• Naming Your IRA Beneficiary

    24 April 2017
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    Designating a beneficiary of your traditional IRA is critically important and more complicated than you may realize. This decision will affect the minimum amounts that you must withdraw from the IRA when you reach age 70 ½, who will get what remains in the account after your death, and how that IRA balance can be paid out to beneficiaries.

    What’s more, a periodic review of whom you’ve named as IRA beneficiaries is vital to ensure that your overall estate planning objectives will be achieved in light of changes in the performance of your IRAs and in your personal, financial, and family situation. For example, if your spouse was named as your beneficiary when you first opened the account several years ago and you’ve subsequently divorced, your ex-spouse will remain the beneficiary of your IRA unless you notify your IRA custodian to change the beneficiary designation.

    The issue of naming a trust as the beneficiary of an IRA comes up regularly. There is no tax advantage to naming a trust as the IRA beneficiary. Of course, there may be a non-tax-related reason, such as controlling a beneficiary’s access to money; thus, naming a trust rather than an individual(s) as the beneficiary of an IRA could achieve that goal. However, that is not typically the case. Naming a trust as the beneficiary of an IRA eliminates the ability for multiple beneficiaries to maximize the opportunity to stretch the required minimum distributions (RMDs) over their individual life expectancies.

    Generally, trusts are drafted so that IRA RMDs will pass through the trust directly to the individual trust beneficiary and, therefore, be taxed at the beneficiary’s income tax rate. However, if the trust does not permit distribution to the beneficiary, then the RMDs will be taxed at the trust level, which has a tax rate of 39.6% on any taxable income in excess of $12,500 (2017 rate). This high tax rate applies at a much lower income level than for individuals.

    Distributions from traditional IRAs are always taxable whether they are paid to you or, upon your death, paid to your beneficiaries. Once you reach age 70 ½, you are required to begin taking distributions from your IRA. If your spouse is your beneficiary, he or she can delay distributions until he or she reaches age 70 ½ if your spouse is under the age of 70 ½ upon inheritance of your IRA. The rules are tougher for non-spousal beneficiaries, who generally must begin taking distributions based upon a complicated set of rules.

    Since IRA distributions are taxable to beneficiaries, beneficiaries usually wish to spread the taxation over a number of years. However, the tax code limits the number of years based on whether the decedent has begun his or her age 70 ½ RMDs at the time of his or her death.

    To ensure that your IRA will pass to your chosen beneficiary or beneficiaries, be certain that the beneficiary form on file with the custodian of your IRA reflects your current wishes. These forms allow you to designate both primary and alternate individual beneficiaries. If there is no beneficiary form on file, the custodian’s default policy will dictate whether the IRA will go first to a living person or to your estate.

    This is a simplified overview of the issues related to naming a beneficiary and the impact on post-death distributions. Uncle Sam wants the tax paid on the distributions, and the rules pertaining to how and when beneficiaries must take taxable distributions are very complicated.

    It should also be noted that some members of Congress have expressed their displeasure with stretch-out IRAs that have permitted some beneficiaries to extend for decades the payout period from the IRAs they inherited. These legislators would prefer that total distribution from inherited IRAs be made within five years after the IRA owner’s death. So it is possible that we will see tax law changes in this area.

    It may be appropriate to consult with Dagley & Co. regarding your particular circumstances before naming beneficiaries.

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

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  • Tax Implications of Crowdfunding

    17 April 2017
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    When raising money through Internet crowdfunding sites such as GoFundMe, Kickstarter or Indiegogo, it is important to understand the “taxability” of the money raised. Whether the money raised is taxable depends upon the purpose of the fundraising campaign. For example, fees can range from 5 to 9% depending on the site.

    Gifts – When an entity raises funds for its own benefit and the contributions are made out of detached generosity (and not because of any moral or legal duty or the incentive of anticipated economic benefit), the contributions are considered tax-free gifts to the recipient.

