Planning Strategies
for Best Results for 3.8% Surtax
& 2014 Expiration of Charitable IRA Rollover
East Coast
Estate Planning Council
Palm Beach Gardens – January 21, 2014
CHRISTOPHER R. HOYT
University of Missouri - Kansas City
School of Law
INCOME TAX RATES
INVEST WAGES LTCG
Income Level
-MENT (+1.45%) & Divid
• AGI < $200k/$250k 28% 29.4% 15%
Congratulations! Brilliant tax planning!
“Bush tax cuts” remain in full effect for
people with adjusted gross income under
$200,000 ($250,000 on a joint return)
INCOME TAX RATES
INVEST WAGES LTCG
Income Level
-MENT (+1.45%) & Divid
• AGI < $200k/$250k 28% 29.4% 15%
• AGI > $200k/$250k 33% 34.4% 15%
33% rate when taxable income
> $183,250 -- single
> $223,050 – married filing jointly
TAX RATES paid on TAXABLE INCOME
ADJUSTED GROSS INCOME (“AGI”)
• Minus: Greater of
-- Standard Deduction ($6,100)
or
-- Itemized Deductions (Mortgage interest;
charitable contributions; state & local taxes)
• Minus: Personal Exemption & Dependents
($3,900 each)
= TAXABLE INCOME
WEALTHY PAY SOME TAXES ON “AGI”
ADJUSTED GROSS INCOME (“AGI”)
• Minus: Greater of
-- Standard Deduction ($6,100)
or
-- Itemized Deductions (Mortgage interest;
charitable contributions; state & local taxes)
• Minus: Personal Exemption & Dependents
($3,900 each)
= TAXABLE INCOME
INCOME TAX RATES
INVEST WAGES LTCG
Income Level
-MENT (+1.45%) & Divid
• AGI < $200k/$250k 28% 29.4% 15%
• AGI > $200k/$250k 33% 34.4% 15%
33% rate when taxable income
> $183,250 -- single
> $223,050 – married filing jointly
INCOME TAX RATES
INVEST WAGES LTCG
Income Level
-MENT (+1.45%) & Divid
• AGI < $200k/$250k 28% 29.4% 15%
• AGI > $200k/$250k 33% 34.4% 15%
plus health care surtax 3.8%
0.9%
3.8%
36.8% 35.3% 18.8%
0.9% MEDICARE SURTAX:
When Compensation Exceeds $200,000
($250,000 married joint return)
• Compensation
-- wages & self-employment income
(Added to 1.45% Medicare/Medicaid tax )
(Employee pays entire 0.9%; no employer match)
• Employer must withhold when W-2
Form compensation exceeds $200,000
• Married joint? Together over $250,000?
-- Pay on Form 1040 if neither spouse has over $200,000
. (e.g., Husband has $100k and Wife has $160k = $260k)
3.8% Net Investment Income Tax
MAGI > $200,000 ($250,000 joint returns)
3.8% surtax on the lesser of:
• Net Investment Income
or
• MAGI over $200,000 ($250,000 joint)
( $200k/$250k not indexed for inflation )
Trusts and estates pay 3.8% at $11,950
3.8% Net Investment Income Tax
MAGI > $200,000 ($250,000 joint returns)
Net Investment Income
•
•
•
•
Interest & Dividends
Annuities
Rents & Royalties
Profits from LLC / S Corp (if not employed)
• Business of trading commodities & fin instruments
• Most capital gains
3.8% Net Investment Income Tax
MAGI > $200,000 ($250,000 joint returns)
Income Exempt from Surtax:
• Trade / Business income from an LLC,
partnership or Subchapter S corporation
provided the recipient is employed at the
business.
-- “material participation” test
(work 500+ hours during the year?)
