Hawaii Estate Planning Blog

How to Succeed in the USA? Think Like an Immigrant

This Forbes article is about a year old, but it advances an extremely helpful perspective for us fortunate individuals who have been blessed to grow up in a land of plenty.  Essentially, the advice is "think like an immigrant."  The author, Glenn Llopis, points to seven often-overlooked areas where many of us have blind spots that prevent us from seeing the golden opportunities that are obvious to many newcomers to our shores:

• Opportunities in common, menial tasks

• Opportunities in requests for help

• Opportunities in small acts of kindness or sacrifice

• Opportunities in new relationships

• Opportunities in everyday conversations

• Opportunities in simple transactions

• Opportunities where no one else sees opportunities

Llopis argues that through keen awareness and constant searching, the best opportunities come into view.  He says that if we are thinking this way, we don't limit those we will serve, we don't limit the jobs we will do, and we don't specify the kinds of opportunities we are looking for.  In other words, we don't narrow our focus to the point that we don't recognize the opportunities that are all around us.

 

Ongoing Estate Tax Uncertainty

If you’ve been following the political saga of the estate tax over the past few years, you know something is about to hit the fan . . . again. In fact, the estate tax may turn out to be one of the most important (and divisive) issues as the elections draw nearer.  It’s hard to say what is going to change, or for how long.  Just the kind of thing estate planners--and their clients--hate:  uncertainty.

Even if it’s hard to say what will happen with the estate tax, there still are some fairly likely ways this drama will play out.  This article lays out four possibilities.

1. Gridlock. Each party pushes and pulls and yet there is no victor, and so we all lose. That is to say that if the current law isn’t extended, updated, or changed, the compromise deal reached in December of 2010 will sunset and the law will revert all the way back to the pre-George W. Bush tax-cuts.  The estate tax will be 55%, and the amount each individual can pass tax-free will be $1,000,000.  That is more draconian than a many pro-tax advocates call for, because it ignores the impact of inflation over the past ten years. That said, Congressman Jim McDermott of Washington has put introduced a bill that would use the 2002 tax rate, but the exclusion would be indexed for inflation.
2. Stalemate. Perhaps no one will win, but no one will want to lose, either. Instead of kicking the can down the road, they can simply extend the rules that we have now.  President Obama agreed to thos numbers once already, and it’s a far better deal than what will happen automatically if Congress fails to act.
3. Democrat control of Congress and the White House. Even pro-tax Democrats tend to be leery of huge tax increases around election time.  What they may want to do is raise the tax rate from 35% to 55%, but maintain a relatively high exclusion amount so that most estates will not be subject to the tax.
4. Republican control of Congress and the White House. Especially if there is a Republican in the White House, there is renewed possibility of a low tax rate and a high exemption amount, if not a repeal of the estate tax.  However, when it comes to taxes, dead people are the easiest targets, so fiscal realities may require even the most tax-averse Republicans to look to the estate tax for increased revenue.

The year 2012 will ulimately be about being alert to the ebb and flow of political tides as we plot the most tax-friendly course we can.  It is important to remember, however, that there things that are even more important than taxes when it comes to charting the course for your finances.  Among them are the peace of mind of knowing that you are in control of your resources and will be able to access them as and when you wish.

You can find more information about estate planning here.

ANSWERS TO FREQUENTLY ASKED QUESTIONS ABOUT ESTATE PLANNING

This memo answers some important questions about basic estate planning.  This discussion is very general.  The idea is just to give you the big picture.  Also, please bear in mind that the law changes from time to time; what is true one week may not be true the next—particularly if Congress is in session.  (As one wise guy put it, if “pro” is the opposite of “con,” what is the opposite of “progress”?) 

What is a trust? 

A trust is the legal relationship that is created when a person transfers “stuff” to a trustee with the understanding that the trustee will manage it for the benefit of one or more beneficiaries.  We use the term “stuff” to mean any kind of property you can own.  It includes both real property—such as land and buildings—and personal property—such as bank accounts, stocks and bonds, and personal effects.  The person who transfers the stuff to the trustee is called a trustmaker.  This person is also known as a settlor, grantor, or trustor.  Usually, the trustmaker is also the trustee (or perhaps co-trustee) and the initial beneficiary of the trust.  For the reasons explained below, a married couple will usually want to create two revocable living trusts instead of just one.  It is not uncommon for husbands and wives to be the co-trustees of both of their trusts during their joint lifetimes, and then, after the death of one spouse, to have the survivor serve either as sole trustee or co-trustee with one or more other individuals or a trust company.

A trust is controlled by a document called the trust agreement (sometimes called the trust instrument).  The trust agreement sets out the rules about how the trust will be run.  We often refer to a client’s set of estate planning documents as their “rule book,” and the trust agreement is the part of the rule book that controls the trust.

If the trust agreement says that the trustmaker can revoke it or change it, the trust is what we call a revocable trust.  If the trust agreement does not allow the trustmaker to change or revoke it, we have what is called an irrevocable trust.  Irrevocable trusts are also used in many estate plans.  They allow trustmakers to make gifts but keep the recipients from having complete control over the gifted assets.  Irrevocable trusts play an important part in many estate plans.  They can help provide tax savings, creditor protection, and expert management of assets.

