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Can I Split My Inheritance with My Sibling?

Let’s say that you are the beneficiary of your brother’s IRA.

All of his assets were supposed to be split between you and your sister according to a living trust. However, the IRA administrator says the IRA only has one beneficiary… you. How can you spilt this equally?

Can you sell half and give your other sibling her money?

What is the effect on taxes and the cost basis?

nj.com’s recent article entitled “Can I give my brother half of my inheritance?” says that it’s important to review beneficiary designations to make sure they reflect your wishes.

In this case, you would essentially be making a gift to your sister from the IRA account that you inherited.

To do this, you would have to liquidate some of the account and pay the taxes on the liquidated amount, if it is a traditional IRA.

You would also have to file a federal gift tax return for the amount gifted above the $16,000 annual exclusion amount. However, no gift tax should be due if you have less than $12.06 million in your estate and/or lifetime gifts made above the annual exclusion amounts.

The unified tax credit provides a set dollar amount that a person can gift during their lifetime before any estate or gift taxes apply. This tax credit unifies both the gift and estate taxes into one tax system that decreases the tax bill of the individual or estate, dollar to dollar.

As of 2021, the federal estate tax is 40% of the inheritance amount. However, the unified tax credit has a set amount that a person can gift during his or her lifetime before any estate or gift taxes are due. The 2021 federal tax law applies the estate tax to any amount above $11.7 million. This year’s amount is $12.06 million.

While you would receive a step-up in basis, the cost basis of your brother’s gifted share would be the value at the time the gift is made.

Another thought is that if there are other assets in the estate, perhaps your sister could have a greater share of those, so you could keep the IRA intact to avoid paying taxes at this time.

Reference: nj.com (Feb. 23, 2022) “Can I give my brother half of my inheritance?”

Will Moving to a New State Impact My Estate Planning?

Since the coronavirus pandemic hit the U.S., baby boomers have been speeding up their retirement plans. Many Americans have also been moving to new states. For retirees, the non-financial considerations often revolve around weather, proximity to grandchildren and access to quality healthcare and other services.

Forbes’ recent article entitled “Thinking of Retiring and Moving? Consider the Financial Implications First” provides some considerations for retirees who may set off on a move.

  1. Income tax rates. Before moving to a new state, you should know how much income you’re likely to be generating in retirement. It’s equally essential to understand what type of income you’re going to generate. Your income as well as the type of income you receive could significantly influence your economic health as a retiree, after you make your move. Before moving to a new state, look into the tax code of your prospective new state. Many states have flat income tax rates, such as Massachusetts at 5%. The states that have no income tax include Alaska, Florida, Nevada, Texas, Washington, South Dakota and Wyoming. Other states that don’t have flat income tax rates may be attractive or unattractive, based on your level of income. Another important consideration is the tax treatment of Social Security income, pension income and retirement plan income. Some states treat this income just like any other source of income, while others offer preferential treatment to the income that retirees typically enjoy.
  2. Housing costs. The cost of housing varies dramatically from state to state and from city to city, so understand how your housing costs are likely to change. You should also consider the cost of buying a home, maintenance costs, insurance and property taxes. Property taxes may vary by state and also by county. Insurance costs can also vary.
  3. Sales taxes. Some states (New Hampshire, Oregon, Montana, Delaware and Alaska) have no sales taxes. However, most states have a sales tax of some kind, which generally adds to the cost of living. California has the highest sales tax, currently at 7.5%, then comes Tennessee, Rhode Island, New Jersey, Mississippi and Indiana, each with a sales tax of 7%. Many other places also have a county sales tax and a city sales tax. You should also research those taxes.
  4. The state’s financial health. Examine the health of the state pension systems where you are thinking about moving. The states with the highest level of unfunded pension debts include Connecticut, Illinois, Alaska, New Jersey and Hawaii. They each have unfunded state pensions at a level of more than 20% of their state GDP. If you’re thinking about moving to one of those states, you’re more apt to see tax increases in the future because of the huge financial obligations of these states.
  5. The overall cost of living. Examine your budget to see the extent to which your annual living expenses might increase or decrease in your new location because food, healthcare and transportation costs can vary by location. If your costs are going to go up, that should be all right, provided you have the financial resources to fund a larger expense budget. Be sure that you’ve accounted for the differences before you move.
  6. Estate planning considerations. If this is going to be your last move, it’s likely that the laws of your new state will apply to your estate after you die. Many states don’t have an estate or gift tax, which means your estate and gifts will only be subject to federal tax laws. However, a number of states, such as Maryland and Iowa, have a state estate tax.

