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Archive for June, 2011

Tax Tips for Handling Real Estate in Divorce

Case Study:  First-Time Buyer Credit & Divorce

In 2008, Chris and Jenny purchased a home that qualified for the $7,500 first-time homebuyer credit.

They were married at the time of purchase and applied for the credit on a joint return.

In 2009, they divorced and Jenny received the house. Chris gave up ownership in 2009 and filed Form 5405 stating that he transferred the house to Jenny incident to the divorce [Form 5405, Line 13(e)].

In 2010, Jenny sold the house at a gain of $9,300.

Who repays the credit and how much?

Since Jenny received the home in the divorce, she has to repay the credit. In this example she must repay the entire $7,500 because her gain from the sale was $9,300.

The $9,300 gain was calculated by reducing the basis of the home by the $7,500 credit. If the gain had been less than the $7,500 her repayment would be limited to the amount of the gain.

If she sold it for a loss then none of the credit would have to be repaid.

According to the instructions to Form 5405, Line 13(e), the spouse who owns the residence after the divorce is responsible for the repayment, if any, of the entire first-time homebuyer credit.

Jenny will file the Form 5405 in 2010 and fill out Parts III and IV to repay the credit.

ViewPoint Newsletter for June

TAX HELPLINE:  978-388-0020 or 978-416-4107

Call the Tax and Financial Planning Helpline

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Saturday was a beautiful spring day in New England. Temperatures were moderate.  No humidity.  It was bright and sunny with languid puffy clouds hanging in the noon time breeze.  A beautiful day to be outside especially after the gloomy weather that Mother Nature has thrown at us during the winter and spring so far. A beautiful day for gathering with family and friends and celebrating the milestones of life whether a birth, a marriage, a graduation or connecting with others.

It so happened that I was attending the funeral celebration for a friend and client. Celebration is the right word.  While sadness always is part of these things, it truly was more fitting and proper to highlight and remember the qualities that we all should aspire to.

In this case we were gathered to celebrate a sister, aunt, daughter and friend who lived fully during her short 50 odd years.  A global traveler, talented cook and baker, gifted woodworker and gardener and charitable sort who always thought of others less fortunate.

Regardless of one’s religious persuasion, the celebrant of this service, a Roman Catholic priest, expressed it best when he said that many of us think a long life is synonymous of a good life.  But in reality, he emphasized, the teachings of many religions focus on the quality of life as opposed to its length. And this person, my friend and the sister of my very best friend, truly made her short time in the temporal world full and rich.

Like a light switch, one moment someone’s vivacious smile is there and in the next instant it is gone leaving us only with the warm glow of memory.  Whether it is better to have a sudden death or have time to prepare for the inevitable is a constant debate.  In this case, my friend was there one moment and in the next she was gone.

Inevitably, when confronted with such sudden tragedy, we tend to think of our own mortality.  I recall after the Twin Towers came down in NYC, how families were drawn closer together even if they didn’t have a direct connection to the victims of the terrorist attack.  And the interest in insurance and estate planning was at a high point.  Lawyer friends reported doing more wills and guardianship plans.  Insurance agents were fielding calls for new insurance policies.

It shouldn’t take a tragedy – whether public or personal – to get people motivated to act in their best interests but we are frail humans and tend to look at the present disregarding the future.

But we do that at our own peril.

Someday is Today

A person with friends is truly rich – remember “It’s a Wonderful Life.” While I truly believe that sentiment, it doesn’t mean abdicating one’s responsibility to care for family and friends by skipping the planning.

It is frustrating to be a financial planner and in trying to deal with such issues receive either blank stares or promises to deal with it later. At other times there is the all-encompassing answer to all: I’m All Set.

  • Someday, I’ll draft a will.
  • Someday, I’ll check my insurance coverage.
  • Someday, I’ll talk to my brother (or sister or friend) about guardianship of the kids.
  • Someday, I’ll deal with all these financial planning issues.

Someday is now.

Planning for the inevitable is not for you.  It is to help others.  It is selfish to think that things will just take of themselves.  Sure, plans will together.  But the stress on the family, friends and loved ones left to deal with picking up the pieces is not something you should burden someone with lightly when taking a few steps will help smooth the transition.

