Domicile and Taxes

Thomas Campaniello had apartments in New York City and in Florida.  He also had a sizeable income. In 2006 Campaniello decided to change his domicile to Florida but still spend time in both states. That is easier said than done, as far as the taxing authorities are concerned.  You can’t just declare where you want to be taxed. Under New York State law one must prove “by clear and convincing evidence” that the New York domicile has been abandoned.
Here’s what Campaniello did right. He kept very clear records, proving that he spent less than six months in New York (169 days, to be exact). He provided the tax authorities with summaries of his trips, copies of his passport pages proving his foreign travel, credit card and cell phone statements for all of 2007. He had a Florida driver’s license, owned his car there, and kept important personal items, such as his doctoral diploma, in his Key Biscayne apartment.
Here’s what Campaniello did wrong, according to the Administrative Law Judge who heard his case. Although he spent more time in Florida than in New York, he did return to New York for some portion of almost every week. He received bills at his New York address, had family ties in New York, kept personal belongings and clothing in his New York apartment, ran his Florida and New York businesses from his New York offices, and continued seeing medical professionals in New York. He did not clearly surrender his New York domicile, in the eyes of the taxing authorities.
The conclusion: Campianeillo owed New York tax as a full-time resident, not as a part-time resident, as he had filed. That meant that there was a shortfall of $319,009.00 in New York State taxes, $169,772.00 in New York City taxes, plus penalties and interest that brought the total owed to $709,429.00.
What else might Campaniello have done to bolster his argument, short of ending his contacts with New York completely? Planners sometimes suggest such actions as registering to vote in the new domicile, joining a local place of worship, having all mail sent to the new address, and retaining new lawyers, accountants and doctors in the new domicile. If one is moving to Florida, it may be useful to apply for the Homestead Exemption on the Florida residence.
© 2016 M.A. Co.  All rights reserved.

SECRET CLAUSES IN TRUSTS

When Dmitri remarried in 1989, he created a revocable trust for his wife and his two sons from his first marriage, his only descendants. The sons were to receive a distribution from the trust at Dmitri’s death, but most of the assets were to remain in trust for the life of the surviving spouse. At the survivor’s death, the trust would terminate in favor of the sons or their descendants. The sons were named the trustees of this trust.

Some 23 years later, Dmitri had a change of heart. In August 2012 he had the revocable trust restated, removing the sons as trustees, and he also removed the distribution to them at his death. The sons were very unhappy with this development, and they let their father know about it. They were particularly displeased with the choice of Celia Rafalko as successor trustee, as they believed that she was a close confidant of their stepmother. Dmitri took umbrage at their communications, which, he felt, impugned the character of his wife and showed a lack of confidence in his judgment.

Dmitri died in December 2012. In January 2013 one brother wrote to his stepmother proposing that they all agree to terminate the trust, splitting the principal equally among the brothers and the stepmother. He also asked that all records of trust administration be preserved carefully.

Unbeknownst to the brothers, Dmitri had a second restatement of the trust done in September, after the disagreement with the sons. This time the trust included an in terrorem clause, which disinherited any beneficiary who interfered with the administration of the trust. When they learned of the secret clause, the first son backed off on his suggestion, and the second son disavowed any knowledge of the suggestion to terminate the trust.

In accordance with the September trust, Rafalko sent the sons releases to be signed, in which they promised never to contest any aspect of the trust’s administration. They signed. Nevertheless, Rafalko warned the sons that she was going to consider whether they had violated the in terrorem clause. In May 2013 she told the sons that they were disinherited. This would have no effect on the stepmother’s trust interest, but it did result in Rafalko having the power to direct the trust assets to charities at the stepmother’s death.

The sons challenged their disinheritance, and the Virginia courts found that the trustee had acted in bad faith. Communication regarding a change in the trust’s administration is not the same thing as mounting a legal challenge to it, and the brothers instantly backed off when they learned of the in terrorem clause. As the purposes of that clause were fully achieved, the trustee’s further “punishment” of the sons was an abuse of discretion. The sons were also awarded some $45,000 in attorney’s fees, to be paid out of the trust.

© 2016 M.A. Co.  All rights reserved.

Bell tolls for long-term-care insurance

Perhaps the product was doomed from the start. As critics pointed out, people who needed long-term-care insurance couldn’t afford it; people rich enough to afford it didn’t need it.