• Gain from selling property used in trade/
business [rental property gains -> 3.8% tax]
3.8% Net Investment Income Tax
MAGI > $200,000 ($250,000 joint returns)
Other Income Exempt from 3.8% Surtax:
Income that isn’t interest, rents, gains, etc :
• Retirement income – social security,
qualified plans: IRAs, 401(k), pensions, etc –
(non-qualified annuities are subject to tax)
• Wages & self-employment income ( 0.9% tax)
• Alimony income
• Lottery winnings
INCOME TAX RATES
INVEST WAGES LTCG
Income Level
-MENT (+1.45%) & Divid
• AGI < $200k/$250k 28% 29.4% 15%
• AGI > $200k/$250k
33% 34.4% 15%
• AGI > $250k/$300k
33% 34.4% 15%
-- 3% phase-out itemized deductions
-- Phase-out personal exemptions
PHASEOUTS
AGI > $250,000 ($300,000 joint returns)
• 3% Phase-out Itemized Deductions
-- disguised 1% tax rate hike (3% x 33% rate)
• Personal and Dependent Exemptions
-- $3,900 apiece for self & each dependent
-- lose 2% for every $2,500 income increase
-- 100% eliminated AGI > $372k ($422k jnt)
(Phase-out $250k-$372k ( $300k-$422k jnt))
INCOME TAX RATES
INVEST WAGES LTCG
Income Level
-MENT (+1.45%) & Divid
• AGI < $200k/$250k 28% 29.4% 15%
• Taxb>$400/$450
39.6% 41.0% 20%
INCOME TAX RATES
INVEST WAGES LTCG
Income Level
-MENT (+1.45%) & Divid
• AGI < $200k/$250k 28% 29.4% 15%
• Taxb>$400/$450
39.6% 41.0% 20%
plus 3% phase-out
1%
1 % 1%
plus health care surtax 3.8% 0.9% 3.8%
With $12,000+ income, 44.4% 42.9% 24.8%
Trusts & Estates >>
43.4%
23.8%
3.8% Net Investment Income Tax
MAGI > $200,000 ($250,000 joint returns)
Two Ways to reduce the 3.8% surtax :
#1 - Reduce Net Investment Income
and/or
#2 – Reduce AGI to less than $200,000
($250,000 joint)
3.8% Net Investment Income Tax
MAGI > $200,000 ($250,000 joint returns)
Strategies for three different taxpayers:
#1 - Richest 1% - Income over $400,000
-- Reduce NII (not likely to get AGI <200k)
#2 – Taxpayers with AGI near $200k ($250 jt)
-- Either reduce NII or reduce AGI
#3 - Taxpayers with AGI below $200k ($250 jt)
-- Avoid spikes in income that trigger 3.8% tax
Reduce Net Investment Income
Two Ways to reduce Net Investment Income:
#1 - Convert NII into income that isn’t NII
#2 – Shift NII to family and to charity that
aren’t subject to tax on their NII
Reduce Net Investment Income
Convert NII into Income That Isn’t NII
#1 - Taxable interest to tax-free muni interest
#2 – Life insurance
#3 – Work 500+ hours at business
#4 – Monster-size Roth IRA Conversions
Roth IRA Conversions
Reg IRA Brokerage
Roth IRA
Assets
$300,000 $120,000
-05% income $15,000
$6,000
Tax Rate
39.6% 43.4%/23.8%
Tax
-5,940
-1,428
$13,632
$9,060
$4,572
Roth IRA Conversions
Do a Roth IRA Conversion of IRA
• Triggers $300,000 of taxable income
• Taxed at 39.6% rate (no 3.8% surtax)
• Use $120,000 in brokerage to pay tax
CONCEPT: You have moved $120,000 from
taxable account into tax-exempt Roth IRA;
Moved income out of 3.8% surtax account
Roth IRA Conversions
Reg IRA Broker
Assets $300,000 $120,000
5% income $15,000 $6,000
Tax Rate
39.6%
44.4%/23.8%
Tax
-5,940
-1,428
Roth IRA
$300,000
$15,000
0%
.
-0-
$13,632
$15,000
$9,060
$4,572
Roth IRA Conversions
Children liquidate inherited accounts?
Reg IRA Brokerage Roth IRA
Assets
$300,000 $120,000 $300,000
Tax Rate
39.6%
-0-0Tax
-120,000
-0.
-0$300,000 $180,000 $120,000 $300,000
The $420,000 of assets were only worth
$300,000, after-taxes. (IRA: pre-tax income)
Reduce Net Investment Income
Shift NII to Family/Charity who pay
no 3.8% tax [note: trusts do pay 3.8%]
Family: Give income-generating investments
Charity:
#1 – Make gifts with appreciated stock
#2 – Donor advised funds & private foundations
#3 – Charitable lead trusts
WHICH ASSET TO GIVE ?