  1. At the very least, get a Will.  You don’t need to be rich to have one of these.  Better yet, make sure you have a Durable Power of Attorney in place so that your financial affairs can be coordinated.
  2. Review and update your Will periodically. Even if you do have a Will doesn’t mean that it still works for you.  Times change and so do tax and estate laws.
  3. Include written instructions.  Do you want to be buried or cremated? Who do you want to have certain sentimental, personal effects?
  4. Have a list of online passwords for your banking and social media accounts in a safe but accessible place.  Without them your heirs will have trouble dealing with some of your financial matters or your social media accounts could possibly be shut off.  And since most of our lives and communications are now so much online, your family might not be able to notify your extended network of your passing unless they can get online.
  5. Review your insurance as part of a comprehensive financial needs analysis regularly.  Too often people simply think that what they have in place covers them regardless of the simple fact that personal circumstances change and dictate changes in coverage.
  6. If you own property and have a mortgage or have young kids who would be raised by someone else when you’re gone, make sure you have insurance that at least covers the bills.  This means having a term insurance policy for at least the balance of the mortgage.  And if you have kids, figure out the costs to raise them (and pay for college maybe) and put a policy in place to equal that.  Otherwise, you may be leaving a spouse, friend, family member or business partner with trying to carry the costs without benefit of the resources.
  7. Check and update the beneficiaries on insurance policies, annuities, company-sponsored 401ks and personal IRAs. Maybe you had a divorce and never updated this so your ex-spouse may be the unintended recipient.  Or new kids, nieces or nephews have been born since the last time you did this.

In my banking and financial planning careers, I have seen both personally and professionally the impact on survivors left behind to pick up the pieces.  There was the client who needed to refinance to help pay for an elder parent’s funeral.  There was the friend who battled bravely against cancer but eventually succumbed leaving behind a wife, a three-year old toddler and a mortgage.

The pain caused by the loss of a loved one doesn’t need to be compounded by the stress, frustration and confusion of having to unexpectedly deal with financial challenges.

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June 2011 ViewPoint Newsletter

The current issue of the ViewPoint Newsletter from Steve Stanganelli, CFP(R) and Clear View Wealth Advisors is available for download from the SlideShare.net website.  A copy can also be found at the Clear View website newsletter archive.

In this issue, I focus on the key themes of the newsletter:  Retirement, College, Investing Strategy and Taxes.

  1. Retirement:  Using an “endowment” strategy to sustain withdrawals in retirement
  2. Investing: The value of dividend investing strategies for a total return investor and a discussion of how dividend payouts may predict future stock prices
  3. Taxes:  Real estate owners and especially those going through divorce may find these tips useful.
  4. College Planning:  On Thursday, June 9 there will be another free webinar with this one focused on Paying for College – Debunking Financial Aid Myths.

CLICK BELOW to VIEW the NEWSLETTER

Make Sense of Your Money with the ViewPoint Newsletter

Click Here to Download June 2011 ViewPoint Newsletter

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We certainly don’t need another case to justify the mistrust that consumers have of all things financial.  There’s been no shortage of scams, lawsuits and perp walks over the past couple of years.

Here is a recent example of a slew of cases involving broker-dealers selling either private placements or other illiquid securities that have ended up burning investors.

As reported in the Wall Street Journal and Financial Advisor magazine earlier this week (June 1), an independent brokerage firm with representatives across the country, has been accused of misleading elderly and unsophisticated investors without proper consideration of whether the investments were suitable.

The article reports that the brokerage firm sold billions of dollars of non-traded Real Estate Investment Trusts (REITs) to individuals since 1992 and pocketed more than $600 million in fees. Sales of these investments generated more than 60% of the firm’s total revenues.

Now there is nothing wrong with a REIT per se. They are great ways to buy into a diversified portfolio of real estate. And there’s nothing wrong with illiquid investments either.  They serve a purpose and have a place in a portfolio assuming that it makes sense for the individual.

The problem comes from the way these investments are sold by some in the industry who do not have the best interests of the client at heart. When there is a profit motive involved, there is the potential for misbehavior arising from this basic conflict of interest.

Brokerage firms are held to a certain standard called “suitability” which is a sort of legal test to see if a particular investment makes sense for an investor.  Presumably, a broker working for a brokerage firm will ask a range of questions about the investor’s income, other assets, investment goals and time frame.  Then a brokerage firm’s compliance department will review the information and the application for the investment before the purchase.

Red flags would be if an investor has a large chunk of money to be tied up in any one type of investment or asset class.  Another might be if the investor indicates that they need the cash for some specific goal on a certain date but the investment is tied up longer than that and thus subject to an early redemption penalty.