And those were the good old days. Most holders of LTC policies have seen their premiums soar; in an era of low interest rates, insurance companies have a hard time meeting their investment targets for their pools of funds. Sales of new policies have plummeted.  In 2002 the number of individual policies sold peaked at 750,000. Last year’s sales: 110,000.  There are 45 million Americans age 65 and older, and only 8 million of them have long-term-care policies.

Some people reportedly are worried that if they have the insurance, it will make it too easy for their children to force them into a nursing home. As if soaring premiums and severe shrinkage in the number of companies offering policies aren’t trouble enough, marketing of long-term-care insurance also has clashed with an opposing concept: Medicaid planning. Why buy a policy to protect yourself against the risk of exhausting your wealth and ending up in a Medicaid-funded nursing home? Medicaid planners offer techniques for diverting or divesting assets in order to achieve that very result.  But the government really can’t afford to cover nursing home care for everyone.

LTC insurance and Medicaid planning share the goal of protecting the children’s inheritance. Shouldn’t the kids be glad to pay their parents’ LTC premiums?  The idea hasn’t gained traction. If the potential costs of long-term care can’t be insured against, they must be met through added savings and investment. The job of investing for financial independence only begins with building a source of regular retirement income.

 

(September 2016)

© 2016 M.A. Co. All rights reserved.

When is a transfer a gift?

Cohen got along famously with his son-in-law Raymond, who went to work in his father-in-law’s scrap metal company. Raymond became one of Cohen’s most valuable assistants. In 2006 Cohen sold the company. He and Raymond each received three-year employment contracts.  However, they were not very happy working for the successor, and began to seek other business opportunities. The pair traveled to Germany together to observe scrap metal operations in that country.

Cohen wanted Raymond to become familiar with the world of investing.  To that end, he created a brokerage account in Raymond’s name at Merrill Lynch, depositing $250,000 in the account.  Apparently, there were no formalities observed in this transaction, such as a written loan agreement.  Cohen later testified that he thought the account would be “seed money” for a future venture.

Unfortunately, Cohen’s stepdaughter and Raymond divorced two years later.  Next, Raymond withdrew $50,000 from the Merrill Lynch account.  Cohen demanded that Raymond repay the entire $250,000, and he filed a lawsuit to get it.  The trial court ruled that there is a “weak” presumption that a transfer of assets to an in-law is really a gift.  The presumption means that Cohen has to prove that a gift was not intended.

The New Hampshire Supreme Court came to Cohen’s rescue.  The Court held that the presumption of a gift applies only to transfers to a spouse or children, not to transfers to in-laws. When the case returns to a lower court, Raymond will have the burden of proof to show that a gift really was intended at the time that the Merrill Lynch account was set up for him.

(September 2016)

© 2016 M.A. Co.  All rights reserved.

Fear of identity theft

A recent survey of high-net-worth investors, reported on wealthmanagement.com, probed for respondents’ greatest fears.  Major illness came in third, at 56%.  Terrorism concerned 65%.  The top worry, for 72% of respondents, was identity theft.

The concern is not misplaced.  Reportedly, in 2015 alone there were 13.1 million victims of identity theft, at a cost of $15 billion.  Curbing identity theft was a big motivator for the addition of chip technology to credit and debit cards.  But there are many more ways for identity thieves to skin that cat.

E-mail.  In the early years of e-mail and the Internet revolution, having a naïve password was understandable.  You might think that by this time, most people would have gotten the message to avoid passwords that are easy to guess.  If so, you would be wrong.  According to time.com/money, the top five 2015 passwords from a leaked trove were, in descending order: 123456, password, 12345678, Qwerty, and 12345. To make guessing a password harder, experts recommend avoiding complete words, user names, real names or company names.  When you change a password, make it completely different, rather than just a tweak.  Finally, although it may be tedious to have different passwords for every Web site, it is very dangerous to rely on a single password for everything.

Snail mail.  A wealth of personal financial information passes through your mailbox.  In many cases you can eliminate this danger by requesting online only versions of bank statements, credit card accounts and retirement accounts. Short of that, you never should leave mail in your mailbox overnight or on weekends.  The U.S. Postal Service will hold your mail if you will be away for three to 30 days.  Preapproved credit offers that are being tossed should be disposed of in a secure manner.

