The Step-Up in Basis Remains, For Now

There was talk last year in Congress about doing away with the step-up in basis for inherited assets. My office has recently received several inquiries regarding whether the Tax Cuts and Jobs Act eliminated the step-up. Happily, it did not. And that's good news for anyone who wants to pass along highly appreciated assets to loved ones.

If you're wondering how the step-up works, here's a primer:

When you give away a highly appreciated asset, the recipient must pay capital gains taxes on the asset when he/she sells it. (No income tax is due on the gift, however). If you give it away during your lifetime, the recipient will owe capital gains tax based on the original cost basis. For example, let's say you bought stock in Company XYZ in 1970 for $200 and now you transfer it to your son. If he then sells the stock for $1,000, he will owe capital gains tax on  $800 (the difference between the sales price and the original cost basis: $1,000 - $200).

If on the other hand your son inherits the stock from you at your death, the stock gets a step-up in basis. This means that for tax purposes, the value of the gift is pegged to its value on the date of death, not to its original cost basis. So, if the stock is worth $900 when he inherits it and when he sells it is is worth $1,000, capital gains will be due on only the $100 difference (the difference between the sales price and the step up in basis: $1,000 - $900). 

You can see why we generally advise clients who wish to pass along highly appreciated capital assets to loved ones to avoid doing so during their lifetimes and instead, to leave the asset to loved ones through their estate plan. Of course, every situation is different and you should consult with your own estate planning attorney regarding the best option for your circumstances.

Another reason one must be very careful about giving gifts during one's lifetime is the possible negative impact on Medicaid eligibility.

Contact the Karp Law Firm for advice on how to handle these issues!

What can clients expect following the 2016 election?

The most contentious election in recent memory is over. Whatever your opinion of the results (and I'd venture to say you probably have a very strong opinion), my job is to analyze the impact of the election on the issues that concern my clients, and to recommend steps they may take.

Specific predictions are impossible, of course. However, we can make some educated guesses about what a Trump presidency would look like based on (1) what was said on the campaign trail; and (2) the GOP platform, since it now controls both houses of Congress. Here are some possible scenarios that could impact clients:


Changes to Florida Medicaid Benefits for Long-Term Care?

During the campaign, Trump did not mention the growing long-term care crisis that is bringing more and more middle class families to financial ruin. Clients who do not have long-term care insurance to cover nursing home expenses often turn to Florida Medicaid long-term care benefits, and, with our help, can preserve a significant portion of their assets without going broke. 

Currently, the Centers for Medicare and Medicaid Services set the basic ground rules for Medicaid, with the states having some leeway to fine-tune the rules. Republicans have long advocated replacing this system with "block grants," whereby each state would get a chunk of money, most likely a smaller chunk than they receive now. Each state would then have the freedom to formulate its own eligibility standards and other rules. If this occurs, the potential negative implications for clients could be profound. For example, as a cost-cutting measure, Florida or any state could extend the look-back period beyond the current five years, and/or well spouses of nursing home residents could lose their current financial protections.

Recommendation: 

If you believe you have inadequate protection from long-term care costs, take action without delay.

• Look into long-term care insurance. Many types of policies are now available, other than traditional policies. Read my prior post on these new types of hybrid policies. Call our office and we can put you in touch with someone who can help you select a policy. 
• In the alternative, start doing Medicaid planning, taking the steps necessary to protect your assets. Call my office for assistance.

Medicare to be Reconfigured?

Currently, 57 million seniors receive Medicare benefits. In the months leading up to the election, Trump said little about the program. However, his website now mentions "modernizing" Medicare, with the help of Congress. We do not know what "modernizing" means, but we do know that House Speaker Paul Ryan has long supported dismantling Medicare's current configuration and replacing it with a voucher system. Under that system, seniors would get a subsidy to be used to purchase private health insurance. The new system would apply only to future beneficiaries, not to those already receiving benefits. 

The GOP has also expressed a desire to increase the age of eligibility from 65, to 66 or 67. Rep. Tom Price (R-GA), House Budget Committee chair, recently told reporters that the GOP will likely begin pushing for major cuts to Medicare within the coming months. 

Some experts also expect dismantling of other programs benefiting seniors that were put in place by the Great Society program and by the New Deal. We'll have to wait and see.




Scrap the New Fiduciary Rule for Retirement Accounts?

As I reported in a prior post, beginning in April 2017 a new Department of Labor rule requires those providing financial advice on tax-advantaged retirement accounts such as IRA's and 401k's to adhere to a "fiduciary" standard. Under that standard, the advisor's recommendations must be based solely on the client's best interest. If a more expensive or riskier investment is suggested, the advisor must explain the reasons for the recommendation. This differs from the current rule, whereby an advisor is legally obligated only to steer clients into "suitable" investments - even when the suitable investment is more advantageous for the advisor than for the person being advised. It is precisely such conflicts of interest that the new rule was designed to eliminate. 

The new rule was applauded by consumer advocates, and generally opposed by the financial industry. Trump has made no specific mention of it, but CNBC in October 2016 reported that a key Trump advisor said that the President-elect will likely push for its repeal.

Recommendation:

• If you are receiving advice on your retirement accounts from a broker-dealer, be sure to ask the rationale for any recommendations. Ask if there are other options available that may be better. Do not make hasty decisions.

• Whether or not the fiduciary rule stands, note that a Registered Investment Advisor, unlike a broker-dealer, is legally obligated as a fiduciary and must act in accordance with your best interest. If you would like to consult with one of Karp Financial Services' Registered Investment Advisors, please call 561-626-1130. 

Estate Tax to be Eliminated?

