Category Archives: Financial Planning Tips

Coverdell ESAs Subject to One Rollover Per Year Rule

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Prior to 2014, the IRS applied the one-rollover-per year limitation for IRAs on an IRA-by-IRA basis, meaning each IRA was limited to one rollover per year allowing a taxpayer to make multiple rollovers in one year using separate IRAs for each rollover.  However, beginning in 2015, the IRS withdrew its proposed regulations and followed the Bobrow Tax Court decision (T.C. Memo. 2014-21) in which the court ruled an individual can make only one rollover from an IRA to another (or the same) IRA in any 1-year period regard-

less of the number of IRAs owned.
Are Coverdell ESAs subject to the same one rollover per year limit regardless of the number of ESAs owned by the taxpayer? There is no published guidance interpreting Coverdell ESA rollover limitations.  However, IRS Pub. 970, Tax Benefits for Education, states that only one rollover per Coverdell ESA is allowed during a 12-month period.
In light of the similarity of the language in the code concerning IRA rollovers and Coverdell ESA rollovers, the IRS recently stated in a Program Manager Technical Assistance letter that only one rollover per individual per year is permitted for Coverdell ESAs. The letter
suggested that IRS Pub. 970 should be updated using the following language:
“You can make only one rollover from a Coverdell ESA to another Coverdell ESA in any 12-month period regardless of the number of Coverdell ESAs you own. However, you can make unlimited transfers from one Coverdell ESA trustee directly to another Coverdell ESA trustee because such transfers are not considered to be distributions or rollovers. The once in any 12-month period limitation rule does not apply to the rollover of a military
death gratuity or payment from Service members’ Group Live Insurance (SGLI).”
If you need assistance figuring out the maze of IRS rules governing educational savings plans, please contact Steve Siesser at ssiesser@verizon.net
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Treasury Issues Proposed Regulations to Limit Valuation Discounts

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On August 2, 2016, the Treasury Department issued proposed regulations under IRC Section 2704 that would significantly reduce the use of valuation discounts which, for decades, have been used by estate planners in valuing minority interests in family businesses for gift and estate tax purposes. These discounts often range from 15 percent to 40 percent, or even higher. By using discounts, significant wealth can be transferred to the next generation at greatly reduced values. Some of these techniques include transfers of fractional interests in real property or business entities such as limited partnerships, limited liability companies, or closely held corporations.

The size of the discount depends upon a number of factors, including the entity’s organizational structure, provisions of the partnership or operating agreement and if state law places restrictions on control of the entity and on marketability.  If a parent gifted a minority interest in a family business partnership to a child with provisions that restrict voting rights and the ability to sell the interest to a third party or withdraw from the partnership, under the proposed regulations, the parent’s gift to the child is valued as if those restrictions do not exist.  As a result, the value of the interest for gift tax purposes would likely be greater than what the parent would receive if he or she sold the same interest to a third party.

While details of the proposed regulations are important, it is clear that the Treasury is trying to eliminate most if not substantially all valuation discounts for family-controlled entity interests, even including active businesses owned by a family. The regulations accomplish this, in part, by expanding the class of restrictions disregarded under Section 2704 to include those under the governing documents and even under state law (regardless of whether that restriction may be superseded by the governing documents).

Over the years, the IRS has argued that many restrictions (including those currently resulting in discounts for lack of control and lack of marketability) should be ignored for transfers between family members. In most properly structured transactions, the courts have rejected the arguments by the IRS and permitted the taxpayer to take appropriate discounts on the transfer to family members.

These new regulations are particularly important in the context of intra-family gifts and sales to effectively reduce the estate tax payable at a decedent’s death. The proposed regulations will be subject to public comment and a hearing on December 1, 2016.  They are likely to be challenged and will not become effective until 30 days after the date on which Treasury issues them in final form. If you are interested in making such gifts and/or sales and believe that you would benefit from such valuation discounts, you may want to consider completing transactions that could be affected by the new regulations before year-end.

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What You Should Know If You Employ Your Minor Child

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A child under 18 working for a parent-owned unincorporated business is exempt from FICA and FUTA. Children under 21 are exempt from FUTA. Another advantage is that a child employed by a parent shifts income from the parent’s higher tax bracket to the child’s lower tax bracket. A recent court case illustrates the factors used by the courts when determining the deductibility of wages paid to minor children.