PLANNING FOR
CHARITABLE GIFTS
OF APPRECIATED STOCK
IN LIGHT OF FUTURE
TAX RATE CHANGES
DONORS LIKE TO CONTRIBUTE
APPRECIATED STOCK
DOUBLE-TAX ADVANTAGE
• Charitable Income Tax Deduction for the
Full Appreciated Value of the Stock
• Never Pay Income Tax on the Growth of
the Value of the Stock
• Loss Property? Sell for tax loss; give cash
DOUBLE BENEFIT FROM GIFT OF
APPRECIATED L.T.C.G. PROPERTY
<< AVOID LONG-TERM
CAPITAL GAIN TAX
<< CHARITABLE INCOME
TAX DEDUCTION
$ Benefits Max Federal Taxes Saved
Person in 2012
50%
* 25% RE Dep Recap
* 28% Collectibles
<< 15%* LTCG Tax Rate
<< 35% Marginal Tax Rate
IMPACT OF
INDIVIDUAL INCOME
TAX RATE CHANGES
in 2012 and 2013
FUTURE INCOME TAX RATES
Highest tax rates
• Investment income
2012
35%
2013
44.4%
• Earned income
36.4%
(wages – 1.45% health)
43.0%
• LT Capital Gains
24.8%
15%
$ Benefits Max Federal Taxes Saved
Person in the Year 2012
50%
* 25% RE Dep Recap
* 28% Collectibles
<< 15%* LTCG Tax Rate
<< 35% Marginal Tax Rate
$ Benefits Max Federal Taxes Saved
Person in the Year 2013
65.4%
* 29.8% RE Dep Recap
* 32.8% Collectibles
<< 24.8%* LTCG Tax Rate
<< 39.6*% Marginal Tax Rate
(3.8% surtax not avoided
by charitable deduction)
Reduce Net Investment Income
Shift NII to Family/Charity who pay
no 3.8% tax [note: trusts do pay 3.8%]
Family: Give income-generating investments
Charity:
#1 – Make gifts with appreciated stock
#2 – Donor advised funds & private foundations
#3 – Charitable lead trusts
SO YOU WANNA BE A
PHILANTHROPIST?
Administrative Convenience of Donor
Advised Funds & Private Foundations
– split large gift to many charities
-- one receipt from DAF/PF instead of
many CWAs from many charities
-- anonymous gifts possible with DAFs
Shift Net Investment Income
Client with $400,000+ of income says:
• “My $100,000 investment produces
$4,000 of taxable income every year”
• “I give away $4,000 to charity every year”
• “I want a charitable bequest of $100,000”
CONCEPT: Put $100,000 into a DAF while alive.
Reducing NII by $4,000 beats itemized deduction.
Reduce Net Investment Income
Shift NII to Family/Charity who pay no 3.8% tax
[note: trusts do pay 3.8%]
Charity:
#1 – Donor advised funds & private foundations
#2 – Charitable lead trusts
COST/BENEFIT – Is administrative cost of PF or
CLT worth doing just for 3.8% tax savings?
Other benefits are needed. ( Compare: DAF cheap!)
Taxpayers with AGI Near $200,000
Two Ways to reduce the 3.8% surtax :
#1 - Reduce Net Investment Income
and/or
#2 – Reduce AGI to less than
$200,000 ($250,000 joint)
Taxpayers with AGI Near $200,000 and
with lots of Net Investment Income
Reduce AGI to less than $200k ($250 jnt)
• Reduce NII (see strategies listed earlier)
• Avoid large Roth IRA conversions
• Maximize compensation deferral
-- 401(k) contributions
-- Non-qualified deferred comp (Sec. 409A)
• “Charitable IRA Rollover”
Taxpayers with AGI Near $200,000
”Charitable IRA Rollover” - over age 70 ½
• “QCD” – Qualified Charitable Distribution
• Have charitable gift made directly from
IRA to charity (max: $100,000 /year)
• QCD distribution not counted as income
(Price? No itemized charitable deduction)
• QCD can satisfy annual RMD
REQUIRED MINIMUM DISTRIBUTIONS
*LIFETIME DISTRIBUTIONS*
Age of Account Owner
70 1/2
75
80
85
90
95
100
Required Payout
3.65%
4.37%
5.35%
6.76%
8.75%
11.63%
15.88%
ADVANTAGES OF ROTH IRAs
• Unlike a regular IRA,
no mandatory lifetime
distributions from a
Roth IRA after age 70 ½
• Yes, there are mandatory
distributions after death
Taxpayers with AGI Near $200,000 and
with lots of Net Investment Income
”Charitable IRA Rollover” - over age 70 ½
71 year old professional
• $150,000 compensation income
• $50,000 net investment income
• This year: first RMD from IRA ($40,000)
• Intends to make charitable gift: $30,000
Taxpayers with AGI Near $200,000
”Charitable IRA Rollover” - over age 70 ½
Normal Gift
Compensation $150,000
Investment
50,000
IRA RMD
40,000
AGI
$240,000 << 3.8% surtax
Taxable Income $210,000
on $40,000
Taxpayers with AGI Near $200,000
”Charitable IRA Rollover” - over age 70 ½
Normal Gift
Compensation $150,000
Investment
50,000
IRA RMD
40,000
AGI
$240,000
3.8% surtax on: $40,000
IRA Gift
$150,000
50,000
10,000
$210,000
$10,000
Will Law Be Extended to 2014?