The estate tax put $18 billion in federal coffers in 2015, but affected only about 5,000 estates, according to the Tax Policy Center. Beginning January 1, 2017, an individual may pass $5.49 million tax-free (up from $5.45 million in 2016); a married couple can double that amount. The excess is taxed at 40%. Obviously, only the very wealthiest Americans are impacted by the estate tax. Proponents of the estate tax point to its role in mitigating the accumulation of dynastic wealth. Critics view it as an inherently unfair form of double taxation. Trump falls into the latter group and has specifically called for its elimination.

He has also proposed eliminating the step-up in basis for inherited assets over $10M. If this comes to pass, assets over this amount will be subject to capital gains tax of 20%, based on what the decedent paid for the asset, not on the day-of-death value which is the current rule. It is unclear whether the tax would be levied when the asset is inherited, or only when it is sold. Paul Ryan, however, has said he is in favor of retaining the step-up.

Income Tax Brackets Changing?

Under the President-elect's income tax plan, the current seven income tax brackets would be reduced to three, as follows: 

• For married couples filing jointly with taxable income of up to $75,000; and for single filers with taxable income up to $37,500: 12% marginal tax rate. 

• For married couples filing jointly with taxable income from $75,000 to $225,000; and for single filers with taxable income from $37,500 to $112,500:  25% marginal tax rate. 

• For married couples filing jointly with taxable income of $225,000 or greater; and for single filers with taxable income of $112,500 or above: 33% marginal tax rate.

Contrary to popular belief, not all middle class taxpayers are expected to benefit from Trump's proposed tax plan. The non-partisan Tax Policy Center estimates that nearly 8 million middle class families would pay higher taxes under his proposals, a view shared by the conservative Tax Foundation and American Enterprise Institute.

Additionally, it is unclear as to what tax deductions would be retained or scrapped. 

Recommendation:

At this juncture, there is little actionable information to go on. Stay alert to developments, so that you can take advantage of any possible tax benefits and avoid pitfalls. Consider using a financial advisor to help you stay current, and who can inform you of any benefits and complications of particular investments.  

We will keep our eye on all these issues and report any new developments to you. Keep up with the news by checking this blog, our website, and our Facebook page. You may also subscribe to our monthly e-newsletter here. 

Federal estate tax exemption increasing in 2015, but you may still be on the tax hook

On January 1, 2015 the federal unified estate and gift tax exemption will increase from $5.34 million per person to $5.43 million. The top tax rate is now 40% on the portion of a taxable estate in excess of the cap. This means you may give away, without paying any federal estate/gift taxes, a total of $5.43 during your lifetime and/or at death. A married couple can pass twice that amount. And because the federal estate tax is "portable," a surviving spouse may utilize any unused portion of the deceased spouse's exemption.

Most Americans do not have taxable estates and need not incorporate federal estate tax reduction strategies into their estate plans. But it is prudent to remember that the government will always get revenue from somewhere. If it's not from one pocket, it's from another. Keep an eye on your other pockets as you approach your estate planning! Other tax traps may await you:

Capital Gains Taxes:  Do you have a highly appreciated asset that you wish to pass to your heirs? If so, one of the goals of your estate plan will be to reduce capital gains taxes.

One way to do this is to pass the highly appreciated asset to your loved ones at your death, rather than give it away during your lifetime. Assets that you pass at death are inherited with a "step-up" in basis. For example, let's say you bought a home for $100,000 in 1975 and it's now worth $500,000. You'd like to give it to your daughter. But if you give it to her now, and she then sells it, she will owe taxes on $400,000 (the difference between the cost basis and the current value). You would be better off hanging on to the house and passing it your daughter at your death, when she will get it with a step-up in basis. In other words, the government will consider her cost basis to be $500,000, its value on the date she inherits it, not its value on the date you bought it. This will significantly reduce or even eliminate any capital gains tax whenever she chooses to sell it.

Another way to avoid capital gains tax is with a Charitable Remainder Trust. When you place highly appreciated assets in a Charitable Remainder Trust whose ultimate beneficiary is a charity (or charities) of your choice, you receive an immediate income tax deduction. Your designated trustee then sells the asset - without any capital gains tax because charities are exempt from the tax -  and invests the monies in income-producing investments. You then receive income for life from the trust. When you die, your designated charity receives the principal of the trust. Although the trust is irrevocable, you may retain the power to change or add charitable beneficiaries at any time. 

State Estate Taxes: Florida does not have an estate tax, but several other states do. If you are a transplant to Florida, is it possible you will end up back in your original state of residence? Many people relocate in order to be closer to their family. If the state you end up is one that has an estate tax of its own, it's a whole other ballgame from an estate planning perspective.

Here's a sampling of estate tax exemptions in a few places many of my clients hail from:

New Jersey: $675,000. Top tax rate of 16%

District of Columbia: $1 million. Top tax rate of 12%

Maryland: $1.5 million. Top tax rate of  with a top tax rate of  16% 
Connecticut: $2 million. Top tax rate of  with a top tax rate of 12%

New York: $2.062 from Jan. 1 to April 14, 2015. Starting April 15, 2015, $3.125 million with a top tax rate of 16%

When I meet with clients and ask if there is even a remote possibility of their returning to their state of origin, or relocating to a state where their children currently reside or may reside in the future, most don't rule it out. That's why we always try to build in state estate tax planning, in anticipation of this possibility. 

And to put aside the tax issue entirely, don't forget the most important thing to get right with your estate plan: Creating harmony and security for your family and for yourself! See a qualified estate planning/elder law attorney to discuss your estate planning needs.