You should talk to an experienced estate planning attorney about the estate and gift tax implications of your move.

Reference: Forbes (Nov. 30, 2021) “Thinking of Retiring and Moving? Consider the Financial Implications First”

Can I Avoid Taxes when I Inherit?

Kiplinger’s recent article entitled “Minimizing Taxes When You Inherit Money” says that if you inherit an IRA from a parent, the taxes on mandatory withdrawals could mean you will have a smaller inheritance than you anticipated.

Prior to 2020, beneficiaries of inherited IRAs or other tax-deferred accounts, like 401(k)s, could transfer the money into an account known as an inherited (or “stretch”) IRA. From there, you could take withdrawals over your life expectancy, allowing you to minimize withdrawals taxed at ordinary income tax rates. This lets the funds in the account to grow.

However, the Setting Every Community Up for Retirement Enhancement (SECURE) Act of 2019 stopped this tax-saving strategy. Most adult children and other non-spouse heirs who inherit an IRA after January 1, 2020, now have two options: (i) take a lump sum; or (ii) transfer the money to an inherited IRA that must be depleted within 10 years after the death of the original owner. This 10-year rule doesn’t apply to surviving spouses, who can roll the money into their own IRA and allow the account to grow, tax-deferred, until they must take required minimum distributions (RMDs) at 72.  Spouses can also transfer the money into an inherited IRA and take distributions based on their life expectancy. The SECURE Act also created exceptions for non-spouse beneficiaries for those who are minors, disabled, chronically ill, or less than 10 years younger than the original IRA owner.

As a result, IRA beneficiaries who aren’t eligible for the exceptions could wind up with a big tax bill, especially if the 10-year withdrawal period is when they have a lot of other taxable income.

The 10-year rule also applies to inherited Roth IRAs. However, although you must still deplete the account in 10 years, the distributions are tax-free, provided the Roth was funded at least five years before the original owner died. If you don’t need the money, delay in taking the distributions until you’re required to empty the account. That will give you up to 10 years of tax-free growth.

Many heirs cash out their parents’ IRAs. However, if you take a lump sum from a traditional IRA, you’ll owe taxes on the whole amount, which might move you into a higher tax bracket.

Transferring the money to an inherited IRA lets you allocate the tax bill, although it’s for a shorter period than the law previously allowed. Since the new rules don’t require annual distributions, there’s a bit of flexibility.

Reference: Kiplinger (Oct. 29, 2021) “Minimizing Taxes When You Inherit Money”

States with the Best Tax Rates for Retirees

For the moment, fewer Americans are concerned about the federal estate tax. However, if your goal is to leave as much as possible to heirs, then it’s wise to consider all the taxes of the state you choose for retirement. That’s all detailed in the article “33 States with No Estate Taxes or Inheritance Taxes” from Kiplinger.

Twelve states and the District of Columbia have their own estate taxes, which some call “death taxes.” Their exemption levels are far lower than the federal government’s. There are also six states with inheritance taxes, where heirs pay taxes based on their relationship to the deceased. Maryland has both: an estate tax and an inheritance tax.

The most tax friendly states of all are Nevada, Arizona, Wyoming, Colorado, Arkansas, Tennessee, South Carolina and Delaware. In Colorado, taxpayers 55 and older get a retirement income exclusion from state taxes that gets better when they reach 65. Colorado also has one of the lowest median tax rates and seniors may qualify for an exemption of up to 50% of the first $200,00 of property value. Colorado also has a flat income tax rate of 4.55%, and up to $24,000 of Social Security benefits, along with other retirement income, can be excluded for income tax purposes.

Next in line for retiree tax friendliness are Montana, Idaho, California, Kentucky, Virginia, Louisiana, Mississippi, Alabama, Georgia and Florida. Let’s look at the Sunshine State, which has no state income tax and also a low sales tax rate. Property taxes are low in Florida, and residents 65 and older who meet certain income, property-value and length-of-ownership standards also receive a homestead exemption of up to $50,000 from some city and county governments and meet other requirements. Social Security benefits are not taxed in Florida and the state has no income tax, making it extremely attractive to retirees.

