAR due date has passed, file any delinquent FBARs.
  • Tax and Interest Must Be Paid With Filings: The full amount of the tax and interest due in connection with these filings must be remitted with the delinquent or amended returns.
  • Compliance Details:  There are other submission details and the IRS warns that “Failure to follow these instructions or to submit the items described below will result in returns being processed in the normal course without the benefit of the favorable terms of these procedures.”  So extreme care must be taken to comply with all the details of this IRS program.

Conclusion:

This is a very favorable development to US citizens living abroad who have no idea of their tax responsibilities to the United States.  As always, the devil is in the details, so tax counsel should be sought to insure that the various submissions meet all requirements under this Streamlined Foreign Offshore Procedures.  There is just too much at stake to do otherwise.

 

Disclosure and Disclaimer: As required by United States Treasury Regulations, you should be aware that this communication is not intended by the sender to be used, and it cannot be used, for the purpose of avoiding penalties under United States federal tax laws. This article has been prepared and published for informational purposes only and is not offered, nor should be construed, as legal advice. For more information, please see the firm’s full disclaimer.

Copyright © 2014 – Steven J. Fromm & Associates, P.C., 1420 Walnut Street, Suite 300, Philadelphia, PA 19102. All rights reserved. 

Philip Seymour Hoffman: Estate Planning Lessons For Us and Especially Women

Estate Planning For Philip Seymour Hoffman

Attribution: Josh Jensen      CC-By-SA-2.0

The sad and tragic death of Philip Seymour Hoffman at age 46 last month is yet another reminder of the importance of estate planning. Most of us go along each day not thinking or worrying about what would happen to our loved ones if we suddenly died.  Some, in an attempt to be conscientious, draft an estate plan but fail to keep such plan up to date.  But most people die without ever doing any estate planning leaving state laws and the courts to decide who should get their estate. When these matters are neglected, surviving family members can be left with momentous legal, tax and financial problems resulting in uncertainty and expensive attorney fees to sort it all out.

Background

Although Mr. Hoffman drafted his will in 2004, he failed to update it after having two children and even after some significant estate tax law changes.  Such changes and ten years usually triggers a meeting with your estate planning attorney. For more on a checklist of events that should result in a meeting with your estate planning attorney please explore Estate Planning Triggers.

Mr. Hoffman’s 2004 will leaves everything to the mother of his children, Marianne O’Donnell.  He was not married to her and this is where the problems start, at least from an estate tax perspective.

Federal and State Estate Taxes

It is estimated that Mr. Hoffman’s estate was around $35,000,000.  Currently, $5,340,000 is exempt from federal taxes (the so-called unified credit) with amounts above that amount being subject to a federal estate tax rate of 40%.  It would appear then that roughly $30,000,000 of his estate would be subject to estate tax at a 40% rate.  This would generate a whopping $12,000,000 in federal estate taxes!

New York also has an estate tax with an exemption of $1,000,000. This New York estate tax has graduated tax rate that goes as high as 16%.  It is estimated that roughly another $3,000,000 in will be paid in New York estate taxes.

Combined estate taxes: $15,000,000.

(Liquidity Side Bar:  Be aware that estate taxes are due nine (9) months after the date of death so hopefully Mr. Hoffman’s estate has enough liquid assets to avoid a forced sale of assets to meet his tax obligations.  Estate Planning Point:  It is not known if Mr. Hoffman had life insurance but having life insurance to provide for liquidity is sometimes essential.  In certain cases, the use of an irrevocable life insurance trust would allow for excluding the life insurance proceeds from being subject to estate tax.)

The point is that even though a meeting in 2004 may have explored marriage as a simple way to save estate taxes, Mr. Hoffman may, for whatever reason, not wanted to be married at that time.  It also could have been that his wealth was not that great in 2004.

But here is the object lesson:  Things change and so should one’s estate plan.

  • A later meeting to review his estate plan would have explored the huge estate tax benefit to being married.  No one is suggesting that people should get married only for tax reasons, however, under federal estate tax rules, inheritances to a surviving spouse are not subject to estate tax.
  • Double Estate Taxation:  Since they were not married, the amounts Ms. O’Donnell receives will be taxed twice.  First, the amount she receives above the unified credit will be taxed at Mr. Hoffman’s death.  When she dies the balance in her estate above her unified credit will be taxed a second time.  Marriage eliminates this double estate tax.
  • Marriage would have provided possible social security, retirement plan, income tax and other financial benefits.
  • If Mr. Hoffman wanted to get married but did not want his wife to have absolute control of his assets, a qualified terminable interest trust (a QTIP trust) could have been used to obtain the estate tax savings while providing income and principal to her during her lifetime.  The assets in this trust would pass to his children at her death.  This would have been the best of both worlds: saving estate taxes but still providing for his wife and children.
  • Sidebar:  A QTIP trust is often used in second marriages where there are children from a prior marriage.