A living trust is one that you create and fund (transfer stuff into) during your lifetime.  It can be revocable or irrevocable, depending on how much control you want to maintain over the trust and its assets.  A revocable trust gives you complete control, whereas an irrevocable trust gives you limited or no control.  A testamentary trust is one that goes into effect and is funded following your death because it is governed by your last will and testament.

Will I lose control of my assets when they are transferred to the trustee?

NOT IF YOUR TRUST IS REVOCABLE.  The trustee is bound by the trust agreement.  You have final say over what the trust agreement says, and failure to abide by the trust agreement can make the trustee personally liable to the beneficiaries, including yourself.  This means that if the trustee messes up, that person may have to pay for the mess out of his or her own pocket.  Most often, the trustmaker of a revocable living trust is the initial trustee.  In that situation, the trustmaker does not have to worry about anyone questioning his or her management of the trust for two reasons.  First, the trustee is usually granted very broad discretion to favor the trustmaker as the initial beneficiary.  Second, the trustmaker of a revocable living trust has the power to amend the trust agreement or to revoke the trust and get the trust assets transferred back into the trustmaker’s name.  Thus, no one else is in a very good position to challenge what the trustmaker/trustee does with the trust.  In fact, potential beneficiaries have a vested interest in not doing anything that might cause the trustmaker to revoke the trust or change the trust agreement in order to exclude a troublemaker.  This is a simple demonstration of the “golden rule” of estate planning:

      The One who hath the Gold maketh the Rules

If your kids are good kids, they won’t stick their noses into what you do with your trust.  If they are bad kids, hopefully they are smart kids and will at least act like good kids as long as you’re alive because they won’t want to be disinherited.  If you do not have any children—or don’t have any that you like—don’t assume that revocable living trusts are not a good idea for you.  There are many good reasons for creating trusts, and some of them may apply to your situation.  One reason that many people create revocable living trusts is so that their stuff will not go through probate after they are gone, or through conservatorship if they become incapacitated.

How does a revocable living trust avoid probate?

Once assets are transferred to the trustee, the trustmaker no longer holds legal title to them—even if the trustmaker and the trustee are the same person.  Thus, if the trustmaker dies, the trust continues, and the successor trustee (who is named in the trust agreement) takes over administering the trust.  Since a trust can’t die the same way a person can, the trust assets will not be subject to probate upon the trustmaker’s death.  Title to the trust assets simply remains in the trust, and the trust agreement tells the successor trustee (that is, whoever the trust agreement identifies as next in line to serve as trustee) exactly what to do with them.  Any assets not transferred to the trustee, however, will be subject to probate upon the trustmaker’s death.

What is probate, anyway?

Probate is the court proceeding to transfer a dead person’s assets to the people who are supposed to get them.  Simple in concept, but humbug in practice.  Probate can easily take a year or more to complete, and the attorneys’ fees and other costs associated with probate could easily eat up 5% or more of a decedent’s gross estate.  (“Decedent” is lawyer talk for someone who has assumed room temperature—i.e., a “dead person.”)  If a decedent owned assets located in more than one state or country, it may be necessary to have a probate in each jurisdiction where the decedent’s assets are located.  If one probate is bad, you can bet that more than one probate is worse.  In almost every case, probate is an awfully good thing to avoid.

In addition to the money and time that probate can consume, another reason people try to avoid probate is that the court’s probate files are public records.  Nosy people can go through the court’s probate files and gather all kinds of information that may be profitable to them—and detrimental to decedents’ families.  This is a growing concern, especially as we see more and more cases of identity theft.

What other benefits do revocable living trusts provide?

A revocable living trust can avoid a conservatorship proceeding (sometimes called a “living probate”) in the event the trustmaker loses the ability to handle assets.  Ordinarily, if a person becomes incompetent, a court must appoint a conservator to administer the person’s assets on his or her behalf.  The conservator must then account to the court every year or so, and the whole conservatorship process can end up being extremely costly and time consuming.  Not only that, but the documents in the court’s file are a matter of public record.  Think about it.  If you were to become incapacitated (and you currently have more than a 50-50 chance of doing so), anybody who so chooses could go down to the courthouse and find out personal information about you (such as the specific diagnosis of your incapacity).  Even worse, that person can find out information about your assets and your family members that would best be kept private.  On the other hand, if your assets had been held in trust, upon your incapacity the successor trustee could have stepped in—without court action—and picked up the administration of the trust where you left off.

Trusts also allow you to have control over your estate even after your death.  If one of the beneficiaries of your trust after your death is a minor, you will want your trust to hold on to that beneficiary’s share of your estate until the beneficiary reaches the age when you believe he or she will be mature enough to handle it.  Think back to when you turned 18.  What would you have done if all of a sudden you had more money than you knew what to do with?  Would your little munchkins do any differently?  If you don’t plan for that possibility, you could be setting up one of your loved ones to blow his or her inheritance.  If this does not appeal to you, your trust agreement could provide, for example, that the share of any beneficiary under the age of 25 will stay in trust until the beneficiary turns 25.  In the meantime, the trustee can make distributions to or for the beneficiary, but the beneficiary cannot demand that any distributions be made until he or she turns 25.

