Year-End Qualified Charitable Distribution Opportunity

H.R. 5771, otherwise known as the “Tax Increase Prevention Act of 2014” (TICA) was signed into law on December 19th. TICA gives those individuals who take action before the end of 2014 a short window of opportunity to take advantage of several beneficial income tax extensions.

One such extension provision, the individual retirement account charitable distribution, permits philanthropically-inclined individuals to exclude up to $100,000 from their gross income. Those individuals with IRAs that presently force the payment of required minimum distributions (RMDs), i.e. those who are over 70 ½ years of age, may exclude up to $100,000 of income from RMDs distributed by their IRAs by having their RMDs distributed directly to a qualifying public charity. By accepting an RMD directly rather than taking advantage of the direct charitable distribution extension, individuals who itemize their deductions will increase their adjusted gross income, thereby reducing or eliminating deductions that are calculated or phased-out based upon adjusted gross income levels.

Those individuals who may have already made distributions to qualifying charities from their IRAs prior to the passage of TICA may still elect before year-end to have those distributions qualify for the income exclusion. However, individuals that have already deposited their required minimum distribution checks may not retroactively elect to qualify their RMD for the charitable income exclusion.

One should note that in order to take advantage of the qualifying charitable distribution, the distribution must be made by the IRA custodian before year-end. As such, one should contact their plan custodians as soon as possible to make sure that their requests are processed and completed before the year-end deadline expires.

Year-end Tax Planning Update

Year-end tax planning is especially challenging this year because Congress has yet to act on a host of tax breaks that expired at the end of 2013. Some of these tax breaks may be retroactively reinstated and extended, but Congress may not decide the fate of these tax breaks until the very end of this year (and, possibly, not until next year).

These breaks include, for individuals: the option to deduct state and local sales and use taxes instead of state and local income taxes; the above-the-line-deduction for qualified higher education expenses; tax-free IRA distributions for charitable purposes by those age 70- 1/2 or older; and the exclusion for up-to-$2 million of mortgage debt forgiveness on a principal residence.  For businesses, tax breaks that expired at the end of last year and may be retroactively reinstated and extended include: 50% bonus first year depreciation for most new machinery, equipment and software; the $500,000 annual expensing limitation; the research tax credit; and the 15-year writeoff for qualified leasehold improvement property, qualified restaurant property, and qualified retail improvement property.

Higher-income-earners have unique concerns to address when mapping out year-end plans. They must be wary of the 3.8% surtax on certain unearned income and the additional 0.9% Medicare (hospital insurance, or HI) tax that applies to individuals receiving wages with respect to employment in excess of $200,000 ($250,000 for married couples filing jointly and $125,000 for married couples filing separately).

The surtax is 3.8% of the lesser of: (1) net investment income (NII), or (2) the excess of modified adjusted gross income (MAGI) over an unindexed threshold amount ($250,000 for joint filers or surviving spouses, $125,000 for a married individual filing a separate return, and $200,000 in any other case). As year-end nears, a taxpayer’s approach to minimizing or eliminating the 3.8% surtax will depend on his or her estimated MAGI and net investment income (NII) for the year. Some taxpayers should consider ways to minimize (e.g., through deferral) additional NII for the balance of the year, others should try to see if they can reduce MAGI other than NII, and other individuals will need to consider ways to minimize both NII and other types of MAGI.

The additional Medicare tax may require year-end actions. Employers must withhold the additional Medicare tax from wages in excess of $200,000 regardless of filing status or other income. Self-employed persons must take it into account in figuring estimated tax. There could be situations where an employee may need to have more withheld toward year end to cover the tax. For example, an individual earns $200,000 from one employer during the first half of the year and a like amount from another employer during the balance of the year. He would owe the additional Medicare tax, but there would be no withholding by either employer for the additional Medicare tax since wages from each employer don’t exceed $200,000. Also, in determining whether a taxpayer may need to make adjustments to avoid a penalty for underpayment of estimated tax, one also should be mindful that the additional Medicare tax may be overwithheld. This could occur, for example, where only one of two married spouses works and reaches the threshold for the employer to withhold, but the couple’s income won’t be high enough to actually cause the tax to be owed.

