Payable-on-death (POD) accounts can provide a quick, simple and inexpensive way to transfer assets outside of probate. They can be used for bank accounts, certificates of deposit and even brokerage accounts.

Setting one up is as easy as providing the bank with a signed POD beneficiary designation form. When you die, your beneficiaries just need to present a certified copy of the death certificate and their identification to the bank, and the money or securities will be theirs.

Beware of potential pitfalls

Be aware, however, that POD accounts can backfire if they’re not coordinated carefully with the rest of your estate plan. Too often, people designate an account as POD as an afterthought, without considering whether it may conflict with their wills, trusts or other estate planning documents.

Suppose, for example, that Shannon dies with a will that divides her property equally among her three children. She also has a $50,000 bank account that’s payable on death to her oldest child. The conflict between the will and POD designation may have to be resolved in court, which will delay distribution of her estate and generate substantial attorneys’ fees.

Another potential problem with POD accounts is that, if you use them for most of your assets, the assets left in your estate may be insufficient to pay debts, taxes or other expenses. Your executor would then have to initiate a proceeding to bring assets back into the estate.

POD accounts are often used to hold a modest amount of funds that are available immediately to your executor or other representative to pay funeral expenses, bills and other pressing cash needs while your estate is being administered. Using these accounts for more substantial assets may lead to intrafamily disputes or costly litigation.

Turn to your advisor

If you use POD accounts as part of your estate plan, be sure to review the rest of your plan carefully to avoid potential conflicts. We can help you coordinate the use of POD accounts with your estate plan.

© 2023

Perhaps you’ve been in this situation before: You have a financial emergency and need to get your hands on some cash. You consider taking money out of a traditional IRA or 401(k) account but if you’re under age 59½, such distributions are not only taxable but also are generally subject to a 10% penalty tax.

There are exceptions to the 10% early withdrawal penalty, but they don’t cover many types of emergencies.

Good news: Beginning in 2024, there will be new relief for some taxpayers facing emergencies. The SECURE 2.0 law, which was enacted late last year, contains two different relevant provisions:

1. Pension-linked emergency savings accounts. Employers with 401(k), 403(b) and 457(b) plans can opt to offer these emergency savings accounts to non-highly compensated employees. For 2024, a participant who earned $150,000 or more in 2023 is a highly compensated employee. Here are some more details of these new type of accounts:

• Contributions to the accounts will be limited to up to $2,500 a year (or a lower amount determined by the plan sponsor).
• The accounts can’t have a minimum contribution or account balance requirement.
• Employers can offer to enroll eligible participants in these accounts beginning in 2024 or can automatically enroll participants in them.
• Participants can make a withdrawal at least once per calendar month and such withdrawals must be made “as soon as practicable.”
• For the first four withdrawals from an account in a plan year, participants can’t be subject to any fees or charges. Subsequent withdrawals may be subject to reasonable fees or charges.
• Contributions must be held as cash, in an interest-bearing deposit account or in an investment product.
• If an employee has a pension-linked emergency savings account and is not highly compensated, but becomes highly compensated as defined under tax law, he or she can’t make further contributions but retains the right to withdraw the balance.
• Contributions will be made on a Roth basis, meaning they are included in an employee’s taxable income but participants won’t have to pay tax when they make withdrawals.

2. Penalty-free withdrawals for emergency expenses. This new provision is another way to get money for emergencies. As mentioned earlier, taking a distribution from an IRA or 401(k) before age 59½ generally results in a 10% penalty tax unless an exception exists. SECURE 2.0 adds a new exception for certain distributions used for emergency expenses, which are defined as “unforeseeable or immediate financial needs relating to personal or family” emergencies.

Only one distribution of up to $1,000 is permitted a year, and a taxpayer has the option to repay the distribution within three years. This provision is effective for distributions made beginning in 2024.

Guidance likely coming soon

These are just the basic details of the two new emergency-related provisions. Other rules apply and the IRS will need to issue guidance to address certain details. Contact us if you have questions or need cash and want to explore the most tax-efficient ways to tap one of your accounts.

© 2023

When planning their estates, many affluent people agonize over the impact their wealth might have on their children. Bill Gates reportedly said, “I won’t leave a lot of money to my heirs because I don’t think it would be good for them.”

