How Does the IRS Know if I Give My Grandchildren Money?

A recent nj.com recent post asks, “Will the IRS know if I gift money to my grandchildren?” The article explains that federal and state tax agencies do not have any direct way of knowing how much is being gifted. They rely on taxpayers self-reporting gifts. It’s the honor system.

However, the tax authorities may discover these transfers when you or the recipient are audited, by matching transactions reported for certain assets, or because banks are required to report cash transfers in excess of $10,000. Because it’s pretty simple to avoid paying gift tax, it doesn’t seem worth the risk of getting caught trying to skirt the rules. Understanding the gift tax and working within the system is the best way to avoid issues.

The IRS stipulates that a gift is “the transfer of property by one individual to another while receiving nothing, or less than full value, in return.” A gift is never taxable to the recipient, so only the person making the gift has to consider the gift tax.

The amount you can give will not be subject to gift tax if the gift amounts are less than the annual and lifetime exemptions. The annual gift exemption is currently $15,000 per recipient, which means that you can give up to $15,000 each year to an unlimited number of people with no reporting requirement at all.

You’re supposed to complete a U.S. Gift Tax Return (IRS Form 709) if you exceed the exemption, but don’t panic. Although you are required to file a gift tax return, it is highly unlikely any gift tax will be due. That’s because gifts in excess of the annual exemption must first offset your lifetime exemption before any gift tax is due.

Keep in mind, however, that the IRS can impose penalties if they discover that you failed to file a gift tax return, even if no gift tax was due. Also note that the gift tax is integrated with the estate tax, which applies to amounts transferred upon your death in excess of your remaining lifetime exemption.

If you’re planning on making a gift to help pay a grandchild’s college costs or medical expenses, make the payment directly to the educational or healthcare institution. By making the payment directly to the institution, that payment will not be considered a gift and will not go towards the $15,000 exemption and also will not decrease your lifetime exemption.

Ask your estate planning lawyer about any state gift, estate and inheritance tax implications for any significant transfers you want to make.

Reference: nj.com (October 1, 2019) “Will the IRS know if I gift money to my grandchildren?”

Can I Keep a Loved One’s Inheritance From Their Spouse?

A recent nj.com article asks, “How do I protect my niece’s inheritance from her husband?” The article asks about a scenario where someone plans to leave most of her estate to her niece but wants to keep the niece’s estranged husband from getting his hands on the money. Although the default laws may vary state by state, no matter where she resides, she must be proactive and intentional about her gifting to make sure the funds go where she intends them to go.

First, there are tax consequences to consider and keep in mind. In states like New Jersey, the money may be subject to the New Jersey inheritance tax, which is assessed if the decedent is a New Jersey resident, regardless of where the beneficiary resides. The tax is levied based on the relationship of the deceased to the beneficiary. In this case, the niece’s inheritance would be subject to an inheritance tax of 15 to 16%.

Next, the aunt needs to decide the manner in which she wants to leave the assets. One option is for the aunt to leave the assets to the niece outright.

The laws in many states, like Missouri, South Carolina, and New Jersey, say that unless the parties otherwise agree, upon divorce there will be equitable distribution of their marital property. Marital property generally doesn’t include the property received by gift or inheritance, as long as that person didn’t commingle it (in other words, mix it up and combine it) with the marital property.

Because there will be no administrative costs, the most economical way to transfer the property to the niece is for the aunt to leave it to the niece in her will, with instructions for her to keep it separate and apart from her marital property. However, this may not be the best way to leave property to the niece, because once it is given to the niece, it is out of the aunt’s control and it may be mixed up with the marital property, in which case the niece’s husband may be able to have access to it.

If, however, the aunt leaves the inheritance in trust, she can make certain the property isn’t commingled with marital assets by drafting a trust that will keep it separate from the rest of the niece’s property. Further, if the trust is properly prepared by an experienced estate planning attorney, the income from the trust will likely not be used to decrease any spousal support to which the niece may otherwise be entitled from her spouse, in the event that they divorce down the road. The trust can also protect against other events, by instructing to whom funds should be paid upon the premature death of the niece. For instance, the trust can state specifically that the funds should then be held in trust for the niece’s children. That would further prevent her estranged husband from ever being able to make a claim against the funds.

If you are concerned about leaving property to someone you love, but that person is married to someone that you don’t, a trust can help you make sure that the inheritance goes to the actual person you want to receive it. Talk to an estate planning attorney who can provide you with some options.

Reference: nj.com (August 21, 2019) “How do I protect my niece’s inheritance from her husband?”

Details of the New SECURE Act

You may have heard some talk about the new SECURE Act. But what are the details and how does it impact you?

