THE ABCs OF STRETCH IRAs

You can plan to have your heirs inherit your IRA assets.

 

Can an IRA keep growing for a century or more? In theory, it can. Some people are planning to "stretch" their Individual Retirement Accounts over generations, so that their heirs can receive IRA assets accumulated after decades of tax-deferred or tax-free growth. A stretch IRA can potentially create a legacy of wealth to benefit your heirs, and it could also help to reduce your estate taxes.

Usually, this is a choice of the high net worth investor. Typically, an individual, couple or family has amassed sizable retirement savings – so sizable that they don't need to withdraw the bulk of their IRA assets during their lifetimes.

 

How does this work? Simply put, a stretch IRA is a Roth or traditional IRA with assets that pass from the original account owner to a younger beneficiary when the original account owner dies. The beneficiary can be a spouse or a non-spousal heir (or in some cases, not a person at all but a "see-through" trust.)¹

If the beneficiary is a person, this younger beneficiary will have a longer life expectancy than the initial IRA owner, and therefore may elect to "stretch" the IRA by receiving smaller required minimum distributions (RMDs) each year of his or her life span. This will leave money in the IRA and permit ongoing tax-deferred growth – or tax-free growth, in the case of a Roth IRA.

In fact, since you don't have to take RMDs from a Roth IRA at age 70½, you could opt to let your Roth IRA grow untapped for a lifetime. At your death, your beneficiaries could then stretch payouts over their life expectancies without having to pay tax on withdrawals.²

 

What options do the beneficiaries have? Well, the rules governing inherited IRAs are quite complex. The explanation below is simply a summary, and should not be taken as any kind of advice or guide. 

If you have named your spouse as the beneficiary of your IRA, your spouse can roll over the inherited IRA assets into his or her own IRA after your death (presuming they don't need the money).

If you die before age 70½, your spouse can treat the inherited IRA as his or her own and make contributions and withdrawals. Or, instead of treating the IRA as his or her own, your spouse can elect to begin receiving distributions on either December 31st of the calendar year following your death, or the date that you would have been age 70½, whichever date is later.

If your beneficiary is non-spousal, he or she cannot treat the IRA as his or her own, and cannot make contributions to it or rollovers into or out of it.³ A non-spousal beneficiary can either take the lump sum and pay taxes on it, or transfer the IRA assets to an IRA distribution account.

If your non-spousal beneficiary elects to set up a distribution account and you have passed away before age 70½, he or she must follow either the one-year rule or the five-year rule.

Under the one-year rule, annual distributions are based on the life expectancy of the designated beneficiary and must start by December 31st of the year following the original IRA owner's death. In this way, your beneficiary can stretch out the distributions over his or her life expectancy, which can allow more of the inherited IRA assets to remain in the IRA and enjoy tax-deferred or tax-free growth.

Under the five-year rule, there are no minimum annual distribution requirements, but the beneficiary must withdraw their full interest by the end of the fifth year following the owner's death.

The beneficiary can be determined even after the original IRA owner dies – if there is somehow no named beneficiary, you have until the end of the year following the death of the primary IRA owner to establish one.⁴ But it is vital to establish a beneficiary during your lifetime: if you don't, your IRA assets could end up in your estate, and that will leave your heirs with two choices. If you pass away after age 70½, the RMDs from the IRA are calculated according to what would have been your remaining life expectancy. If you pass away before age 70½, the five-year rule applies: your heirs have to cash out the entire IRA by the end of the fifth year following the year of your death.²

 

Things to think about. The decision to stretch your IRA cannot be made casually. A beneficiary must be selected with great care, and there is always the possibility that you may end up withdrawing all of your IRA assets during your lifetime. A stretch IRA strategy assumes that your beneficiary won't deplete the IRA assets, and it also assumes a constant rate of return for the account over the years. It's also worth remembering that stretch IRA planning is based on today's tax laws, not the tax laws of tomorrow.

 

If you are interested in stretching your IRA, you must find a truly qualified advisor to help you. While many advisors know something of the rules and regulations governing stretch IRAs, look for an advisor with an advanced education in IRA planning.

 

Citations.

¹ investmentnews.com/apps/pbcs.dll/article?AID=/20080501/REG/74256949/1031/RETIREMENT

² kiplinger.com/retirementreport/features/archives/2006/06/Cover_Jun2006_03_01.html

³ irs.gov/pub/irs-pdf/p590.pdf

⁴ moneycentral.msn.com/content/Taxes/Taxshelters/P33760.

A Change in Domicile to Florida Can Help Minimize Taxes

The below article applies to New Jersey, as well as New York

Retirees who have homes in both New York and Florida may be able to reduce or eliminate New York income and estate taxes, and also reduce the real estate taxes on their Florida home by changing their domicile to Florida. The benefit of doing so has been enhanced by the elimination of the Florida estate tax and the repeal of the Florida intangible tax on stocks and bonds, which went into effect on January 1, 2007
It has been further enhanced by the Florida constitutional amendment that places a cap of 3% on any annual increase in assessments applicable to a Florida homestead, but not to a Florida home owned by a New Yorker.

Retirees who have a substantial securities portfolio have benefited from the 15% federal income tax on stock dividends and capital gains. In contrast, both the dividends and capital gains are subject to New York income taxes at a rate as high as 7%. Similarly, Congress has increased the federal estate tax unified credit to $2 million, while New York continues to impose its estate tax on estates greater than $1 million. The failure of New York to give comparable tax relief has motivated many New Yorkers with homes in both New York and Florida to consider a change of domicile to eliminate New York income and estate taxes in their entirety.