Apparently in this case, the brokerage firm did not even do this type of “due diligence” on the investors buying into the REIT.  For many who were not knowledgeable of things like asset allocation or reading complex investment documents, they allegedly simply relied on marketing materials provided by the brokerage firm.

In previous cases, we have seen how there has been an incentive by brokerage firms to not complete any significant due diligence on an investment product that is sold by their representatives. Investors who think that they are protected by a firm’s “compliance department” have often found that no one was really checking on the investments being offered.  And like the fox guarding the hen-house, there is the potential for hanky-panky.

And the one who pays is the investor.  In many cases, the brokerage firm gets paid twice:  A 1 to 2% “due diligence” fee paid by the investment’s sponsor and then from the 5% to 10% commission paid by the investor. And in some cases the brokerage only pocketed the fee instead of hiring the team of due diligence analysts.

There is a battle going on in the financial industry especially since the passage of the Dodd-Frank financial regulation reform bill.  While not the greatest, it did offer change.  And one key change was to implement a universal “fiduciary” standard on those working with clients.

Right now, stand-alone registered investment advisers (RIAs) and specifically fee-only financial planner and advisers already subscribe to a “fiduciary” standard.  The standard is a higher legal duty to do what is “best” and “right” for the client and not what is the highest profit option for the adviser’s firm.

In the recent David Lerner Associates case as well as many others, the inherent conflict of interest between profit for the firm and the products sold to the consumer is glaring.

In all likelihood, consumers searching for higher yields heard the sales pitches from brokers.  And remember that when it comes to investing, the motivations are either fear or greed. In this case, the “greed” of the consumers looking for higher rates of return met the “greed” of the brokers looking to sell the product.  It should be no surprise that supply met demand.

But it also clearly shows how the most vulnerable need special help.  While they may go to a broker or agent thinking that the nice guy is going to do what’s right by them, they end up paying a price because they don’t realize who is representing them in the transaction.

As investors search for yield they need to do more due diligence.  And they should not be afraid to be working with a fiduciary who can help them with a second opinion.

Brokers are not all bad.  They serve a valuable role in our financial system.  But consumers really need to know that not all financial professionals are alike and the help of a fiduciary may keep them from getting burned by their fear or their greed.

Now’s as good a time as any to once again get back to basics:  Protect yourself from scams with this guide from the CFP Board of Standards.

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Below is a post from the Boston Tax Institute (May 31, 2011) from Kurt Czarnowski, formerly with the SSA as Regional Communications Director in New England.  Kurt presented to the Merrimack Valley Estate Planners Council, one of my groups a while ago and always had a knack for making the complex and dry information from Social Security enlightening and fun.

Unfortunately, many people do not completely understand how work and earnings impact a person’s ability to collect Social Security retirement benefits. As a result, they may be losing out on monthly payments which are rightfully theirs.

The good news is that the Senior Citizens’ Freedom To Work Act of 2000 eliminated the Social Security annual earnings limitation beginning with the month a person reaches Full Retirement Age (FRA). (From 2000 through 2002, FRA was age 65. However, in 2003, it began increasing, so that FRA is now age 66 for people born between 1943 and 1954.)

This means that if you are at Full Retirement Age or older, and you work, you can receive a full monthly Social Security benefit, no matter how much you earn. In addition, any earnings you may have had prior to the month you reach your FRA do not impact your ability to collect benefits from FRA going forward.

But, if you are under FRA, there is still a limit on how much you can earn and still receive full Social Security benefits. In 2011, the annual limit is $14,160, and if you are younger than full retirement age during all of 2011, you lose $1 in benefits for each $2 you earn above that amount.

If you retire in mid-year, you already may have earned more than the yearly earnings limit, but that doesn’t mean you can’t collect benefits for the remainder of the year. There is a special rule that applies to earnings for one year, usually in the first year of retirement. In 2011, this rule lets you collect a full Social security check for any month your earnings are $1,180 or less, regardless of the yearly earnings total.

It is important to note that if some of your retirement benefits are withheld because of your earnings, these payments are not completely lost. Starting at your full retirement age, your benefit amount will be recalculated, and it will be increased to take into account those months in which payments were withheld.

Retiring? Consider your options and the role of Social Security

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One thing that I will add here is that I have seen first hand the problems that can occur when folks do not understand the rules.

As a registered tax preparer with XtraRefunds, I have had several folks come in to have us prepare their taxes.  They invariably have had false information about Social Security benefits.