There is no magic to the age of 25; you could postpone a beneficiary’s control over his or her inheritance to any age you wish.  You could also use an event besides a birthday to trigger a distribution from your trust.  For example, your trust agreement could call for a distribution when a child either turns 25 or graduates from an accredited college or university, whichever happens first.  You could also have the trust assets distributed to a beneficiary in increments—say a third of the trust principal at age 25, half of the remaining assets at 30, and the rest at 35.  You could even set out different terms for each beneficiary.  One beneficiary might be quite capable of handling an inheritance at the age of 21, whereas another might never have that ability.  You can tailor your trust agreement to include appropriate provisions for each situation.

Many clients choose to leave children’s inheritances in trust during the children’s entire lifetimes to provide them with creditor protection and to avoid estate taxation upon their deaths.  Depending on how much control the trustmaker wants to give a beneficiary, the trust agreement can (but does not have to) say that each beneficiary gets to pick the trustees of his or her individual inheritance trust, and each beneficiary can be given the power to say where his or her remaining trust assets go when the beneficiary dies.  Thus, the beneficiaries can be given virtually all of the control of outright ownership, while at the same time being spared two important disadvantages of outright ownership:  vulnerability to creditors and susceptibility to predators.  If the trusts are set up and administered correctly, most creditors (including ex-spouses) and questionable characters can be prevented from walking away with your children’s inheritance.  If that wasn’t good enough, consider this:  the trust assets will not, at your children’s deaths, be counted as part of their estates and subjected to estate tax.  Even the IRS goes away disappointed.  The technical term for this kind of trust is a “generation-skipping trust.”  Children are understandably suspicious of the name, but they are not actually skipped—unless you want them to be.

Revocable living trusts can also be used to provide incentives for beneficiaries.  For example, you could say in your trust document that the Trustee will make distributions to a beneficiary only if he or she earns a college degree.  Another type of incentive provision might be that the Trustee will match the income earned by the beneficiary, as evidenced by the W-2 forms provided by the beneficiary’s employer for income tax purposes.  The point is that your trust can cover a vast array of different situations.  You are limited only by your own creativity and that of the professionals who help you design your trust.

Do I have to do anything to make my trust “work”?

Remember that the trust agreement will govern only those assets which you actually place in your trust.  The process of putting property into your trust is called funding.  If you have a trust but fail to fund it fully by placing all of your assets in it, whatever assets remain outside the trust upon your death or incapacity may be subject to probate and/or conservatorship proceedings.  Funding is simply a matter of changing title to your real estate, your bank accounts, and whatever else you own so that it is held in the name of your trustee.  Usually, your attorney will prepare the deeds for your real estate and can help with transferring the rest of your assets.  If you want, you can handle a good part of the funding yourself and possibly save yourself some legal fees.  You just have to make sure that the funding is done correctly.  If you are going to pay your lawyer to double-check your funding, it might make sense to have your lawyer take care of it in the first place.

If I have a revocable living trust, do I still need a will?

YES.  First, what if you fail to have all of your assets transferred into your trust before your death?  This could happen for a variety of reasons, some of which are beyond your control.  Unless you have a so-called “pour over will” (one that says “please put everything into my trust”), your non-trust assets will pass according to whatever law is in effect for people who do not have wills.  Dying without a will is called dying intestate.  The laws that govern how an intestate estate is passed on to the decedent’s survivors are called intestate succession statutes.  The intestate succession statutes that cover your estate may actually frustrate your overall estate plan by requiring that assets pass in ways that you would not want them to pass.  Also, remember that each State in the Union has its own intestate succession statute, so if you have assets in more than one State, different rules may apply to different assets.  So why not go for the certainty of having a safety net to catch your non-trust assets and pour them into your trust?

Another reason to have a will even if you have a trust is that your will is where you typically name guardians for minor children (or incapacitated adult children or an incapacitated spouse).  If you fail to name a guardian, the Court will pick somebody, and that somebody may not be your first choice.  Your will also names your personal representative (also known as an executor), who is the person who will deal with claims by or against your estate.  There may be no need for a guardian or a personal representative to be named after you are gone, but nobody will know that until after you are gone; and then it will be too late to do anything about it.  Again, why not go for the certainty of stating your choice rather than leaving these important matters to chance?

Will a revocable living trust help to avoid taxes? 

In and of themselves, trusts do not avoid estate taxes, but they help to carry out good estate tax planning.  As far as income taxes go, revocable living trusts are “tax neutral.”  During your lifetime, your trust will not need to file its own income tax returns.  The taxpayer identification number for your trust is your Social Security Number, and you simply report all trust income on your individual Federal and State income tax returns. 

What is the current status of the estate tax?

The federal estate tax has been in flux since 2002, and Congress has yet to agree on a form of the tax that will be somewhat predictable for the indefinite future.  As of January 1, 2012, a 35% tax is imposed on all estates valued at more than $5,120,000.  It is as if Congress gave each of us a coupon that our loved ones can use to shelter the first $5,120,000 worth of our assets.  Quite clearly, the coupon as it now stands is big enough to protect most estates from the estate tax. 