Checklist to Determine Eligibility

Not all retirees who own homes in New York and Florida are eligible to elect Florida as their domicile. Domicile is characterized in the New York tax regulations as the place that an individual intends to be his permanent home and the place to which he intends to return whenever he may be absent. The regulations provide that, once established, a domicile continues until the person moves to a new location with the bona fide intention of making his fixed and permanent home there. A person’s declarations are given due weight, but they will not be conclusive if they are contradicted by conduct. For example, the regulations state that registering and voting in one place is important but not necessarily conclusive. Likewise, the length of time customarily spent at each location is important but not conclusive. A person can have only one domicile. If an individual has two or more homes, the domicile is the one regarded and used as the permanent home.

The leading case in New York was decided by the New York Court of Appeals in 1908 (Matter of Newcomb, 192 N.Y. 238). It remains “good law.” Mrs. Newcomb, during a 30-year period, and until she was 80, was domiciled in New York City. She generally resided during the winter in her home in New Orleans and resided during the summer in her residence in New York City. She wanted to make substantial bequests to Tulane University and was concerned that the will might be contested by her relatives. She consulted with a Louisiana attorney, who advised her to change her domicile by making an express declaration in writing to that effect. She signed a declaration stating that New Orleans was her permanent home and her place of domicile. It was argued that Newcomb resided in New York City and merely visited New Orleans, and that her later visits to New Orleans differed in no material respect from those made earlier. It was also argued that she sought to become a nominal resident of Louisiana merely for the purpose of making a Louisiana will and not for making a permanent home. The court rejected that approach and established the following rules for determining domicile when the retiree maintains two residences:

There must be a present, definite, and honest purpose to give up the old place and take up the new place as the domicile.
Every retiree may select and make his or her own domicile, but the selection must be followed by proper action. Motives are immaterial except as they indicate intention.
A change of domicile may be made through caprice, whim, or fancy; for business, health, or pleasure; to secure a change of climate or a change of laws; or for any reason whatsoever, provided that there is an absolute and fixed intention to abandon one and acquire another and that the acts of the persons confirm this intention.
A retiree may elect between a winter and summer residence and make a domicile of either, provided she acts in good faith.
The right to choose implies the right to declare one’s choice, formally or informally, as he or she prefers, and even for the sole purpose of making evidence to prove what the choice was.
No pretense or deception can be practiced, for the intention must be honest, the action genuine, and the evidence clear and convincing. The burden of proof rests upon the party who alleges a change of domicile.
Demonstrating Intent

Retirees who elect to make Florida their permanent residence should demonstrate such intention in a clear and convincing way by taking as many of the following steps as appropriate:

File a declaration of domicile.
File for a Florida homestead exemption.
Obtain a Florida driver’s license and relinquish a New York license.
Acquire Florida license plates and relinquish New York license plates.
Register to vote in Florida and remove oneself from the New York voting rolls.
File a nonresident, rather than a resident, New York income tax return if there is New York–source income.
File a federal income tax return with the IRS Center in Atlanta.
Transfer safe deposit box contents to Florida and close out a New York box.
Open a Florida bank account.
Change credit cards to the Florida address.
Execute a new Florida will, Florida durable power of attorney, and Florida health care proxy.
Refer to Florida residence in all trusts and other legal documents.
Affiliate with Florida organizations and consider disaffiliation with New York ones.
Have family gatherings and social activities centered in Florida rather than New York.
Affiliate with a church or temple in Florida.
If investing in real estate or businesses, focus on areas in Florida rather than New York.
Transfer works of art, expensive furniture, heirlooms, and other valuable personal items to Florida.
Consider acquiring cemetery plots in Florida.
List the Florida residence as the primary residence on all homeowners insurance.
Turn in any New York resident fishing or hunting licenses.
License pets in Florida.

If a retiree is a New York notary public, resign and become a Florida notary public.
Cancel any New York real estate STAR exemption.
Stay in Florida as long as practically possible each year.
Consider acquiring a larger or more expensive home in Florida, or remodeling or redecorating it, and acquiring a smaller or less expensive home in New York, and document any steps taken in doing so.
If a physician has advised that either extremely cold weather or hot, humid weather may be harmful to the retiree’s health, the physician should document the medical issues accordingly.
A change of domicile from New York to Florida will not save any New York income taxes if the retiree is present in New York in a calendar year for more than 183 days. Taxpayers will be considered “statutory residents” of New York only if they maintain a “permanent place of abode” in New York and are present in New York for more than 183 days. A diary should be kept, and a partial day is considered a full day. Therefore, if a retiree leaves New York at 6 a.m. on Friday morning and returns at 11 p.m. Sunday night, he will be considered absent from New York for only one day. In addition to a diary, the burden of proof as to the taxpayer’s physical presence can be onerous. The taxpayer should retain as much documentation as possible to support the entries in the diary. Failure to account for a day will be presumed by auditors to be a day inside New York. There are some exceptions to the general rule, such as when a retiree is confined to a New York hospital or is present in New York only to go to or from an airport.

Savings in New York Income Taxes

Certain income derived from, or connected with, New York sources will continue to be taxable in New York even if paid to the retiree after a change of domicile to Florida. For example, New York will tax items such as the distributable share of income from a former law or accounting partnership and rental income from New York real property. New York will not continue to tax income from annuities, dividends, and interest, even if from New York sources, unless the income is from property employed in a business, trade, profession, or occupation carried on in New York. In 1996, Congress passed legislation that prohibits New York from imposing its income tax on any retirement income of an individual who is no longer a resident or domiciliary of New York. To quantify the savings in New York income taxes, taxpayers may want to restate the most recent New York resident income tax return on a nonresident return and include only New York–source income.

