Tennessee Only Southern State with Death Taxes

Posted on February 24, 2010 by Bryan Howard

A total of 19 states and the District of Columbia assess estate and/or inheritance taxes. The enclosed map shows that virtually all of the states in the Northeastern sector of the country impose taxes.

Tennessee is the only southern state with death taxes. Even if you consider consider Kentucky a southern state, Kentucky’s tax is insignificant because it does not apply to transfers to immediate family members.

Tennessee exempts the first $1 million from taxation. For estates in excess of $1 million, the tax equals $30,200 on the first $440,000 (above $1 million) and 9.5% on the excess. The tax does not apply to amounts distributed to spouses or charities.

Several of my clients have moved to other states, primarily Florida, in order to avoid Tennessee inheritance taxes. Each year, bills are submitted to the legislature to repeal the Tennessee inheritance tax. These bills have no chance of passage because they would decrease tax revenue.
 

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Estate Tax Implications of Joint Ownership by Married Couples

Posted on February 22, 2010 by Bryan Howard

The simplest estate plan for a married couple is for them to own everything jointly, with the result that everything will be owned by the survivor after the death of the first spouse to die. Unfortunately, the Federal estate tax and Tennessee inheritance tax laws penalize couples for taking the simple approach if their combined assets exceed $1 million in value. This is because the survivor’s estate will exceed the available exemptions from federal and Tennessee inheritance tax.

A better tax plan is for the couple to each own separate assets or to own assets as tenants-in-common. If the first spouse to die owns a tenancy-in-common interest in real estate or a brokerage account, the decedent’s Will can transfer these assets to a credit shelter trust for the primary benefit of the survivor. The credit shelter trust will not be subject to tax upon the subsequent death of the survivor.

The first spouse to die must own assets that can be transferred to the credit shelter trust. For Tennessee residents, this is not possible with assets that are owned jointly with a spouse, unless the form of ownership is specifically designated as tenancy-in-common. As in most states, there is a presumption in Tennessee that property held jointly by a husband and wife is held as tenants-by-entirety, rather than as tenants-in-common. This means that the assets will not be available to fund a credit shelter trust upon the death of the survivor.

In the Estate of Oscar Goldberg, the failure to change ownership of real estate to tenancy-in-common resulted in litigation with the IRS and unnecessary estate taxes of almost $400,000. When it comes to estate planning, simplicity may carry a high price tag for your children.
 

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Politicians Benefit From Preserving Estate Tax Uncertainty

Posted on February 15, 2010 by Bryan Howard

Congress has learned that maintaining the uncertainty in the future of the federal estate tax system allows them to collect substantial campaign contributions from special interest groups. Federal estate tax laws have been in a state of flux since the passage of a 2001 law that gradually increased the estate tax exemption, decreased rates, and totally repealed estate taxes for the year 2010. The 2001 law was the result of an intense lobbying effort by a group of wealthy families that have spent more than $500 million in lobbying expenditures. These families want Congress to eliminate federal estate taxes. While certain Congressmen have benefited from these lobbying expenditures, other Congressmen have benefited from lobbying expenditures from various groups that wanted to retain the estate tax.

The enclosed article by the National Center for Policy Analysis titled The Politics of Estate Tax Reform predicts that Congress will reinstitute the estate tax at 2009 levels with an exemption of $3.5 million per person and a maximum rate of 45%, retroactive to January 1, 2010. Indeed, the President’s budget proposal favors this approach and the President recently signed legislation which increases the likelihood that exemptions and rates will be returned to the 2009 rates for the years 2010 and 2011 only. Under this approach, the estate tax exemption would decrease to $1 million and the maximum rate would increase to 55% beginning in 2012. Such a short-term fix would keep the issue alive so that Congressmen would be able to collect additional campaign contributions.
 

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Roth IRA Conversions - Part 8 - Putting it All Together

Posted on February 12, 2010 by Bryan Howard

This is the eighth and final article of a series dealing with the topic of converting your traditional IRA to a Roth IRA. For prior articles, see:

Part 1 – Reasons to Consider the Roth Conversion
Part 2 – The Recharacterization Option
Part 3 – The Impact of Income Tax Rates
Part 4 – How Long Can You Stretch?
Part 5 – The Impact of Investment Returns During the First 21 Months
Part 6 – The Impact of Estate Taxes
Part 7 – Ramifications of Charitable Giving

Roth IRAs  are tremendous assets to own because they grow tax-free, allow tax-free withdrawals, and do not require you or your spouse to make withdrawals.

Determining whether the cost of a Roth IRA is a good investment depends on numerous factors, including income tax rates that will apply to you and your family now and in the future, whether you and your family can pay the conversion tax and meet your spending needs from other sources, whether you will be subject to estate taxes, and how much you plan to give to charity during your lifetime and at death.

Wealthy families are the most likely candidates to benefit from a Roth IRA conversion because they are likely to be in a high income tax bracket in the future, they can pay the conversion tax and meet spending needs from other sources, they will be subject to estate taxes, and they are able to make additional charitable gifts to offset the income tax generated by the conversion. 
 