If you are waiting for the other shoe to drop, here it is:  unless Congress does something to make the size of the coupon permanent (at least, as “permanent” as tax rules ever are), on January 1, 2013, the coupon will drop down to $1,000,000, and the tax rate will jump up to 55%.  It is difficult to say whether Congress will allow that to happen, but the current state of our economy and the runaway federal budget deficit do not give us much reason for optimism.  Now, more than ever, it is important to establish a plan to minimize the potential tax bite that awaits, and to keep your estate plan current.  People with larger estates should consider ways of using all or part of their coupons as soon as possible, before Congress either reduces them or sits on their hands until the scheduled changes (i.e., the drop in the coupon and the explosion of the tax rate) take effect.

Once my spouse and I set up our trusts, how should we hold title to our assets?

We recommend that assets be split between two revocable living trusts, one in the husband’s name and the other in the wife’s.  You should not be concerned that you will lose control over those assets, as husband and wife can be co-trustees of both trusts.  Alternatively, they can also be the sole trustees of their respective trusts, if they prefer. 

Splitting the assets may seem unusual to you, since it is very common for married couples to own all of their assets jointly.  Holding assets jointly makes a great deal of sense on one level, since joint tenancy assures that, at the death of the first spouse to die, title to the joint assets will vest in the survivor without probate (by virtue of the way title is held) and without tax (by virtue of the unlimited estate tax marital deduction).  However, in many cases, joint tenancy is a trap waiting to be sprung.  It makes you lose the opportunity to build significant tax and asset protection components into your estate plan, and it sets up the surviving spouse’s estate for probate. 

Can a married couple own assets in a way that protects from creditors?

Yes.  Among other things, a married couple can protect assets by holding property as tenants by the entirety.  Notwithstanding all the bad stuff we just reviewed about joint tenancy, there is a very special kind of joint tenancy between spouses which has important benefits.  It is called tenancy by the entirety.  Among the characteristics of property owned in tenancy by the entirety are that:  (1) one spouse, acting alone, cannot convey any interest in the property (in other words, both spouses have to sign a deed in order to transfer the property to someone else); (2) the property automatically passes to the surviving spouse upon the death of the first to die; and (3) the creditors of one spouse cannot reach tenancy by the entirety property.

The latter characteristic was defined in the Hawaii Supreme Court case of Sawada v. Endo, 57 Haw. 608, 561 P.2d 1291 (1977).  In that case, the defendant, Mr. Endo, had been involved in a car accident; he was sued, and a judgment requiring him to pay money to the plaintiffs was entered against him.  At the time of the accident, Mr. Endo and his wife owned their home as tenants by the entirety.  When the plaintiffs tried to force the sale of the Endos’ home in order to collect their judgment, the court refused to allow them to do so.  The court reasoned that, since one spouse, acting alone, cannot convey away an interest in tenancy by the entirety property, the creditors of one spouse cannot satisfy their claims out of such property.  The court said that

by the very nature of the estate by the entirety as we view it, and as other courts of our sister jurisdictions have viewed it, “[a] unilaterally indestructible right of survivorship, an inability of one spouse to alienate his interest, and importantly for this case, a broad immunity from claims of separate creditors remain among its vital incidents.”

Sawada v. Endo is actually a bit more convoluted than explained above, but the bottom line is that the case upholds a very important benefit of tenancy by the entirety – creditor protection.

Can my spouse and I own property as tenants by the entirety in our trusts?

Yes, you probably can by including language in your trust agreements that is designed to preserve the protections afforded by tenancy by the entirety.  One implication of Sawada is that, when spouses divide their property between their trusts, they may lose the creditor protection afforded by tenancy by the entirety.  If one spouse were to have a car accident or a business setback or otherwise incurred substantial debt, the property in that person’s trust might be subject to creditors’ claims.  This result might have been avoided if the couple had held all of their property in tenancy by the entirety.  Thus, there may be a serious downside to dividing tenancy by the entirety property between a husband’s and wife’s trusts.  Accordingly, if you transfer tenancy by the entirety property into your trust, you should try to preserve the kind of protection afforded by tenancy by the entirety through provisions in your trust agreement that track the spousal rights inherent in tenancy by the entirety. 

Is there a downside to tenancy by the entirety?

We offer TWO WARNINGS about tenancy by the entirety:

First, tenancy by the entirety protects assets only against creditors who are unknown, and whose claims are not clearly foreseeable, at the time that the tenancy was established.  You cannot put assets into tenancy by the entirety after a debt or liability arises and expect those assets to be safe from being consumed by the debt or liability.  

Second, the creditor protection afforded by tenancy by the entirety can backfire if the non-debtor spouse dies first.  In other words, if you have a huge debt, the person you owe money cannot get at property you hold in tenancy by the entirety with your spouse, but only as long as your spouse is alive.  If your spouse should die before you, you would end up as sole owner of the (formerly tenancy by the entirety) property, and your creditor would be in a position to try to take it away from you.

Can I own assets other than my home in tenancy by the entirety?