Savings in New York Estate Taxes

The amount of New York estate tax is based on the net taxable estate as shown in the Exhibit. The following simplified examples illustrate the magnitude of the estate tax savings that will result from a change of domicile to Florida:

If a former New Yorker has changed his domicile to Florida and dies with net assets of $10 million (none of which are in New York), his estate will pay federal estate taxes of approximately $3,680,000 and no New York estate taxes.
If that same individual had not changed his domicile to Florida and all his assets are in New York, his estate will pay New York estate taxes of approximately $1,067,600. That amount will be deducted on the federal estate tax return and the federal estate taxes will be reduced from $3,630,890 to $3,190,000. Thus, the estate will pay a total of $4,257,600 versus a total of $3,680,000, a difference of $577,600.
If that same individual has changed his domicile to Florida, but at the time of his death owned a home in New York valued at $1 million, his estate will pay a federal estate tax of $3,630,890 and a New York estate tax of $106,760 for a total of $3,737,650. Thus, the estate pays additional net estate taxes of $57,650 because the home is located in New York. Note the computation of the New York tax starts out with a calculation of a New York tax on all assets wherever located and then applies the applicable percentage (one-tenth of $1,067,600).
A retiree dies in New York with an estate of $1,500,000. His estate will pay a New York estate tax of $64,400. There will be no federal estate taxes because of the $2 million threshold (i.e., equivalent to the federal unified credit). If the decedent had changed his domicile to Florida and had no assets in New York, there would be neither a federal estate tax nor a Florida estate tax. If the $1,500,000 included a New York home valued at $500,000, however, then there would be a New York estate tax of $21,465 (one-third of $64,400).

As indicated in the above examples, even if there is a change of domicile, New York will nevertheless impose a New York estate tax on real property and tangible personal property having any actual situs in New York. If retirees decide to change their domicile to Florida, it may be desirable to transfer the New York home to a limited liability company or other similar entity. Because shares of the limited liability company constitute intangible property, they should not be subject to New York estate taxes even though the entity owns real property in New York.

Marriage and Domicile Change

Most married couples have the same domicile. When a change of domicile occurs, both spouses change their domicile at the same time. The primary residence of one is the primary residence of the other. But consider the situation where they have a home in New York and a home in Florida and the wife stays in Florida from mid-October until mid-May and is not in New York for more than 183 days during a calendar year. On the other hand, the husband returns to their New York home one week a month for business reasons while his wife stays in Florida. As a result, he is in New York for more than 183 days in each calendar year, although his wife is not. The husband and wife file a joint federal income tax return. The husband files a resident New York tax return. The wife has no New York–source income and files no New York tax return. The wife has substantial income from her stocks and bonds. The Florida home is titled in the wife’s name. She files a declaration of Florida domicile, registers to vote in Florida, receives a homestead exemption on her Florida home, and follows many of the items on the checklist. As a result, there is a 3% cap on any increase in its assessment. A New York auditor claims she must pay New York income taxes on the dividends and interest she receives because she has not effectively changed her domicile. The auditor points out that her husband retained a significant tie to a New York business and, therefore, she cannot change her domicile to Florida. The auditor cites the New York tax regulations:

Husband and wife. Generally, the domicile of a husband and wife are the same. However, if they are separated in fact, they may each, under some circumstances, acquire their own separate domiciles even though there is no judgment or decree of separation. Where there is a judgment or decree of separation, a husband and wife may acquire their own separate domicile. [20 NYCRR 105.20(i)(5)]
This regulation should be changed. A 2005 decision of the New York Court of Appeals recognizes that spouses can each elect their own domicile (Glenbriar Co. v. Lipsman, 5 N.Y.3d 388). Although the case involved an issue related to a rent stabilized residence in New York City, its reasoning appears to sanction a change of domicile by one spouse while the other remains a New Yorker.

Caveat

A change of domicile makes the laws of Florida, rather than New York, applicable, including marital rights. Although a New Yorker may have the requisite intent to make a domicile change, if challenged, such intent must be demonstrated by clear and convincing evidence, which requires a high degree of proof. The lack of such evidence may result in not only an assessment, but also substantial interest and penalties. Where the result is uncertain, a change of domicile should not be attempted unless the taxes that will be saved are substantial. No change should be made without professional legal guidance.

By Allan R. Lipman

Allan R. Lipman, JD, is a partner in the Buffalo, N.Y., law firm of Lipman & Biltekoff, LLP, and also has an office in Boca Raton, Fla.

“Leave a Legacy” - Beneficiary Designation on your Retirement Plan

Published in the Robert Wood Johnson Foundation newsletter.

By Parag Patel Esq.

Your largest asset may be your retirement plan. But did you know that your retirement plan can be taxed TWICE at your death?

When you plan your estate, it may seem natural to automatically designate a child or other relative as the contingent beneficiary of the account after your death, then use other assets to make a charitable gift.

But there's a tax trap in such an arrangement: The IRS considers the balance left in your retirement account to be untaxed income. The income tax is in addition to estate tax on the retirement account balance. The result of this double taxation? For estates fully subject to the estate tax, up to 70 percent of the value of the retirement plan can be consumed in taxes before your child, relative or friend receives it.

There is a sensible charitable alternative:

Consider naming the RWJ Foundation as the beneficiary of your retirement plan, and use your other non-retirement plan assets, not subject to income tax, to make gifts to your heirs. Since the RWJ Foundation is a exempt organization, it will not pay income tax on the distribution (nor will the gift be subject to estate tax); meanwhile your heirs will receive other assets of your estate without the burden of extra taxes.

Distributions may be made to the RWJ Foundation outright or fund a charitable remainder trust or gift annuity that pays income to your heirs. Be sure to direct the gift to the RWJ Foundation through your plan's beneficiary designation form rather than through your will. If you fail to do so, the assets will be included in your taxable estate.

Talk to your financial advisor and an attorney expert in retirement planning and charitable gifts for more information.