We have compiled a checklist of additional actions based on current tax rules that may help you save tax dollars if you act before year-end. Not all actions will apply in your particular situation, but you (or a family member) will likely benefit from many of them. We can narrow down the specific actions that you can take once we meet with you to tailor a particular plan. In the meantime, please review the following list and contact us at your earliest convenience so that we can advise you on which tax-saving moves to make:

 Year-End Tax Planning Moves for Individuals

•           Make gifts sheltered by the annual gift tax exclusion before the end of the year and thereby save gift and estate taxes.  You can give present interest $14,000.00 gifts in 2014 to each of an unlimited number of individuals, but you cannot carry over unused exclusions from one year to the next.  The transfers also may save family income taxes where income-earning property is given to family members in lower income tax brackets who are not subject to the kiddie tax.  Also, be mindful of the basis rules when giving appreciated property or property that has declined in value.  Consider selling loss property and gifting the proceeds.  Keep in mind that unused annual exclusions cannot be carried over and are forever lost.  If you are making a gift by check near the end of 2014 and you would like to take advantage of this year’s exclusion, you should urge the recipient to deposit the check before year-end so that there is no doubt as to when the gift was made.

•           Make gifts sheltered by the lifetime gift tax exemption before the end of the year and thereby save gift and estate taxes.  You can give up to $5,340,000.00 of taxable gifts in 2014 (reduced by prior taxable gifts) without incurring gift taxes (or generation skipping transfer taxes).  Although such gifts will subsequently reduce your federal estate tax exemption, the post gift appreciation and cash flow from the property gifted will escape estate taxation, and there are gifting strategies that can significantly leverage the value of the gifts.  Note that the $5,340,000.00 exemption is up from 2013’s $5,250,000.00 exemption.  As such, if you have maxed out your gifting based on the 2013 exemption amount, consider making additional taxable gifts of up to $90,000.00.  In 2015, the lifetime gift tax exemption will increase to $5,430,000.00, as adjusted for inflation; although, the $14,000.00 annual gift tax exclusion will remain unchanged.

•       Gifts to non-citizen spouses qualify for an increased annual gift tax exclusion of $145,000.00 for 2014.  Therefore, consider making lifetime gifts to a non-citizen spouse before the end of the year.  A couple can avoid U.S. estate tax on the gifted property if the non-citizen spouse possessing the property has established a residence outside of the United States before the date of his or her death and the gifted property is not otherwise sitused in the United States. In 2015, the annual exclusion on gifts to non-citizen spouses will increase to $147,000.00.