Hawaii law allows you to hold any kind of property in tenancy by the entirety—not just real estate.  Thus, if tenancy by the entirety protection is appealing to you, you can probably use it to shelter a lot more than just your house from potential creditors.  The reason we say “probably” here is that a recent Bankruptcy Court decision indicated that tenancy by the entirety protection, for bankruptcy purposes, may extend only to a primary residence.

What about protecting my other beneficiaries?

In an age of a 50% divorce rate and liability seemingly waiting around every corner, it makes sense to wonder whether the things you leave behind to children, grandchildren, and other beneficiaries might be snatched away from them.  Trusts are very effective in protecting your loved ones in these situations.

One approach is for your trust agreement to provide that, after you are gone, your trust divides up into as many trusts as you would like.  In other words, rather than passing assets to your beneficiaries, you pass them trusts that contain the assets.  This way, you can achieve significant creditor protection without sacrificing the beneficiaries’ enjoyment of their inheritance.  The beneficiary for whom each trust is created may be given the power to choose the trustee of his or her trust, and each of them can be given a certain amount of discretion as to when and whether to withdraw assets from his or her trust.  When each beneficiary dies, he or she can have the power to direct where the assets go, or, if the power is not exercised, your trust agreement can say that the assets go to that person’s children. 

Is there a kind of trust will protect my assets from my own creditors?

Yes.  As of July 1, 2011, Hawaii law allows you to create an asset protection trust that will keep your creditors at bay.  There are very specific rules that govern these kinds of trusts, and those rules must be followed carefully.  However, if you create and fund one of these trusts at a time when you do not have any creditors nipping at your heels, that trust can prove to be a very effective means of protecting whatever is in the trust.  These trusts provide a variety of other important features that can make them very attractive in the right situation.

Asset Protection Requires Proper Planning

It’s unclear how long the current economic slump will last.  It appears, however, that it’s not likely to change anytime soon.  While the “times” have taken their toll on people, so have “creditors.”

If you want to protect your assets from “future creditors,” then know that planning must take place well in advance.

This article on the topic of “fraudulent conveyance” covers an important asset protection principle. Simply put, the law looks unkindly on any last minute tricks that some people use to hide their assets when creditors come to call.  You must admit, nobody would extend credit if those last minute tricks were allowed.

As a result, laws are set up to void slick moves to defraud creditors holding valid claims. In fact, those slick moves are aptly designated “fraudulent transfers.”  Bottom line: If there’s already a creditor in the picture, then it’s may be too late to do anything to protect your assets against that particular creditor.

Of course, all of us have reason to protect our assets. The only way to do that effectively is to seek qualified legal counsel before making any moves with your assets.  It is actually pretty easy to make small mistakes that will render your planning ineffective . . . or maybe even get you in legal trouble.

You can find more information here.

Whistleblower Lawsuit Alleges that Hospice Fraudulently Used as Profit Center

Healthcare lawsuits involving Medicare fraud in connection with elder care are appearing in the news almost daily.  Awareness of these cases is important to each of us as citizens and taxpayers (who usually get left holding the bag), but even more so as family members and loved ones of potential pawns in a dirty financial game.

Kaiser Health News is reporting that a large company called AseraCare, which operates across several states, is accused in a whistleblower lawsuit of actively recruiting and cycling patients through nursing home and hospice services in order to maximize Medicare payouts.

According to allegations in the lawsuit, AseraCare is owned by a company called Golden Living, which provides skilled nursing and other services in addition to hospice care.  Government attorneys claim that AseraCare employees were pressured into recruiting patients eligible for skilled nursing care (provided by Golden Living) for 20 days, during which time Medicare picked up the entire tab.  After 20 days, when the patients would be required to chip in for their care, AseraCare employees would enroll the patients in hospice, where AseraCare continued to be paid in full by Medicare.  AseraCare allegedly referred and re-referred the patients through skilled nursing care, rehabilitative therapy, home health care, and hospice care for as long as Medicare would continue to pay.

Here’s the rub: If you cycle between nursing home regimens and then jump into hospice care as early as possible (but not too early), Medicare will pick up the entire tab and for the maximum amounts.  However, it is alleged that between 48 and 79 percent (depending on the location) of AseraCare hospice patients were being discharged alive.  If this is true, it seems implausible that all of those patients were legitimate candidates for hospice care.  If Medicare determines that services were improperly charged, it will deny payment, leaving the patients and their families to deal with the bills.

For the record, AseraCare denies the allegations and claims that it has at all times adhered to applicable rules for admitting hospice patients.

Check here for more information about estate planning and elder care.

Fourth Quarter 2011 Tax Developments

The following is a summary of the most important tax developments that have occurred in the past three months that may affect you, your family, your investments, and your livelihood. Contact your trusted tax advisors for more information about any of these developments and what steps you should implement to take advantage of favorable developments and to minimize the impact of those that are unfavorable.

IRA "Charitable Rollover" Expired. The ability of IRA owners aged 70-1/2 or older to make certain tax-advantaged charitable gifts from their IRAs has expired.  This is a popular provision that, hopefully, will make its way back into the Internal Revenue Code on a permanent basis.  If you are taking your Required Minimum Distributions (RMDs) from your IRA, then up until December 31 of last year, you could direct that all or part of the RMD (up to $100,000) go to charity instead of to you.  Although you would not get a deduction for the transfer, you would not have to recognize it as income.  The net result was that you would probably come out money ahead by making charitable gifts directly from your IRA.  Stay tuned for developments on this front.