Even parents of more modest means worry about how the prospect of an inheritance might affect their kids and grandkids. Might it be a disincentive to staying in school, working or otherwise becoming productive members of society?

To address these concerns, some people establish “quiet trusts,” also known as “silent trusts.” In other words, they leave a significant sum in trust for their children; they just don’t tell them about it. It’s an interesting approach, but is it effective?

A questionable strategy

Many states permit quiet trusts, but arguably the risks associated with them outweigh the potential benefits. For one thing, it’s difficult — if not impossible — to keep your wealth a secret. If you live an affluent lifestyle, it’s likely that your children expect to share the wealth someday, and using a quiet trust won’t change that. Even if your children are unaware of the details of your estate plan, their expectations of a future inheritance may encourage the same irresponsible behavior the quiet trust was intended to avoid.

A quiet trust may also increase the risk of litigation. The trustee has a fiduciary duty to act in the beneficiaries’ best interests. If you create such a trust and your children become aware of it years or decades later, they may seek an accounting from the trustee and, with the help of counsel, may challenge any past decisions of the trustee that they disagree with.

A better alternative

The idea behind a quiet trust is generally to avoid disincentives for responsible behavior. But it’s not clear that such a trust will actually accomplish that goal. A better approach may be to design a trust that provides incentives to behave responsibly — sometimes referred to as an “incentive trust.” For example, the trust might condition distributions on behaviors you wish to encourage, such as obtaining a college degree, maintaining gainful employment, pursuing worthy volunteer activities, or avoiding alcohol or substance abuse.

A drawback to setting specific goals is that they may penalize a beneficiary who chooses an alternative, albeit responsible, lifestyle — for example, becoming a stay-at-home parent. To build flexibility into the trust, you may want to establish general principles for distributing trust funds to beneficiaries who behave responsibly, but give the trustee broad discretion to apply these principles on a case-by-case basis.

Keep quiet or provide incentive?

Perhaps the most important benefit of an incentive trust is that it provides an opportunity for you or the trustee to help shape the beneficiaries’ future behavior. With a quiet trust, you keep your beneficiaries’ inheritance a secret in hope that, without the negative influence of future wealth, they’ll behave responsibly. With an incentive trust, on the other hand, you can provide positive reinforcement by communicating the terms of the trust, letting beneficiaries know what they must do to receive their rewards, and providing them with the help they need to succeed.

Your attorney or financial advisor can answer any questions you have on the ins and outs of either of these trust types.

© 2023

With the rising cost of college, many families are in search of scholarships to help pay the bills. If your child is awarded a scholarship, you may wonder about how it could affect your family’s taxes. Good news: Scholarships (and fellowships) are generally tax-free for students at elementary, middle and high schools, as well as those attending college, graduate school or an accredited vocational school. It doesn’t matter if the scholarship makes a direct payment to the individual or reduces tuition.

Requirements for tax-free treatment

Despite this generally favorable treatment, scholarships aren’t always tax-free. Certain requirements must be met. A scholarship is tax-free only if it’s used to pay for:

• Tuition and fees required to attend the school, and
• Fees, books, supplies and equipment required of all students in a particular course.

For example, expenses that don’t qualify include the cost of room and board, travel, research and clerical help.

A scholarship award is taxable to the extent it isn’t used for qualifying items. The recipient is responsible for establishing how much of an award is used to pay for tuition and eligible expenses. Therefore, you should maintain records (such as copies of bills, receipts and cancelled checks) that reflect the use of the scholarship money.

Taxable and nontaxable amounts

Subject to limited exceptions, a scholarship isn’t tax-free if the payments are linked to services that your child performs as a condition for receiving the award, even if the services are required of all degree candidates. Therefore, a stipend your child receives for required teaching, research or other services is taxable, even if the child uses the money for tuition or related expenses.

What if you, or a family member, are an employee of an educational institution that provides reduced or free tuition? A reduction in tuition provided to you, your spouse or your dependents by the school at which you work isn’t included in your income and isn’t subject to tax.

Payments reported and not reported on tax returns

If a scholarship is tax-free and your child has no other income, the award doesn’t have to be reported on a tax return. However, any portion of an award that’s taxable as payment for services is treated as wages. Estimated tax payments may have to be made if the payor doesn’t withhold enough tax. Your child should receive a Form W-2 showing the amount of these “wages” and the amount of tax withheld, and any portion of the award that’s taxable must be reported, even if no Form W-2 is received.