Coming in third place with a mixed tax picture are Washington, Oregon, North Dakota, South Dakota, Utah, Oklahoma, Missouri, West Virginia, North Carolina, Maryland and the District of Columbia.  Many people are moving to North Carolina, where Social Security benefits are not taxed, but tax breaks for other kinds of retirement income are far and few between. Property taxes are low and there are no estate or inheritance taxes. State income is taxed at a flat 5.25% percent, making North Carolina competitive, when compared to high state income taxes. Then there’s Oklahoma, which doesn’t tax Social Security benefits and allows residents to exclude up to $10,000 per person ($20,000 for couples) in retirement income. However, the Sooner State has one of the highest combined state and local sales tax rates in the nation. Property taxes also fall right in the middle, when the median property taxes for all 50 states are compared.

Looking for a state to avoid when it comes to taxes? The fourth place in taxes goes to New Mexico, Minnesota, Michigan, Indiana, Ohio, Pennsylvania, Maine, New Hampshire and Massachusetts. Indiana may not tax Social Security benefits, but it taxes IRAs, 401(k) plans and private pension income. And counties are authorized to levy their own income taxes on top of the state’s flat tax. Sales and property taxes are in the middle of the road. Illinois also spares retirees from taxes on Social Security and income from most retirement plans, but property taxes in are the second highest in the nation. Sales tax rates are high in Illinois. The state also levies an estate tax on heirs. Pennsylvania has an inheritance tax and high property taxes (the 12th highest in the country). However, it has a flat income tax rate of 3.07%, although school districts and municipalities may levy their own taxes.

Lowest on the list for retirees seeking to minimize tax expenses are New York State, Vermont, New Jersey, Connecticut, Wisconsin, Illinois, Iowa, Nebraska, Kansas and Texas. Everyone knows about taxes in New York, New Jersey, and Connecticut, but Texas? How does a state with no income tax at all end up on the “least tax friendly for retirees” list? Texas has the seventh-highest median property tax rate in the country. There are some exemptions for retirees, but not enough to make the state tax friendly. Sales taxes are high, with the average combined state and local taxes in the state hitting 8.19%.

Taxes are not the only factor in deciding where to retire. Where you ultimately retire also considers where your loved ones live, what level of healthcare you need now and may need in the future and whether you want to move or remain in your community.

Reference: Kiplinger (Aug. 25, 2021) “33 States with No Estate Taxes or Inheritance Taxes”

Have You Considered Estate Planning for Fido?

In Montana, a pet is “any domesticated animal normally maintained in or near the household of its owner.” In Kansas, the statutes define an “animal” as “any live dog, cat, rabbit, rodent, nonhuman primate, bird or other warm blooded vertebrate or any fish, snake, or other cold-blooded vertebrate.”

Wealth Advisor’s recent article entitled “Estate Planning For Pets” explains that a pet is tangible personal property—just like guns, cars, or jewelry. When a pet owner passes away, pets pass to beneficiaries by provisions in an owner’s will, by directives in an owner’s trust document, or by a priority list of heirs contained in the state probate laws, if an owner does not have a will or a trust.

Pet owners should select a willing care giver and make a care plan for their pet that will lower the pet’s stress in the first days after you are gone. Writing down your wishes can help your heirs avoid potential problems, if there is a need to cover expenses for food, medical requirements and transportation of the pet to the beneficiary.

For example, in Montana, an honorary trust for pets is valid for only 21 years, no matter if a pet owner writes a longer term in the trust document. As a result, the trust terminates the earlier of 21 years or when the pet dies. Unless indicated in the trust document, the trustee may not use any portion of the principal or income from the trust for any other use than for the pet’s care.

Pet owners have options, when funding a pet trust. Funds could come from a payable on death (POD) designation on financial accounts to the pet trust. Another option is a transfer on death (TOD) registration with the pet trust as beneficiary for stocks, bonds, mutual funds and annuities. The pet owner could also direct the trustee in the pet trust document to sell assets, like a vehicle, house, or  boat, and place those funds in the trust for the care of the pet.

Life insurance is perhaps another option for funding for a pet’s care. States typically do not consider a pet to be a “person,” so Puffball cannot be a beneficiary of a life insurance policy. A pet owner can fund a living or testamentary pet trust, by naming the trustee of the trust as the beneficiary of a life insurance policy. As an alternative, a pet owner may have a certain percentage of an existing policy payable to the pet trust.

Pet owners should talk to an experienced estate planning attorney about the best way of naming the trustee of a pet trust as a beneficiary of a life insurance policy.

Reference: Wealth Advisor (June 14, 2021) “Estate Planning For Pets”

How Do You Divide Inheritance among Children?

A father who owns a home and has a healthy $300,000 IRA has two adult children. The youngest, who is disabled, takes care of his father and needs money to live on. The second son is successful and has five children. The younger son has no pension plan and no IRA. The father wants help deciding how to distribute 300 shares of Microsoft, worth about $72,000. The question from a recent article in nj.com is “What’s the best way to split my estate for my kids?” The answer is more complicated than simply how to transfer the stock.