One Strategy To Eliminate Estate Tax At His Death

In a perfect world, Mr. Hoffman could have created a so-called marital deduction trust and a unified credit or by-pass trust by funding each trust based on a formula clause tied to the unified credit applicable in the year of his death.  (Or he could have used the disclaimer trust discussed below to achieve this same result if he was married.) If he had implemented this estate planning strategy his 35,000,000 would have been split between Continue reading

The Biggest (Tax) Loser: Misguided Gifts of Real Estate By Uninformed Do It Yourselfers, Realtors & Attorneys

gift, income tax, estate planning

“Son, I am sick and getting old, so fill out a deed to transfer my house into your name now.”

With the increase of the federal estate tax exemption to $5,340,000 in 2014, most taxpayers are not subject to federal estate taxes.  The focus for many now has shifted to the income tax implications that arise when wealth passes to the next generation.  With no regard to the income tax implications, many times elderly people get the idea that the transfer of real estate to children during their lifetime is a good idea in trying to avoid probate and to make things easier for loved ones. Even uninformed realtors, attorneys and other financial advisers sometime make such a recommendation without knowing the tax impact.  However well-meaning, this uninformed strategy can have disastrous income tax results for the children recipients of such ill-conceived lifetime gifts.

Basis Rules:

It is important to understand the following income tax basis rules for calculating gain or loss:

  • Lifetime Gifts:  Children who receive lifetime gifts take a carryover basis in the property received.  The carryover basis is determined by what the maker of the gift originally paid for the asset plus any improvements made to the property.
  • Bequest At Death:  Beneficiaries who receive assets at the decedent’s death get a step up in basis to the date of death value of such assets received.

Basis Rules:  Illustrating How These Rules Operate

Example:  DIY Dad wants to avoid probate and to transfer during his lifetime his real estate to his son, Sad Son.  DIY Dad bought his house in the 1970s for $17,000 and made improvements during the years of $23,000.  As a result his adjusted basis is $40,000.  The house is now worth $540,000.  To save lawyer fees, DIY Dad asks Sad Son to draft a deed to transfer the property.  Sad Son does so and DIY Dad signs the deed and has it recorded with the recorder of deeds.

  • Since this was a lifetime gift, Sad Son takes a carryover basis for the house of $40,000.  Sad Son sells the house for $540,000 shortly afterwards and has a capital gain of $500,000 which he surprisingly  and shockingly learns from his accountant will cost him $100,000 (20% x $500,000) in federal taxes alone.  His accountant tells him there will also be state income taxes on this gain. Since Sad Son is a Pennsylvania resident, he will pay an extra $15,350 in Pennsylvania income taxes.  Total Taxes: $115,350.
    • Form 709:  Any lifetime gifts of over $14,000 require the filing of a Form 709, United States Gift Tax Return, in the year of the gift.  It should also be noted the IRS now checks recorded deeds.  For more on the IRS policing this area please see IRS Checking Real Estate Transfers For Unreported Gifts.
  • Alternate Universe:  DIY Dad consults with his tax/estate attorney who drafts a will that provides for the transfer of his house at death to Sad Son. Sad Son (who now legally changes his name to Happy) Son, has a basis of $540,000 upon his receipt of the house from the estate.  Happy Son, now sells the house and has zero, yes, zero capital gain (Sale Price $540,000 less basis of $540,000 = 0)!
    • Note: Certain states have inheritance taxes.  For example, in Pennsylvania there would be a 4.5% inheritance tax on the real estate, but this is a smaller cost than the capital gains tax that results from taking a carryover basis via a lifetime gift.
  • Fall Back Solutions:
    • If Sad Son stays in the house long enough to qualify the house as his primary residence and all statutory requirements for exclusion are met, he may then exclude $250,000 of the gain on the sale of the house once he sells the house.  If married and all statutory requirements are satisfied,  Sad Sam may be entitled to a $500,000 exclusion. Continue reading

Estate Planning 2013: Now What? A Must Read For Everyone

On Thanksgiving when you look around the room at your loved ones, think about whether they are legally protected with an estate plan that works to protect them and minimize taxes when you were gone.

Estate Planning 2013: Now What? A Must Read For Everyone.

Same-Sex Marriage Tax Guide: 16 Essential Tax Rules and Tips

Supreme_Court

Supreme Court Decision on DOMA Impacts Tax Rules for Same Sex Couples

Federal tax rules for same-sex couples have recently been issued in response to the Supreme Court decision in Windsor, No. 12-307 (U.S. 6/26/13). This landmark case invalidated a key provision of the 1996 Defense of Marriage Act (“DOMA”) and resulted in major changes in the tax landscape for many same-sex partners.

These new tax rules were laid out in I.R. 2013-72  on August 29, 2013 and Revenue Ruling 2013-17 on September 16, 2013 and are effective on that date.  (Note that taxpayers who wish to rely on the terms of this Revenue Ruling for earlier periods may choose to do so, as long as the statute of limitations for the earlier period has not expired. More on this below.)