The recharacterization option is a valuable tool which allows you to make a conversion and then change your mind as long as 21 months later. During this 21-month period, you will see tax law changes that have occurred and how your investments have performed. When you make a conversion, you should create several Roth IRA accounts, with each account holding different asset classes, in order to maximize the flexibility afforded by the recharacterization option.
 

Most wealthy individuals should make a conversion and follow the steps outlined in the following timeline.
 

 

2 Year Timeline for Roth IRA Conversions

Date

  Action
February 2010 Convert now by creating several Roth IRA accounts that hold different assets.
December 2, 2010 Recharacterize Roth IRA accounts that have decreased in value.
December 15, 2010 Determine whether you want to make additional charitable contributions to offset income from conversion.
January 2, 2011 Reconvert accounts that were recharacterized on December 2, 2010 by creating several Roth IRA accounts.
April 15, 2011 Determine the maximum amount of the 2010 conversion that you might not recharacterize (i.e., leave as a Roth) and whether you might treat the income as taxable for 2010 (instead of deferring 50% to 2011 and 50% to 2012). If you might tax the income in 2010, file an extension for filing your 2010 federal income tax return and pay estimated taxes based on the maximum amount that you might treat as income in 2010.
October 15, 2011 Final day for recharacterizing 2010 conversions. If you extended the filing date for your 2010 federal income tax return, you must file your return and elect whether to recognize the income from 2010 conversions in 2010, or in 2011 (50%) and 2012 (50%).
December 2, 2011 Recharacterize 2011 Roth IRA conversions, if any, that have decreased in value.
December 15, 2011 Determine whether you want to make additional charitable contributions to offset income from 2011 conversions and 2010 conversions that were deferred.

 

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Roth IRA Conversions-Part 7 - Ramifications of Your Charitable Giving

Posted on February 2, 2010 by Bryan Howard

This is the seventh article in a series of eight articles dealing with the topic of converting your traditional IRA to a Roth IRA. For other articles, see:

Part 1 – Reasons to Consider the Roth Conversion
Part 2 – The Recharacterization Option
Part 3 – The Impact of Income Tax Rates
Part 4 – How Long Can You Stretch?
Part 5 – The Impact of Investment Returns During the First 21 Months
Part 6 – The Impact of Estate Taxes
Part 8 - Putting It All Together

Individuals who make significant charitable gifts have additional considerations when evaluating whether to convert a traditional IRA to a Roth IRA. A lot of my clients plan to give at least a portion of their traditional IRA to charity upon their death. In addition to wanting to make charitable gifts, these clients realize that the bequest to charity will avoid income taxes and estate taxes. Individual beneficiaries would have to pay income taxes if they received the IRA. Furthermore, if the IRA owner’s estate is larger than the allowable estate tax exemptions, there will also be estate taxes imposed upon the portion of the IRA that is paid to children.

Individuals who plan to give their IRA to charity have less to gain by making a conversion. If you are planning to leave a portion of your IRA to charity, a conversion will cause you to pay income taxes now that you might not otherwise be paying later. In certain circumstances, you can still justify making the Roth IRA conversion. Nevertheless, I have discouraged my clients who plan to leave their entire IRA to charity from making the Roth conversion.

Some IRA owners intend to leave only a portion of their IRA to charity. Assume that Mrs. Brown has a $500,000 IRA and the beneficiaries are designated as follows: $100,000 to XYZ Church, $100,000 to XYZ University, and the balance to children.

Mrs. Brown can convert a portion of the IRA to a Roth IRA. Ideally, she will not convert beyond the amount which will allow there to be at least $200,000 in her traditional IRA upon her death. Some guesswork will be required to determine how much to leave in the traditional IRA so that there is at least $200,000 at the time of her death because there will be earnings and required minimum distributions during her remaining lifetime.

Assume that Mrs. Brown expects to live to age 90 and her investment advisors recommend that she leave at least $300,000 in her traditional IRA so that there will be at least $200,000 left when she dies. She should convert the entire $500,000 and place $100,000 in five separate accounts. No later than October 15 of the year following the conversion, she will recharacterize three of the accounts, or perhaps more if investments have performed poorly. This technique allows her to make the conversion with the best performing accounts while leaving sufficient funds in the traditional IRA to make the charitable bequests at the time of her death.

Your lifetime charitable giving is also relevant to the Roth conversion analysis. You will recognize income in the year of the conversion. For conversions in the year 2010, you can elect to recognize 50% of the income in the year 2011 and 50% in the year 2012. If you know that you will be making large charitable gifts in the future, you may choose to accelerate those gifts into the year of the conversion (or into 2011 and 2012 for conversions in the year 2010).

If you need a charitable deduction now, but do not want the charities to receive the funds until later, your charitable donation can be “escrowed” in a donor advised fund or a private foundation. Both of these structures allow you to identify the charitable recipients and make the actual charitable gifts in a later year.

In summary, you should consider accelerating charitable gifts to reduce income taxes attributable to a conversion of your traditional IRA to a Roth IRA. You should not convert the portion of your traditional IRA that you intend to leave to charity upon your death.
 

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