  • Realize losses on stock while substantially preserving your investment position. There are several ways this can be done. For example, you can sell the original holding, then buy back the same securities at least 31 days later.
  • Postpone income until 2015 and accelerate deductions into 2014 to lower your 2014 tax bill. This strategy may enable you to claim larger deductions, credits, and other tax breaks for 2014 that are phased out over varying levels of adjusted gross income (AGI). These include child tax credits, higher education tax credits, and deductions for student loan interest. Postponing income also is desirable for those taxpayers who anticipate being in a lower tax bracket next year due to changed financial circumstances. Note, however, that in some cases, it may pay to actually accelerate income into 2014. For example, this may be the case where a person’s marginal tax rate is much lower this year than it will be next year or where lower income in 2015 will result in a higher tax credit for an individual who plans to purchase health insurance on a health exchange and is eligible for a premium assistance credit.
  • The “Pease limitations” limit the amount of various itemized deductions that one can use in any given tax year.  More specifically, the limitation reduces the use of itemized deductions by 3% of amounts in excess of an individual’s threshold amount (up to a max of 80% of those reduced deductions), for 2014, the threshold for single individuals was an adjusted gross income (AGI) of $254,200 (or $305,050 for married couples filing jointly).  One can reduce the effect of the Pease limitations by reducing their AGI or by spreading out their charitable deductions (one type of itemized deduction) over several years.  There are many other planning techniques that can be used to effectuate this time of deduction planning, such as making gifts of income-producing property to non-grantor trusts. For 2015 the threshold amount for individuals is increases to $255,250.00 (or $309,900 for married couples filing jointly).
  • If you believe a Roth IRA is better than a traditional IRA, and want to remain in the market for the long term, consider converting traditional-IRA money invested in beaten-down stocks (or mutual funds) into a Roth IRA if eligible to do so. While you will benefit from tax-free appreciation into the future, keep in mind, however, that such a conversion will increase your adjusted gross income for 2014.
  • If you converted assets in a traditional IRA to a Roth IRA earlier in the year, the assets in the Roth IRA account may have declined in value, and if you leave things as is, you will wind up paying a higher tax than is necessary. You can back out of the transaction by recharacterizing the conversion; that is, by transferring the converted amount (plus earnings, or minus losses) from the Roth IRA back to a traditional IRA via a trustee-to-trustee transfer. You can later reconvert to a Roth IRA, if doing so proves advantageous.
  • It may be advantageous to try to arrange with your employer to defer a bonus that may be coming your way until 2015.
  • Consider using a credit card to pay deductible expenses before the end of the year. Doing so will increase your 2014 deductions even if you don’t pay your credit card bill until after the end of the year.
  • If you expect to owe state and local income taxes when you file your return next year, consider asking your employer to increase withholding of state and local taxes (or pay estimated tax payments of state and local taxes) before year-end to pull the deduction of those taxes into 2014 if doing so won’t create an alternative minimum tax (AMT) problem.
  • Take an eligible rollover distribution from a qualified retirement plan before the end of 2014 if you are facing a penalty for underpayment of estimated tax and having your employer increase your withholding isn’t viable or won’t sufficiently address the problem. Income tax will be withheld from the distribution and will be applied toward the taxes owed for 2014. You can then timely roll over the gross amount of the distribution, i.e., the net amount you received plus the amount of withheld tax, to a traditional IRA. No part of the distribution will be includible in income for 2014, but the withheld tax will be applied pro rata over the full 2014 tax year to reduce previous underpayments of estimated tax.
  • Estimate the effect of any year-end planning moves on the alternative minimum tax (AMT) for 2014, keeping in mind that many tax breaks allowed for purposes of calculating regular taxes are disallowed for AMT purposes. These include the deduction for state property taxes on your residence, state income taxes, miscellaneous itemized deductions, and personal exemption deductions. Other deductions, such as for medical expenses, are calculated in a more restrictive way for AMT purposes than for regular tax purposes in the case of a taxpayer who is over age 65 or whose spouse is over age 65 as of the close of the tax year. As a result, in some cases, deductions should not be accelerated.
  • You may be able to save taxes this year and next by applying a bunching strategy to “miscellaneous” itemized deductions (i.e., certain deductions that are allowed only to the extent they exceed 2% of adjusted gross income), medical expenses and other itemized deductions.
  • You may want to pay contested taxes to be able to deduct them this year while continuing to contest them next year.
  • You may want to settle an insurance or damage claim in order to maximize your casualty loss deduction this year.
  • Take required minimum distributions (RMDs) from your IRA or 401(k) plan (or other employer-sponsored retired plan) if you have reached age 70- 1/2. Failure to take a required withdrawal can result in a penalty of 50% of the amount of the RMD not withdrawn. If you turned age 70- 1/2 in 2014, you can delay the first required distribution to 2015, but if you do, you will have to take a double distribution in 2015-the amount required for 2014 plus the amount required for 2015. Think twice before delaying 2014 distributions to 2015-bunching income into 2015 might push you into a higher tax bracket or have a detrimental impact on various income tax deductions that are reduced at higher income levels. However, it could be beneficial to take both distributions in 2015 if you will be in a substantially lower bracket that year.
  • Increase the amount you set aside for next year in your employer’s health flexible spending account (FSA) if you set aside too little for this year.
  • If you are eligible to make health savings account (HSA) contributions in December of this year, you can make a full year’s worth of deductible HSA contributions for 2014. This is so even if you first became eligible on Dec. 1, 2014.
  • Be cognizant of reporting requirements for foreign income and holdings; including Form 8938 – Statement of Specified Foreign Financial Assets.
  • If you have moved your residence, update your address with the IRS by filing a Form 8822.