These are just the basic rules. Other rules and limitations may apply. For example, if your child’s scholarship is taxable, it may limit other higher education tax benefits to which you or your child are entitled. Contact us if you wish to discuss these or other tax matters further.

© 2023

Recent IRS warnings and announcements regarding the Employee Retention Tax Credit (ERTC) have raised some businesses’ concerns about the validity of their claims for this valuable, but complex, pandemic-related credit — and the potential consequences of an invalid claim. In response, the IRS has rolled out a new process that certain employers can use to withdraw their claims.

Fraudsters jump on the ERTC

The ERTC is a refundable tax credit intended for businesses that 1) continued paying employees while they were shut down due to the pandemic in 2020 and 2021, or 2) suffered significant declines in gross receipts from March 13, 2020, to December 31, 2021. Eligible employers can file claims until April 15, 2025 (on amended returns), and receive credits worth up to $26,000 per retained employee.

With such potentially large payouts, fraudulent promoters and marketers were quick to rush in with offers to help businesses file claims in exchange for fees in the thousands of dollars or for a percentage of any refunds received. The requirements for the credit are strict, though, and the IRS has found that many of these claims fall short of meeting them.

Invalid claims put taxpayers at risk of liability for credit repayment, penalties and interest, in addition to the promoter’s fees. And promoters may leave out key details, which could lead to what the IRS describes as a “domino effect of tax problems” for unsuspecting employers.

The IRS responds

The wave of fraudulent claims has produced escalating action from the IRS. In July 2023, the agency announced that it was shifting its ERTC review focus to compliance concerns, with intensified audits and criminal investigations of both promoters and businesses filing suspect claims. Two months later, it imposed a moratorium on the processing of new ERTC claims.

The moratorium, prompted by “a flood of ineligible claims,” will last until at least the end of 2023. The processing of legitimate claims filed before September 14 will continue during the moratorium period but at a much slower pace. The IRS has extended the standard processing goal of 90 days to 180 days and potentially far longer for claims flagged for further review or audit.

According to the IRS, though, the moratorium isn’t deterring the scammers. It reports they’ve already revised their pitches, pushing employers that submit ERTC claims to take out costly upfront loans in anticipation of delayed refunds.

Now, the IRS has unveiled a new withdrawal option for eligible employers that filed claims but haven’t yet received, cashed or deposited refunds. Withdrawn claims will be treated as if they were never filed, so taxpayers need not fear repayment, penalties or interest. (The IRS also is developing assistance for employers that were misled into claiming the ERTC and have already received payment.)

The withdrawal option is available if you:

• Claimed the credit on an adjusted employment return (for example, Form 941-X),
• Filed the adjusted return solely to claim the credit, and
• Requested to withdraw your entire ERTC claim.

The exact steps vary depending on your circumstances, including whether you filed your claim yourself or through a payroll provider, have been notified that you’re under audit, or have received a refund check that you haven’t cashed or deposited. Regardless of the applicable procedure, your withdrawal isn’t effective until you receive an acceptance letter from the IRS.

Taxpayers that aren’t eligible for the withdrawal process can reduce or eliminate their ERTC claim by filing an amended return. But you may need to amend your income tax return even if your claim is withdrawn.

Seek help

Throughout its warnings about potential ERTC pitfalls, the IRS has continued to urge taxpayers to consult “trusted tax professionals.” If you’re having second thoughts about your ERTC claim, we can help you review your claim and, if appropriate, properly withdraw it.

© 2023  

The Tax Cuts and Jobs Act liberalized the rules for depreciating business assets. However, the amounts change every year due to inflation adjustments. And due to high inflation, the adjustments for 2023 were big. Here are the numbers that small business owners need to know.

Section 179 deductions

For qualifying assets placed in service in tax years beginning in 2023, the maximum Sec. 179 deduction is $1.16 million. But if your business puts in service more than $2.89 million of qualified assets, the maximum Sec. 179 deduction begins to be phased out.

Eligible assets include depreciable personal property such as equipment, computer hardware and peripherals, vehicles and commercially available software.