Public Wi-Fi.  Using free Internet service from a public hot spot may be tempting, but it can be dangerous.  Hackers may set up fake public Wi-Fi hot spots, from which they may gain access to your data. Experts recommend sticking to known secure Wi-Fi when possible.  Avoid all sites related to your personal finances when using public Wi-Fi.  When in doubt, check on the authenticity of a hot spot before using it.  Eternal vigilance is the price of a protected identity.  For some, a revocable living trust may add a layer of identity protection.  Using a revocable trust with a distinct tax identification number might make it more difficult for a criminal to pilfer the accounts.

 

(September 2016)

© 2016 M.A. Co.  All rights reserved.

 

529 Plans: Advanced Questions

During the presidential primary campaigns, the cost of higher education and the burden of education loans upon recent graduates was been a recurring theme.  Families with higher incomes have addressed these costs by contributing to tax-preferred savings vehicles, such as the 529 plan (named for a section of the tax code).

In his 2015 State of the Union address, President Obama called for an end to the tax freedom for distributions from 529 plans for college expenses. The justification for the change was that the tax benefits of 529 plans have been flowing disproportionately to higher-income taxpayers, given that they have the highest marginal tax rates and do the most saving.  Reducing that benefit for them would allow for expansion of the tax credits that have greater value to lower-income families. But after a bipartisan outcry, the President backed off the proposal, his spokesman saying that it had become a “distraction.”

We can be confident that 529 plans are here to stay.  Here are some unusual questions that we’ve heard recently.

Because I am employed by a private university, my child will be attending my school tuition free.  However, the value of the tuition shows up on my W-2 as additional compensation. Can I tap the 529 plan I set up for my child to cover the tax payments?

No, you can’t do that.  Taxes are not among the qualified education expenses permitted for 529 plans, even if the taxes arise in connection with education.  If your child won’t be living at home with you, the costs of room and board may be qualified expenses that the 529 plan can cover.

I know that direct payment of college tuition is not a taxable gift.  How about if I put $50,000 into a 529 plan for my grandchild this year?

Contributions to 529 plans are potentially taxable gifts.  They are shielded by the $14,000 annual gift tax exclusion, so up to that amount no gift tax return is required.  You are permitted to bunch up to five future annual exclusion gifts together, so that a contribution of up to $70,000 in one year ($140,000 for married couples) may be contributed in a single year.  However, you can’t make any other gifts to the individual during the five-year period, and there will be some paperwork to do every year.

If you wanted to contribute $100,000 to a 529 plan, there would be a taxable gift. However, unless you’ve already made more than $5.45 million in taxable gifts, a gift tax won’t be payable. Instead, the gift will reduce the amount of your federal estate tax exclusion at your death.  See your tax advisors to learn more.

It appears that I put too much money in a 529 plan for my child, who just graduated.  What happens to the excess?

There are only three choices for unused 529 plan accumulations.  First, you may roll the funds into another 529 plan for a member of the beneficiary’s family—a brother or sister, for example. Second, wait a couple years to see if the child decides to go to graduate school, and use the money for those expenses. Or third, withdraw the money and pay income taxes and the 10% penalty on the earnings portion of the withdrawal.

Because distributions are split pro rata between earnings and principal, these taxes may not be as serous as you might think.  Assume that a $100,000 529 plan consists of 2/3 contributions and 1/3 earnings.  Next assume that $82,000 was consumed for college expenses, and $18,000 is left.  Of that amount, $12,000 would be a tax-free return of principal, and $6,000 would be subject to tax.  The tax penalty comes to $600; the income tax depends upon one’s marginal tax bracket.  In the 25% bracket, for example, the income tax would be $1,500, for a total expense of $2,100 to withdraw the full $18,000.

(August 2016)

© 2016 M.A. Co. All rights reserved.

Variable Medicare Premiums

Beginning in 2007, the amount a retiree must pay for Medicare Part B had a new component put into the mix: adjusted gross income (AGI).  Higher income retirees began paying more, and the highest income retirees had to pay more than double for the same coverage.  Similar rules began to apply to Medicare Part D in 2011.  The table on page 2 spells out the dollars for 2016.

Technically, these extra payments are not taxes.  They are premium adjustments.  But the way that they work, a single dollar of extra income can result in hundreds, even thousands, of extra dollars in payments.  Accordingly, retirees who are near the boundaries for extra premium payments have an extra incentive to do careful tax planning.

However, there is an additional twist.  The premium adjustments are based upon AGI from two years earlier.  So, for 2016 the premium adjustments depend upon 2014 AGI.

