Tax Wealth Network, service of Boston Tax Planners

Living Trust Myths Debunked

2024-01-27

What are the benefits of a living trust? Should you consider adding a living trust to your estate plan and why? Let's explore how a living trust can help you and your family. Read on to see how living trust myths are debunked.

What is a Living Trust?

A living trust is established as part of your estate plan to be the owner of record for your assets. It allows you to retain control over the trust property until death. When you pass away, the trust is turned over to the successor trustee, who is chosen by you, to distribute the trust property according to your wishes.

By setting up a living trust, you'll find that your estate avoids probate of your assets. This results in faster, easier distribution to your beneficiaries without additional costs. You'll also maintain your privacy because trust provisions stay confidential.

This is in sharp contrast to a last will and testament, which becomes a matter of public record that has to go through the court probate process. Finally, you can change a revocable trust at any time during your lifetime. Revocable living trusts are used to protect property until your beneficiary is mature enough to make wise decisions about his or her inheritance.

Myth No. 1: Living trusts are only for the wealthy. While many wealthy people set up trusts, it doesn't mean that this option is only for the rich. Many people with average incomes find living trusts to be beneficial. Whether or not you have millions in investments, you'll probably benefit from a living trust since it will provide easier control of the distribution of your assets after your death while protecting your privacy.

Myth No. 2: Living trusts benefit only beneficiaries, not the people making the trusts and not you, the grantor. In fact, a trust can allow for easier handling of your affairs should you become incapacitated, and make things much less stressful for loved ones left to care for your affairs when you're unable to do so.

Myth No. 3: You can't access funds once they're in a living trust. This ignores the "living" part of the living trust. Funds and assets can be made as accessible as you wish, to you or to whomever you desire. If you want the trust primarily for your own benefit, you can set it up so that everything is accessible to you until your death. In addition, you can make sure the funds do not end up with those you don't want to get them. Aside from changing the title on your accounts or real estate to reflect the transfer from you to the living trust, you can operate your financial affairs as you did prior to setting it up.

Myth No. 4: Creating a living trust is complicated and expensive. Not true. Setting up a trust may cost a bit more up front than simply writing a last will and testament, but the cost savings later on can make up for these expenses in the long run. Why? The probate process can cost anywhere from 2% to 5% of the value of an estate. Setting up a living trust now avoids paying that cost later. Through the power of technology and a nationwide network of attorneys, a living trust package with a complete set of related documents like a health care proxy, durable power of attorney, and pour-over will can cost as little as $650 for a married couple. For more information, you can check out the Estate Plan Navigator program that we use with clients here.

Myth No. 5: Even if you have young children, a will can do anything a trust can. A living trust can do some things a will cannot easily accomplish, and can become a vital part of your estate plan. It allows you to give your hard-earned money and property to those you care about while protecting it for them. If you have beneficiaries who are not quite able to handle large sums of money on their own, for example, then a revocable living trust is a necessary component of your estate planning. Your beneficiary may not be mature enough to handle large sums of money. This can be handled by implementing rules on how, when, and under what circumstances distributions may be made. For instance, the living trust can specify that your chosen trustee can make distributions to support the health or education of a minor beneficiary. Or if you're worried about a beneficiary unwisely spending their inheritance or of the adverse impact of an addiction, you can specify for the trustee to release money at certain ages or after proof of being in recovery and addiction-free for a period.

Some people are spendthrifts, others are in not-so-good marriages and still others are going through bankruptcy. Then there are those who are just too frail and incapacitated to manage property on their own. You'd rather not be giving money or property to someone under these conditions. That's when a living trust can be relied on.

Hopefully, you can see that the common living trust myths are debunked.

Is a trust right for you? Is the Estate Plan Navigator program the best choice for your family? We can help you decide.

Ways to Avoid Capital Gains Taxes on Sale of Rental Property

2018-02-25

There may come a time when you want to sell your rental property. After putting in all the time dealing with toilets, tenants, and trash, you’re looking to cash in and relax. But there’s one problem: Taxes. Despite common wisdom, you may be able to avoid them. While death is inevitable, there actually are two ways to avoid capital gains taxes on the sale of rental property.

Meet Wayne and Marcia

Let’s meet Wayne and Marcia. Back in the 1980s shortly after getting married, they decided to buy a place of their own to raise a family. Prices were rising as were interest rates. The $60,000 they paid for a four bedroom home seemed like a lot but they figured they could manage it. For several years they lived in the home raising their three children. Eventually, they decided they needed more space so they bought a new home and decided to rent out their first one. Interest rates had dropped so they refinanced a few times. The neighborhood was near good schools and in demand. The cash flow from the rent was steady.