Supplemental Needs Trusts

Supplemental Needs Trusts, also called a special needs trust, is a trust in the United States that is designed to provide benefits to, and protect the assets of, physically disabled or mentally disabled persons and still allow such persons to be qualified for and receive governmental health care benefits, especially long-term nursing care benefits, under the Medicaid welfare program. Supplemental or Special Needs Trusts are frequently used to receive an inheritance or personal injury litigation proceeds on behalf of a disabled person in order to allow the person to qualify for Medicaid benefits.

Medicaid law Background
Medicaid is the Federal program administered by the states which provides health care for those that can't afford it. See 42 U.S.C. § 1396 et seq. Federal law establishes certain mandatory requirements which each state must adopt in its local Medicaid program, and the states are also given options to elect certain other components in the health care plan which they may decide to provide. Accordingly, Medicaid does vary from state to state in certain aspects, but there are also mandatory Federal law provisions.

One significant governmental benefit which is available only through Medicaid is long-term nursing care which includes care for the physically disabled and the mentally disabled. Long-term nursing care can be extremely expensive. Medicaid is a welfare program. To qualify for Medicaid and its long-term nursing care benefits, the applicant must be “poor” and there is a limit to the countable assets which he or she can own. To qualify for Medicaid, the applicant must meet the asset guidelines for Supplemental Security Income (“SSI”). SSI allows a single applicant to own no more than $2,000 in countable assets and a married applicant to own no more than $3,000 in countable assets. Certain assets are specifically exempted and are not countable.

Trusts as Medicaid countable assets
A trust is a legal arrangement in which legal title to assets is held by a trustee under certain defined restrictions of a governing instrument (usually a will or a written trust agreement) for the benefit of another party known as the beneficiary. Trusts can be used as a vehicle to make assets available to a beneficiary but still significantly restrict them. Recognizing the gray area which trusts can provide concerning the ownership of assets, Federal Medicaid law places significant restrictions on the types of trusts which can be used to preserve assets of a beneficiary and still qualify the beneficiary for governmental benefits.
Prior to the enactment of the Omnibus Budget Reconciliation Act of 1993 (O.B.R.A), P.L. 103-66, it was possible to create a self-settled, discretionary trust for the benefit of the settlor and still allow the settlor to qualify for Medicaid’s long-term nursing care benefits. These trusts were called “special needs trusts” or “supplemental needs trusts” because restrictive language in the trust agreement allowed the trustee to pay only for the support needs of the settlor-beneficiary which the government did not pay. The trust was not for the unrestricted, general support of the beneficiary which is typical in normal estate plans. Special needs trusts were perceived by the United States Congress to be abusive and were effectively abolished by O.B.R.A.

In general, with limited exceptions, regardless of the purposes, provisions, or discretion contained in the trust, a self-settled trust which is created after August 11, 1993 will be treated as an available asset which can disqualify the settlor-beneficiary from Medicaid. 42 U.S.C. § 1396p(d)(2)(C). This means that generally a person cannot create his or her own trust, transfer his or her own assets into the trust, and still be qualified for Medicaid.

Medicaid exempt trusts
Since the effective date of O.B.R.A., only a limited number of trusts can now be used and still preserve an applicant’s Medicaid eligibility. One major distinction should be made when analyzing Medicaid trusts. Trusts created by the disabled beneficiary (or a third party with legal authority over the disabled beneficiary) with the disabled person’s own assets for the disabled person’s own benefit are classified as first-party, self-settled trusts. These types of trusts must be distinguished from trusts created by a third party for the benefit of a disabled individual with the third party’s own assets (such as a grandparent creating a trust for a grandchild). Legal restrictions generally exist for first-party, self-settled trusts which do not exist for third-party trusts.

First-party, self-settled trusts
Most self-settled trusts holding the disabled beneficiary’s own assets created after August 11, 1993 are countable resources for Medicaid. The Medicaid statute, however, provides for three specific types of trusts which can be funded with the applicant’s own assets and which will not disqualify the applicant from Medicaid. These trusts are called “D-4A Trusts” after the subsection of the law which authorizes them. They are also called “Federalized Special Needs Trusts” because the Federal Medicaid statute makes them available in every state.
Because of the requirement that the State be reimbursed for medical assistance, D-4A Special Needs Trusts may have limited utility when the goal is to pass assets of the disabled individual to family members. The main benefit of the D-4A Trusts is to provide a quality of life for the Medicaid beneficiary. Assets can be held in the trust and used to pay for the beneficiary’s special and supplemental needs which the government does not provide, while Medicaid pays the significant medical bills. If the medical assistance provided during life does not turn out to be costly, then upon the death of the beneficiary, there is a chance that assets may be preserved in the trust and pass to loved ones.

Disabled Individual’s Special Needs Trust
Under the provisions of 42 U.S.C. § 1396p(d)(4)(A), a Disabled Individual’s Trust will not be counted as a Medicaid asset even when it is funded with the applicant’s own assets. The requirements for the trust are that the individual must be under age 65 at the time the trust is created (and funded), and disabled under the Social Security definition. Further, the trust must be for the "sole benefit" of the disabled individual. The trust must be created by a parent, grandparent, guardian, or court. Upon the death of the individual, the State Medicaid agency must be reimbursed for the costs of the medical assistance which was provided by Medicaid during the disabled individual's lifetime. This is often called the “payback” provision.

It is important to note that the Disabled Individual’s Trust must be created by a parent, grandparent, guardian, or court. The statute does not allow the disabled individual to create his or her own trust, even if he or she is otherwise legally competent. Action by a third party is required in creating the trust. In this regard, these types of special needs trusts are often established by a court on behalf of a disabled person as a part of or ancillary to a serious personal injury lawsuit.