The taxpayer was a sole proprietor who worked as an attorney. She had three children, all of whom were under nine years old as of the close of the tax years in question. During summer school recesses, the taxpayer often brought her children into her office, usually for two hours a day, two or three days a week. While at the taxpayer’s office, the children provided various services to her in connection with her law practice. For example, the children shredded waste, mailed things, answered telephones, photocopied documents, greeted clients, and escorted clients to the office library or other waiting areas in the office complex. The children also helped the taxpayer move files from a flooded basement, they helped remove files damaged in a bathroom flood, and they helped to move the taxpayer’s office to a different location. The taxpayer did not issue a Form W-2 to any of her children for the years at issue. No payroll records regarding their employment were kept, and no federal tax withholding payments were made from any amounts that might have been paid to any of the children.

Separately from her law practice, taxpayer came up with the idea that parents traveling with children might be interested in travel books created for children, and she decided to write a series of children’s travel books each directed to a different destination in the United States or elsewhere. During the years at issue, the taxpayer traveled with her three children to Disney World in Orlando, Florida, and several cities in Europe. The purpose of each trip was to conduct research for a yet-to-be written children’s travel book. Before traveling to a particular destination, the taxpayer typically would complete a rough draft of a children’s travel book. She and the children used the rough draft to tour the area, and the taxpayer would record any helpful hints or other information she thought should be included in the final version of the children’s travel book that she planned to complete at some future date. The taxpayer also consulted with a book distributor, a graphic designer, and a book publishing company. She eventually completed at least four prototype travel books and sold some copies word-of-mouth to family and friends. She planned to hire an agent to promote her book but had not done so as of the close of the tax year for the year at issue.

The taxpayer deducted wages paid to her minor children against her gross income from her law practice. The taxpayer also reported net losses from her book writing activity. The IRS disallowed all of the deductions claimed for wages to her minor children, and disallowed all of the deductions claimed relating to her book writing activity.

The court noted that payments made to minor children by a related party for services rendered in connection with a trade or business might very well qualify for deduction. It all depends on the facts and circumstances surrounding the payments. The taxpayer did not present any evidence to show how much was paid to each child, how
many hours each worked, or what the hourly rate of pay was. Without payroll records detailing this information, the court cannot tell whether the amounts deducted were reasonable, especially when the ages of the children are taken into account. The taxpayer did not present any documentary evidence, such as bank account statements, canceled checks, records, or the filing of W-2s, to support the deductions.

The court said all things considered, the taxpayer has failed to establish entitlement to the deductions for wages to minor children claimed on Schedule C relating to the taxpayer’s law practice. However, the court said it was satisfied that each of the children
performed services in connection with the taxpayer’s law practice during each year at issue and each was compensated for doing so. Taking into account their ages, generalized descriptions of their duties, generalized statements as to the time each spent in the office, and the lack of records, the court ruled the taxpayer was entitled to a $250 deduction for wages paid to each child for each year. The court also looked at whether expenses related to the book writing activity were deductible. The court refused to consider the IRS argument that the book writing activity was a hobby. The court said at best (for the taxpayer), the expenses were for planning and
research in connection with the business she had in mind, but that the business had not yet started as of the close of the tax years at issue. Therefore, none of the expenses for the book writing activity were deductible.

The lesson learned is to keep meticulous records and documentation. Always consult your tax advisor if you are considering paying your children wages for working in your business.

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Medicare Decisions and Expenses

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One of the biggest retirement worries is the cost of healthcare. Like Social Security, Medicare is a fairly complex benefit with several options. But don’t get overwhelmed. Just follow these steps:

  1. Learn the basics of Medicare
  2. Consider your options and costs
  3. Create a plan

The basics of Medicare

This information will help you become familiar with the basics of Medicare. For details, visit Medicare.gov or call 1-800-MEDICARE.

Parts of Medicare

There are four parts to Medicare:

  • Part A — hospital insurance provided by the U.S. government
  • Part B — medical insurance provided by the U.S. government
  • Part C (also known as Medicare Advantage) — hospital and medical insurance provided by private companies
  • Part D — prescription drug coverage

Together, Parts A (hospital insurance) and B (medical insurance) are known as Original Medicare. With Original Medicare, you’ll decide if you also want Medicare Part D (prescription drug coverage).