Now with the kids grown and out of the house, Wayne is getting tired of spending weekends fixing up the property. And the kids are looking to buy their own piece of the American Dream. Both Wayne and Marcia want to help them out.

What’s Next?

When they arrived in their advisor’s office, they wanted to know how they could best sell the rental property now and split the profits between their children so that they could have money for down payments.

Wayne, as a resourceful guy, had done some research that started his mind to thinking of options. He came across IRS Publication 523 that discusses taxes and selling your property. He figured that he could add one or more of their kids to the rental property’s title. Perhaps one or more of the adult children could even live in the property and make it their primary residence.

But he was fuzzy on the details and had some questions that he asked:

If One of the Kids is Added to the Title and Lives in the Property for Two Years, Will the Sale of the House Be Exempt From Capital Gains Taxes?
Does the Adult Child Need to Own the Property for at Least Five Years and Live in the Property for Two Years to Exempt the Sale From Capital Gains Taxes?
Wayne and Marcia Are Still on the Title of the Property. Do They Have to Make the Property Their Primary Residence?

Picking Apart Wayne’s Plan

As an owner of investment real estate, you’ve decided to sell. But unlocking the value and turning it into cash can also result in a large tax bill especially if your asset has appreciated since your initial investment back in the 1980s.

First things first: Since Wayne and Marcia no longer occupy the property as their primary residence, they cannot use the Section 121 exemption of $500,000 over basis (married filing jointly) to shield themselves from a capital gain tax liability.

Second, he is correct that he could add someone to the title and that person would need to occupy as his primary residence for two of the last five years. But, no, he wouldn’t need to live there for five years to take advantage of the Section 121 exclusion.

Third, if they choose not to live in the property while their son does, they each must apply Section 121 individually. If they and a joint owner other than a spouse sell a jointly owned home, each of the co-owners must figure their own gain or loss according to their ownership interest in the home. Each applies the rules on Section 121 found in IRS Publication 523 on an individual basis. So, unless they move back into the property for at least two years out of the past five, then Wayne won’t be sheltering any of the gain for his portion of the property.

Now, you may think it’s hopeless and you should just pay the tax. While that is an option there are innovative strategies available to you if you want to lower your income tax bill when you sell and investment property (or business for that matter).

Ways to Avoid Capital Gains Taxes on Sale of Rental Property

The first way to avoid capital gains is to not sell the property but die. Why? Because when you die, those who inherit your property get a “step up in basis”. Instead of inheriting the property at the $60,000 that they originally paid back in the 1980s, the children would inherit at current market value. Let’s say that is $600,000. If they decide to sell the property that they inherit for $600,000, they will pay no taxes on the sale.

Great news. But you first have to die for this to happen.

So, what better ways are there to sell now and avoid capital gains taxes? And are there any ways to free up cash that can be used now for investment in other properties or even stocks?

Typically, when a business or real estate owner sells they will need to deal with capital gains tax, state taxes, depreciation recapture and, in some cases, the alternative minimum tax. But through savvy tax and estate planning, you can take advantage of opportunities in the tax code to minimize your current tax liability while allowing you the flexibility to control the sale proceeds.

1031 Exchanges, Installment Sales, or Trusts

Real estate investors can use a 1031 Exchange, a provision of the Internal Revenue Code which allows an owner to relinquish property and replace it with a similar type of asset without recognizing gain and deferring taxes.

While a 1031 Exchange offers tax deferral, it is ONLY a replacement option. You must replace income-producing property with other income-producing property but you may not receive cash upon the sale without paying tax on the gain. You can keep selling and exchanging property into other properties for as long as you live. Eventually when you die, your estate will inherit the last property at a stepped-up basis and then they can sell and not pay any capital gains taxes. See above.

Other options offer even more flexibility to sell highly appreciated assets like stock in a privately-held business or ownership of residential rental or commercial real estate while also controlling use of the cash that is freed up from the sale. These include strategies like a Opportunity Zone Fund investing or a type of irrevocable trust or a “structured installment sale.” (NOTE: A previous option known as a “monetized”” or “collateralized” installment sale is no longer a valid option for non-agricultural property after IRS guidance released in mid-2021).