Sec. 179 deductions can also be claimed for real estate qualified improvement property (QIP), up to the maximum allowance of $1.16 million. QIP is defined as an improvement to an interior portion of a nonresidential building placed in service after the date the building was placed in service. However, expenditures attributable to the enlargement of a building, elevators or escalators, or the internal structural framework of a building don’t count as QIP and usually must be depreciated over 39 years. There’s no separate Sec. 179 deduction limit for QIP, so deductions reduce your maximum allowance dollar for dollar.

For nonresidential real property, Sec. 179 deductions are also allowed for qualified expenditures for roofs, HVAC equipment, fire protection and alarm systems, and security systems.

Finally, eligible assets include depreciable personal property used predominantly in connection with furnishing lodging, such as furniture and appliances in a property rented to transients.

Deduction for heavy SUVs

There’s a special limitation on Sec. 179 deductions for heavy SUVs, meaning those with gross vehicle weight ratings (GVWR) between 6,001 and 14,000 pounds. For tax years beginning in 2023, the maximum Sec. 179 deduction for heavy SUVs is $28,900.

First-year bonus depreciation has been cut

For qualified new and used assets that were placed in service in calendar year 2022, 100% first-year bonus depreciation percentage could be claimed.

However, for qualified assets placed in service in 2023, the first-year bonus depreciation percentage dropped to 80%. In 2024, it’s scheduled to drop to 60% (40% in 2025, 20% in 2026 and 0% in 2027 and beyond).

Eligible assets include depreciable personal property such as equipment, computer hardware and peripherals, vehicles and commercially available software. First-year bonus depreciation can also be claimed for real estate QIP.

Exception: For certain assets with longer production periods, these percentage cutbacks are delayed by one year. For example, the 80% depreciation rate will apply to long-production-period property placed in service in 2024.

Passenger auto limitations

For federal income tax depreciation purposes, passenger autos are defined as cars, light trucks and light vans. These vehicles are subject to special depreciation limits under the so-called luxury auto depreciation rules. For new and used passenger autos placed in service in 2023, the maximum luxury auto deductions are as follows:

• $12,200 for Year 1 ($20,200 if bonus depreciation is claimed),
• $19,500 for Year 2,
• $11,700 for Year 3, and
• $6,960 for Year 4 and thereafter until fully depreciated.

These allowances assume 100% business use. They’ll be further adjusted for inflation in future years.

Advantage for heavy vehicles

Heavy SUVs, pickups, and vans (those with GVWRs above 6,000 pounds) are exempt from the luxury auto depreciation limitations because they’re considered transportation equipment. As such, heavy vehicles are eligible for Sec. 179 deductions (subject to the special deduction limit explained earlier) and first-year bonus depreciation.

Here’s the catch: Heavy vehicles must be used over 50% for business. Otherwise, the business-use percentage of the vehicle’s cost must be depreciated using the straight-line method and it’ll take six tax years to fully depreciate the cost.

Consult with us for the maximum depreciation tax breaks in your situation.

© 2023

The SECURE 2.0 law, which was enacted last year, contains wide-ranging changes to retirement plans. One provision in the law is that eligible employers will soon be able to provide more help to staff members facing emergencies. This will be done through what the law calls “pension-linked emergency savings accounts.”

Effective for plan years beginning January 1, 2024, SECURE 2.0 permits a plan sponsor to amend its 401(k), 403(b) or government 457(b) plan to offer emergency savings accounts that are connected to the plan.

Basic distribution rules

If a retirement plan participant withdraws money from an employer plan before reaching age 59½, a 10% additional tax or penalty generally applies unless an exception exists. This is on top of the ordinary tax that may be due.

The goal of these emergency accounts is to encourage employees to save for retirement while still providing access to their savings if emergencies arise. Under current law, there are specific exceptions when employees can withdraw money from their accounts without paying the additional 10% penalty but they don’t include all of the emergencies that an individual may face. For example, while participants can take penalty-free distributions to pay eligible medical expenses, they can’t take them for car repairs.