Proposed: Public Good IRA Rollover Act of 2013
Expand law to include deferred gifts; DAFs; SOs
>Planning strategy for 2014
if, as in 2008, 2010 & 2012, law has not
been extended until December!:
Give RMD to charity;
 can’t lose ! (Some IRAs balk)
3.8% Net Investment Income Tax
MAGI > $200,000 ($250,000 joint returns)
Strategies for three different taxpayers:
#1 - Richest 1% - Income over $400,000
-- Need to reduce NII (won’t have AGI <200k)
#2 – Taxpayers with AGI near $200k ($250 jt)
-- Either reduce NII or reduce AGI
#3 - Taxpayers with AGI below $200k ($250 jt)
Taxpayers with AGI Under $200,000
Keep AGI Under $200,000,
and prepare for future years
• Modest-size Roth IRA conversions
($200,000 threshold not indexed for inflation)
• Modest-size capital gain harvesting
• Avoid spikes in income
-- Installment sales
-- Charitable remainder trusts
CHARITABLE
REMAINDER
TRUSTS
CHARITABLE REMAINDER TRUSTS
• Payment to non-charitable
beneficiary (ies) for life *or* for a
term of years (maximum 20 years)
• Remainder interest distributed to
charity
• Exempt from income tax
CHARITABLE REMAINDER TRUSTS
EXAMPLE
• Husband & wife age 65
• Sell stock or land for $1 million gain
• Other option: contribute to CRT
before sale is finalized; have CRT
make the sale
CHARITABLE REMAINDER TRUSTS
CRT PROVIDES:
• 1. Charitable income tax deduction
• 2. Greater cash flow for life
• 3. Avoid spike in income – 3.8% tax
• 4. “Wealth replacement” strategy
with life insurance.
CHARITABLE REMAINDER TRUSTS
KEEP THE STOCK
Sales Price
Cost of Stock
Gain on Sale
Capital Gains
Tax (about 25%)
Remaining Proceeds
$ 1,000,000
-0$ 1,000,000
250,000
$ 750,000
DONATE STOCK TO C.R.T.;
C.R.T. SELLS STOCK
$1,000,000
-0$1,000,000
None
$1,000,000
CHARITABLE REMAINDER TRUSTS
DONATE STOCK TO C.R.T.;
KEEP THE STOCK
C.R.T. SELLS STOCK
Remaining Proceeds
Interest Rate
Annual Income
•
$ 750,000
x
5%
$ 37,500
══════
$1,000,000
x
5%
$ 50,000
══════
(33% more)
CHARITABLE REMAINDER TRUSTS
CRT PROVIDES:
• 1. Charitable income tax deduction
• 2. Greater cash flow for life
• 3. Avoid spike in income – 3.8% tax
• 4. “Wealth replacement”
strategy with life insurance.
Planning for
Retirement Assets
THREE STAGES
OF A RETIREMENT ACCOUNT
• Accumulate Wealth
• Retirement Withdrawals
• Distributions After Death
Accumulate Wealth
• Tax deduction at contribution
• Accumulate in tax-exempt
trust
• Taxed upon distribution
= Tax Deferred Compensation
Objective of Tax Laws:
Provide Retirement Income
Consequently, there are laws to:
• Discourage distributions before
age 59 ½
• Force distributions after
age 70 ½
TYPES OF QRPs
• 1. Sec. 401 – Company plans
• 2. Sec. 408 – IRAs
-- SEP & SIMPLE IRAs
• 3. Sec. 403(b) & 457–Charities
• 4. Roth IRAs & 401(k)/403(b)
RETIREMENT ACCOUNTS
ESTATE PLANNER’S DILEMMA:
• Cannot* make a lifetime gift of
retirement assets, like stock or land
* exception: “Charitable IRA”
• Cannot put into FLP for discount
• Can make a bequest of retirement
assets, but usually taxable income to
recipient
Roth IRA,
Roth 401(k), or Roth 403(b)
INVERSE OF TRADITIONAL:
• No tax deduction at contribution
• Accumulate in tax-exempt trust
• Not taxed upon distribution
THREE STAGES
• Accumulate Wealth
• Retirement Withdrawals
• Distributions After Death
RETIREMENT
TAXATION
General Rule – Ordinary income
Exceptions:
-- Tax-free return of capital
-- NUA for appreciated employer stock
-- Roth distributions are tax-free
USUAL OBJECTIVE:
Defer paying income taxes
in order to get greater cash flow
• Pre-Tax Amount
Principal
10% Yield
$ 100,000
$ 10,000
• Income Tax
on Distribution (40%)
• Amount Left to Invest
40,000
$ 60,000
$ 6,000
REQUIRED MINIMUM DISTRIBUTION
(“RMD”)
BACKGROUND: 50% penalty if not
receive distribution from IRA, 401(k), etc:
#1 – lifetime distributions from own IRA:
beginning after age 70 ½
#2 – an inherited IRA, 401(k), etc –
 beginning year after death *
REQUIRED MINIMUM DISTRIBUTIONS
*LIFETIME DISTRIBUTIONS*
Age of Account Owner
70 1/2
75
80
85
90
95
100
Required Payout
3.65%
4.37%
5.35%
6.76%
8.75%
11.63%
15.88%
ADVANTAGES OF ROTH IRAs
• Unlike a regular IRA,
no mandatory lifetime
distributions from a
Roth IRA after age 70 ½
• Yes, there are mandatory
distributions after death
THREE STAGES
• Accumulate Wealth
• Retirement Withdrawals
• Distributions After Death
Distributions
After Death
> Income taxation
> Mandatory ERISA distributions
> Estate taxation
Collision of three tax worlds at death
INCOME IN RESPECT OF A DECEDENT “IRD” – Sec. 691
• No stepped up basis for retirement
assets
• After death, payments are income in
respect of a decedent (“IRD”) to the
beneficiaries
• Common mistake in the past: children
liquidate inherited retirement accounts.
