Annual Review

When it comes to their investment accounts, one thing that many people don’t think about is making sure their accounts are titled properly.  Correct titling of accounts is essential to ensuring that account ownership is structured properly for both tax purposes and ensuring the assets transfer in the way you intend when you pass. — which, in turn, ensures that your account assets are distributed according to your wishes after you pass.

Account Titling and Ownership: A Legal Issue

The titling of investment accounts is a legal issue when it comes to account ownership — therefore, account titling can supersede estate planning documents, including trusts and your last will and testament.

Examples of account titles:

Individual Account — This is the simplest way to title accounts — one person or entity owns the account. It is the best way to make sure that the account is distributed according to your wishes after you die.

If an account is titled in your name only, it will pass to heirs according to the terms of your estate plan (assuming a different beneficiary isn’t designated). The value of the account will be added to your estate, where it will be subject to probate and estate taxes during the year you die.

A special designation known as Payable on Death (POD) or Transfer on Death (TOD) can be added to an individually titled account. This supersedes any instructions in your will and ensures that the account is transferred to your designated beneficiary without going through probate.

Joint Tenants With Right of Survivorship (JTWROS) — This is the most common type of account titling among married couples. When one spouse dies, the account will pass directly to the surviving spouse.  JTWROS is usually the best choice for simple estates that don’t exceed the estate tax threshold or require more sophisticated planning techniques.  However, JTWROS titling supersedes a will so it shouldn’t be used if you have significant assets. This is because the joint tenant who dies is presumed to own 100 percent of the account, so his or her family will lose the account as it passes to the survivor and the family will have to pay estate taxes if the survivor isn’t a spouse.  Like with the Individual account, a joint account could have the POD or TOD designation attached to it. In this case, the surviving account holder has the authority to make changes to the beneficiary prior to their death. This could be a problem if you are dealing with a situation of a second marriage and the remaining owner decides to change the beneficiary to their children, therefore, cutting out the late partners children. 

Joint Tenants by the Entirety — This type of account titling has the same basic structure as joint tenants with rights of survivorship. The primary difference is that it is only available to spouses. It's also worth noting that this type of titling adds a greater degree of asset protection from either spouse's creditors.  However, it does not provide asset protection should both spouses be subject to claim from the same creditor.  As a side note, revocable trusts do not have the same degree of asset protection as does joint tenants by the entirety.  For those that live in Virginia, once assets are transferred to an account titled as joint tenants by the entirety, they can then be transferred to a revocable trust and continue enjoy the asset protection that joint tenants by the entity provides.  Virginia is the only state that provides this additional asset protection opportunity.

Tenants in Common (TIC) — This type of titling is usually recommended if an account is shared and will be subject to a will. It ensures that the account will be passed on according to your will or estate plan without the need for a living trust.

When one account holder dies, his or her interest will pass to whoever is specified in the will, or to his or her heirs per law if there’s no estate plan. The account is considered to be equally owned among the number of common tenants.

While the federal income tax rules are now more complicated than ever, the benefits of good tax planning are arguably more valuable than ever before.

The Benefits of Long-Term Tax Planning 

Tax planning is the art of arranging your affairs in ways that postpone or avoid taxes. By employing effective tax planning strategies, you can have more money to save and invest or more money to spend. Or both. Your choice.

Put another way, tax planning means deferring and flat out avoiding taxes by taking advantage of beneficial tax-law provisions, increasing and accelerating tax deductions and tax credits, and generally making maximum use of all applicable breaks available under our beloved Internal Revenue Code.

Of course, you should not change your financial behavior solely to avoid taxes. Truly effective tax planning strategies are those that permit you to do what you want while reducing tax bills along the way.

I have been amazed at how many people fail to get the message about tax planning until they commit a grievous blunder that costs them a bundle in otherwise avoidable taxes. Then they finally get it. The trick is to make sure you don’t have to learn this lesson the hard way. To illustrate the point, consider the following example.

Example:

Josephine is a 45-year-old unmarried professional person. She considers herself to be financially astute. However, she is not well-versed on taxes. One day, Josephine meets Joe, and they quickly decide to get married. Caught up in the excitement of a whole new life, Josephine impulsively sells her home shortly before the marriage. The property is in a great area and has appreciated by $500,000 since she bought it 15 years ago. She intends to move into Joe’s home, which is a dump, but Josephine is a proven genius at remodeling, and she plans to work her usual magic on Joe’s property.

Result without tax planning: For federal income tax purposes, Josephine has a whopping $250,000 gain on the sale of her home ($500,000 profit minus the $250,000 home sale gain exclusion allowed to unmarried sellers).

Result with tax planning: If Josephine had instead kept her home and lived there with Joe for two years before selling, she could have taken advantage of the larger $500,000 home sale gain exclusion available to married joint-filers and thereby permanently avoided $250,000 of taxable gain. If necessary, Joe’s home could have been sold instead of Josephine’s. Alternatively, Joe’s property could have been retained, and the couple could have worked on remodeling it while still living in Josephine’s home for the requisite two years.