Here are some features of pension-linked emergency savings accounts:

• The accounts can only be offered to employee-participants who aren’t highly compensated. In general, a highly compensated employee is one who is a 5% or more owner of a business or has compensation in the preceding year that exceeds an indexed limit (for 2024, $150,000 or more of compensation in 2023).
• Plan sponsors can automatically enroll employee-participants in these accounts at up to 3% of their salary. Plan participants may opt out of making these contributions or pick a different rate to be taken from their pay.
• Annual contributions are capped at the lesser of $2,500 (indexed for inflation) or an amount chosen by the plan sponsor.
• Contributions to pension-linked emergency savings accounts are made on a Roth after-tax basis. Contributions reduce an employee’s other retirement contributions that can be made to a plan.
• A participant must be allowed to make withdrawals from his or her account at least once per month. No reason needs to be provided and a participant must not be subject to any fees or charges for the first four withdrawals from the account each plan year. (However, subsequent withdrawals may be subject to reasonable fees and charges.)

Another option to help employees

In addition to these accounts, SECURE 2.0 adds a new exception for certain retirement plan distributions used for emergency expenses, which are defined as unforeseeable or immediate financial needs relating to personal or family emergencies. Only one distribution of up to $1,000 is permitted a year, and a taxpayer has the option to repay the distribution within three years. This provision is effective for distributions beginning January 1, 2024.

Determine whether there’s time

In addition to what is outlined here, other rules apply to pension-linked emergency savings accounts. The IRS is likely to issue additional guidance in the next few months. Be aware that plan sponsors don’t have to offer these accounts and many employers may find that they need more time to establish them before 2024. Or they may decide there are too many administrative hurdles to clear. Contact us with questions.

© 2023

Now that Labor Day has passed, the holidays are just around the corner. Many people may want to make gifts of cash or stock to their loved ones. By properly using the annual exclusion, gifts to family members and loved ones can reduce the size of your taxable estate, within generous limits, without triggering any estate or gift tax. The exclusion amount for 2023 is $17,000.

The exclusion covers gifts you make to each recipient each year. Therefore, a taxpayer with three children can transfer $51,000 to the children this year free of federal gift taxes. If the only gifts made during a year are excluded in this fashion, there’s no need to file a federal gift tax return. If annual gifts exceed $17,000, the exclusion covers the first $17,000 per recipient, and only the excess is taxable. In addition, even taxable gifts may result in no gift tax liability thanks to the unified credit (discussed below).

Note: This discussion isn’t relevant to gifts made to a spouse because these gifts are free of gift tax under separate marital deduction rules.

Married taxpayers can split gifts

If you’re married, a gift made during a year can be treated as split between you and your spouse, even if the cash or gift property is actually given by only one of you. Thus, by gift-splitting, up to $34,000 a year can be transferred to each recipient by a married couple because of their two annual exclusions. For example, a married couple with three married children can transfer a total of $204,000 each year to their children and to the children’s spouses ($34,000 for each of six recipients).

If gift-splitting is involved, both spouses must consent to it. Consent should be indicated on the gift tax return (or returns) that the spouses file. The IRS prefers that both spouses indicate their consent on each return filed. Because more than $17,000 is being transferred by a spouse, a gift tax return (or returns) will have to be filed, even if the $34,000 exclusion covers total gifts. We can prepare a gift tax return (or returns) for you, if more than $17,000 is being given to a single individual in any year.

“Unified” credit for taxable gifts

Even gifts that aren’t covered by the exclusion, and are thus taxable, may not result in a tax liability. This is because a tax credit wipes out the federal gift tax liability on the first taxable gifts that you make in your lifetime, up to $12.92 million for 2023. However, to the extent you use this credit against a gift tax liability, it reduces (or eliminates) the credit available for use against the federal estate tax at your death.

Be aware that gifts made directly to a financial institution to pay for tuition or to a health care provider to pay for medical expenses on behalf of someone else don’t count towards the exclusion. For example, you can pay $20,000 to your grandson’s college for his tuition this year, plus still give him up to $17,000 as a gift.

Annual gifts help reduce the taxable value of your estate. The estate and gift tax exemption amount is scheduled to be cut drastically in 2026 to the 2017 level when the related Tax Cuts and Jobs Act provisions expire (unless Congress acts to extend them). Making large tax-free gifts may be one way to recognize and address this potential threat. They could help insulate you against any later reduction in the unified federal estate and gift tax exemption.

© 2023