"Miller" Trust
A "Miller" Trust can be used to qualify a Medicaid applicant with income in excess of the eligibility limit (not imposed in all states) for long-term care assistance from Medicaid. Such a trust is not really a "special needs" trust at all, and is not funded with the beneficiary's assets. The Miller trust can be named as recipient of the individual's income, from a pension plan, Social Security, or other source. The Miller trust takes its name from the Colorado case of Miller v. Ibarra, 746 F. Supp. 19 (D. Colo. 1990), and is specifically sanctioned by 42 U.S.C. § 1396p(d)(4)(B). As with a self-settled special needs trust (referred to above as a "Disabled Individual’s Trust"), upon the death of the beneficiary, the State Medicaid agency must be paid back for its medical assistance from any remaining assets in the Miller trust. An older name for the Miller trust, still occasionally used, is “Utah Gap" trusts, reportedly coined by a Colorado advocate describing the gap between the income cap for eligibility and the actual cost of nursing home care as similar to the yawning chasm between mesas dotting the Southern Utah landscape. The Miller trust is only significant in those states which impose an income cap on Medicaid long-term care eligibility; ironically, Utah is not one of those states. Income caps are in place in about half of the states.

Charitable Pooled Income Special Needs Trust
A Charitable Pooled Income Special Needs Trust is authorized by 42 U.S.C. § 1396p(d)(4)(C). Again, the individual must be disabled under the Social Security definition. Unlike the other exempt trusts which can be administered by a private trustee who is an individual (such as a family member), the Pooled Income Trust is run by a nonprofit association, and a separate account is maintained for each individual beneficiary. All accounts are pooled for investment and management purposes. The trust (or more accurately, an account in the pooled trust) may be created by a parent, grandparent, guardian, or court, and it can also be created by the disabled individual himself. Upon the death of the disabled individual, the balance is either retained in the trust for the nonprofit association or paid back to the State Medicaid agency for its medical assistance.

In some states, a disabled individual over age 65 is entitled to transfer assets to a pooled trust and then be immediately eligible for Medicaid. In other states, the transfer must be made before the disabled individual attains the age of 66.

Third-party trusts
Medicaid law governing trusts is designed to prevent disabled individuals qualifying for benefits while still retaining full control over their assets. A third party, however, is still free to plan with his own assets and either give them outright to a disabled individual or tie them up and restrict them in trust as he sees fit. Accordingly, trusts which are created by a third party with the third party’s own assets to benefit a beneficiary who is on Medicaid have their own separate rules and treatment.

Generally, a properly drafted third-party, discretionary trust is not countable as an asset available to the beneficiary receiving Supplemental Security Income (SSI) and/or Medicaid benefits. Such a trust must be created by a party other than the SSI/Medicaid beneficiary, must not receive any assets belonging to the beneficiary, and must be restricted (not accessible or available) to the beneficiary. The operative principle is whether the trust assets or income are available to the beneficiary. If appropriate trust language is used (and the appropriate language varies from state to state), Medicaid will not treat the resources in the trust as a countable resource. Typically, a third-party trust provides that the trustee is given unfettered discretion to distribute (or not to distribute) principal or income for the benefit of the disabled beneficiary. Often, the trustee is directed only to make distributions for the “supplemental” or “special” needs of the beneficiary or as long as the distributions do not disqualify the beneficiary from governmental benefits. Frequently the trustee will be specifically prohibited from making distributions which provide the beneficiary with food or shelter (the two disqualifying categories under SSI and Medicaid regulations). There is no requirement that the trustee be so restricted, however; it may be preferable in most cases to permit the trustee to make the decision to make distributions which reduce or even eliminate public benefits in cases where the availability of trust resources is more important than continued eligibility for SSI and Medicaid.

A third-party special needs trust should not be drafted as a general support trust or mandate distribution of current income to the beneficiary. In such a case, the trust can be deemed to be “available” and can disqualify the beneficiary from Medicaid. The Medicaid beneficiary should not be given any power to revoke the trust or direct the trustee to make distributions to the beneficiary. The trust can be revocable by the third-party settlor. This means that a parent can fund a trust for a disabled child with the parent’s assets and give it a test run, revoking it later and re-acquiring the assets if the parent decides that it is not serving its purpose. Finally, the third-party trust does not need to include a D-4 “payback” provision reimbursing the State for the medical assistance of the beneficiary upon the beneficiary’s death.

References
http://www.seniorlaw.com/snt.htm
http://www.nsnn.com/frequently.htm
http://www.elderlawanswers.com/elder_info/elder_article.asp?id=2742#6
http://www.wid.org/programs/access-to-assets/fact-sheets/special-needs-or-supplemental-needs-trusts

Problems with Joint Tenancy Property

Could joint tenancy, one of the most common forms of holding title to assets, lead to an estate planning disaster for your heirs? Joint tenancy, often called “joint tenants with right of survivorship,” is a form of holding equal interests in an asset by two or more persons. If one joint tenant dies, his or her share generally passes automatically to the other joint tenant(s) by right of survivorship.


Advantages Of Joint Tenancy

Probate avoidance: Title to assets held in joint tenancy passes automatically at the death of one joint tenant to the others. There is no need for a formal probate (unless all the joint tenants die).
Convenience: Bank accounts held in joint tenancy can be withdrawn by any joint tenant. This may be an advantage if one party becomes incompetent due to an accident, a stroke, advanced age, etc.
Potential Disadvantages Of Joint Tenancy