I had one case where an individual came to me as a new client.  During the initial intake he failed to answer certain questions. Although he was over age 65, he was still working a full-time job and running a small business on the side.  Only after we had completed the return, did he happen to mention that he was receiving Social Security benefits but he had no paperwork (1099-R or annual benefits statement for instance).

When we finally got the paperwork from SSA and inputted the amounts, his tax status changed considerably from a refund to a liability. This was because a portion of his benefits were taxed.  Not everyone realizes that up to 85% of Social Security benefits can be taxed when you have a gross income above certain levels.

This example stresses the need for having a trusted adviser to work with before you make major money moves instead of relying solely on what friends and relatives might say.

Need help?  Consider a 30-minute free call at 978-388-0020.

Free Phone Consulation on Retirement Issues with a Certified Financial Planner Professional

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For college-bound students, funding retirement has to be the farthest thing from their minds. Yet, with a little planning, parents may be able to kill two birds with one stone. Unfortunately, most parents of college-bound kids tend to overlook some obvious ways to lower the cost of college but wisely using the tax code and some retirement planning techniques can help.

It may be a low-priority item, but this strategy can help parents when it comes to planning how to pay for college. How?  By lowering the Expected Family Contribution (or EFC) of the family and sheltering assets in a retirement account, there is the potential for qualifying for more needs-based financial aid.

Roth IRA

Consider using a Roth IRA for any earnings that a student has from part-time work.  For students over 16 they can put away up to $5,000 each year (or up to their total earnings, whichever is less) from all those part-time or summer jobs. Students already in college can also use this same strategy.

A Roth IRA allows any wage earner regardless of age to put money away now and then later withdraw money without paying taxes on the earnings. When you contribute to a Roth IRA, there is no tax deduction as there is with a traditional Individual Retirement Account (IRA) but there are other advantages.

If a student earns money and the parents leave it commingled in one of their accounts, the balance will potentially be assessed at the student’s higher rate as an asset available for paying for school.  Parents may want to maintain control over funds and have the earnings put into an account in their name but this will show up as a parental asset subject to assessment by the financial aid formulas used by colleges.

On the other hand, funds in a Roth IRA are not counted and will not affect financial aid calculations.

Follow the Road Map

The key to this strategy is following the rules of the road. Any funds placed in the account as a contribution may be withdrawn at any time free of taxes or penalties.

For earnings that may accrue on the account balance, these may be subject to income taxes or penalties but there are exceptions.

Converted Assets

For amounts that were converted from another IRA and recharacterized as a Roth, there are special rules.  For amounts that meet the five-year holding test (from the date the account was first opened) then no income taxes or early withdrawal penalties apply. If a withdrawal is made within five years, then a 10% early withdrawal penalty applies unless it is for a special purpose.  One of the eight special purposes is withdrawals used for higher education expenses.

Withdrawals of Earnings

While income taxes will apply, no 10% early withdrawal penalties apply when the proceeds are used for one of eight special purposes including higher education expenses.

Distribution Rules

For distributions from a Roth IRA you need to note that Roth contributions are always considered to be the first amounts withdrawn.  These are not taxable.  Then any amounts that were converted from other IRAs are considered to be withdrawn second and subject to the time line noted above.  Finally, earnings on the account are considered to be withdrawn last.

Ideal for the Self-Employed Parent

Consider employing your kid in your business and paying them instead of just giving them an allowance.  I write about this on a previous blog found here. This way you can lower the taxable profit from your business which may help you qualify for more financial aid.  And by diverting the wages earned into a Roth IRA as a contribution, your child will not have this asset exposed for the financial aid calculations.

Use It Now or Later

This strategy can be used for late-starters, those who haven’t saved enough for upcoming college bills.

But it can also work very well if you start early.  Since there is a five-year rule in place, open a Roth IRA account even while the child is in middle school and working part-time outside the home or in the family business.  Then by the time the child is ready to enter his third or fourth year of college, he may be able to withdraw some of the earnings to pay for costs without paying any penalties.

By using this strategy, parents can help their students learn to save and the funds can be available in a tax-efficient way during college to pay qualified education expenses.  Or they can skip the withdrawals while in college and use them later for graduate school or to help pay for their first home purchase.

Advantages of This Strategy:

  • Shelters assets from financial aid calculations
  • May help lower family Expected Family Contribution (EFC)
  • Instills value of saving early for goals
  • May help accumulate capital that can be used later for school with tax efficient withdrawals
  • May help save for future home purchase or better yet … retirement

 

For more tips, check out my free webinar offered monthly. For a current schedule visit the Clear View website.

 

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