The SECURE Act proposes a number of changes to retirement savings. These include changes to parts of IRAs and 401(k)s. Although it is still under review, the Act is expected to be passed in some form after revisions. Some of the changes that the Act makes look to be common sense, like broadening access to IRAs and 401(k)s, as well as including updating the rules to reflect that retirement is now a longer period of life. However, with these changes come potential limitations with stretch IRAs.

Forbes asks in its recent article “Are Concerns Over Stretch IRAs And The SECURE Act Justified?” In general, an IRA is a tax-wrapper for your investments. While the investments stay in the IRA, you do not have to pay any tax on income made from those investments. A traditional IRA is where your contributions can be made tax-free for the time being, with tax due upon withdrawal. Alternatively, you can contribute after-tax dollars and have your distributions be tax-free if you use a Roth IRA. The SECURE act isn’t changing this fundamental process during the lifetime of the person who contributed to the IRA. Instead, it is altering what happens when that person, still has an IRA balance at death.

If you’ve ever spoken with someone who inherited an IRA, you have probably heard of the Stretch IRA. A Stretch IRA can be a great estate planning tool. Here’s how it works: you give the IRA to a young beneficiary in your family. The tax shield function of the IRA is then “stretched,” for what can be decades because the length of the IRA will now extend to the end of the beneficiary’s lifetime. This is important because the longer the IRA lasts, the more your investments can continue to grow. In a sense, this will protect that growth from taxes for a longer period of time.

However, the SECURE Act could change that: instead of IRA funds being spread and distributed to the beneficiary over the lifetime of the beneficiary, they’d be spread and distributed over a much shorter period. Based on the provisions of the SECURE Act as it stands, that period will likely be 10 years. That’s a big change for estate planning because a beneficiary will now have to withdraw that investment within a shorter period of time, be taxed on that income sooner, and lose out on the benefits of letting the investments grow for longer.

It’s good to keep in mind, though, that for a person who uses their own IRA throughout retirement and uses it up or passes it to their spouse as an inheritance—the SECURE Act changes almost nothing. In fact, IRAs are slightly improved for these individuals due to the new ability to continue to contribute after age 70½ and other small improvements. Therefore, most typical IRA holders will be unaffected or benefit to some degree. For many people, the bulk of IRA funds will be used in retirement and the Stretch IRA is less relevant. If you are planning to use the IRA as a distribution for your children or other people to inherit, however, talk to a tax advisor or attorney to understand how the SECURE Act will impact your estate plan.

Reference: Forbes (July 16, 2019) “Are Concerns Over Stretch IRAs And The SECURE Act Justified?”

What Do I Tell My Kids About Their Inheritance?

For some parents, it can be difficult to discuss family wealth with their kids. You may worry that when your child learns they’re going to inherit a chunk of money, they’ll drop out of college and devote all their time to their tan.

Kiplinger’s recent article, “To Prepare Your Heirs for Future Wealth, Don’t Hide the Truth,” says that some parents have lived through many obstacles themselves. Therefore, they may try to find a middle road between keeping their kids in the dark and telling them too early and without the proper planning. However, this is missing one critical element, which is the role children want to play in creating their own futures.

In addition to the finer points of estate planning and tax planning, another crucial part of successfully transferring wealth is open, honest, and consistent communication between parents and their children. This can be valuable on many levels, including having heirs learn about, understand, and see the family vision while also bolstering personal relationships between parents and children through trust, honesty and vulnerability.

For example, if the parents had inherited a $25 million estate and their kids would be the primary beneficiaries of their own estate, transparency would be of the utmost importance. While that inheritance might lead the children to believe that they could use all this money for their own plans, careers, and dreams, that might not be the case if the parents had other intentions for this inheritance, such as a charity or a comfortable retirement. This lack of communication might impact the way kids plan for their own futures, whereas an upfront family discussion about how the money would or would not be used for the children’s lives would have equipped the children to plan appropriately for their own futures.

Without having conversations with parents about the family’s wealth and how it will be distributed, the support a child gets now and what they may receive in the future may be far different than what they originally thought. With this information, the child could make informed decisions about their future education and how they would live.

Heirs can have a wide variety of motivations to understand their family’s wealth and what they stand to inherit. However, most concern planning for their future. As a child matures and begins to assume greater responsibility, parents should identify opportunities to keep them informed and to learn about their children’s aspirations, and what they want to accomplish.

The best way to find out about an heir’s motivation is simply to talk to them about it.

Reference: Kiplinger (May 22, 2019) “To Prepare Your Heirs for Future Wealth, Don’t Hide the Truth”

Estate Planning for Your Coin Collection

Forbes’ recent article, “Astute Estate Planning For Art, Antiques And Valuable Collectibles,” says that personal property items, like a coin collection or artwork, can pose an added degree of estate planning complexity for several reasons.