Year-End Tax-Planning Moves for Businesses & Business Owners

  • Businesses should buy machinery and equipment before year end and, under the generally applicable “half-year convention,” thereby secure a half-year’s worth of depreciation deductions for the first ownership year.
  • Although the business property expensing option is greatly reduced in 2014 (unless legislation changes this option for 2014), do not neglect to make expenditures that qualify for this option. For tax years beginning in 2014, the expensing limit is $25,000, and the investment-based reduction in the dollar limitation starts to take effect when property placed in service in the tax year exceeds $200,000.
  • Businesses may be able to take advantage of the “de minimis safe harbor election” (also known as the book-tax conformity election) to expense the costs of inexpensive assets and materials and supplies, assuming the costs don’t have to be capitalized under the Code Section 263Auniform capitalization (UNICAP) rules. To qualify for the election, the cost of a unit-of-property can’t exceed $5,000 if the taxpayer has an applicable financial statement (AFS; e.g., a certified audited financial statement along with an independent CPA’s report). If there’s no AFS, the cost of a unit of property can’t exceed $500. Where the UNICAP rules aren’t an issue, purchase such qualifying items before the end of 2014.
  • A corporation should consider accelerating income from 2015 to 2014 where doing so will prevent the corporation from moving into a higher bracket next year. Conversely, it should consider deferring income until 2015 where doing so will prevent the corporation from moving into a higher bracket this year.
  • A corporation should consider deferring income until next year if doing so will preserve the corporation’s qualification for the small corporation alternative minimum tax (AMT) exemption for 2014. Note that there is never a reason to accelerate income for purposes of the small corporation AMT exemption because if a corporation doesn’t qualify for the exemption for any given tax year, it will not qualify for the exemption for any later tax year.
  • A corporation (other than a “large” corporation) that anticipates a small net operating loss (NOL) for 2014 (and substantial net income in 2015) may find it worthwhile to accelerate just enough of its 2015 income (or to defer just enough of its 2014 deductions) to create a small amount of net income for 2014. This will permit the corporation to base its 2015 estimated tax installments on the relatively small amount of income shown on its 2014 return, rather than having to pay estimated taxes based on 100% of its much larger 2015 taxable income.
  • If your business qualifies for the domestic production activities deduction for its 2014 tax year, consider whether the 50%-of-W-2 wages limitation on that deduction applies. If it does, consider ways to increase 2014 W-2 income, e.g., by bonuses to owner-shareholders whose compensation is allocable to domestic production gross receipts. Note that the limitation applies to amounts paid with respect to employment in calendar year 2014, even if the business has a fiscal year.
  • To reduce 2014 taxable income, consider deferring a debt-cancellation event until 2015.
  • To reduce 2014 taxable income, consider disposing of a passive activity in 2014 if doing so will allow you to deduct suspended passive activity losses.
  • If you own an interest in a partnership or S corporation consider whether you need to increase your basis in the entity so you can deduct a loss from it for this year.

These are just some of the year-end steps that can be taken to save taxes. Again, by contacting us, we can tailor a particular plan that will work best for you. We also will need to stay in close touch in the event Congress revives expired tax breaks, to assure that you do not miss out on any resuscitated tax saving opportunities.

Inherited IRAs Are Not Protected In Bankruptcy

In the recent case of Clark v. Rameker, 573 U.S. _____ (2014), the Supreme Court was tasked with determining whether the Federal Bankruptcy Code protects inherited IRAs in Bankruptcy against the claims of a bankruptcy debtor’s creditors.