Before the father makes any kind of gift or bequest to his son, he needs to consider whether the son will be eligible for governmental assistance based on his disability and assets. If so, or if the son is already receiving government benefits, any kind of gift or inheritance could make him ineligible. A Third-Party Special Needs Trust may be the best way to maintain the son’s eligibility, while allowing assets to be given to him.

Inherited assets and gifts—but not an IRA or annuities—receive a step-up in basis. The gain on the stock from the time it was purchased and the value at the time of the father’s death will not be taxed. If, however, the stock is gifted to a grandchild, the grandchild will take the grandfather’s basis and upon the sale of the stock, they’ll have to pay the tax on the difference between the sales price and the original price.

You should also consider the impact on Medicaid. If funds are gifted to the son, Medicaid will have a gift-year lookback period and the gifting could make the father ineligible for Medicaid coverage for five years.

An IRA must be initially funded with cash. Once funded, stocks held in one IRA may be transferred to another IRA owned by the same person, and upon death they can go to an inherited IRA for a beneficiary. However, in this case, if the son doesn’t have any earned income and doesn’t have an IRA, the stock can’t be moved into an IRA.

Gifting may be an option. A person may give up to $15,000 per year, per person, without having to file a gift tax return with the IRS. Larger amounts may also be given but a gift tax return must be filed. Each taxpayer has a $11.7 million total over the course of their lifetime to gift with no tax or to leave at death. (Either way, it is a total of $11.7 million, whether given with warm hands or left at death.) When you reach that point, which most don’t, then you’ll need to pay gift taxes.

Medical expenses and educational expenses may be paid for another person, as long as they are paid directly to the educational institution or health care provider. This is not considered a taxable gift.

This person would benefit from sitting down with an estate planning attorney and exploring how to best prepare for his youngest son’s future after the father passes, rather than worrying about the Microsoft stock. There are bigger issues to deal with here.

Reference: nj.com (June 24, 2021) “What’s the best way to split my estate for my kids?”

Tackling Estate Plan Quarter by Quarter

Most of us know that a tax bill is typically due on April 15, and we know that our paychecks will include deductions for taxes, Social Security, and IRA or 401(k) contributions. If we are self-employed or retired, we make quarterly estimated tax payments. We plan throughout the year to be better prepared when April 15 comes around. The preparation takes place routinely over time, and the same can be done for estate planning and updating, says a recent article “Make quarterly payments to estate plan” from Victoria Advocate. It’s simple and sensible.

If we can make our plans today to make our eventual passing easier for loved ones and friends, why not divide and conquer, in a quarterly manner? Consider these quarterly “payments” to your estate plan and your family:

First Quarter: Review current estate plans with your estate planning attorney. Don’t have an estate plan? Get started. An estate plan includes a Will, Durable Power of Attorney, Medical Power of Attorney, Directive to Physicians document and any trusts you might need.

The Will, aka Last Will and Testament, is the only one of these documents to be used post-mortem. The will is used to designate an executor to carry out your wishes and designate a person or persons to serve as legal guardians for minor children.

Second Quarter: Let your family know your wishes. Open communication with family members is a gift, so they are not left guessing during critical times. Finding the right words is not always easy, so try writing out your thoughts as you prepare your estate plan. Document your wishes for burial arrangements, information they’ll need for a death certificate or obituary. Do you want to donate your organs, or will your pet need special care? Where are your important papers located? Once you’ve had all the necessary documents created and have thought through these wishes and written a memo about them, let your future executor know what your wishes are, and where they can find the information that they’ll need.

Third Quarter: Do some easy but important estate planning tasks. Review the beneficiaries listed on your accounts. Assets and accounts that pass through beneficiary designations are not controlled by the will, so this is extremely important if it’s been more than a few years since you last reviewed these documents. Your IRA, SEP, 401(k), life insurance and any accounts titled Transfer or Payable on Death probably have beneficiaries listed.

Fourth Quarter: Does your estate plan include a legacy to future generations or charities? Speak with your estate planning attorney about how to pass your estate to children or grandchildren. If you have a unique goal, trusts can be as individual as you are.

As systematically as you pay taxes and bills, work through your estate plan so that you are prepared for the two things we know will occur, regardless of how we feel about them—taxes and death.

Reference: Victoria Advocate (May 8, 2021) “Make quarterly payments to estate plan”

How Do I File Taxes on a CARES 401(k) Withdrawal?