    On the other hand, the contributor is subject to the gift tax rules if he or she contributes more than $14,000 to a particular fundraising effort that benefits one individual; the contributor is then liable to file a gift tax return. Unfortunately, regardless of the need, gifts to individuals are never tax deductible.

    The “gift tax trap” occurs when an individual establishes a crowdfunding account to help someone else in need (whom we’ll call the beneficiary) and takes possession of the funds before passing the money on to the beneficiary. Because the fundraiser takes possession of the funds, the contributions are treated as a tax-free gift to the fundraiser. However, when the fundraiser passes the money on to the beneficiary, the money then is treated as a gift from the fundraiser to the beneficiary; if the amount is over $14,000, the fundraiser is required to file a gift tax return and to reduce his or her lifetime gift and estate tax exemption. Some crowdfunding sites allow the fundraiser to designate a beneficiary so that the beneficiary has direct access to the funds.

    Charitable Gifts – Even if the funds are being raised for a qualified charity, the contributors cannot deduct the donations as charitable contributions without proper documentation. Taxpayers cannot deduct cash contributions, regardless of the amount, unless they can document the contributions in one of the following ways:

    • Contribution Less Than $250: To claim a deduction for a contribution of less than $250, the taxpayer must have a cancelled check, a bank or credit card statement, or a letter from the qualified organization; this proof must show the name of the organization, the date of the contribution, and the amount of the contribution.
    • Cash contributions of $250 or More – To claim a deduction for a contribution of $250 or more, the taxpayer must have a written acknowledgment of the contribution from the qualified organization; this acknowledgment must include the following details:
      • The amount of cash contributed;
      • Whether the qualified organization gave the taxpayer goods or services (other than certain token items and membership benefits) as a result of the contribution, along with a description and good-faith estimate of the value of those goods or services (other than intangible religious benefits); and
      • A statement that the only benefit received was an intangible religious benefit, if that was the case.

    Thus, if the contributor is to claim a charitable deduction for the cash donation, some means of providing the contributor with a receipt must be established.

    Business Ventures – When raising money for business projects, two issues must be contended with: the taxability of the money raised and the Security and Exchange Commission (SEC) regulations that come into play if the contributor is given an ownership interest in the venture.

    • No Business Interest Given – This applies when the fundraiser only provides nominal gifts, such as products from the business, coffee cups, or T-shirts; the money raised is taxable to the fundraiser.
    • Business Interest Provided – This applies when the fundraiser provides the contributor with partial business ownership in the form of stock or a partnership interest; the money raised is treated as a capital contribution and is not taxable to the fundraiser. (The amount contributed becomes the contributor’s tax basis in the investment.) When the fundraiser is selling business ownership, the resulting sales must comply with SEC regulations, which generally require any such offering to be registered with the SEC. However, the SEC regulations were modified in 2012 to carve out a special exemption for crowdfunding:
      • Fundraising Maximum – The maximum amount a business can raise without registering its offering with the SEC in a 12-month period is $1 million. Non-U.S. companies, businesses without a business plan, firms that report under the Exchange Act, certain investment companies, and companies that have failed to meet their reporting responsibilities may not participate.
    • Contributor Maximum – The amount an individual can invest through crowdfunding in any 12-month period is limited:
      • If the individual’s annual income or net worth is less than $100,000, his or her equity investment through crowdfunding is limited to the greater of $2,000 or 5% of the investor’s annual net worth.
      • If the individual’s annual income or net worth is at least $100,000, his or her investment via crowdfunding is limited to 10% of the investor’s net worth or annual income, whichever is less, up to an aggregate limit of $100,000.

    If you have questions about crowdfunding-related tax issues, please give Dagley & Co. a call.