In a structured installment sale, cash is directed to a trust that buys US Treasury bonds and in turn pays out interest to the original buyer. Since the bonds are of high quality with low risk of default, the payout may be low. A variation on this might be to have the trust also hold higher-yielding Treasury inflation-protected securities (aka TIPs) to mitigate inflation risk. The payout to the initial seller is over time and only a portion of capital gains is paid out and subject to tax with each installment.

Opportunity Zone Funds were created as part of the federal tax overhaul package for 2018. By investing in real estate projects sponsored in select zones, the taxpayer will defer taxes. And if the investment is held in the fund for a certain period of time, then the taxes on the capital gains from the original transaction that generated all the proceeds used for the OZ Fund investment will be waived.

By using a certain type of irrevocable trust, you may be able to defer taxes while increasing the amount of cash proceeds for investment. This option requires the use of a specialized network of tax attorneys, trustees, and investment advisers. But the costs may provide an investor with greater flexibility on types of investments while significantly reducing taxes on the sale of any type of assets (not just real estate).

The Opportunity Zone and irrevocable trust options offer you a chance to salvage a failed 1031 Exchange which can occur if a seller of a property cannot locate a suitable replacement property or a closing fails to occur within the 180 days required by law. In addition to deferring taxes while freeing up cash that can be used today, they may also offer you a great estate planning tool. This is because of the discount that an estate receives for something called ‘lack of marketability.’

Next Steps for Sellers

Any one of these strategies may be an effective way to defer taxes, but typically requires a professional tax advisor’s assistance. To learn more about setting up one or more of these strategies and how they may fit into your broader financial, estate and tax plan, contact Steve Stanganelli, CFP® at Clear View Wealth Advisors /Boston Tax Planners at 617-398-7494 or steve@ClearViewWealthAdvisors.com.

You Sold Your Business. Now What?

2017-06-27

You’ve worked hard. And now you want to enjoy your rewards after having invested blood, sweat and tears building your business. If you’re lucky you get someone or some company to buy you out. Before you pop the cork off that champagne bottle, you better get your ducks lined up. You sold your business. Now what?

You Sold Your Business. Now What?

Most every business owner and entrepreneur has one dream and one dream only — growing a company and making it big on the “exit.”

They imagine the day when they sell their company for cash or a bazillion shares, and then just… chill. Or buy 5 cars. Or 5 houses. Or… do what exactly?

There’s the obvious answer, which is “who cares what I do, I’m rich!” Which may be true, it is an arrival for so many. But with newfound wealth comes the concerns about who to trust, how to preserve your money, and of course the weird family/friend interactions that can follow. (HBO’s Entourage comes to mind for instance).

Here are 5 things to consider after you’ve sold your business.

1.) Get help. But choose carefully

Just because you sell a company doesn’t mean you know how to handle the money aspects. There are going to be tax considerations. Preferably, you should do this tax planning ahead of inking your deal. There are ways to structure a sale agreement that minimize your taxes that you can only do before the closing.

There may be debts to address, potential stock details, and so on. You’re likely going to need help from a professional wealth manager. Act sooner rather than later on this, but choose carefully who you bring on your team. There have been brilliant technologists and business people of all kinds who have been taken advantage of by investment “professionals.” Choose wisely.

2.) Trust and estate

This step cannot be emphasized enough. Very few people want to think about their will and estate plans because let’s face it, thinking about death is depressing. But with wealth comes responsibility. If you don’t deal with it, it can cause issues for loved ones down the road.

The facts are, your estate plan including your will and insurance, probably do not match your new level of wealth. Don’t worry about getting too deep into the weeds right away, just cover the basics. A good place to start is with an Accredited Estate Planner (www.naepc.org).

3.) Don’t blow it

Coming into money does weird things to people. There are crazy stats about folks who just aren’t prepared and spend it all. Lottery winners and professional sports players are prime examples. On average, 70 percent of lottery winners go through their winnings in several years.1 And a good number end up in bankruptcy.

Similar results occur with professional athletes. Sports Illustrated recently estimated that 80% of retired NFL players go broke in their first three years out of the League.2

Hey, you aren’t a lottery winner and you may not be a famous sports figure, but blowing through a pile of cash in a few years can happen. This is where a an experienced fiduciary wealth manager who is a Certified Financial Planner TM professional can help. With purposeful planning, you can drill down and figure what kind of cash flow you’ll need to sustain your dreams. So before you get caught up in “lifestyle inflation” you’ll want to know if you have enough cash coming in from your big pay day so that you can live the way you want to for as long as you want to.