 Moral of the story? By selling her home without considering the tax-smart alternative, Josephine cost herself $62,500 in taxes (completely avoidable $250,000 gain taxed at an assumed combined federal and state rate of 25%). This is a permanent difference, not just a timing difference. The point is, you cannot ignore taxes. If you do, bad things can happen, even with a seemingly intelligent transaction.

 There are many other ways to commit expensive tax blunders. Like selling appreciated securities too soon when hanging on for just a little longer would have resulted in lower-taxed long-term capital gains instead of higher-taxed short-term gains; taking retirement account withdrawals before age 59½ and getting hit with the 10% premature withdrawal penalty tax; the list goes on and on.

The cure is to plan transactions with taxes in mind and avoid making impulsive moves.

We will review your plan and help determine what, if any, changes you can do today to tax advantage of or bypass your long-term tax liability.

Government/State policy is an often overlooked issue for a long-term financial plan. Policy makers adjust rules and laws that can benefit or hinder your plan. Its important to keep up to date on these adjustments and determine if the change would initiate an update to your plan.

Examples of policy changes that would have caused a reason to reevaluate your plan.

2001 Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA)-

EGTRRA created a new form of retirement savings plan called a Roth 401(k).  For the first time in over 20 years American works had the ability to save for their retirement in a way other than tax-deferred savings which benefits someone who thinks they will be in a LOWER tax bracket in retirement. The Roth 401(k) made it possible to pre-pay the income tax on their savings, let their investments grow and withdrawal the funds in retirement tax-free. This benefits someone who thinks they will be in HIGHER tax bracket in retirement.

IRS Notice 2014-54- IRS Notice 2014-54 is a little known IRS ruling with a big advantage to retirement savers. In 2014 the IRS ruled that any after-tax contributions saved in a 401k could be moved into a ROTH IRA. This rule created a savings strategy now known as the Back-door ROTH 401k contribution allowing American workers with access to a 401k that allows after-tax contributions to save over and above the standard maximum contribution.

2019 SECURE Act-

The SECURE Act passed in December of 2019 changed many rules around retirement plans, one of which changes the way your heirs inherit your IRA. Prior to the act your kids could inherit the IRA as their own withdrawing funds annually as needed for their entire lives, paying a small amount of taxes each year. After the SECURE Act, your kids are required to have the entire IRA withdrawn by the 10th year. This one change could cause a huge tax liability to loved ones you plan to leave your assets to.

We will review your your plan to determine if there are any current policies that you could benefit from.

Keep in mind that some types of investment accounts can only be transferred to heirs via a beneficiary designation form.  Referred to as true beneficiary designation assets, these include life insurance, 401(k) and 403(b) plans, IRAs and annuities.  It’s important to make sure that your beneficiary designations on these accounts line up with the rest of your estate plan.

On the beneficiary designation form, you will name your account beneficiaries (and contingent beneficiaries), as well as the percentage of the account that should go to each one.  If you decide to not name your spouse as your beneficiary to your 401(k) plan, the law requires them to sign off on it acknowledging your consent.  Be sure to update your account beneficiary designation forms as necessary to reflect major life event changes like marriages, divorces, births and deaths.  Doing so is as simple as completing and signing a one-page form.

Not having a beneficiary designation on these accounts could mean they will end up going through probate and potentially not going to party you had intended them to go to.

People know they need to save and many of you have probably done a great job at it. However, what you may not know is if what you have saved has been saved in the right places. This is one of areas most of the families I meet are the most surprised.

There are many different ways to save: Pre-tax 401k, ROTH 401k, IRA, ROTH IRA, CD, Annuities, Life Insurance, Rental Properties, FDIC insured savings and many more. Each of them has its own distinct advantages and disadvantages. As an example, IRAs and pre-tax 401ks allow you to make income today, but pay the taxes on that income in the future. This makes sense if you’ll be at a lower income in the future. In contrast ROTH IRAs and ROTH 401ks allow you to pay tax on the contribution today and never pay tax on that savings or the gains that amount makes in the future. This makes sense if you’ll be in the same or higher tax rate in the future.

These different savings vehicles should be joined with your plan to ensure you’re using the one(s) that benefit your plan the most.

 We will review the ways you save today and determine if any other combination of savings vehicles would better benefit your plan using your same savings rate.

There are many types of insurance and even more reasons to have have them. However, insurance is that one investment you pay for that you hope that you never have to use. This makes it necessary to review what you have, how to insure it and determine if the cost is worth the risk that is being insured.

We will review your financial life, the risks you take on with that life and which of these risks may need to be insured.

Trust. Honesty. Integrity. We believe values matter, and we live by ours every day.