Distributions
After Death
> Income taxation
> Mandatory ERISA distributions
> Estate taxation
Collision of three tax worlds at death
Distributions
After Death
After death, must start liquidating account
• Tax planning for family members who
inherit: DEFER distributions as long as
possible – greater tax savings
• “Stretch IRA” – make payments over
beneficiary’s life expectancy
Distributions
After Death
“ life expectancy“
Oversimplified: Half of population will die
before that age, and half will die after
Implication: For the 50% of people who
live beyond L.E. date, an inherited IRA will
be empty before they die.
REQUIRED MINIMUM DISTRIBUTIONS
*LIFE EXPECTANCY TABLE*
Age of Beneficiary
30
40
50
60
70
80
90
83
83
84
85
87
90
97
Life Expectancy
53.3 more years
43.6
34.2
25.2
17.0
10.2
6.9
REQUIRED MIN. DISTRIBUTIONS
*LIFE EXPECTANCY TABLE*
“STRETCH IRAS”
Age of Beneficiary
30
40
50
60
70
80
90
Life Expectancy
53.3 more years
43.6
34.2
25.2
17.0
10.2
6.9
REQUIRED MIN. DISTRIBUTIONS
*LIFE EXPECTANCY TABLE*
“STRETCH IRAS”
Age of Beneficiary
30
1.9%
40
2.3%
50
2.9%
60
4.0%
70
5.9%
80
10.0%
90
14.5%
Life Expectancy
53.3 more years
43.6
34.2
25.2
17.0
10.2
6.9
REQUIRED MINIMUM DISTRIBUTIONS
* DEFINITIONS *
• Designated Beneficiary (“DB”)
A human being. An estate or charity
can be a beneficiary of an account,
but not a DB.
• Determination Date
September 30 in year after death.
HOW TO ELIMINATE BENEFICIARIES
BEFORE DETERMINATION DATE
• Disclaimers
• Full distribution of share
• Divide into separate
accounts
HOW TO LEAVE ACCOUNT TO BOTH
FAMILY & CHARITY
• Other beneficiaries cannot do stretch
IRA if charity is also a beneficiary?
• Solutions:
* cash out charity’s share by Sept 30
or
* separate account for charity
2012 SENATE PROPOSAL: LIQUIDATE
ALL INHERITED IRAs IN FIVE YEARS
• Feb 7, 2012 – Highway Bill – not enacted
• Senator Baucus – Senator Kyl – “We will look
at it again later”
EXCEPTIONS
• -- Spouse -- minor child -- disabled
• -- Person not more than ten years younger
REQUIRED MINIMUM DISTRIBUTIONS
Example: Death at age 80?
CURRENT LAW: *Life Expectancy Table*
Age of Beneficiary
30
1.9%
40
2.3%
50
2.9%
60
4.0%
70
5.9%
80
10.0%
90
10.0%
Life Expectancy
53.3 more years
43.6
34.2
25.2
17.0
10.2
6.9 * [10.2 yrs]
REQUIRED MINIMUM DISTRIBUTIONS
Example: Death at age 80?
PROPOSED: FIVE YEARS if >10 yrs younger
Age of Beneficiary
30
40
50
60
70
5.9%
80
10.0%
90
10.00%
Life Expectancy
5 years
5
5
5
17.0
10.2
6.9 * [10.2 yrs]
2012 SENATE PROPOSAL: LIQUIDATE
ALL INHERITED IRAs IN FIVE YEARS
EXCEPTIONS
• -- Spouse -- minor child -- disabled
• -- Person not more than ten years younger
TAX TRAP: Does naming a trust for a spouse
(e.g., QTIP trust; credit shelter trust) as an IRA
beneficiary mean required liquidation in 5
years?