Take control

Retirees have a number of choices to make in taking control of their AGI.  Accelerating deductions, however, is not among them, because deductions are on the path from AGI to taxable income, and come into the picture after AGI has been set.  Ideas that may work include:

  • investing more in growth stocks that do not pay dividends;
  • choosing more tax-efficient mutual funds;
  • bunching distributions from 401(k) or 403(b) distributions;
  • realizing capital losses;
  • bunching stock sales;
  • selling higher basis assets to minimize gains;
  • making intra-family gifts of income producing assets;
  • making qualified charitable distributions from an IRA.

 

Higher stakes

 

Tax planning done for 2016 will affect the 2018 excess Medicare premiums.  In 2018, the higher premiums are scheduled to kick in at even lower levels of income.  The threshold for the third bracket will fall to $133,500.  The top bracket will start at $160,000, 25% below today’s threshold.

Lawmakers may have thought that a retiree with $160,000 of income doesn’t “need” that $4,000 or so of excess premiums. But for someone near that boundary line, a slight shift in income can make a meaningful difference to after-tax capital.

 

Monthly Medicare Premiums for 2016

 

The standard Medicare Part B premium in 2016 is $121.80.  However, because there was no inflation adjustment this year, the majority of Social Security recipients are paying $104.90 each month.  Those with higher incomes must pay the standard amount plus the amounts indicated in the table below.  For married couples filing jointly, the income threshold is doubled. In 2016 he maximum additional premiums for Part B and Part D is $4,090.80 for singles, $8,181.60 for married couples.

 

Extra monthly and annualized Medicare Premiums

Modified AGI Additional Part B premium Additional Part D premium Total Annual
$85,000 or less $0 $0 $0 $0
$85,000 to $107,000 $48.70 $12.70 $61.40 $736.80
$107,000 to $160,000 $121.80 $32.80 $154.60 $1,855.20
$160,000 to $214,000 $194.90 $52.80 $247.70 $2,972.40
Over $214,000 $268 $72.90 $340.90 $4,090.80

Source: https://www.medicare.gov/your-medicare-costs/costs-at-a-glance/costs-at-glance.html; M.A. Co.

(August 2016)

© 2016 M.A. Co. All rights reserved.

Clinton v. Trump on estate taxes

The federal estate tax has remained unchanged since 2012, giving estate planners and their clients’ time to adjust to the permanent larger exemption and the portability of the exemption between spouses.  That comfort level could change in 2017, as both Presidential candidates have called for major changes in the federal estate tax.

Donald Trump advocates the complete repeal of the federal estate tax.  Repeal would not mean the end of planning for death taxes, however.  During the year that the federal estate tax was suspended, 2010, executors and heirs had to learn the intricacies of carryover basis, which took the place of the estate tax.  (Current law permits a tax-free step-up in the basis of inherited assets, a very valuable tax privilege.) In effect, the capital gains tax was substituted for the estate tax.

Many estate planning strategies have both tax and nontax objectives. Should Mr. Trump succeed and then persuade the Congress to accept his ideas for the estate tax, the tax planning benefit of many strategies would be reduced or eliminated.

Hillary Clinton goes to the other extreme. She wants to roll the federal estate tax exemption back to the level it was in 2009, $3.5 million, coupled with a bump in the estate tax rate.  She likely also would advocate a range of technical restrictions on estate tax planning strategies, similar to what President Obama has included in his budget proposals.

Unless Republicans lose control of the House of Representatives, enactment of her program seems unlikely. But should it happen, history suggests that there might be a frenzy of major gift giving.  Back in 2012, when the federal exemption was scheduled by law to be reduced, many wealthy families tried to “lock in” the higher exemptions with intra-family transfers.  That phenomenon would be likely to recur.

The two visions for the federal estate tax are not expected to play any role in the outcome of the election, but those who are planning to make or review estate plans might want to keep these points in mind.

© 2016 M.A. Co.  All rights reserved

12 reasons to review your will

Creating a will and an estate plan is not a “one and done” event.  Many events can cause a plan that made perfect sense when it was drafted fail to meet expectations and the needs of the family.  Life happens.  As a rule of thumb, a will and estate plan should be reviewed every five years or so.  Here’s a checklist of 12 reasons why a will might need to be amended.

  • An heir has died.
  • A new potential heir has been born.
  • Divorce.
  • Divorce of an heir.
  • Retirement.
  • Move to another state.
  • Sale or gift of assets bequeathed in the will.
  • Material change in wealth, up or down.
  • Change in federal tax laws.
  • Change in state tax laws.
  • An heir has become disabled, or perhaps drug dependent.
  • Estrangement from heirs.