Part C or Medicare Advantage is an alternative to Medicare Parts A and B. You will get your hospital insurance and medical insurance through this plan. You may also get prescription drug coverage through the plan. If the Medicare Advantage Plan you choose doesn’t offer prescription drug coverage, you may be able to join a Medicare Prescription Drug Plan.

Medigap insurance

Keep in mind that you may also want Medigap insurance to help cover the copays and deductibles of Medicare. Medigap is a supplement to Medicare Parts A and B provided by private insurance companies. You cannot add a Medigap policy to Medicare Part C (Medicare Advantage).

When you’re eligible

You’re eligible for Medicare when you turn 65. If you’ll need coverage at age 65, it’s recommended that you sign up during the Initial Enrollment Period that begins three months prior to your birthday to avoid delaying your coverage. You are still eligible to sign up three months after your birthday, but your coverage will be delayed.

If you’re still working

If you’re covered under a group health plan based on your or your spouse’s current employment, you can wait to make a Medicare decision during an eight-month Special Enrollment Period that starts the month after your employment or coverage under the group health plan ends, whichever happens first. You usually don’t pay a late enrollment penalty if you sign up during the Special Enrollment Period.  CAVEAT:  If the employer has fewer than 20 employees, it can deny you coverage when you turn 65 and become eligible for Medicare.

If you prefer, you can enroll in Medicare Parts A and/or B during the seven-month period that begins three months before the month you turn 65, includes the month you turn 65, and ends three months after the month you turn 65, but keep in mind:

  • Typically, participation in Part A is free, but you do pay a monthly premium for Part B. To avoid paying that premium while you’re covered under a group health plan, you can enroll in Part A, and delay Part B or wait to enroll in both.
  • If you delay enrollment in Part B, your Medigap open enrollment period will also be delayed.

When to enroll in Part D and when to purchase a Medigap policy

With Original Medicare, if you want prescription drug coverage, you can enroll in Part D during your Initial Enrollment Period, a Special Enrollment Period (when, for example, other coverage ends) or the annual Open Enrollment Period.

If you want a Medigap policy, the best time to buy is during your six-month Medigap open enrollment period, which begins the month you’re enrolled in Medicare Part B. During that period, you can buy any Medigap policy sold in your state, even if you have health problems.

Medicare costs

Cost
Original Medicare
Part A
Hospital Insurance
You usually don’t pay a monthly premium for Medicare Part A if you or your spouse paid Medicare taxes while working.
Part B
Medical Insurance
In 2016, most people will pay $104.90 each month for Part B. However, if your modified adjusted gross income as reported on your Internal Revenue Service tax return from two years ago is above a certain amount, you’ll likely pay more.
Medicare Advantage
Part C Medicare Advantage plans are provided by private companies and the cost can vary quite a bit from one plan to another. Remember, these plans include hospital and medical insurance and typically include prescription drug coverage. You cannot add a Medigap policy.
Additional Options
Part D
Prescription Drug Coverage
Cost for Medicare Part D will depend on which plan you choose, and may incur an additional charge depending upon your income.
Medigap Policy Cost for an optional Medigap policy will depend on which plan you choose.

Medicare Parts A and B provide the lowest up-front costs, but can also create the most gaps. Medicare Parts A, B, D and Medigap together will create the highest up-front costs, but will provide the fullest coverage with the least amount of gaps.

Key dates

Pay attention to these important dates once you’re ready to enroll in Medicare.

  • Initial Enrollment Period: Age 65 (three months before, through three months after)
  • Special Enrollment Period: Extending up to eight months after your employment or group coverage ends. Note that you’re not eligible for a Special Enrollment Period when COBRA or any retiree health plan coverage ends.
  • General Enrollment Period: January 1 through March 31 each year
    If you don’t sign up for Medicare Parts A and/or B when first eligible or during a Special Enrollment Period, you can enroll during the General Enrollment Period. You may have to pay a higher Medicare Part B premium because you could have had Medicare Part B and didn’t take it. If you sign up for Part A and/or B during the General Enrollment Period, you may sign up for Part D from April 1-June 30. Your six-month Medigap open enrollment period will begin when you enroll in Part B.
  • Annual Open Enrollment Period: October 15 – December 7
    During this period you can:

    • Change from Original Medicare to a Medicare Advantage Plan or vice versa.
    • Switch from one Medicare Advantage Plan to another Medicare Advantage Plan.
    • Switch from a Medicare Advantage Plan that doesn’t offer drug coverage to a Medicare Advantage Plan that offers drug coverage or vice versa.
    • Join a Medicare Prescription Drug Plan or switch from one Medicare Prescription Drug Plan to another.
    • Drop your Medicare prescription drug coverage completely.