Estate Tax "Coupon" increased, but for how long?  The amount you can pass free of Federal gift or estate taxes increased to $5.12 million as of January 1, 2012.  That's the good news.  The bad news is that according to the laws currently on the books, the Coupon will go down to $1 million and the tax rate will skyrocket from 35% to 55% as of January 1, 2013.  Another good reason to stay tuned.  Hopefully, Congress will do something about this dramatic tax increase.

Payroll tax cut temporarily extended. The Temporary Payroll Tax Cut Continuation Act of 2011 was enacted late last year. It temporarily extends the two percentage point payroll tax cut for employees, continuing the reduction of their Social Security tax withholding rate from 6.2% to 4.2% of wages paid through Feb. 29, 2012. Shortly after its passage, the IRS instructed employers to implement the new payroll tax rate as soon as possible in 2012 but not later than Jan. 31, 2012. The law also includes a “recapture” provision, which applies only to those employees who receive more than $18,350 in wages during the two-month period (i.e., two-twelfths of the 2012 wage base of $110,100). This provision imposes an additional income tax on these higher-income employees in an amount equal to 2% of the amount of wages they receive during the two-month period in excess of $18,350 (and not greater than $110,100). In addition, under the new law, the social security tax rate for a self-employed individual remains at 10.4%, for self-employment income of up to $18,350 (reduced by wages subject to the lower rate for 2012). Congress is going to try to negotiate a deal to extend the payroll tax cut for all of 2012. If a deal is struck to extend it for the full year, the recapture provision for employees would not apply.

Credit for hiring veterans extended and enhanced. A law enacted last November extended and enhanced a credit for hiring qualified veterans. Before the law was passed, the credit would have been available only if the qualified veteran were hired before Jan. 1, 2012, and only certain veterans were considered qualified veterans. The new law extends the credit for hiring qualified veterans, adds two new classes of veterans who are considered qualified veterans, increases the credit for hiring certain qualified veterans, “fast-tracks” the process for certifying that an individual is a qualified veteran, and provides tax-exempt employers with a credit against payroll tax for hiring qualified veterans. The credit amount varies depending on a number of factors. It can be as high as $9,600 for hiring a qualified disabled veteran. For an employer to qualify for the credit, the qualified veteran must begin work for the employer before Jan. 1, 2013 and other requirements must be met.

New rules for deducting or capitalizing tangible property costs. The IRS has issued new regulations for determining whether amounts paid to acquire, produce, or improve tangible property may be currently deducted as business expenses or must be capitalized. The regulations will affect virtually all taxpayers that acquire, produce, or improve tangible property. They are comprehensive, voluminous and virtually rewrite the rules in this area. For example, they provide detailed definitions of “materials and supplies” and “rotable and temporary spare parts” and prescribe new rules and elective de minimis and optional methods for handling their cost. They also have rules for differentiating between deductible repairs and capitalizable improvements, among many other items. The regulations generally are effective in tax years beginning after Dec. 31, 2011. However, to add to their complexity, some of the new rules in the regulations do not supersede prior IRS guidance.

New foreign asset reporting guidance and form. The IRS issued detailed guidance on the new law requiring individuals with an interest in a “specified foreign financial asset” during the tax year to attach a disclosure statement to their income tax return for any year in which the aggregate value of all such assets is greater than $50,000 (or a dollar amount higher than $50,000 as the IRS may prescribe). In addition, the IRS issued Form 8938 (Statement of Specified Foreign Financial Assets), which individual taxpayers will use starting in the 2012 tax filing season to report specified foreign financial assets for tax year 2011. The guidance consists of detailed temporary regulations. They define terms that apply for purposes of the reporting requirement; provide rules to determine if a specified individual must file a Form 8938 with their annual return; define what are specified foreign financial assets; detail what information needs to be reported; provide guidelines for valuing specified foreign financial assets; list exceptions to the reporting requirements; and describe the penalties that apply for failure to comply with the reporting requirements.

Standard mileage rates flat or lower. The optional mileage allowance for owned or leased autos (including vans, pickups or panel trucks) is 55.5¢ per each business mile traveled after 2011. For 2011, it was 55.5¢ for miles driven after June 30 and 51¢ per mile for miles driven before July 1. Further, the 2012 rate for using a car to get medical care or in connection with a move that qualifies for the moving expense deduction is 23¢ per mile. For 2011, it was 23.5¢ for miles driven after June 30 and 19¢ per mile for miles driven before July 1.

New Form 8949 replaces Form 1040, Schedule D-1. Many transactions that, in previous years, would have been reported on Form 1040, Schedule D or D-1 must be reported on Form 8949 if they occurred in 2011. Specifically, a taxpayer uses Form 8949 to report:

• The sale or exchange of a capital asset not reported on another form or schedule,
• Gains from involuntary conversions (other than from casualty or theft) of capital assets not held for business or profit, and
• Nonbusiness bad debts.