Section 522(b)(3)(C) of the Bankruptcy code describes protected assets to include “retirement funds” that are “exempt from taxation” under IRC Code Sections 401, 403, 408, 408A, 414, 457, or 501(a). An account therefore, generally has to be characterized as a retirement vehicle in order to qualify as exempt under the Federal Bankruptcy Code.
In Clark, Ruth Heffron died, leaving her IRA to her daughter, Heidi, a Wisconsin resident. Heidi elected to receive the account as an inherited IRA and to take required minimum distributions over her remaining life expectancy, in accordance with the IRS Regulations. In 2010, Heidi and her husband filed for Chapter 7 bankruptcy, excluding the IRA from their bankruptcy estates. Heidi’s bankruptcy creditors argued that the IRA funds were improperly excluded from her bankruptcy estate because an inherited IRA is not a retirement fund under the definition of Section 522.

The Supreme Court agreed with the creditors, holding that assets held under an IRA inherited by a non-spouse beneficiary are not “retirement funds,” and are therefore not protected by bankruptcy creditors. The Court noted that material differences between an originally owned IRA and an inherited IRA reflect Congress’ intent that inherited IRAs are not “held for retirement”.

First, the Court reasoned that inherited IRA beneficiaries must take required minimum distributions on at least an annual basis, reducing the potential of the account as a retirement savings vehicle. The Internal Revenue Code requires that the beneficiary of an inherited IRA take required minimum distributions over their individual life expectancy, or within five years of the account owner’s death (depending upon whether the original owner passed away before or after attaining the age of 70 ½, respectively). This is in contrast to an original IRA, where the original account owner does not have to start taking distributions until the reach the age of 70 ½.

Second, the Court held that because an inherited IRA account beneficiary may never make contributions to the account, a beneficiary of a retirement account is therefore not incentivized to contribute to their retirement savings.

Finally, the Court reasoned that because inherited IRA beneficiaries may withdraw amounts from their account at any time penalty-free, they are not funds “objectively set aside for one’s retirement.” This is in contrast to an original IRA, where the owner is penalized from reducing their retirement savings if they make a withdrawal from their account prior to reaching the age of 59 ½.

The Supreme Court’s opinion did not make it entirely clear as to whether spousal rollovers would be definitively protected in bankruptcy. As there is no deadline for a surviving spouse to elect to perform a qualified rollover of their spouse’s IRA account, a surviving spouse could initially choose to accept an inherited IRA for immediate access to the funds and later rollover the account into his or her own IRA. Performing a spousal rollover soon before a bankruptcy filing could create an argument by a creditor that the rollover was effectively a “fraudulent transfer” that should be undone.

Additionally, it is important to understand the limitations of this holding to bankruptcy proceedings – and further, to those debtors that have opted to utilize the Federal bankruptcy exemption rules. Each state has its own bankruptcy exemptions, and five states exempt inherited IRAs from the claims of bankruptcy creditors. If a bankruptcy debtor has satisfied their states’ domicile requirements, they may opt into their state bankruptcy exemptions, which may be more favorable than the Federal ones.
Furthermore, many, if not the majority of states, exempt inherited IRAs from the claims of creditors outside of bankruptcy (with limited exceptions). Even so, when leaving retirement assets to a non-spouse beneficiary, one should consider designating a qualifying “see-through” trust as the designated beneficiary of an IRA account in order to achieve protection from claims of their beneficiaries’ known and unknown exception creditors as well as to achieve the desired income-tax deferral of extended required minimum distributions.

I expect that we will see more law further expounding upon some of these new and novel concepts in the near future.

Shhhhh! Quiet Trusts

There are a multitude of purposes for creating a Trust – whether the purpose is to protect one’s assets from creditors, prevent a beneficiary’s inheritance from disqualifying them for means-tested government benefits, minimizing taxes, or simply maintaining control over one’s wealth as it passes on to future generations.

A common concern is what to do about wealth getting into the hands of a child when that child may be too young to know how to manage it responsibly. One can give an independent Trustee full discretion to make or withhold distributions to a child, to restrict distributions to a child who has creditor problems, or permit a child to withdraw trust assets upon reaching a certain age. All of these are valid checks on a child coming into too much wealth too early – but in many states a child who is a beneficiary of such a trust has the right to find out exactly how much wealth they are coming into by making a simple request to the Trustee.

To curb the potential for the resultant problems from this knowledge – such as privacy, disincentiving children, or avoiding a potential preemptive challenge – a few states have enacted legislation permitting the “Quiet” or “Silent” trust.