2012 SENATE PROPOSAL: LIQUIDATE ALL
INHERITED IRAs IN FIVE YEARS
IMPLICATIONS FOR CHARITIES
Donors more likely to consider
• Outright bequests
• Retirement assets to tax-exempt CRT
– Payable over child’s remaining life
– Spouse only (marital estate tax deduction)
– Spouse & children (no marital deduction)
FUNDING TRUSTS WITH
RETIREMENT ASSETS
FUNDING TRUSTS
General Rule: Trust is not DB
Exception: “Look-through”
trust if four conditions
Types:-- “accumulation trusts”
-- “conduit trusts”
MULTIPLE BENEFICIARIES
OF A SINGLE IRA?
• Must liquidate over life
expectancy of oldest beneficiary
• Payable to a trust? Use life
expectancy of oldest trust
beneficiary
FUNDING TRUSTS WITH
RETIREMENT ASSETS
Challenges when there are
multiple beneficiaries with a big
age spread (Mom and children)
Common problem with marital bypass trusts
and QTIP trusts when surviving spouse is
elderly and other beneficiaries are young
secret – long marriage
AGE AT DEATH
MEDIAN AGE AT DEATH ON FEDERAL
ESTATE TAX RETURNS:
Age 80 – Men
Age 84 - Women
AGE AT DEATH
Percentage of Federal Estate Tax Returns
38.0
24.4
19.4
10.5
2.6
<50
5.2
50-60 60-70 70-80 80-90
90+
AGE AT DEATH
Men/Women
Percentage of
2007 Federal Estate Tax Returns
66
53
24
20
14
9
Under 60
5
60 - 70
70 - 80
Men
Over 80
Under 60
9
60 - 70
70 - 80
Women
Over 80
MARITAL STATUS AT DEATH
Marital Status of Decedents
on Federal Estate Tax Returns
(in percentages)
61.5
61.1
24.7
24.4
9.6
8.9
4.9
4.8
Married
Widowed
Single
Men
Divorce/Sep
Married
Widowed
Women
Single
Divorce/Sep
AGE AT DEATH
MEDIAN AGE AT DEATH ON FEDERAL
ESTATE TAX RETURNS:
Age 80 – Men
Age 84 - Women
REQUIRED MINIMUM DISTRIBUTIONS
*LIFE EXPECTANCY TABLE*
Age of Beneficiary
30
40
50
60
70
80
90
Life Expectancy
53.3 more years
43.6
34.2
25.2
17.0
10.2 more years
6.9 more years
USUAL OBJECTIVE:
Defer paying income taxes in order to get
greater cash flow
Principal 10% Yield
• Pre-Tax Amount
$ 100,000
• Income Tax
on Distribution (40%)
• Amount Left to Invest
$ 10,000
40,000
$ 60,000
$ 6,000
MANDATORY DISTRIBUTIONS
[Assume inherit IRA at age 80 and die at 92]
AGE
Own Accumulation Conduit
IRA
Trust
Trust .
80
5.35%
85
6.76%
19.23%
13.16%
90
91
92
8.78%
9.26%
9.81%
100.00%
empty
empty
18.18%
19.23%
20.41%
9.80%
9.80%
2-GENERATION
CHARITABLE REMAINDER TRUST
• Typically pays 5% to elderly surviving
spouse for life, then 5% to children for
life, then liquidates to charity
• Like an IRA, a CRT is exempt from
income tax
• Can operate like a credit-shelter trust
for IRD assets [no marital deduction]
2-GENERATION
CHARITABLE REMAINDER TRUST
• Can be a solution for second
marriages when estate is top-heavy
with retirement assets. Example:
-- Half of IRA to surviving spouse
-- Other half of IRA to a CRT for 2nd
spouse and children from 1st
marriage
2-GENERATION
CHARITABLE REMAINDER TRUST
TECHNICAL REQUIREMENTS
• Minimum 10% charitable deduction
-- all children should be over age 40
• CRUT – minimum 5% annual distrib
• Not eligible for marital deduction
(see 2002 article on topic)
MANDATORY DISTRIBUTIONS
[Assume inherit IRA at age 80 and die at 92]
AGE
Own Accumulation Conduit
IRA
Trust
Trust .
80
5.35%
85
6.76%
19.23%
13.16%
90
91
92
8.78%
9.26%
9.81%
100.00%
empty
empty
18.18%
19.23%
20.41%
9.80%
9.80%
MANDATORY DISTRIBUTIONS
[Assume inherit IRA at age 80 and die at 92]
AGE
Own Accumulation Conduit
IRA
Trust
Trust .
80
5.35%
85
6.76%
90
91
92
8.78%
9.26%
9.81%
9.80%
CRT
.
9.80%
5.00%
19.23%
13.16%
5.00%
100.00%
empty
empty
18.18%
19.23%
20.41%
5.00%
5.00%
5.00%
WOULD THE OUTCOME OF
ROLLOVER vs. TRUST
BE ANY BETTER WITH A
YOUNGER SURVIVING SPOUSE?