Although there are still some unresolved issues, the following will lay out many of the basic federal income tax rules for same-sex married couples:

  1. State of Celebration Rule:  Same-sex couples that are legally married in jurisdictions that recognize their marriages are treated as married for federal tax purposes.
    • The rule applies even if this couple is currently living in a jurisdiction that does not recognize same-sex marriage.  The IRS states that this is consistent with its long-standing position (Rev. Rul. 58-66) that for federal tax purposes the IRS will recognize marriages based on the law of the state in where consummated and will disregard later changes in domicile.
    • For example, a same-sex couple validly married in New York will still be treated as married when they move to Pennsylvania.
  2. Married:  Being married is any same-sex marriage legally entered into in one of the 50 states, the District of Columbia, a U.S. territory or a foreign country.
  3. Domestic Partnerships:  Registered domestic partnerships, civil unions or similar formal relationships are not considered legal marriages.
  4. Married For All Purposes Under Federal Law:  Under the ruling, legally married same-sex couples are treated as married for all federal tax purposes, including income and gift and estate taxes.
  5. Federal Income Tax Benefits For Married Same-Sex Couples:  Married same-sex couples can now enjoy the tax benefits associated with  being treated as married for all federal tax provisions, including but not limited to:
    • Filing status
    • Claiming personal and dependency exemptions
    • Taking the standard deduction
    • Employee benefits
    • Contributing to an IRA
    • Claiming the earned income tax credit
    • Claiming the child tax credit.
  6. Married Filing Jointly or Married Filing Separately Only Option After September 16, 2013:  After September 16, 2013, legally married same-sex couples generally must file their 2013 federal income tax return using either the married filing jointly or married filing separately filing status.
  7. Two High Income Family:  In some cases, especially where both spouses are high wage earners this may result in greater taxes than under earlier law.
  8. Civil Unions In Certain States May End Up Paying Less Taxes:  Civil unions or domestic partnerships that can still file singly or as head of household may end up in better tax shape in certain situations.
  9. Prior Year Tax Refund Possibility: Individuals who were in same-sex marriages may, but are not required to, file original or amended returns choosing married filing jointly for federal tax purposes for one or more earlier tax years still open under the statute of limitations.
  10. Statute of Limitations For Refunds:  Generally, the statute of limitations for filing a refund claim is three years from the filing date of the return or two years from the date of the tax payment, whichever is later.
    • As a result, refund claims can still be filed for tax years 2010, 2011 and 2012.
    • Special Situations: For example, agreements with the IRS to keep open the statute of limitations for tax years 2009 and earlier will allow taxpayers to file refund claims for such open years .
    • For how to file an amended return please read Amending Tax Returns with the IRS.
  11. Protective Claim: When the right to a refund is contingent and may not be determined until after the time period for amending returns expires, a taxpayer can file a protective claim for refund. The claim is often based on current litigation (constitutionality); expected changes in tax law; and other changes in legislation or regulations. A protective claim preserves the right to claim a refund until resolution of the matter.
    • Example:  Pennsylvania same-sex couples not considered married under current rules may want to file protective claims for any year where the statute of limitations period is ending.
  12. Fringe Benefits: Employees who purchased same-sex spouse health insurance coverage from their employers or other fringe benefits on an after-tax basis may treat the amounts paid for that coverage as pre-tax and excludable from income.
    • The IRS now provides a mechanism to pursue for filing refund claims under Notice 2013-61.  The notice provides two streamlined administrative procedures for making adjustments or claiming refunds.
  13. IRS Further Guidance: The IRS will be issuing further guidance on cafeteria plans and on how qualified retirement plans and other tax-favored arrangements should treat same-sex spouses for periods before September 16, 2013.
  14. State Taxes: State tax return filing status is still controlled by state law.  If same-sex marriages are not legal in their state then they cannot file as married.  This is the case even though the marriage took place in a state where same-sex marriages are recognized.
  15. Estate Planning:  Review estate plans to take advantage of the federal estate and gift tax breaks now given same-sex marriages. For insights into estate planning please read Estate Planning 2013: Now What? A Must Read for Everyone
  16. Estate Tax Refunds: Additionally, claims for refunds of any estate taxes paid on deceased spouses that are still open under the statute of limitations should also be carefully examined.
    • Taxpayers who wish to file a refund claim for gift or estate taxes should file Form 843, Claim for Refund and Request for Abatement.

These are just some of the tax and financial implications in this area.  Same-sex couples affected by these changes should explore estate planning, retirement planning, employee benefits, and social security implications with their estate planning attorney, accountant and financial adviser team.

Stay tuned because this area will continue to evolve and change.

As required by United States Treasury Regulations, you should be aware that this communication is not intended by the sender to be used, and it cannot be used, for the purpose of avoiding penalties under United States federal tax laws.

Disclaimer: This Alert has been prepared and published for informational purposes only and is not offered, nor should be construed, as legal advice. For more information, please see the firm’s full disclaimer.