Beneficiaries of a quiet trust agreement will still receive distributions at the desired times, however, they will not be notified of the trust’s existence until the time for distribution arrives. Different jurisdictions provide different laws for how much information must be revealed by a trustee to quiet trust beneficiaries.

New York and New Jersey are two states that have not yet enacted any legislation that addresses the permissibility of the use of quiet trusts. New York’s Surrogate’s Court Procedure Act (SCPA) requires a trustee to furnish information, such as financial statements, to a beneficiary only upon that beneficiary’s request, but is silent as to the duty to inform a beneficiary about the trust’s existence. It is unclear whether the duty to provide annual statements upon request implicitly requires notification of the trust’s existence – for, if a beneficiary is unaware of a trust, they will not know to request statements.

If New York decides to adopt the UTC provisions, which require the duty to inform, trust creators will have more guidance on the quiet trust issue. New Jersey is also currently considering enacting the UTC, but their proposed legislation will also not follow the UTC duty to inform provisions.

Delaware Tax Trap Or Treasure?

With the passage of the ATRA providing certainty as to the future “permanency” of the federal $5MM estate tax exemption amount, many high net worth individuals will be less concerned with estate tax planning and will be more concerned with income tax planning. Whether traditional credit shelter trust planning is still proper for individual or married taxpayers will depend on various factors including asset protection, trust income tax rates, desire to shelter appreciation from estate tax, willingness to pay practitioners for trust planning, etc.  However, for those clients that decide to utilize irrevocable trust planning during their lifetimes and not rely entirely on portability, practitioners should consider drafting trusts to provide flexibility to account for potential changes to the estate tax laws and to allow for an income tax step-up in basis, if advisable.

An option known as the “Delaware Tax Trap,” (DTT) which, prior under the historically lower estate tax exemptions typically was to be avoided, now can provide flexibility in bypass trust planning.  Using this potential tool, it is possible for property subject to a limited power of appointment to be included in the power holder’s gross estate at death, resulting in an income tax step-up in basis, if preservation of the estate tax exemption is not necessary.  The DTT allows the surviving spouse to wait until soon before their death to decide whether to trigger estate tax inclusion or not by providing for the exercise of the power of appointment in a Will or codicil.

The rule states that a limited power of appointment will cause the subjected property to be included in the power holder’s gross estate at death (by converting the power to a general power of appointment) if the power is exercised to create another power of appointment which, under the applicable local law, can be validly exercised so as to postpone the vesting of any estate or interest in such property, or suspend the absolute ownership or power of alienation of such property, for a period ascertainable without regard to the date of the creation of the first power. (§§2041(a)(3), 2514(d)).

These provisions, enacted under the local law of most states, were designed to prevent the holders of limited powers in trusts to avoid the limited time frame that a trust may be in existence under the rule against perpetuities. Now many states have either greatly extended the rule against perpetuities period or have abolished it entirely.

One can also draft a formula contingent general power of appointment to cause estate tax inclusion to the extent that such inclusion would not cause any estate tax to be imposed on survivor’s estate. A court could argue, however, that the creation of the power is within the control of the surviving spouse, who has the power to generate it by spending down his or her estate.  A court will analyze the issue of act of independent significance to decide upon whether the power of appointment is in the control of the beneficiary to determine whether or not he or she will ultimately receive the power.  If the surviving spouse beneficiary ultimately loses on this argument, then the surviving spouse will be treated as having a general power over the entire non-marital trust, regardless of the size of his or her estate.  There is no bright line test as to what constitutes an act of truly independent significance that can be used to generate a power of appointment.

As an alternative, one may have an independent trustee or trust protector with authority to grant the surviving spouse a general power of appointment.  The release of this power may have adverse tax consequences, however, because the release of a power is a taxable transfer itself.

Tax Thoughts On Trust Protectors

Despite the frequent assurances practitioners very often hear from their clients that they have a perfect choice of a wholesome, trustworthy, and financially savvy Trustee, it is not uncommon to hear stories about these “ideal” individuals misappropriating or mismanaging funds in some way.