ANSWER: NO
MANDATORY DISTRIBUTIONS
[Assume surv. spouse inherits IRA at age 70]
AGE
Own Accumulation
IRA
Trust
AGE
70
3.65%
5.88%
75
4.37%
8.33%
80
5.35%
14.29%
Own
IRA
Accumul
Trust .
82
83
84
5.85%
6.14%
6.46%
20.00%
25.00%
33.33%
85
86
87
6.76% 50.00%
7.10% 100.00%
7.47%
empty
MANDATORY DISTRIBUTIONS
[Assume surv. spouse inherits IRA at age 70]
AGE
Own
IRA
Conduit
Trust
70
3.65%
5.88%
75
4.37%
7.46%
80
5.35%
9.80%
AGE
Own Conduit
IRA
Trust .
82
83
84
5.85%
6.14%
6.46%
11.00%
11.63%
12.35%
85
86
87
6.76%
7.10%
7.47%
13.16%
14.08%
14.93%
RETIREMENT ASSETS
IN THE CROSSFIRE OF:
> Income taxation
> Mandatory ERISA distributions
> Estate
taxation
Collision of three tax worlds at
death
FUTURE OF ESTATE TAX ?
Year
2001
2002-2003
2004-2005
2006-2008
2009
2010
2011-2012
2013
Threshold
$ 675,000
$ 1,000,000
$ 1,500,000
$ 2,000,000
$ 3,500,000
REPEALED ! [* carryover basis]
$ 5,000,000 inflation indexed
$ 5,250,000 inflation indexed
MARRIED?
61% of male decedents
24% of female decedents
- MARITAL DEDUCTION !!
- DEFER ESTATE TAX UNTIL
DEATH OF SURVIVING SPOUSE
RETIREMENT ACCOUNTS
AND PORTABILITY
For a surviving spouse,
rollovers and portability
will usually be
your first choice
PORTABILITY
* Law that gives a married couple a
potential combined $10+ million
exemption – double the $5+ million
exemption available to others. Section
2010( c)
* When 2nd spouse dies, estate can
claim DSUEA from estate of first
spouse
RETIREMENT ACCOUNTS
AND PORTABILITY
• Portability permits rollovers
to a surviving spouse
• Rollovers are better than
retirement assets to a trust
for a surviving spouse
MANDATORY DISTRIBUTIONS
[Assume inherit IRA at age 80 and die at 92]
AGE
Own Accumulation Conduit
IRA
Trust
Trust .
80
5.35%
85
6.76%
19.23%
13.16%
90
91
92
8.78%
9.26%
9.81%
100.00%
empty
empty
18.18%
19.23%
20.41%
9.80%
9.80%
RETIREMENT ASSETS
IN THE CROSSFIRE OF:
> Income taxation
> Mandatory ERISA distributions
> Estate
taxation
Collision of three tax worlds at
death
NOT MARRIED?
39% of male decedents
75% of female decedents
- NO MARITAL DEDUCTION
- ESTATE TAX WILL BE DUE ON
I.R.D.
NOT MARRIED?
NO MARITAL DEDUCTION
WHAT IS THE TAX RATE
THAT RICH PEOPLE PAY
ON THEIR INCOME ?
• Income tax?
• Estate tax?
IF RICH ENOUGH TO PAY ESTATE TAX,
CONSIDER CHARITY & PHILANTHROPY.
Combination of income & estate taxes
Income
$100
Income tax
40 (40%)
Net
$ 60
Estate Tax
24 (40% )
Net to Heirs $ 36 ….. in 2013
Roth IRA Conversion and a
Charitable Bequest Disclaimer
• Pre-Mortem Planning:
Roth IRA Conversion
• Post-Mortem Planning:
Charitable Bequest via Disclaimer
(charity named as contingent
beneficiary of a retirement account)
A ROTH IRA CONVERSION
IS A TAXABLE EVENT
Treated as taxable withdrawal
from traditional IRA or QRP,
followed by a non-deductible
contribution to a Roth IRA
Roth IRA & Estate Tax
Assets
Cash, etc.
$ 4.1 million
IRA (taxable IRD) 1.0 million
Tx-exmp Roth - 0Liab
-0Net Estate
$ 5.1 million
Roth IRA & Estate Tax
Before
Cash, etc.
IRA
Tx-exmp Roth
Liab
Net Estate
4.1
1.0
- 0-05.1
After
4.1
0.7
0.3
Roth IRA & Estate Tax
Before
Cash, etc.
IRA
Tx-exmp Roth
Liab
Net Estate
4.1
1.0
- 0-05.1
After
4.1
0.7
0.3
-0.1
5.0
Roth IRA & Estate Tax
Before
Cash, etc.
IRA (taxable IRD)
Tx-exmp Roth
Liab
Net Estate
After
4.1 paid> 4.0
1.0
0.7
- 00.3
-0- paid> -05.1
5.0
Roth IRA & Estate Tax
Assets
Death
Cash, etc.