The taxpayer uses Schedule D to figure the overall gain or loss from transactions reported on Form 8949 and to report capital gain distributions not reported directly on Form 1040, line 13, a capital loss carryover from 2010 to 2011, and certain specialized items.

Withholding requirement for government contractors repealed. A law enacted in 2005 was to have required the Federal government and the government of every state, political subdivision of a state, and instrumentality of a state or state subdivision (including multi-state agencies) making certain payments to a person providing any property or services (e.g., payments to a government contractor) to deduct and withhold 3% from that payment. Although the withholding requirement was originally set to apply to payments made after 2010, it was subsequently deferred to apply to payments made after 2012. A law enacted in November 2011 repealed the government contractor withholding requirement.

Check here for more information.  You can find additional estate planning information here.

Where Not to Die in 2012

Not all states are created equal, whether that be for business, for beaches, or . . . for dying. Forbes just released its perennial rundown about State death and inheritance taxes: where not to die in 2012.

As you may know, the Federal government isn’t the only level of government to impose wealth transfer taxes. In fact, 13 states and the District of Columbia impose an estate tax, generally with exemption amounts hovering around $1-2 million (far below the current federal “coupon” of $5.12 million) and with a tax rate generally pegged at 16 percent.

Among the several states, Ohio offers the lowest rate at seven percent while Minnesota tops out at 41 percent.  Six states impose an inheritance tax, which hits the recipient of the inheritance rather than the estate from which the inheritance came. Two states impose both estate and inheritance taxes: Maryland and New Jersey.

As we head into 2012, it’s worth noting that there has been a lot of movement regarding State death taxes, and it is likely that there is more to come. Some States are keeping their current rates or simply indexing them for inflation, while still others are making significant changes.

Connecticut, for one, lowered its exemption amount, retroactively to January 1, 2011, to $2 million.  The exemption had previously been $3 million.  There were also some taxpayer-friendly changes, such as Maine's raising its exemption amount to $2 million (up from $1 million) and Vermont's raiding its ecemption to $2.75 million (up from $2 million).

Ohio repealed its estate tax, but that isn’t effective until 2013.  Until then, Ohio boasts the lowest exemption amount ($338,333), with New Jersey set to take up that onerous title come next year ($675,000).

What other States are rumbling?  Strong movements are underway to end death taxes in States like Indiana, Tennessee, Nebraska, and Oregon, according to the American Family Business Institute.  Also, Pennsylvania has just passed a “carve-out” exemption from the State inheritance tax for farmers.

Hawaii's estate tax exemption remains at $3.5 million with rates between 0.8% and 16%. The differential between the Federal and State exemptions means that your estate plan must be carefully reviewed if you want to avoid some unintended tax consequences when you die.  Most plans are geared toward the Federal exemption without taking the State exemption into account.  Prior to 2010, that worked just fine in Hawaii, because we did not have an estate tax.  Now that we do, it pays to have an estate plan "check up."

As James Walschlager, an analyst with tax publisher CCH, put it: “Most of the states are still in pretty poor shape, and if the economy doesn’t improve you might see more action by state legislatures seeking other sources of revenue.”

You can find more information about estate tax planning here.

Study Shows Inherited Wealth Is Squandered

A new study confirms what we all intuitively suspected. According to research out of The Williams Group, 70% of all wealth transfers fail.

As reported by Forbes, the failure is not that the money doesn’t get passed down; it is that the family inheritance quickly dissolves in a flash of poor planning, bickering, and waste.

How can that be?

The research found that successful estate plans all involved transition planning, in addition to simple inheritance planning. In a very real sense, all proper estate planning is about both planning for the inheritance and planning for the inheritors. After all, the inheritors are why you want to pass on your assets in the first place.  Naturally, then, transition planning is all about bringing the inheritors into the fold and allowing them to learn how to run it.

If you have a family business, then this is of the utmost importance. Why? Because for it to remain a “family business” the family has to know about the business, how to run it, and how to think about it. To be successful, hands-on training is required.

But then again, aside from a family business asset, there is still a great deal of work to be done to help inheritors properly understand wealth and investments. Likewise, hands-on training in handling the family wealth, perhaps beginning in philanthropy, can make all the difference.

In the end, to overcome the odds against the successful transfer of your family wealth, work together to form a plan, to understand it, and to put it into action.

Reference: Forbes (December 9, 2011) “Wealth Transfers: How To Reverse the 70% Failure Rate”

Employee or Independent Contractor? Your Chance to Come Clean

This comes from the December newsletter published by my friend Mark Vorsatz and his company of tax advisors, WTAS. 

Did you treat someone as an independent contractor not subject to employment tax withholding? With increasing frequency, IRS is assessing tax, interest and penalties in situations where they believe workers have been incorrectly treated as independent contractors. For example, IRS has been successful in reclassifying thousands of software engineers as employees at one employer and dozens of attorneys at a law firm. In addition, part-time employees, nannies, home health care workers and personal drivers are favorite targets.