4.) Family and friends get weird

It happens. You and a bunch of friends are at dinner, do they expect you to buy? Maybe a family member wants a loan to get a business started. Do you give one? If you do, will it set a precedent? Or what if they don’t want to pay it back because, “you have enough.”

Also, it can change how new acquaintances view you. Do they like you just for your money? As one tech millionaire states, “If you aren’t married yet, good luck trying to figure out (and/or always having self-doubt) about whether a partner is into you or your money.”3

5.) Adrift

After working so long and hard on your business, there can be a loss of purpose after it’s sold. Markus Persson, the 36-year old who sold Minecraft for $2.5 billion tweeted about it. He wrote, “The problem with getting everything, is you run out of reasons to keep trying, and human interaction becomes impossible due to imbalance.”4 Feeling adrift is often part of the process, give yourself time to fall into a new routine and find a new purpose. Playing golf may only fill up so much time and then what?

This is where you may need help in charting a new course and reinventing your “retirement”. You can find comprehensive programs and tools that help you identify in a holistic way the kinds of opportunities and options that will bring you purpose and significance while connecting you to something bigger. (Check out the Successful Transition Planning Institute)

Takeaway After You Sold Your Business

Everyone focuses on the big exit. The day when cold, hard cash starts raining from the skies and you go yacht shopping. Just don’t forget the other side of the equation, that there are realities of sudden wealth, both financial and emotional. The sooner you can make a plan and get some help, the easier it’ll be to relax and take advantage of everything you’ve work so hard to accomplish.

1 http://time.com/4176128/powerball-jackpot-lottery-winners/

2 https://www.forbes.com/sites/leighsteinberg/2015/02/09/5-reasons-why-80-of-retired-nfl-players-go-broke/#41faa7bf78cc

3 http://www.businessinsider.com/i-made-15-million-before-i-was-30-and-being-rich-wasnt-as-awesome-as-youd-think-2014-7

4 https://hbr.org/2015/09/dealing-with-the-emotional-fallout-of-selling-your-business

Paying Taxes on Inherited Money

2014-09-26

I recently received a question from someone asking about paying taxes on inherited money. This is not an uncommon question for our Ask the Advisor program. When someone passes away, talking about money may seem insensitive but unless you understand the financial and tax impact on inherited money, you may find yourself mourning more than the passing of your loved ones.

In this case a woman received $55,000 from her deceased father’s estate administrator after divvying up the cash held at her father’s bank between the surviving siblings. So the question was, will she need to pay tax on this money?

Based on the facts she presented, I say no. Assuming that all she inherited was cash from non-IRA accounts (which this sounds like), then the answer is no. But like everything else it’s not always that simple. There are three different levels of taxes to be concerned with here: income tax, federal estate tax and state estate or inheritance tax.

In the IRS code there is a provision regarding gifts and inheritances. On inherited assets of estates valued less than the federal limit (now about $5.3M), those who inherit property do not have any federal estate tax liability. Now, depending on the state, you may have to consider an estate or inheritance tax. If the state is “coupled” to the federal limits, then you would not owe any estate tax until the value of everything (home, cash, stocks, bonds) exceeded the federal limit. In some states like Massachusetts, the estate tax limit is different from the federal. At only $1 million, you may find that there may be a state “estate” tax that applies.

The same answer applies if a beneficiary received cash from a life insurance policy.

Now, if she had inherited something other than cash, she may have to deal with future tax issues. In this case, it’s all about the ‘basis’ of the asset received. So, let’s say that dad owned stocks that he bought many years ago for $10 per share. This is his “basis” in the stock – an accounting term for how much he paid including commissions. Now let’s assume he held those stocks for many years until he died. At that point, let’s assume that the stocks were trading at $50 per share. Even though there is a $40 per share gain, the person who inherits the stock will owe no income tax. The person who inherits the stock also receives a ‘step up in basis’ so that her basis for future tax computations will be based on the $50 per share price.

If the daughter in our example decides to sell these shares later when the market price is $60 per share, then she’ll only pay income tax on the difference between the prevailing market price ($60) and her stepped up basis ($50). This tax will be based on the more favorable and lower long-term capital gains rate. If she sells when the price is at $40 per share, she may have a $10 per share “loss.”

FYI: If she had inherited an IRA, then she would pay taxes on any distributions she receives based on her age (under 59 1/2 would be considered an early distribution). If this were an inherited IRA, then she would need to receive a distribution based on a specific schedule tied to her age and actuarial life expectancy.