Loss of control: Your will (or trust) will have no effect on joint tenancy assets, even if you change your mind as to the persons you would like to receive your share when you die. Also, the entire asset may be available to the creditors of either joint tenant.
Assets may not reach your children: Quite often assets passing to a surviving joint tenant spouse end up in joint tenancy with a new spouse. The new spouse may ultimately receive all of the assets rather than your children. Also, if the first joint tenant to die had children of a prior marriage, they can be easily cut out of any inheritance by the surviving joint tenant.
Potential tax penalties:
Gift tax penalty: The creation of a joint tenancy in some assets may be subject to gift taxation if the value exceeds the $12,000 annual gift tax exclusion. Gifts to one's spouse are generally not taxable.
Estate tax penalty: A “credit shelter” or “bypass” trust is often used to reduce or eliminate estate taxes for the children or other beneficiaries of a married couple with assets in excess of $2 million. Holding assets in joint tenancy can prevent this type of trust from being effective by passing assets outside the trust.
Income tax penalty: When appreciated assets are sold, capital gains tax is generally paid on the difference between the cost basis and the sales price. Assets included in one's estate receive a new, stepped-up cost basis at the time of death - the value at which the assets are included in the decedent's estate. If these assets are then sold at this higher value, there is no gain, and thus no income tax due. However, assets held in joint tenancy title receive only a partial step-up in basis, on the decedent's share. If the decedent owns the asset alone, the basis of the entire asset will be stepped-up.
Dissolving An Unwanted Joint Tenancy



Because of the many disadvantages of joint property, it is often advisable to terminate such ownership in favor of sole ownership or tenant in common ownership. For bank and brokerage accounts, this involves changing the title of the account and signing new signature cards or similar documents. Dissolving a joint tenancy in real property is generally done by creating a new deed by which the joint tenants transfer their interests to themselves as tenants in common.



However, changing of title to assets can have very serious tax and legal consequences and should be undertaken only after seeking professional advice.

The Expensive NJ Inheritance and Estate Tax

Inheritance and Estate Tax

New Jersey imposes a transfer Inheritance Tax, at graduated rates, on property having a total value of $500 or more which passes from a decedent to a beneficiary.

If a decedent's death occurs on or after January 1, 1985, property passing to a surviving spouse is entirely exempt from the tax. If a decedent's death occurs on or after July 1, 1988, property passing to a decedent's surviving parents, grandparents, children, stepchildren or grandchildren is entirely exempt from the tax. If a decedent’s death occurs on or after July 10, 2004, property passing to a surviving domestic partner (Domestic Partnership Act) is entirely exempt from tax. If a decedent’s death occurs on or after February 19, 2007, property passing to a surviving civil union partner is entirely exempt from tax.

In many instances, if all of a decedent's property passes to a surviving spouse, domestic partner, civil union partner, children, stepchildren, parents, grandparents or grandchildren, it will not be necessary to file an Inheritance Tax return with the Division of Taxation. In such cases, Form L-8 may be used to secure the release of bank accounts, stocks, bonds and brokerage accounts and Form L-9 may be used to secure the release of the State's lien on real property owned by the decedent.

When filing an Inheritance Tax return, Form IT-R should be used for resident decedents, and Form IT-NR should be used for nonresident decedents.

In addition to the inheritance tax, New Jersey imposes a separate Estate Tax. An estate may be subject to the New Jersey Estate Tax even though there is no New Jersey Inheritance Tax payable..

For decedents with a date of death prior to January 1, 2002 the New Jersey Estate Tax was designed to absorb the maximum credit for state inheritance, estate, succession or legacy taxes allowable in the Federal estate tax proceeding. It did not increase the estate's total estate tax obligation.

For decedents with a date of death on or after January 1, 2002 the New Jersey Estate Tax was decoupled from the Federal estate tax proceeding. For more information see New Jersey Estate Tax: Important Provisions and Filing Requirements.

The New Jersey Estate tax is based upon the Federal Estate tax credit for state death taxes which was allowable under the provisions of the Internal Revenue Code in effect on December 31, 2001. The Federal Estate tax does not have a provision providing a deduction for property passing to a domestic partner. However, if the decedent was a partner in a civil union and died on or after February 19, 2007, survived by his/her partner, a marital deduction equal to that permitted a surviving spouse under the provisions of the Internal Code in effect on December 31, 2001, is permitted for New Jersey estate tax purposes. In these cases, the 2006 Form 706 should be completed as though the Internal Revenue Code treated a surviving civil union partner and a surviving spouse in the same manner.

New Jersey Inheritance Tax

The State of New Jersey imposes a transfer inheritance tax on property with a total value of $500 or more that passes from a decedent to a beneficiary. This is a tax that applies on the beneficiaries of an estate. It is different from the federal and New Jersey estate taxes that apply on the value of the estate. The estate tax is paid from the assets in the estate before property is distributed to the beneficiaries. The inheritance tax falls on the beneficiaries.

Exemptions and Tax Rates

The New Jersey transfer inheritance tax is levied at graduated rates of from 11% to 16% based on different groups, or classes of beneficiaries. Each class of beneficiaries has its own exemption amount and tax rate.

There are various persons related to the decedent who are entirely exempt from this transfer inheritance tax. They include the surviving spouse or domestic partner, the decedent's parents, grandparents, children, adopted children, stepchildren, and grandchildren. When the decedent's death occurs on or after February 19, 2007, property passing to a surviving civil union partner is also entirely exempt from the tax.

Another class of beneficiaries includes other family members, such as the decedent's brothers, sisters, half brothers and sisters, son-in-law, and daughter-in-law. According to the Bergen County Surrogates Court, these beneficiaries are allowed an exemption of $25,000. The balance of their inheritance is taxed at 11% for the next $1,075,000 and thereafter at rates of from 13% to 16%.

All other beneficiaries who are not included in the groups described above are taxed at 15% for the first $700,000 and then at 16% for proper transfers with a value over that amount.

Transfers of the decedent's property that have a value of less than $500 are exempt. In addition, no New Jersey transfer inheritance tax is due on money or the value of property that a decedent leaves to a charity, an educational institution, church, hospital, library or the State of New Jersey or its political subdivisions.