Tracking. Personal property items are easily “lost” or misplaced. To combat this, use inventory software or keep copious records. You should also retain receipts, appraisals and other imprimaturs and bona fides of provenance.

Assignment and Transfer. Since personal property, like coin collections, can “walk off,” it’s smart to make certain that all applicable parties, such as heirs, are informed of inventory lists or other tracking methods, with clear instructions on who gets what. You can even add in your will an addendum “Exhibits A-Z,” to make sure that nothing gets lost. Photographs, serial numbers, and other identifying data can be added for more fungible items, like firearms.

Security and Insurance. Use precautions like safes, safety deposit boxes and alarm systems for your tangibles because transportable valuables present greater risks of theft and fire/disaster. There might be different insurance rules based on the item. You may need separate deductibles, endorsements, riders and proofs of location and ownership to have proper insurance coverage.

Documentation. Particularly for art and important antiques, it is vital to have documentation that supports authenticity and records provenance. This can include certificates of authenticity, bills of sale, condition reports, artists’ notes, and photographs, along with appraisals and insurance reports. A gap in documentation can result in challenges in establishing provenance and authenticity, which can then impact the value or subsequent sale process of the items.

Valuation. Most personal property is in a very illiquid market, and the price is very much whatever the market will bear. Specialized knowledge may be needed to arrive at a fair price. If you have a trusted appraiser for particular items, make their contact information accessible.

Estate Tax Issues. Retain accurate inventories to make certain that all property is properly accounted for if an estate tax return is due. It’s not uncommon for these items to be “forgotten” at tax time since, unlike securities, bank accounts and real estate, the IRS can’t easily track estate ownership of the assets and whether or not they’re taken by members of the family.

Reference: Forbes (April 8, 2019) “Astute Estate Planning For Art, Antiques And Valuable Collectibles” 

What Are the Six Most Frequent Estate Planning Mistakes?

It is a grim topic, but it is an important one. Without a legal will in place, your loved ones may spend years stuck in court proceedings and spend a lot in legal fees to settle your estate. The San Diego Tribune writes in its recent article, 6 estate-planning mistakes to avoid, that without a plan, everything is more stressful and expensive. Let’s look at the top six estate planning mistakes that people need to avoid:

No Plan. Regardless of your age or financial status, it’s critical to have a basic estate plan. This includes crafting powers of attorney for both healthcare and finances and a will.

No Discussion. Once you create your plan, tell your family. Those you’ve named to take care of you, need to know what you’ve decided and where to find your plan.

Focusing Only on Taxes. Estate planning can be much more than just about tax avoidance. There are many other reasons to create an estate plan that have nothing to do with taxes, like charitable giving, special needs planning for a family member, succession planning in the event of incapacity and planning for children of a prior marriage, to name just a few.

Leaving Assets Directly to Children. If you leave assets directly to your children or grandchildren under age 18, it can cause unintended custodian or guardianship issues. Minors can’t own legal property, so a guardian will be appointed by the court to manage the property for them, until they reach age 18. If you don’t name a guardian, the court will appoint one for you and that person may have very different ideas about how the account should be managed and invested.

Making Mistakes with Ownership and Property Titles. With many blended families, you may want to preserve assets from an inheritance as your own separate property or from a prior marriage for your children. There are many tax consequences and control issues in blended families about which you may not be aware.

Messing Up Your Trust. Many people don’t properly fund or update their trusts. An unfunded trust doesn’t do anyone any good. Assets that aren’t titled in the name of the trust don’t avoid probate.

Finally, be sure to review your estate plan regularly, as your circumstances change.

Reference: San Diego Tribune (April 18, 2019) “6 estate-planning mistakes to avoid”

What Are Some Advantages of Making Lifetime Gifts?

There are several non-tax advantages of making lifetime gifts. One is that you’re able to see the recipient or “donee” enjoy your gift. It might give you satisfaction to help your children achieve financial independence or have fewer financial concerns.

WMUR’s recent article, Money Matters: Lifetime non-charitable giving,” explains that lifetime giving means you dictate who gets your property. Remember, if you die without a will, the intestacy laws of the state will dictate who gets what. With a will, you can decide how you want your property distributed after your death. However, it’s true that even with a will, you won’t really know how the property is distributed, because a beneficiary could disclaim an inheritance. With lifetime giving, you have more control over how your assets are distributed.

At your death, your property may go through probate if you don’t have a trust or beneficiaries on your accounts. Lifetime giving will help reduce probate and administration costs, since lifetime gifts are typically not included in your probate estate at death.  Unlike probate, lifetime gifts are private.

Let’s discuss some of the tax advantages of lifetime gifts. First, a properly structured gifting program can save income and estate taxes. A gift isn’t taxable income to the donee, but any income earned by the gift property or capital gain subsequent to the gift usually is taxable. The donor must pay state and/or federal transfer taxes on the gift. There may be state gift tax, state generation-skipping transfer tax, federal gift and estate taxes, as well as federal generation-skipping transfer (GST) tax.