The decision of whether to treat someone working for you as an employee or an independent contractor is not always crystal clear. Employers usually prefer the independent contractor classification but that isn’t always the right decision. The benefits of having an independent contractor rather than an employee include not having to withhold income taxes, pay Social Security and Medicare taxes, or pay unemployment tax. An independent contractor is also not subject to and does not benefit from labor laws such as overtime pay and minimum wage requirements. However, the employer is at risk if they classify someone as an independent contractor when they really are an employee.

Generally speaking, an individual is an employee if the employer has the right to tell him how to do the job and has control over the worker. In order to determine if an employer has control over a worker, IRS looks to a twenty factor test. These factors include whether training is provided, whether the employee can hire and supervise assistants, and whether the hours of work are set by the employer. There are a few categories of statutory employees (home workers, traveling salespeople, life insurance salespeople, among others) and a few categories of statutory independent contractors (real estate agents and some direct sellers), but for those jobs outside of these categories, the classification is not as clear and the control test must be considered.

A Government Accountability Office report from 2009 found that in 2006, the classification of employees as independent contractors cost the government close to $3 billion in unpaid taxes. Given the current deficit, it is understandable that the government would want to do what it can to lessen this problem. As a result, IRS has stepped in and created an opportunity for employers to reclassify those independent contractors who should be employees. Employers that participate in this program will only have to pay a fraction of the past payroll taxes. The flip-side is that IRS is going to be more suspicious going forward and will be looking closely at those employers claiming independent contractor status for their workers.

This program, called the Voluntary Classification Settlement Program (VCSP), is only for employers who agree to prospectively treat their workers as employees. A 1099-MISC must have been filed for the previous three years for that worker in order to be eligible for the program. An employer that is under audit by IRS is not eligible for the program. Once the decision is made to convert from an independent contractor to an employee, all the other workers in that same class must also be converted. For example, if you have two housekeepers and you submit to the program for one housekeeper, both housekeepers must be treated as employees going forward.

The program allows the taxpayer to pay only 10% of the employment tax liability on compensation paid to the worker for the most recent tax year, calculated using reduced rates. All interest and penalties related to the employment taxes, which can be substantial, are waived. IRS also agrees not to audit the employment status for any previous years.

This is a great opportunity for those employers who are concerned their worker should really be considered an employee. The costs of having an employee rather than an independent contractor are, of course, higher. So before the decision is made to convert, you should carefully consider the facts and consequences.

The WTAS website is loaded with other helpful resources and information.  For additional estate planning information, look here.

A New and Powerful Estate Planning Tool: the Hawaii Asset Protection Trust

Two years ago, Hawaii joined Delaware, Nevada, and eleven other States in validating “self-settled spendthrift trusts.”  What this means is that you can now create a trust for yourself that will protect your assets from your own creditors.  This is a huge departure from prior law, which expressly prohibited such trusts.  For convenience, we will call them “APTs,” which stands for “Asset Protection Trusts.”

Not only do APTs provide asset protection, they can also be made to last “forever,” or at least until all of the assets are used up.  Hawaii law has long recognized something called the “rule against perpetuities,” which essentially says that a private trust (that is, any trust other than a charitable trust) can last for about 100 years, and then the trust must to terminate, and the assets must be distributed.  This is a throwback to the law of England (where most American law comes from) and a time when the king did not want land being tied up in trusts because it impaired his ability to tax it.  Now that our government has developed a solution to this problem, Hawaii has joined the ranks of States which allow the creation of so-called Dynasty Trusts.

Hawaii’s first attempt at allowing APTs, which was back in 2010, was doomed to failure.  For one thing, the law imposed a 1% tax on all assets transferred to APTs.  The law also limited the kinds of assets that could be put into APTs, and it allowed a trustmaker (someone creating an APT) to place assets comprising no more than 25% of his or her net worth into an APT.  Since the laws of other States did not include these restrictions, there was very little incentive for someone to create a Hawaii APT.

In 2011, our Legislature removed the restrictions on APTs, so that a person can place any kind of property into his or her APT, and there is no 1% tax imposed on each asset transferred into the trust.  The new law became effective on July 1, 2011, and Hawaii APTs are now viable tools in many people’s estate plans.

A Hawaii APT is not for everybody.  You should create one only if you understand what it is and how it works, and before you do anything else, you should seek the assistance of competent legal counsel and other advisors who can help you evaluate whether this is a workable strategy for you.

The new Hawaii law says that you cannot be the trustee of your own APT, but you can pick any Hawaii resident or Hawaii financial institution as your trustee.  The trustee can have the discretion to make distributions to you or for your benefit, but you cannot have the unfettered right to demand whatever you want whenever you want it.  You can also retain the right to give the trustee investment advice, and you can also have the right to veto distributions from the trust.

Perhaps the most important thing to understand about Hawaii APTs is that they do not shelter assets from claims of existing creditors.  In other words, you cannot incur a debt (for example, by way of a car accident or a bad business deal) and then create a Hawaii APT to shield your assets from liability on that debt.  On the other hand, the ideal time to create a Hawaii APT is BEFORE you need one.  Before you start a new business or launch a professional practice in a field such as medicine, law, or architecture, where legal claims against you are an ongoing risk.

You can find additional resources and links to information here.