As is such, it may often be advisable to suggest the idea of a “trust protector” provision. The degree of a trust protector’s authority can vary greatly. The overarching purpose of the protector, however, is to place an additional set of checks and balances on an existing or successor trustee and to provide for additional flexibility over uncertain future events.

Although the concept of a trust protector is fairly novel and has not yet been fully hashed out either in common law or by statute, the definition of a protector is evolving, especially as additional jurisdictions pass new domestic or foreign asset protection trust legislation.

Some typical powers given to trust protectors include the ability to veto trust distributions or investment decisions, change the trust situs, consent to the exercise of a power of appointment, or remove, add, and replace trustees. However, as is the case with choosing whom to appoint as a normal trustee, there are important tax concerns that must be addressed when choosing a trust protector and selecting their permissible powers.

If a power is granted to a trust protector (who is acting in a fiduciary capacity) that can be exercised in favor of the protector, his creditors, or the creditors of his estate, or to discharge a legal obligation of support, then the protector will have retained a general power of appointment, unless it is limited by an ascertainable standard, such as “health, education, maintenance, and support.” However, it is of the opinion of some practitioners that, depending upon who is chosen to act as a trust protector, ascertainable standard language may be omitted without causing adverse general power of appointment tax consequences. For example, it may be argued that if a professional, such as an attorney, has been appointed as trust protector with the power to add beneficiaries, that it would not be inferred that the settlor’s intent was to include members of the attorney’s own family within the permitted class of appointees.

A Settlor can be given even greater flexibility and control over the originally appointed parties, including the power to remove and replace a trustee or even a trust protector without estate inclusion.  The scope of this permitted control will depend, however, upon the authority the trustee/protector is given and whether or not the trustee/protector is acting in a fiduciary capacity.

If the protector is acting in a fiduciary capacity and if the powers granted to the protector would cause estate inclusion if held by the grantor, then the grantor can hold a power to remove and replace the protector, if the replacement protector is not related or subordinate (independent person). If the protector is not a fiduciary and the powers granted the protector would cause estate inclusion if held by the grantor, then the grantor should not hold a power to remove and replace, even with a related or subordinate (independent) person. However, if the protector only holds powers that a grantor could also safely hold, then the grantor can have a power to remove and replace the protector, even with a related or subordinate person (non-independent trustee).

Complications With The 121 Exclusion

IRC section 121 allows a taxpayer to exclude up to $250,000 ($500,000 for certain taxpayers who file a joint return) of the gain from a sale/exchange of property owned and used as a principal residence for at least 2 of the last 5 years before the sale. A taxpayer can claim the full exclusion only once every two years and the taxpayer doesn’t even have to purchase a replacement home to exclude the gain.

A surviving spouse who owned a property as joint tenants with their spouse is also entitled to relief through the sale of their personal residence.  If the sale of personal residence occurs within 2 years after the death of the predeceased spouse, the surviving spouse is able to take advantage of the full $500,000 exclusion (unless the surviving spouse remarries within the 2 year period).  To illustrate, refer to the below example.


At Harry’s death in July 2012, the couple’s basis in their house was $200,000 and its fair market value was $500,000.  Harry’s 1/2 interest in the property receives a step up in basis to 1/2 of the fair market value at the date of his death, to $250,000.  In February 2014, Wendy sells the property for $600,000.  The couple total adjusted basis in the property is Harry’s basis of $250,000 plus Wendy’s basis of $100,000 (1/2 basis at date of purchase) for a total basis of $350,000.  Without the 121 exclusion, the gain recognized from the sale of the property would be $250,000 (600,000-350,000). However, because Wendy sold the property within 2 years of Harry’s death, she is entitled to the full $500,000 121 exclusion.

How To Handle Your Tax Appeal


If you ultimately disagree with an Internal Revenue Service agents’ assessment of your tax planning, how should you handle the appeal of the matter? There are many considerations to think about in pursuing your tax appeal, many of which depend upon whether the matter will be heard in District Court or the more specialized Tax Court. I’ve attached a flowchart of the IRS process to help make ends of labyrinthine process.

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