     

     

     

     

     

     

     

     

     

     

     

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  • Having a Low Taxable Income Year? Ways to Take Advantage of It

    17 November 2016
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    Are you having a low taxable income year? Are you unemployed, had an accident that’s kept you from earning income, incurring a net operating loss (NOL) from a business, or suffering a casualty loss? These incidents will result in abnormally low taxable income for the year. But, these can actually give rise to some interesting tax planning strategies. See below for some key elements that govern tax rates and taxable income, and some actual strategies by Dagley & Co.

    Taxable Income – First, of all, to be simplistic, taxable income is your adjusted gross income (AGI) less the sum of your personal exemptions and the greater of the standard deduction for your filing status or your itemized deductions:

    AGI                        XXXX

    Exemptions              <XXXX>

    Deductions              <XXXX>

    Taxable Income        XXXX

    If the exemptions and deductions exceed the AGI, you can end up with a negative taxable income, which means to the extent it is negative you can actually add income or reduce deductions without incurring any tax.

    Graduated Individual Tax Rates – Ordinary individual tax rates are graduated. So as the taxable income increases, so do the tax rates. Thus, the lower your taxable income, the lower your tax rate will be. Individual ordinary tax rates range from 10% to as high 39.6%. The taxable income amounts for 10% to 25% tax rates are:

    Filing Status

    (2016)

    Single Married Filing Jointly Head of Household Married Filing Separate
    10% 9,275 18,550 13,250 9,275
    15% 37,650 75,300 50,400 37,650
    25% 91,150 151,900 130,150 75,950

    For instance, if you are single, your first $9,275 of taxable income is taxed at 10%. The next $28,375 ($37,650 – $9,275) is taxed at 15% and the next $53,500 ($91,150 – $37,650) is taxed at 25%.

    Here are some strategies you can employ for your tax benefit. However, these strategies may be interdependent on one another and your particular tax circumstances.

    Take IRA Distributions – Depending upon your projected taxable income, you might consider taking an IRA distribution to add income for the year. For instance, if the projected taxable income is negative, you can actually take a withdrawal of up to the negative amount without incurring any tax. Even if projected taxable income is not negative and your normal taxable income would put you in the 25% or higher bracket, you might want to take out just enough to be taxed at the 10% or even the 15% tax rates. Of course, those are retirement dollars; consider moving them into a regular financial account set aside for your retirement. Also be aware that distributions before age 59½ are subject to a 10% early withdrawal penalty.

    Defer Deductions – When you itemize your deductions, you may claim only the deductions you actually pay during the tax year (the calendar year for most folks). If your projected taxable income is going to be negative and you are planning on itemizing your deductions, you might consider putting off some of those year-end deductible payments until after the first of the year and preserving the deductions for next year. Such payments might include house of worship tithing, year-end charitable giving, tax payments (but not those incurring late payment penalties), estimated state income tax payments, medical expenses, etc.

    Convert Traditional IRA Funds into a Roth IRA – To the extent of the negative taxable income or even just the lower tax rates, you may wish to consider converting some or all of your traditional IRA into a Roth IRA. The lower income results in a lower tax rate, which provides you with an opportunity to convert to a Roth IRA at a lower tax amount.

    Zero Capital Gains Rate – There is a zero long-term capital gains rate for those taxpayers whose regular tax brackets are 15% or less (see table above). This may allow you to sell some appreciated securities that you have owned for more than a year and pay no or very little tax on the gain.

    Business Expenses – The tax code has some very liberal provisions that allow a business to currently expense, rather than capitalize and slowly depreciate, the purchase cost of certain property. In a low-income year it may be appropriate to capitalize rather than expense these current year purchases and preserve the deprecation deduction for higher income years. This is especially true where there is a negative taxable income in the current year.

    If you have obtained your medical insurance through a government marketplace, employing any of the strategies mentioned could impact the amount of your allowable premium tax credit.

    Interested in discussing how these strategies might provide you tax benefit based upon your particular tax circumstances? Or, would like to schedule a tax planning appointment? Give Dagley & Co. a call today at (202) 417-6640.