$ 4.1 million $4.3
IRA
1.0 million
Tx-exmp Roth - 0Charit. Bequest - 0 Liab
-0Net Estate
$ 5.1 million $5.3
Roth IRA & Estate Tax
Before
After
Cash, etc.
IRA
Tx-exmp Roth
Charit. Bequest
Liab
Net Estate
4.3
4.3
1.0
- 0- 0-0-
0.7
0.3
-0-0.1
5.3
5.2
Charitable Disclaimer
Before
After
Cash, etc.
IRA
Tx-exmp Roth
Charit. Bequest
Liab
Net Estate
4.3
1.0
- 0- 0-05.3
4.3
0.7
0.3
-0.2
-0.1
5.0
Charitable Disclaimer
Before
After
Cash, etc.
IRA (taxable)
Tx-exmp Roth
Charit. Bequest
Liab
Net Estate
4.3
1.0
- 0- 0-05.3
paid> 4.2
paid> 0.5
0.3
paid>
0.2
paid> -05.0 0.2
Charitable Disclaimer
Estate planner said to me:
“Show me the child that
will actually disclaim an
inheritance to a charity to
avoid an estate tax”
Charitable Disclaimer
• A charity the child
supports
• Donor advised fund
(problems with disclaimers
to a private foundation)
HOW TO LEAVE A
RETIREMENT ACCOUNT TO
BOTH FAMILY & CHARITY
Avoiding Problems With
Charitable Bequests
* Let
Other Beneficiaries
Have Stretch IRA
*Keep IRD Off of Estate’s Income Tax Return
* Guarantee Offsetting Charitable Income Tax
Deduction if Have to Report Income
REQUIRED MIN. DISTRIBUTIONS
*LIFE EXPECTANCY TABLE*
“STRETCH IRAS”
Age of Beneficiary
30
40
50
60
70
80
90
Life Expectancy
53.3 more years
43.6
34.2
25.2
17.0
10.2
6.9
Avoiding Problems With
Charitable Bequests
* Let Other Beneficiaries Have Stretch IRA
*Keep IRD Off of Estate’s Income Tax
Return
* Guarantee Offsetting Charitable
Income Tax Deduction if Have to
Report Income
WHAT CAN GO WRONG ?
TWO WAYS TO MAKE A CHARITABLE
BEQUEST FROM A RETIREMENT
ACCOUNT
#1 – NAME CHARITY AS BENEFICIARY OF
THE ACCOUNT
#2 – PAY ACCOUNT TO ESTATE OR TRUST
THAT THEN MAKES A CHARITABLE
BEQUEST
Avoiding Problems With
Charitable Bequests
* Let
Other Beneficiaries
Have Stretch IRA
*Keep IRD Off of Estate’s Income Tax Return
* Guarantee Offsetting Charitable Income Tax
Deduction if Have to Report Income
WHAT CAN GO WRONG #1?
• Other beneficiaries cannot do stretch
IRA if charity is beneficiary?
• Solutions:
* cash out charity’s share by Sept 30
or
* separate account for charity
p. 39
WHAT CAN GO WRONG #2 ?
TWO WAYS TO MAKE A CHARITABLE
BEQUEST FROM A RETIREMENT
ACCOUNT
#1 – NAME CHARITY AS BENEFICIARY OF
THE ACCOUNT
#2 – PAY ACCOUNT TO ESTATE OR TRUST
THAT THEN MAKES A CHARITABLE
BEQUEST
WHAT CAN GO WRONG #2?
Estate or trust has taxable income
from receiving IRA distribution,
but maybe there is no offsetting
charitable income tax deduction
when the IRA check is given to a
charity.
WHAT CAN GO WRONG?
• IRS Chief Counsel Memorandum ILM 200848020
• Decedent left his IRA to a trust that benefited
his six children and several charities
• Trust received cash from IRA; paid entire
charitable share, leaving the six children as the
only remaining beneficiaries of the trust.
• IRS: “Taxable income from IRA, but no
charitable deduction.” Reason: trust had no
instructions to pay income to charities
p.39
WHAT CAN GO WRONG?
• Solution #1 – Keep IRD off of
estate’s/trust’s income tax return
a. Name charity as beneficiary of IRA
b. “Distribute” IRA to charity if
document allows
Caution: IRS memo on danger of using
retirement accounts to satisfy pecuniary bequests
p.41
WHAT CAN GO WRONG?
SOLUTION #2 – draft document to get
an offsetting charitable income tax
deduction in case estate or trust has
income
• I instruct that all of my charitable gifts,
bequests and devises shall be made, to the
extent possible, from "income in respect of a
decedent" …..
P.42
Planning for
Retirement Assets in an Estate
CHRISTOPHER R. HOYT
University of Missouri - Kansas City
School of Law