Exempt and Taxable Property

When the decedent was a resident of New Jersey, taxable property transfers include all real or tangible personal property located in New Jersey or intangible personal property wherever located. If the decedent was not a resident of New Jersey, taxable transfers include real or tangible personal property located in New Jersey. Real and personal property located in another state would not be taxable, and intangible personal property of a nonresident, wherever located, is not taxable.

There are certain types of transfers that are specifically exempt from the New Jersey inheritance tax. As indicated on the website of Kenneth Vercammen & Associates, attorneys in New Jersey, the transfer of real and personal property held in New Jersey by a husband and wife as tenants by the entirety to the surviving spouse is not subject to New Jersey inheritance tax. Intangible personal property such as stocks, bonds, securities, and bank deposits are subject to the inheritance tax if the decedent was a resident of New Jersey, but not when he or she was a nonresident.

The proceeds of a life insurance contract on the decedent, whether a resident or nonresident of New Jersey, that are payable directly to named beneficiaries, and not to the decedent's estate, are exempt from the New Jersey inheritance tax. Life insurance proceeds would also be exempt if they are payable to a trust set up by the decedent during life for the beneficiaries.

Payments from the New Jersey Public Employees' Retirement System, the New Jersey Teachers' Pension and Annuity Fund and the New Jersey Police and Fireman's Retirement System; federal civil service retirement benefits payable to a beneficiary other than the estate; and annuities payable to survivors of military retirees are exempt.

Death benefits paid by the Social Security Administration or Railroad Retirement Board to the surviving spouse are exempt from the New Jersey inheritance tax. An exemption is also provided for payments to a surviving spouse from a pension, annuity or retirement plan the decedent had with his or her employer, that are considered qualified plans under the Internal Revenue Code.

Filing and Payment of Tax

According to the New Jersey Treasury, many times when all of a decedent's property passes to the beneficiaries who are exempt from the inheritance tax (surviving spouse, domestic partner, civil union partner, children, stepchildren, parents, grandparents, or grandchildren), it is not necessary to file an inheritance tax return.

In these cases, Form L-8 can be used to release bank accounts, stocks, bonds, and brokerage accounts. Form L-8 is a Self-Executing Waiver and is filed with the bank, financial institution, or broker. Form L-9 can be used to release the State's lien on real property. Form L-9 is a Real Property Tax Waiver that is filed with the Individual Tax Audit Branch - Inheritance and Estate Tax office in Trenton, New Jersey. These forms can be downloaded from the State of New Jersey Treasury website at www.state.nj.us/treasury/taxation.

When a husband and wife own real estate as tenants by the entirety, the surviving spouse does not have to file a Form L-9, and the property can be transferred at any time. The same applies if the decedent and surviving spouse hold a membership certificate or stock in a cooperative housing corporation as joint tenants with right of survivorship.

If there are beneficiaries subject to the inheritance tax and an inheritance tax return has to be filed, Form IT-R should be used for decedents who were residents of New Jersey and Form IT-NR for nonresident decedents. The inheritance tax return must be filed and the tax paid within eight months of the decedent's death. Any balance of tax due after that period is subject to interest.

Some assets, such as real estate, stocks, and bank accounts, require written consent from the Director of the New Jersey Division of Taxation before they can be transferred. This consent, known as a waiver, applies when Forms L-8 and L-9 described above do not apply. These waivers will not be granted until the inheritance tax has been paid. Normally waivers are not required to transfer automobiles, household goods, personal effects and most employee benefits.

Banks and financial institutions can release up to 50% of any bank account, certificate of deposit, or other account to the survivor, if it is a joint account, or to the executor or administrator of the estate, under a blanket waiver. The blanket waiver does not apply to brokerage accounts with stocks and bonds.

According to the Bergen County Surrogate's Court, once the assets of the estate have been distributed the executor will have the beneficiaries sign a refunding bond and a release. By signing the refunding bond, the beneficiary agrees to return part or all the assets in the unlikely event they are subsequently needed to pay debts of the estate. The release absolves the executor from any liability and allows the estate to be closed.

2008 New Year's Resolutions: Keep your estate planning on the right track

Here are 10 things you can do in 2008 to keep your estate planning on the right track.

1) Last Will and Testament Make sure you have an up-to-date, professionally-prepared Will and/or Living Trust. Keep the original in a safe place and tell other people where that is.
2) Title to Assets and Beneficiary Designations Check your property ownership and beneficiary designations for life insurance, retirement accounts and other assets to ensure that they are coordinated with your will or trust provisions.
3) Durable Power of Attorney Prepare (or have an attorney prepare for you) a comprehensive Durable Power of Attorney. Register it if necessary.
4) Health Care Power of Attorney Even if you don’t currently have a medical condition, prepare (or have an attorney prepare for you) a current Health Care Power of Attorney, valid in your state of residence. Make sure your primary care doctor has a copy and make sure that others know where they can find a copy.
5) Think About What Advanced Directives You Want and Document Them Prepare (or have an attorney prepare for you) a current Living Will or Medical Directive that clearly and accurately states your wishes. Make sure your primary care doctor has a copy and make sure that other know where they can find a copy.
6) Touch Base with your Fiduciaries Make sure you have spoken to your Executors, Trustees, Agents (under a power of attorney), and Guardians named in your estate planning documents to ensure they agree to serve and are aware of your wishes and other necessary information, including the location of the documents and contact information for your attorney.
7) Insurance Review all of your policies, such as life/medical/disability/home/auto, to see if you have adequate coverage. Consider upping the liability limits on your auto insurance and purchasing umbrella liability insurance. Those of you with young children, make sure you have enough life insurance to cover expenses through college (and beyond if they have such graduate-level aspirations). If you are reaching your senior years, take a look at long-term care insurance.
8) Asset Protection Here are few tips lines under one heading (don’t say I never give you anything….):
If you own rental real estate, place it in an LLC.
Avoid large joint accounts.
If you are getting married, talk to an attorney about the advisability of a prenuptial agreement.
Protection your children’s inheritances by keeping the assets in trust for them.
9) Taxes Though you may normally be a do-it-yourselfer, have a CPA or tax attorney review your return to ensure that you are making the most of your deductions and any tax breaks. If your assets exceed $675,000 (including face value of life insurance), make sure you have addressed estate taxes in your estate plan. Do not give over $12,000 a year to anyone without seeking advice as to the gift tax consequences of the gift.
10) Attorney
It doesn’t have to be our firm, but establish a relationship with an attorney whom you can trust and easily communicate. In addition to making sure that they are competent to handle your matter, make sure that you enjoy working with them and move on if they don’t return your phone calls promptly or act annoyed to explain the details to you.
That’s it….get started and sleep better at night.