     

     

     

     

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  • Taking Advantage of Back-Door Roth IRAs

    17 October 2016
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    Are you a high-income taxpayer? Would like to contribute to a Roth IRA but cannot because of income limitations? There is a work-around that will allow you to fund a Roth IRA.

    High-income taxpayers are limited in the annual amount they can contribute to a Roth IRA. In 2016, the allowable contribution phases out for joint-filing taxpayers with an AGI between $184,000 and $194,000 (or an AGI between $0 and $9,999 for married taxpayers filing separately). For unmarried taxpayers, the phase-out is between $117,000 and $132,000. Once the upper end of the range is reached, no contribution is allowed for the year.

    However, those AGI limitations can be circumvented by what is frequently referred to as a back-door Roth IRA. Here is how a back-door Roth IRA works:

    1. First, you contribute to a traditional IRA. For higher-income taxpayers who participate in an employer-sponsored retirement plan, a traditional IRA is allowed but is not deductible. Even if all or some portion is deductible, the contribution can be designated as not deductible.
    2. Then, since the law allows an individual to convert a traditional IRA to a Roth IRA without any income limitations, you now convert the non-deductible Traditional IRA to a Roth IRA. Since the Traditional IRA was non-deductible, the only tax related to the conversion would be on any appreciation in value of the Traditional IRA before the conversion is completed.

    Potential Pitfall – There is a potential pitfall to the back-door Roth IRA that is often overlooked by investment counselors and taxpayers alike that could result in an unexpected taxable event upon conversion. For distribution or conversion purposes, all of your IRAs (except Roth IRAs) are considered as one account and any distribution or converted amounts are deemed taken ratably from the deductible and non-deductible portions of the traditional IRA, and the portion that comes from the deductible contributions would be taxable.

    This may or not may affect your decision to use the back-door Roth IRA method but does need to be considered prior to making the conversion.

    There is a possible, although complicated, solution. Taxpayers are allowed to roll over or make a trustee-to-trustee transfer of IRA funds into employer qualified plans if the employer’s plan permits. If the rollover or transfer to the qualified plan is permitted, such rollovers or transfers are limited to the taxable portion of the IRA account, thus leaving behind the non-taxable contributions, which can then be converted to a Roth IRA without any taxability.

    Please call Dagley & Co. if you need assistance with your Roth IRA strategies or need assistance in planning traditional-to-Roth IRA conversions.

     

     

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  • Most Overlooked Tax Deduction

    11 May 2016
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    The IRD deduction is one of the most overlooked tax deductions. IRD is the acronym for income in respect of a decedent. So what is IRD income? It is income that is taxable to the decedent’s estate and also taxable to the beneficiaries of the estate.

    Estate tax is a tax on property transfers. Thus, when an individual dies, the value of all of his property is added up and the amount that exceeds the lifetime estate tax exclusion (currently at $5.45 million) less any prior taxable gifts is subject to estate tax. In some cases the estate includes items that are taxable both to the estate and to the beneficiaries, such as a traditional IRA, uncollected business income, and accrued bond interest. To make up for this double taxation, the beneficiaries are allowed an itemized deduction for the portion of the estate tax attributable to the double-taxed income.

    The problem is that the beneficiaries do not receive anything from the estate to make them aware of an IRD deduction or the amount of the deduction, if one exists. A beneficiary must recognize when there is an IRD and a possibility of a deduction and make further inquiries.

    The first clue is, did you as a beneficiary of the estate receive a Form 1099-R or Schedule K-1 with taxable income from the estate? If so, you need to inquire whether a Form 706 Estate Tax Return was filed, and if so, whether it resulted in tax due. If there was a tax due, then there is a good chance you are entitled to an IRD deduction. Request a copy of the 706 Estate Tax Return and provide it to this office so we can determine whether you are entitled to a deduction and if so, how much it is worth.

    The deduction is generally the difference in the estate tax figured with and without the double-taxed income. Please call Dagley & Co. if you need additional information.

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