Two changes in the federal estate tax made in 2012 rendered a great many wills obsolete, for example.  First, the amount exempt from federal estate taxes was lifted permanently to $5 million (plus inflation adjustments).  Second, the exemption was made “portable” for married couples.  Strategies employed in an estate plan to reduce estate taxes were made completely unnecessary for smaller estates.

The most common technique for deferring federal estate taxes has long been the marital deduction trust, coupled with a “bypass” trust.  When one combines “portability” with the enlarged federal exemption, a family fortune of up to $10 million (plus inflation) can avoid all federal estate taxes simply by leaving everything to a surviving spouse and filing an estate tax return when the first spouse dies.  The favorable outcome of the “two-trust” plan is now possible with the simplest of wills.

See your professional estate planning advisors to learn more.

(July 2016)

© 2016 M.A. Co. All rights reserved.

 

Should your investment program be a trust?

Investors with $50,000 portfolios have stockbrokers, it has been said, while those with $5 million have trust officers. That may be true, but it’s also misleading.The fact is, few of our customers are in the truly high-wealth category. A good number of business or professional people, active or retired, count on us to maintain and enhance their hard-won financial independence. Some rely on us to invest significant sums that they have received as a result of a death in the family or the sale of property. All in all, the great majority of trusts in our care are well below the million-dollar level.

What sets us apart is the nature and quality of our work. As we see it, each of our trust customers deserves the first-class service that an investor with $5 million expects to receive.

Is it time for you to move up to a living trust? These insights into our way of doing things will help you arrive at an informed decision.

We’re different

First, you should understand that we don’t claim to be “better” than full-service brokers or financial advisors. We’re just different.

Buying and selling. Some investment advisors make their money from the commissions that they receive for buying and selling securities for their customers and from profits on new issues of securities that they underwrite and make available to the public.

That’s not us. We’re paid a fee based upon account size. Our compensation goes up only if the account grows in value.

Financial management. As a trust institution, our sole concern is to do the best possible job of managing money for our customers. We have no stocks to sell, nor do we look to commissions for compensation.

Because we have nothing to sell but service, our success is tightly linked to the success and satisfaction of our customers. We’re well aware that in order to prosper we must (1) make our customers’ capital grow and (2) serve our existing customers so attentively that they refer new customers to us.

This attentiveness is reflected in our insistence on viewing each trust customer as an individual with a unique set of financial aims and circumstances, not merely as an “account.”

More than investment counseling

In some respects our services resemble those that an investor might receive from a top-flight investment counseling firm. But here, too, there can be significant differences. We provide each of our trust customers with complete custodial care and record-keeping services. Indeed, we take care of virtually every investment detail that you can think of. Sound convenient? It is. More important, all this attention to detail can result in significant savings over the years. If you’ve ever mislaid a dividend check, or failed to notice that a bond was called for redemption and had ceased to earn interest, or overpaid your taxes because adequate investment records were lacking, you’ll understand what we mean.

Unique advantages. By placing their invest-able funds in what we call a revocable living trust, our customers are able to take full advantage of our broad and unique capabilities as a trust institution. They (and you) can instruct us to perform a wide variety of special duties, now or in the future.

For example, some of our trust customers have a fondness for roaming the world. Who makes sure that their estimated income taxes, property taxes and other recurring payments are taken care of while they’re away for extended periods? If they wish, we do.

For older men and women, our ability to accept added responsibilities as trustee can result in enhanced peace of mind. It’s worrisome to hear of aging friends or relatives who have become incapable of managing their own finances, and even more distressing to hear of problems arising from the appointment of a guardian or conservator. With a well-planned trust agreement, an older person can make arrangements now to minimize financial–management problems in the event of future illness or incapacity.

Moving up without “tying up”

When talking with potential customers, we’ve learned to expect a comment that goes something like this: “A trust sounds like just what I’ve been looking for—except, I don’t want to tie up my money.”

Like these men and women, you also will be pleased to hear that the terms of a trust can be just as untied as you want to make them. What’s more, the type of trust that we’re discussing is revocable. That means you’re free to cancel the whole arrangement if ever you find a better source of first-class financial management. You’re also free to amend your instructions to us as your plans or circumstances change.

Ready to move up to a living trust? Call on us!

(July 2016)

© 2016 M.A. Co. All rights reserved.