Several bills were passed by Congress to ease financial challenges for Americans during the pandemic. One of the provisions of the CARES Act was to allow workers to withdraw up to $100,000 from their company sponsored 401(k) plan or IRA account in 2020. This is a big departure from the usual rules, says an article from U.S. News & World Report titled “How to Avoid Taxes on Your CARES Act Retirement Withdrawal.”

Normally, a withdrawal from either of these accounts would incur a 10% early withdrawal penalty, but the CARES Act waives the penalty for 2020. However, income tax still needs to be paid on the withdrawal. There are a few options for delaying or minimizing the resulting tax bill.

Here are three key rules you need to know:

  • The penalties on early withdrawals were waived, but not the taxes.
  • The taxes may be paid out over a period of three years.
  • If the taxes are paid and then the taxpayer is able to put the funds back into the account, they can file an amended tax return.

It’s wise to take advantage of that three-year repayment window. If you can put the money back within that three-year time period, you might be able to avoid paying taxes on it altogether. If you are in a cash crunch, you can take the full amount of time and repay the money next year, or the year after.

For instance, if you took out $30,000, you could repay $10,000 a year for 2020, 2021, and 2022. You could also repay all $30,000 by year three. Any repayment schedule can be used, as long as all of the taxes have been paid or all of the money is returned to your retirement account by the end of the third year period.

If you pay taxes on the withdrawal and return the money to your account later, there is also the option to file an amended tax return, as long as you put the money back into the same account by 2022. The best option, if you can manage it, is to put the money back into your retirement account as soon as possible, so your retirement savings has more time to grow. Eliminating the tax bill and re-building retirement savings is the best of all possible options, if your situation permits it.

If you lost your job or had a steep income reduction, it may be best to take the tax hit in the year that your income tax levels are lower. Let’s say your annual salary is $60,000, but you were furloughed in March and didn’t receive any salary for the rest of the year. It’s likely that you are in a lower income tax bracket. If you took $15,000 from your 401(k), you might need to pay a 12% tax rate, instead of the 22% you might owe in a higher income year.

Reference: U.S. News & World Report (April 23, 2021) “How to Avoid Taxes on Your CARES Act Retirement Withdrawal”

Should Young Families have an Estate Plan?

Young families are always on the go. New parents are busy with diapers, feeding schedules and trying to get a good night’s sleep. As a result, it’s hard to think about the future when you’re so focused on the present. Even so, young parents should think about estate planning.

Wealth Advisor’s recent article entitled, “Why Young Families Should Consider an Estate Plan,” explains that the word “estate” might sound upscale, but estate planning isn’t just for the wealthy. Your estate is simply all the assets you have when you die. This includes bank accounts, 401(k) plan, a home and cars. An estate plan helps to make certain that your property goes to the right people, that your debts are paid and your family is cared for. Without an estate plan, your estate must go through probate, which is a potentially lengthy court process that settles the debts and distributes the assets of the decedent.

Estate planning is valuable for young families, even if they don’t have extensive assets. Consider these key estate planning actions that every parent needs to take to make certain they’ve protected their child, no matter what the future has in store.

Purchase Life Insurance. Raising children is costly, and if a parent dies, life insurance provides funds to continue providing for surviving children. For most, term life insurance is a good move because the premiums are affordable, and the coverage will be in effect until the children grow to adulthood and are no longer financially dependent.

Make a Will and Name a Guardian for your Children. For parents, the most important reason to make a will is to designate a guardian for your children. If you fail to do this, the courts will decide and may place your children with a relative with whom you have not spoken in years. However, if you name a guardian, you choose a person or couple you know has the same values and who will raise your kids as you would have.

Review Your Beneficiaries. You probably already have a 401(k) or IRA that makes you identify who will inherit it if you die. You’ll need to update these accounts, if you want your children to inherit these assets.

Consider a Trust. If you die before your children turn 18, your children can’t directly assume control of an inheritance, which can be an issue. The probate court could name an individual to manage the assets you leave to your child. However, if you want to specify who will manage assets, how your money and property should be used for your children and when your children should directly receive a transfer of wealth, consider asking an experienced estate planning attorney about a trust. With a trust, you can name a designated person to manage money on behalf of your children and provide direction regarding how the trustee can use the money to help care for your children as they grow. Trusts aren’t just for the very well-to-do. Anyone may be able to benefit from a trust.

Reference: Wealth Advisor (April 13, 2021) “Why Young Families Should Consider an Estate Plan”

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