2007 Year-End Tax Planning Tips

Year-End Tax Planning Tips

Due to uncertainty over the pending “extender” legislation, this year may prove to be more challenging than usual.
We expect Congress to provide another one-year patch to assure that moderate incomes are not entrapped by the Alternative Minimum Tax (AMT) in 2007; however, there may be other last minute tax increases to pay for this solution.
There are also a number of important tax breaks expiring at the end of 2007. For individuals, these include the above-the-line deductions for qualified tuition expenses and educator expenses, the tax credit for home energy saving improvements, (such as insulation and energy-saving windows), and the option for individuals who have attained age 70½ to transfer IRA funds directly to charity.
The actions below may help you save taxes, but you must act before year-end (not all actions will apply for everyone):
Capital gains and losses If you have recognized any capital gains or losses from the sales of stocks or other capital assets (or you have some that are ripe for sale), it may be advisable to meet to discuss how you can best coordinate timing your gains and losses to minimize tax. Also, reviewing any pending December mutual fund capital gain distributions will be important. A recent Wall Street Journal article suggested that above average capital gain declarations are coming this year-end.
Zero capital gains rate may apply in 2008 If you or a family member are considering a sale of appreciated stock or other capital assets, and the income is not taxed at a rate higher than 15 percent, it may pay to hold off on the sale until 2008. This may result in a zero tax on some or all of the gain. If you sell this year, the 5 percent tax on lower rate capital gains will apply.
Gifts of appreciated assets If you have stock or other capital assets that have appreciated in value, consider making a gift of those assets to a child or other individual in a lower tax bracket.
Kiddie tax changes In 2007, the kiddie tax rules apply to children under age 18. In 2008 and after, they also ensnare most children age 18 and most full-time students age 19-23. If your child holds appreciated stock and is not in kiddie tax territory this year but will be in 2008, consider having the child sell in 2007 ahead of the new rules (or consider a gift of your securities to the child, followed by a sale in 2007). In many cases, this will result in a 5 percent tax on the gain, instead of a 15 percent rate if the sale is postponed until 2008.
Reducing underpayment penalties Those facing a penalty for underpayment of estimated tax may be able to eliminate or reduce it by a last-minute adjustment to tax withholding.
IRAs and charitable contributions If you are age 70½ or older, own IRAs, and are considering any charitable contributions before year-end, consider arranging for the gift to be made directly by the IRA trustee. This can achieve important tax savings, but may not be available after 2007 unless Congress acts to extend the provision.
Self-employed retirement plans Self-employed individuals should consider setting up a self-employed retirement plan, or perhaps modifying the type of plan they use in order to enhance their deduction.
S corporation or partnership losses If you own an interest in a partnership or S corporation, you may need to increase your basis in the entity so you can deduct a loss from it for this year.
Open a Health Savings Account (HSA) For those without employer-subsidized health insurance, consider adjusting your health insurance policy to “high deductible” status ($1,100 of out-of-pocket exposure for individual or $2,200 for family coverage). If done before year-end, you are eligible to fund up to $2,850 for an individual plan or $5,650 for family coverage into a pre-tax HSA.
Timing of itemized deductions Consider prepaying expenses that generate deductions, such as state income taxes, real estate taxes, charitable contributions, and other itemized deductions.
Energy-saving home improvements If you are thinking of making energy-saving improvements to your home, such as putting in extra insulation or installing energy-saving exterior doors or windows, consider doing so before year-end in order to qualify for a tax credit that may not be available after 2007. Some appliances, such as furnaces or hot water heaters, also qualify.
Hybrid vehicle tax credit If you are considering the purchase of a hybrid vehicle, purchase it before year-end to be eligible for a tax credit (but if you are subject to the AMT, the credit is not available).
Donating used autos to charity If you are thinking of donating a used vehicle to charity, consider inquiring about the charity’s plans to sell the car or alternatively use it in its charitable activities. The latter may yield a greater tax deduction for you. If the charity simply sells the auto, the deduction is limited to the charity’s sale price.
Other charitable changes 2007 brings a new harsh rule regarding cash contributions. Only those documented by a cancelled check, credit card charge, or a receipt from the charity qualify. Miscellaneous out-of-pocket cash donations without a receipt are no longer deductible. But on the positive side, Congress has improved the deductibility of qualified conservation charitable easements. In these arrangements, you may be able to retain ownership of the property, but restrict future development. Diminishing the value of the property in this type of permanent easement can create a significant charitable income tax deduction, as well as significant estate tax savings.
Self-rental income Do you lease real estate to your own business entity? If so, the passive activity loss rules present a significant threat. If your 1040 has a mix of positive and negative rental activities, the passive loss risk needs to be carefully assessed.
Gift and estate taxes You can save gift and estate taxes by making gifts sheltered by the annual gift tax exclusion before year-end. You may give $12,000 in 2007 to an unlimited number of individuals to reduce the costs of an onerous 45 percent federal estate tax to your heirs, but you cannot carry over unused gift exclusions from one year to the next.