Learn more

Don’t put off learning more about Medicare. Use any of the resources below to make sure you fully understand the benefit:

  • Call 1-800-MEDICARE
  • Visit Medicare.gov
  • Call your state’s Senior Health Insurance Information Program (SHIIP)
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Mid-Year Tax Planning

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If you just finished writing a hefty check to the IRS because you were subject to the Alternative Minimum Tax, Net Investment Income Tax, Additional Medicare Tax or earned significant capital gains on your investments, you probably don’t even want to think about taxes again until next spring. However, the reality is that there’s probably no better time than now to start planning to help you reduce your tax liability for 2015.

Of course, there’s no one single solution for reducing liability. And tax savings should never be the sole factor behind any investment decision, according to the Tax & Financial Planning Group for Wells Fargo Advisors. However, by thinking proactively about taxes and monitoring your use of tax-advantaged investments, you may be able to keep more of your money working for you.

Plan a summer tax meeting
By May, many tax professionals and Financial Advisors have wrapped up the current tax season. But that doesn’t mean you should avoid a conversation with your advisors so you can focus on your summer vacation plans. With April filings completed, your financial professional may have more time to consider tax planning for the year ahead,” notes Wells Fargo. “Plus, by midyear, you may have a better idea of the income or other financial changes you may be facing in 2015.”

Start with tax-friendly accounts
Many high-net-worth (and often highly taxed) individuals don’t take full advantage of the tax-advantaged accounts available to them. Why not? Primarily because eligibility and withdrawal rules can seem unusually complex. Common tax-advantaged accounts include 529 college savings plans, personal IRAs, Roth IRAs, and workplace 401(k) or 403(b) retirement plans. In addition, a growing number of employers now offer Roth 401(k)s, which combine the benefits of a traditional retirement plan and a Roth IRA, and cash-balance retirement plans, which are hybrids of a traditional pension and a 401(k).  By midyear, you may have a better idea of the income or other financial changes you may be facing.

Balance your tax obligations
No one can be sure what changes Congress will make to U.S. tax rates in the future — or what tax bracket you might fall into when you retire. This is an important reason to hold a wide range of investments — some that are taxable when you withdraw them in retirement and some that are completely tax-free in the future.

“This is a good reason not to put all of your investable assets in your workplace retirement plan or a personal IRA, for instance,” says Wells Fargo. “You could end up creating a very high-tax income stream after you stop working, when you can least afford it.”  Work with your tax advisor to make sure your tax commitments are balanced.

Consider “location, location, location”
If you’re investing in tax-advantaged accounts such as an IRA or work retirement plan to go along with after-tax investment accounts, you may want to include different types of holdings in each.  For instance, you might include low-tax investments — such as municipal bonds, tax deferred annuities or stocks that pay qualified dividends — in your after-tax accounts and higher-tax investments — such as corporate or U.S. government bonds — in your tax-sheltered accounts.

Straddle tax years when possible
There might be times when it make sense to liquidate some tax-incurring investments at the end of one tax year, and then wait and sell additional investments in the early part of the following tax year to spread out your tax exposure. Or if you anticipate a significant income change (up or down), you might want to either accelerate tax deductions into the current year or defer them to the following year to pay less in taxes. These kinds of strategies are best decided with the help of your or tax professional during a midyear meeting.

Don’t overlook the Roth — for your kids and grandkids
If leaving a family legacy is important to you, one way to do so may be to contribute to a Roth account for your children and grandchildren, starting in their teen years. Even though you won’t get a tax break for doing so, making contributions to this account is one way to harness some of the tax-free advantages of the Roth on your family’s behalf.  To contribute to a Roth, your child must have income from work. Contributions are limited to your child’s or grandchild’s actual compensation or the IRS maximum, whichever is less.  If you own your own business, you could hire your child to work for you during the summer.

The bottom line: Don’t wait until the end of the year to plan for next year’s taxes, because some of the best strategies may take a little time to consider or implement.  Contact Steve Siesser at ssiesser@verizon.net for more assistance.

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