A big reason for lifetime giving is to remove appreciating assets from your estate (i.e., one that’s expected to increase in value over time). If you give the asset away, any future appreciation in value is removed from your estate. The taxes today may be significantly less than what they would be in the future, after the asset’s value has increased. Note that lifetime giving results in the carryover of your basis in the property to the donee. If the asset is left to the donee at your death, it will usually receive a step-up in value to a new basis (usually the fair market value at the date of your death). Therefore, if the donee plans to sell the asset, she may have a smaller gain by inheriting it at your death, rather than as a gift during your life.

You can also give by paying tuition to an educational institution or medical expenses to a medical care provider directly on behalf of the donee. These transfers are exempt from any federal gift and estate tax.

Remember that the federal annual gift tax exclusion lets you give $15,000 (for the 2019 year) per donee to an unlimited number of donees, without any federal gift and estate tax or federal GST tax (it applies only to gifts of present interest).

Prior to making lifetime gifts, discuss your strategy with an estate planning attorney to be sure that it matches your estate plan goals.

Reference: WMUR (April 18, 2019) “Money Matters: Lifetime non-charitable giving”

Must I File Taxes When My Dad Dies?

Generally, when someone passes away, the final individual federal and state tax return must be prepared and filed in the same way as when they were alive, says nj.com, in the recent article, “What tax returns need to be filed after someone dies?”

All of the income starting at the beginning of the year up to the individual’s date of death, must be reported on the tax return. All of the tax deductions and tax credits that the person was entitled to may be claimed. This final return is typically filed by the surviving spouse or by the executor of the individual’s estate.

The final return can be either electronically filed or filed on paper. The tax preparer should also be sure to write “deceased” after the taxpayer’s name and include the date of death, so that the IRS knows that this will be the last individual return filed.

However, at the death of a taxpayer, a new taxpaying entity—the taxpayer’s estate—is created to make certain that no taxable income escapes review by the IRS. Income that’s earned during the tax year, up to the date of the person’s death, is reported on the final individual tax return, and any earnings after that date are taxable to the decedent’s estate. Earned income of the estate is any income for which the decedent was entitled to during the year that occurred after the date of death. This could include any dividends or interest from stock or bond investments held in the decedent’s name that was collected between the date of death and the end of the calendar year.

In addition, beneficiaries of assets paid directly to them outside of probate, like IRAs already in distribution mode or life insurance policies, may be subject to what is called “income in respect of a decedent,” or IRD. Two things must apply for this to occur: (i) the asset earns interest before the balance is transferred or paid to the beneficiaries; and (ii) the interest isn’t reported on the deceased taxpayer’s final tax return. If both of these occur, then beneficiaries are responsible for reporting IRD on their own tax returns.

The deceased father’s estate may then also need to file returns, so talk to an estate planning attorney to be certain that everything is correct.

Reference: nj.com (March 21, 2018) “What tax returns need to be filed after someone dies?”

How Do I Incorporate Charitable Giving into My Estate Plan?

One approach frequently employed to give to charity, is to donate at the time of your death. Including charitable giving into an estate plan, is a great way to support a favorite charity.

Baltimore Voice’s recent article, “Estate planning and charitable giving,” notes that there are several ways to incorporate charitable giving into an estate plan.

Dictate giving in your will. When looking into charitable giving and estate planning, many people may start to feel intimidated by estate taxes, thinking that their family members won’t get as much of their money as they hoped. However, including a charitable contribution in your estate plan will decrease estate tax liabilities, which will help to maximize the final value of the estate for your family. Talk to an experienced estate attorney to be certain that your donations are set out correctly in your will.

Donate your retirement account. Another way to leverage your estate plan, is to designate the charity of your choice as the beneficiary of your retirement account. Note that charities are exempt from both income and estate taxes. In choosing this option, you guarantee that your favorite charity will receive 100% of the account’s value, when it’s liquidated.

A charitable trust. Charitable trusts are another way to give back through estate planning. There is what is known as a split-interest trust that lets you donate assets to a charity but retain some of the benefits of holding the assets. A split-interest trust funds a trust in the charity’s name. The person who opens one receives an immediate tax deduction when money is transferred into the trust. However, the donors still control the assets in the trust, and it’s passed onto the charity at the time of their death. There are several options for charitable trusts, so speak to a qualified estate planning attorney to help you choose the best one for you.

Charitable giving is a component of many estate plans. Talk to your attorney about your options and select the one that’s most beneficial to you, your family and the charities you want to support.

Reference: Baltimore Voice (January 27, 2019) “Estate planning and charitable giving”